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What Is a Mortgage Cram Down?

Posted by Larry Doyle on January 1, 2009 11:35 AM |

On December 23rd in my piece, “Everything’s Negotiable…“, I wrote that I thought for those financially challenged and potentially facing personal bankruptcy with resulting mortgage default and foreclosure that principal reduction was definitely on the horizon. I wrote in that piece:

Additionally, the likely first piece of government assistance to come from the Obama administration is capital to help homeowners in foreclosure or approaching foreclosure. I expect that that assistance will incorporate some degree of mortgage principal reduction.

I would definitely broach with your banker the topic of principal reduction after laying out your budget. The worst that the bank can do is say no. If that is their response you will have been on record as having been proactive in the process and that can’t hurt you if in fact you end up actually defaulting.

Given the anemic response to the current loan modification programs along with the high level of re-defaulting, it is readily apparent that the powers that be should have been listening to Sheila Bair’s proposal on principal reduction from the outset. Sheila promoted the concept of government funding sharing in the losses with the banks in the principal reduction process.

The principal reduction proposal, also known as a “mortgage cram down,” is gaining momentum in Washington. Read more from our friends at the WSJ: “Mortgage Cram-Downs Loom as Foreclosures Mount“….

I personally find it difficult to swallow the concept of government funding for this program. At this juncture, though, the horse is so far out of the barn that we are trying to prevent the illness from becoming a full blown epidemic, if not a plague.

Home prices are down 18% year over year in the top 20 cities in the country and foreclosures have increased by approximately 40%. Both of these figures are certainly headed further in those directions with continued losses for the holders of the underlying mortgages, whether those mortgages are already pooled into securities or held in whole loan form.

The unintended consequences of a principal reduction program will likely be an increase in mortgage rates over the longer term along with a more stringent credit review for those applying for a mortgage. Why will this happen? Very simply, investors in mortgage securities will demand those concessions if they are to purchase mortgages that have the chance of being “crammed down.” Additionally, this program may actually incentivize some borrowers to intentionally become delinquent in their mortgage payments and actually risk personal bankruptcy in an attempt to be “crammed down”. Where does the madness end?

For my new readers, please review my piece from December 23rd, “Everything’s Negotiable…“.

Happy New Year!!


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