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FHA rule change could end controversy over delinquent sales

Last week, the Federal Housing Administration (FHA) announced tougher rules on investors that purchase pools of deeply delinquent FHA loans. Although it is not yet clear if these changes will work as intended to help struggling borrowers avoid foreclosure, it will likely end a controversy over the note sales that has raged for nearly six years.

Advocacy groups have roundly praised tighter standards that make it harder for investors to foreclose on the properties. Among other changes, the rules require the companies offer principal reductions to borrowers as a first option, and protect borrowers from heavy increases in interest rates after loans are modified. These changes were also aimed at ensuring that more of the loans wind up in the hands of nonprofit housing groups, which might be more inclined to work with borrowers.

Delinquency picAdvocates have slammed FHA and its overseer the U.S. Department of Housing and Urban Development (HUD) over the Distressed Asset Stabilization Program, which was first introduced as a pilot in 2010. FHA has been accused of failing to protect borrowers — particularly minority borrowers in hard-hit neighborhoods — when the deeply delinquent loans are sold at a deep discount. The pools have almost exclusively been bought by profit-motivated private equity firms and hedge funds. HUD has sold off more than 100,000 loans through the program.

“We are cautiously optimistic,” said Rob Grossinger, president of the National Community Stabilization Trust, when discussing the changes with Scotsman Guide News.

Grossinger said the new rules should prevent companies from walking away from unprofitable assets, leaving blighted neighborhoods. He also said the rules, which set aside 5 percent of the pools exclusively for nonprofit buyers, guarantees greater nonprofit participation in the sales.

Grossinger also said that FHA will make more data available to chart the outcomes of these sales. Grossinger said it will probably take at least a year before groups will have the data to assess the program’s effectiveness, however.

“I wish it was sooner, but it takes a while to bake a cake,” Grossinger said.

FHA has come under increasing pressure to tighten its rules. The New York Times and The Atlantic, among other publications, featured articles on homeowners who were quickly foreclosed upon after their notes were sold. Responding to those reports, U.S. Sen. Sherrod Brown, D-Ohio, and U.S. Rep. Elijah E. Cummings, D-Maryland, fired off a letter in February to HUD Secretary Julian Castro raising concerns about the protections.

One of the program's vocal critics has been the Center for American Progress (CAP). In an evaluation of 70,000 loans sold from April 2012 to June 2014, CAP reported that about two-thirds of the notes were located in ZIP codes with high rates of negative equity, where homeowners are “underwater” and owe more on the mortgage than the property could fetch on the market. The study also said more than 83 percent of the properties were in ZIP codes with higher rates of minorities than the median average.

Sarah Edelman, CAP's director of Housing Policy, told Scotsman Guide News that FHA was “heading in the right direction” with its changes.

“The effectiveness of these changes, however, will hinge on how well they are implemented and enforced,” Edelman said. “We hope they will implement these improvements quickly, and take further steps as needed to help stabilize hard-hit neighborhoods.”

There have also been defenders of the program. The think tank, the Urban Institute, wrote a paper in January defending the sales as “a win-win for borrowers, investors and HUD.” However, the authors also recommended some of the changes that were adopted by the FHA.

Laurie Goodman, co-director of the Urban Institute’s Housing Finance Policy Center, said the FHA has adopted many of the same standards used in the sale of delinquent Fannie Mae and Freddie Mac loans. Fannie and Freddie’s regulator, the Federal Housing Finance Agency, announced standards for distressed property sales this past April.

Goodman said FHA’s new rules shouldn’t drive away investor interest or lower the bid prices significantly. 

“There might be a slight impact but it is going to be very small,” Goodman told Scotsman Guide News. Although she wasn’t sure if the program’s critics would now fully embrace the sales, Goodman said the changes should help end the controversy.

“I think they have made a lot of positive changes in the program that should make the advocate groups a lot more comfortable,” Goodman said. 


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