On Monday the California legislature passed the Homeowner Bill of Rights. This is a set of new laws designed to protect homeowners who are facing foreclosure. Lets start with a little history lesson about how this whole foreclosure problem started.
What led up to this new law?
When the housing bubble burst at the end of 2007 California and the rest of the country began to see incredible numbers of homeowners facing foreclosure. The first wave of foreclosure was overwhelmingly caused by sub-prime loan programs. These loans typically had a fixed interest rate two to five years after which time the interest rate would become adjustable. In some cases the fixed payments were actually less than the total interest owed each month which caused the loan balance to grow. On top of that, the majority of these loans were "stated income" loans that did not require the borrower to prove that they could afford the monthly payments. The lenders were willing to offer these risky loans because they were selling them off to Wall Street investors which minimized their risk should a borrower default on the loan. On top of that, property values were rising at record rates because the lack of qualifying guidelines created a huge demand for homes. Suddenly millions of people who should not have been able to qualify for a home loan were now in the market and the property values began to soar out of control.
Eventually, those adjustable rate loans started adjusting and unlike a "prime" conventional adjustable rate loan, these sub-prime loans were created so that the interest rate would never decrease. People were seeing their payments increase dramatically and thus the foreclosures began and started snowballing. This created a situation where tons of homes were coming on the market at reduced prices and as the inventory grew the prices continued to drop. When the prices dropped people with adjustable rates found themselves unable to refinance into safe fixed rate mortgages because they now owed more than their home was worth and eventually many of those people were forced into foreclosure too.
In the midst of this, the Obama administration began trying out programs to help those who were facing foreclosure. Particularly the Home Affordable Modification Program (HAMP) and the Home Affordable Refinance Program (HARP). The banks were supposed to help eligible homeowners who were low on equity to refinance their homes and those who could not refinance were supposed to get help modifying their loan to make the payments affordable until the market rebounded. What happened was that the banks never really honored the legislation. The HARP program was a complete failure up until March of this year when they finally modified it. The HAMP program did help a small number of eligible homeowners get their loans modified but more often than not they simply got the run around.
A common scenario would play out like this. The homeowner would request a modification. The bank would then require them to complete an extensive package and provide documentation of their income and assets. Once the borrowers sent this information in they would be advised to check back in a few weeks. When they would call back they would get a different person on the phone who would never be able to find a record of their modification submission, and they would have to start all over again. This would go round and round until they were either denied with no explanation as to why, or they would be offered a trial period which normally meant their payment would increase for six months and if they could manage to make those increased payments they would supposedly be offered a modification. Typically that modification would not provide much assistance. Basically, it was an exercise in frustration and futility. If you are interested in learning more about the history and what really happened I'd recommend renting the documentary "Inside Job" narrated by Matt Damon. I've watched most of these documentaries on the collapse and this was by far the best one I've seen.
Now Introducing The Homeowner Bill of Rights
The Homeowner Bill of Rights was created to help curb some of the problems that people facing foreclosure were dealing with. Here are the key points with some explanation:
- Dual Track Foreclosure Ban - This means that banks are no longer able to foreclose on a homeowner who is in the process of a loan modification. This requires the lender to see the loan modification process through before foreclosing on a property. The modification process essentially freezes the foreclosure process. Now, if the bank decides to decline a modification they are required to explain why the borrower was denied.
- Single Point of Contact - The lender is now also required to provide a single contact person who is familiar with the case for the borrower to deal with directly. This is designed to combat the problem of the lender losing the borrower's documentation and forcing them to start over in the modification process.
- Enforceability - This allows the borrower to sue the lender for damages should they violate the terms of the Homeowner Bill of Rights.
- Verification of Documents - The lender is subject to penalties for recording documents that have not been properly disclosed to or verified by the borrower.
It is easy to see how this new law will help those facing foreclosure. It is also expected that many more states will adopt similar laws to protect homeowners now and in the future. The level of foreclosure we have experienced over the past five years was unprecedented. As a result the foreclosure process was anything but predictable. This should give homeowners a chance to avoid foreclosure, or at least give them a clear idea of what to expect in the process.
As with anything, this new law is likely to create some negative changes also. More than ever the lenders will be trying to avoid lending to those who are a foreclosure risk. This means stricter guidelines for people who are looking for a new mortgage. The law also creates some additional costs for lenders in order to properly comply. We should expect that these costs will be put back on the consumer through higher fees and interest rates. Simply put it is probably going to be more difficult and more expensive to obtain a mortgage loan.
I believe that the benefits will outweigh the costs in the long run but let me know what you think below.