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   ARTICLE   |   From Scotsman Guide Residential Edition   |   June 2016

Underwater Homeowners Are Still Looking for a Lifeline

The struggle to overcome negative equity is ongoing for millions, but potential solutions do exist

At a glance

Hardest Hit Fund overview

  • The Hardest Hit Fund (HHF) is a $9.6 billion financing pool overseen by the U.S. Treasury Department that currently serves 18 states, plus the District of Columbia. Its goal is to help promote the development of locally tailored programs to assist struggling homeowners in their communities.
  • Each state’s Housing Finance Agency designs and administers its own HHF programs. The bulk of those efforts are designed to assist unemployed homeowners in keeping their homes while they seek new jobs and to assist those who owe more on their mortgages than their homes are worth — a status known as negative equity.
  • Participating states have to utilize money allocated under the HHF by the end of 2020. As of this past third quarter, some $4.5 billion of HHF’s total funding had been dispersed to help with homeowner stabilization efforts.
    Source: U.S. Treasury Department

The housing crisis seemed to start overnight in many parts of the country, going from good sales in December 2006 to no sales abruptly a few months later, when the bottom started to fall out.

Many of those most affected by the crisis were elderly underwater homeowners who got into trouble after pursuing refinances that were often done for the purpose of helping their kids. Although the elderly are commonly more cautious when it comes to home financing, a large number mortgaged their homes with risky interest-only first and second loans — convinced by their lenders or their own children that these loans would be paid back with escalating equity fueled by rising home appreciation.

Then, the escalating equity stopped. The sudden halt of home-value increases led to the shocking realization that, yes, the housing market could turn downward. That reality produced stories of hardship never experienced before. Many homeowners were confronted with the prospect of increasing mortgage payments and the shock of having no ability to refinance, even if they were making payments on time, simply because they now had negative home equity — commonly referred to as being underwater. It was a toxic combination for millions of homeowners nationwide.

That negative-equity problem, unfortunately, still afflicts the nation’s housing market. There are alternatives for addressing it, but they will require more attention from policymakers if they are to serve as broadly effective tools for addressing the still-ongoing  negative-equity woes of numerous homeowners.

Beacon of hope

Those of us in the mortgage industry who enjoy the challenge of being able to figure out a mortgage solution for homeowners with a need were shocked to discover when the housing collapse hit some eight years ago that there was no refinancing solution for millions of underwater homeowners. Over the ensuing years, it has been an uphill challenge to get help for these homeowners. The good feeling originators got from helping clients buy a new home was replaced in far too many cases by the urgency to help homeowners stay in their existing homes.

That challenge continues today, as an alarming number of underwater homeowners have portfolio conventional first mortgages, second mortgages and home equity lines of credit where no refinance option exists. Even worse, many of these negative-equity mortgages were interest-only and are now resetting to fully amortized payments. Many of these homeowners stuck with initial high rates can apply for a modification, but only after going delinquent on their mortgage and proving hardship first.

A potential beacon of hope is the U.S Treasury Department’s Hardest Hit Fund (HHF) program, a multibillion-dollar financing pool established in 2010 to offer financial assistance in select states to help struggling homeowners. These funds are not from each state’s budget, so they don’t take away from other needed services. HHF, in combination with existing government-backed loan options, could be put to use helping underwater homeowners stay current on their mortgages until equity returns.

Existing options

Five first-mortgage refinance programs offered through government-sponsored entities, when combined with HHF, could provide solutions for underwater homeowners struggling to find a way to stay in their homes until equity returns. These five programs are attractive because they have no maximum combined loan-to-value (CLTV) ratio requirements on first or second mortgages. All five also allow for new secondary financing to replace existing financing, if the secondary financing is held by a government entity or an instrumentality of the government, such as HHF.

The refinanced mortgages would be paid back by underwater
homeowners at better terms and rates than they currently have.

This allows for refinancing to today’s still-low rates, and fully amortized mortgages, for existing underwater second-mortgage loans and home equity lines of credit. It also allows for a second mortgage replacement loan to pay down negative equity on underwater portfolio conventional first mortgages where no refinance option exists today. A discount could even be offered on the interest rate if borrowers opt for a shorter term, which is the quickest way to regain equity.

An HHF-backed replacement second mortgage could be used in conjunction with the following existing government-sponsored first-mortgage refinance programs:

  • Federal Housing Administration (FHA) Short Refinance;
  • Fannie Mae DU Refi Plus Home Affordable Refinance Program (HARP);
  • Freddie Mac Relief Refinance HARP;
  • FHA Streamline Refinance;
  • U.S. Department of Veterans Affairs Interest Rate Reduction Refinance Loan.

A potential roadblock to pursuing this HHF option, however, is that three of these first-loan refi programs are set to expire at year’s end. Extending these programs would be critical to assuring that the HHF second-mortgage refi component remains a viable path. To address this shortcoming, the FHA Short Refinance program as well as Fannie and Freddie’s HARP programs must be extended past the current Dec. 31, 2016, sunset date.

The FHA Short Refinance — a negative-equity, first-mortgage refinance program for all loans except FHA-backed mortgages — also would require some additional adjustment. Currently, the program requires the existing lender to write off 10 percent of the negative equity on the first mortgage as part of a refinancing. Additionally, the refinanced first mortgage cannot exceed 97.75 percent of the home’s appraised value. Many lenders, unfortunately, are reluctant to pay for a 10 percent write-down, unless they need a write-off.

Consequently, the FHA should consider allowing funds from an HHF-backed second mortgage to substitute for the existing 10 percent write-down requirement. This would greatly help underwater homeowners who want to stay put and are seeking sustainable payments, and would allow portfolio conventional mortgages to be refinanced at current rates even when lenders are reluctant to absorb the 10 percent write-down.

Expanded reach

This two-pronged approach would accomplish several vital objectives in helping to stabilize the still quite large swath of outstanding underwater mortgages.

Underwater homeowners would have options for restructuring their payments in a sustainable way. The refinanced mortgages would be paid back by underwater homeowners at better terms and rates than they currently have — with the ultimate goal of regaining equity and keeping their credit intact. States participating in the HHF program can reuse these funds because they would be paid back by underwater homeowners.

Currently, only 18 states and the District of Columbia are eligible to make use of the HHF program. As a result, to realize the full benefit of such a plan, the HHF program’s reach would have to be expanded to more states — once it is shown that the plan does work.


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