Determinants of the incidence of U.S. Mortgage Loan Modifications
Introduction
Loan modifications give borrowers in default2 the opportunity to reduce their interest rate, extend the term of their loan, reduce their principal balance, or add missed payments to the principal (Adelino et al., 2009, Mason, 2007). If a loan modification helps a borrower to stay current on his or her loan, the modification may allow the borrower to avoid both the financial costs of foreclosure and the disruption and social and psychological costs of moving, and may save the borrower’s credit record (Kingsley et al., 2009, Schloemer et al., 2006). Successful modifications help the neighborhood as well, by avoiding vacancies and high rates of turnover (and the crime and other negative impacts that they may cause), avoiding decreases in neighboring property values associated with foreclosures, and promoting stability (and the social cohesion it produces) (Ellen et al., 2013, Harding et al., 2009, Immergluck and Smith, 2006, Schuetz et al., 2008). Lenders may benefit from modifications by avoiding the costs associated with foreclosure, such as reduced property values, loss of income and deterioration in quality as the property sits vacant, and legal and administrative fees (Gerardi and Li, 2010, Pennington-Cross, 2010). This paper focuses specifically on the United States housing market and modifications, but the lessons learned from this research could be applied to other housing markets experiencing high levels of borrower default.
Policymakers in the U.S. have put considerable emphasis on the desirability of modifications to help borrowers avoid losing their homes through foreclosures. Modifications play a central role in the federal Making Home Affordable Plan the Obama administration announced in February 2009 (U.S. Department of Treasury, 2009). The plan includes financial incentives for servicers to complete modifications of delinquent loans, principal reduction rewards for borrowers who stay current, incentive payments to servicers and borrowers for modifying at-risk loans before they become delinquent, and an insurance fund to encourage lenders to modify loans even if they fear that home prices will fall in the future. Through the Home Affordable Modification Program (HAMP), the U.S. Department of the Treasury partnered with banks and other regulatory agencies to issue guidelines to standardize loan modification practices throughout the mortgage industry (U.S. Department of Treasury, 2009).
For policymakers as well as lenders, understanding the determinants of successful modifications – those that allow the homeowner to stay current over the long-term – is crucial. Yet too little is known even about the most basic questions that would help us understand why some modifications are successful and others are not: Which borrowers receive what kinds of modifications? Are certain loan provisions associated with the likelihood that the loan will be modified? Do the characteristics or identity of lenders or servicers affect the propensity of borrowers to receive modifications? How do characteristics of the property, or the neighborhood in which it is located, affect the propensity of loans to be modified? What role, for example, does residential segregation – the concentration of minorities in a neighborhood – play (if any) in the propensity of borrowers to get modifications?
In this paper, we shed new light on these issues about the borrowers and loans receiving modifications by using a unique combination of data on borrowers in New York City. In a subsequent paper, we will use that information to examine the features of the borrower, loan, lender, neighborhood and property that predict which modifications will succeed in keeping borrowers in their homes over the long term.
By better understanding the characteristics of the borrowers, loans, properties, and neighborhoods receiving modifications, policymakers can devise modification programs that can better serve all affected parties, and adopt outreach and communications policies to target any groups of borrowers that appear to be receiving disproportionately few modifications. Specifically, given that just over 1.1 million borrowers have received HAMP modifications (U.S. Department of Treasury, 2013), while over 5 million borrowers nationwide were delinquent on their loan or in some stage of the foreclosure process as of the end of 2012 (Lender Processing Services, 2013), policymakers may need to refine the modification programs to ensure that the efficient level of modifications is being offered. Similarly, a better understanding of who is receiving modifications should help both lenders and foreclosure counseling agencies better target their outreach efforts and improve their modification application procedures and eligibility determinations.
This paper will build upon the existing literature by combining a dataset the Furman Center for Real Estate and Urban Policy has built on borrower, neighborhood, and property characteristics for loans originated in New York City with the Office of the Comptroller of the Currency’s (OCC’s) Mortgage Metrics dataset to examine the determinants of loan modifications. Identifying the features of borrowers, loans, lenders, servicers, properties and neighborhoods that are associated with loan modifications will allow lenders and policy-makers to target modification programs for distressed mortgage borrowers more effectively. The unusually rich combination of data also will shed some light on whether borrowers and servicers are acting rationally in deciding whether to modify a loan, and whether there are any characteristics of loans, borrowers or neighborhoods that make modifications especially challenging given the current economic and regulatory framework.
Section snippets
Background and literature review
When a borrower falls behind on her home mortgage payments, a variety of resolutions or outcomes are possible. First, if the borrower is delinquent or in default, but has not yet received a notice of foreclosure (lis pendens), the borrower and/or lender have several options: (i) the borrower can cure the delinquency or default by making some or all of the missed payments; (ii) the borrower and the lender can agree to modify the loan; (iii) the borrower can refinance the mortgage; (iv) the
Empirical model
This paper provides an empirical analysis of the factors that determine the outcomes of seriously delinquent loans (loans at least 60 days delinquent). Our empirical strategy employs multinomial logit models in a hazard framework to explain how loan, borrower, and neighborhood characteristics affect which of the following four outcomes, as depicted in Fig. 1, results from a seriously delinquent loan: (1) the borrower cures the delinquency (all past due amounts are paid by the borrower or the
OCC mortgage metrics
To investigate the determinants of modifications, we analyze outcomes between January 2008 and November 30, 2010 for all first lien mortgages originated in New York City from 2004 to 2008 and still active as of January 1, 2008 in OCC Mortgage Metrics. OCC Mortgage Metrics is a special extract of the Lender Processing Services (LPS) Applied Analytics database that includes detailed information about loan modifications not usually reported in LPS.
Results
Table 3 presents odds ratio estimates for the multinomial logistic regression described above.
Conclusion
The rich data set used in this paper allowed us to improve on the existing literature by assessing the impact that loan, servicer, borrower and neighborhood characteristics have on the outcome of a seriously delinquent loan. The OCC’s MortgageMetrics data allowed us to pay particular attention to the determinants of loan modifications. Although our work is limited to the context of New York City, we believe our results will be generalizable to many other areas. Manhattan may be a fairly unique
Acknowledgements
We thank Sewin Chan, Kostas Tzioumis, Michael Gedal, and participants at the OCC Economics Seminar, New York University School of Law’s Law and Economics Brown Bag Lunch series, the Furman Center’s Brown Bag Lunch series, the 2011 Federal Reserve Community Affairs Research Conference, and the American Real Estate and Urban Economics 2011 Mid-year Conference for their comments and suggestions, and the OCC Economics Department for their hospitality and financial support for Vicki Been and Mary
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The views expressed in this paper are those of the authors alone and do not necessarily reflect those of the Office of the Comptroller of the Currency or the Department of the Treasury.