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Friday, February 26, 2010

FDIC to Test Principal Reduction

by Calculated Risk on 2/26/2010 12:47:00 AM

From Renae Merle at the WaPo: FDIC to test principal reduction for underwater borrowers

The Federal Deposit Insurance Corp. is developing a program to test whether cutting the mortgage balances of distressed borrowers who owe significantly more than their homes are worth is an effective method for saving homeowners from foreclosure.
Under the FDIC program, borrowers would be eligible for a reduction in their mortgage balances if they kept up their payments on the mortgage over a long period. ... "We're thinking about it in terms of earned principal forgiveness. If you stay current on your mortgage, you would earn a principal reduction. It would only be for loans significantly underwater," said FDIC Chairman Sheila C. Bair.

The program would ... apply only to loans acquired from a failed bank seized by the FDIC. That would be less than 1 percent of mortgages currently outstanding.
Lenders have been reluctant to cut the principal balance owed by distressed borrowers, arguing that it would encourage homeowners to become delinquent even if they can afford their mortgage.
This is a pretty limited program. If principal reduction was offered on a widespread basis, millions of homeowners would probably immediately default.

Also - the FDIC's previous modification efforts - after the seizure of IndyMac - were mostly unsuccessful. It is unlikely this one will do much better.