You know, there are lots of crazy ideas being floated to help with mortgage reform, but most are just that, crazy. There is no doubt that the housing market has been in trouble since about 2008 when the bubble popped. The debate about what to do with the market rages, with some ideas that make sense but would never be enacted for political or other reasons.

The truth is that nearly 29% of Americans are underwater on their mortgage. The numbers on Utah mortgages are really similar if not a little higher. In other states in the West, the numbers are much higher than the national average — 60% of homes in Nevada and 49% of homes in Arizona are worth less than the amount owed on them. While there have been several well-intentioned Federal programs to help homeowners who are underwater on their home — the Home Affordable Modification Program comes to mind — there are few that actually work. The reason they do not work is they focus on the term of the loan to lower payments. People are still underwater on their mortgages once they refinance using a program like HAMP.

One of the challenges is that people are making the decision to walk away from a mortgage because they know they are paying money on a poorly performing asset. If you are 20% underwater on your loan, then once home values begin to climb it will take you years to break even. As a matter of fact, if home values appreciate 3-4% per year, it would take you eight to ten years to break even. I am also underwater on my home, but we have made the decision to stay in our home as we feel that our home is like any investment. There is risk and we will continue to pay into this asset. In the long-run it will work out in our favor.

According to Glenn Hubbard, the current dean of Columbia University’s School of Business, 75% of homeowners with a 30-year mortgage are paying more than 5.0% on their mortgage. Current rates on a comparable loan are under 4.0%, which means that millions of homeowners are paying an interest rate that is higher than is required. I have a feeling that a large percentage of them would refinance into a lower interest rate if they were allowed to. But the problem is that Federally sponsored loan modification programs do not work. So most of us continue to pay too much for our mortgage.

There are two ideas that are on the table currently that would help homeowners refinance their loans and lower the principle owned. One was proposed in a white paper by the New York Governor of the Federal Reserve. Several economists have jumped on board on both sides of the argument.

The first would be an administrative rule change within Fannie Mae and Freddie Mac to allow homeowners who have been current on their mortgages for the last six months would be automatically approved to refinance their loan. One option would be to write down the amount owed on the loan to match the appraised value of the home. That debt would just disappear. The second option would be to write down the debt AND allow the bank to take any proceeds earned once the home has sold. There are some variations of this idea that would include the bank and the homeowner splitting the proceeds of the sale of the home, but the idea is the same.

Both of these ideas have met with some significant resistance as can be expected. The problem is the idea has now become politicized, with elected officials coming down on this issue about where you would expect them to — Democrats for the idea of principle reduction and Republicans opposed to the concept. Of course the banks and other holders or mortgage-backed securities (the companies that actually hold your debt) have come out against the idea. To them it represents a tremendous loss if they are required to write down the value of their MBS.

It isn’t that I doubt our political process, but I seriously doubt the banks, investors, and other holders of MBS will stand by the sidelines if Fannie Mae and Freddie Mac try and enact such a huge administrative rule change. I would think they would drag their feet as long as they could on allowing you to refinance your mortgage. They would probably be able to report something on your credit report similar to a short sale, and I gotta believe they would do everything they could to stop you from selling your home like putting some type of additional lien on the title for your home. Then what happens in 30 years when you pay off your home? Do you owe the bank or holder of your MBS the amount of the write-down?

This is nothing more than a pipe dream, regardless if the housing market has become the millstone around the neck of the U.S. economy. The banks, investment houses, and other holders of mortgage-backed securities will never let this happen. While it is true the Federal Government and ultimately the U.S. taxpayer bailed most of them out in 2008 and 2009, they are not interested in bailing you out. My take: don’t hold your breath looking for any type of principle reduction from your bank.

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