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Regulatory Impact of Implementing
"Helping Families Save Their Homes" Act

The HOPE for Homeowners program allows homeowners to avoid foreclosure, using the Federal Housing Administration (FHA) insurance program. Certain borrowers with underwater conventional mortgages (meaning the balance owed is more than the current value of the home) are eligible through this program to refinance into FHA-insured mortgages at a lower outstanding balance. The benefit of the program is the prevention of foreclosures, which have associated economic costs on the foreclosed-on household, lenders, neighboring properties, and the local government. At a 50 percent program foreclosure rate, the total efficiencies generated with even a low level of participation (10,000) would be sizable at $278 million. Although costly to the taxpayer at $320 million, this subsidy transfer also creates a transfer to 1st lien lenders of $558 million (net of efficiencies to avoid double-counting). The optimistic scenario of 137,500 participants (over the 18 month life of the program) yields correspondingly greater benefits.

Overview of HOPE for Homeowners Program
The Housing and Economic Recovery Act (HERA) of 2008 established the temporary HOPE for Homeowners program. The program allows homeowners to avoid foreclosure, using the Federal Housing Administration (FHA) insurance program structure already in place at the U.S. Department of Housing and Urban Development (HUD). Under the program, certain borrowers facing difficulties with their mortgages are eligible to refinance into FHA-insured mortgages. The program was implemented on October 1, 2008, and will last through September 30, 2011. The FHA will insure up to $300 billion in new loans. The Hope for Homeowners program was modified in May 2009 when the Helping Families Save Their Homes Act was signed by the President into law.

Participation in the Hope for Homeowners program is voluntary; thus, there must be agreement among all involved parties: the senior mortgage holder, all junior mortgage holders, and the homeowner. Mortgage lenders that might otherwise pursue foreclosure on a loan may find that they can minimize their losses by helping the homeowner refinance a new mortgage loan insured by the FHA under the program. After six months, only one loan had been refinanced through the program. HERA set both general and specific requirements for affected parties in order to eliminate the element of moral hazard. One challenge of designing the HOPE for Homeowners was to set the borrower and lender requirements in order to reduce moral hazard and other inefficiencies, but at the same time, to not make the requirements so onerous that there would be no interest in the program. It has been noted, however, that some of these requirements served as barriers to participation. In addition to the complexities of the program, we believe that some parameters of the program such as the high insurance premiums and shared appreciation acted as disincentives to both borrowers and lenders.

A statutorily created Board of Directors (consisting of HUD, the Treasury, the Federal Deposit Insurance Corporation, and the Federal Reserve) was charged by the original Hope for Homeowners Act with establishing the program's standards and policies and providing program oversight. Recent modifications put the HUD Secretary in charge of running the program, relegating the Program Board's role to an advisory capacity.

Modifications to the Program
On May 20, 2009, President Obama signed into law the Helping Families Save Their Homes Act. This act modifies the HOPE for Homeowners Program with the goal of helping additional families avoid mortgage foreclosure. The Act amends the HOPE for Homeowners Program, to (a) permit reduction of fee levels to reduce the costs of the program to the consumer; (b) provide greater incentives for mortgage servicers and new loan originators to engage in refinances which reduce loan principal under the Program; (c) provide additional compensation for primary and subordinate lien holders; and (d) reduce administrative burdens to loan underwriters by making the requirements more consistent with standard FHA practices.
Specifically the changes are as follows, which allows HUD more freedom in determining the parameters that will induce participation.

  • Change the upfront fee from 3% to "up to 3%." The upfront fee will be lowered to 2% as specified in the Mortgagee Letter;
  • Change the annual fee from 1.5% to "up to 1.5%." The annual fee will be lowered to 0.75% as specified in the Mortgagee Letter;
  • Revised maximum loan-to-value and debt-to-income ratios;
  • Maximum loan-to-value excludes the Upfront Mortgage Insurance Premium;
  • Shared Appreciation feature eliminated;
  • Exit Premium replaces Shared Equity.

There are also a number of administrative and other changes, to make the program more attractive for borrowers and to increase the number of borrowers. These include:

  • modifying certification of no intentional default on other debts so that it now applies "to any other substantial debt" within the last five years; and eliminating reference to going to jail because of false statements;
  • modifying current debt-to-income affordability test to apply it at the time of the new loan application, instead of March 1st of 2008;
  • eliminating extraneous LTV restrictions on use of second lien loans to maintain property;
  • eliminating requirement for obtaining most recent two year tax returns; and
  • eliminating special lender and underwriter certification.

Other changes increase the authority of HUD, such as:

  • Re-instate authority of HUD, with the concurrence of the Board, to conduct an auction to refinance loans on a wholesale or bulk basis.
  • Offset the costs of program changes with a reduction in TARP authority of $1.244 billion.
  • Require the HUD Secretary to weigh both the financial integrity of the program and the bill's purposes of foreclosure prevention in setting premiums.

Borrowers will be required to pay the FHA an upfront mortgage insurance premium of 2 percent of the original insured mortgage amount and an annual premium of 0.75 percent of the outstanding balance thereafter. The status of the mortgage being refinanced will determine the maximum loan-to-value ratio on the new HOPE for Homeowners mortgage. There are two alternative loan-to-value (LTV) and debt-to-income (DTI) methodologies to qualify delinquent borrowers for the program:

  • A maximum LTV of 96.5 percent of current appraised value (excluding UFMIP) provided the borrower's mortgage payment-to-income ratio and a total debt-to-income ratio under the new Program mortgage do not exceed 31 percent and 43 percent, respectively, or
  • A maximum LTV of 90 percent of current appraised value (excluding UFMIP), the borrower's mortgage payment-to-income ratio and a total debt-to-income ratio may be up to 38 percent and 50 percent, respectively.

In our examples, we make the assumption that the average LTV ratio across all loans is 93 percent. In the average case, the average senior mortgage holders are required to accept, as payment in full, no more than 93 percent of the current appraised value of the property.

Regulatory Impact Analysis
The economic impacts of the rule stem largely from allowing HUD to make changes in the program to increase participation. Re-adjusting the parameters of the program will not substantially change the benefits of preventing a foreclosure. The recent modifications will, however, significantly increase the number of refinancing above by imposing less onerous constraints on lenders and borrowers. The expected net benefits of the HOPE for Homeowners program are substantial. We estimate that, with only 10,000 participants annually, the program will generate $278 million of net benefits to society. Program participation could be as high as 137,500 over the life of the program, however, with commensurately higher benefits.

Benefits to Participating Lenders
The impact of the rule will be the greatest on the original (1st lien) lenders who could lose the most from a foreclosure. Standard & Poor's (2008) describes these lender costs as consisting of loss on loan/property, property maintenance, appraisal, legal fees, lost revenue, insurance, marketing, and cleanup. A study from the Federal Reserve Bank of Chicago reported that lenders alone can lose $50,000 per foreclosure (Hatcher, 2006). Assuming a $224,000 loan held by the first lien lender, a $50,000 foreclosure loss by Hatcher (2006) implies a loss severity of only 22 percent for the first lien lender with a $224,000 loan. This estimate of the $50,000 loss on GMAC-RFA loans predates the housing market crisis. This is critical because one of the largest factors leading to lender loss is the loss in equity. Current estimates are greater. Standard and Poor's (2008) estimate a 45 percent loan loss severity on subprime loan sizes of $210,000 (averaging $94,000 per loan). UBS (2008) presents a table of estimates that begin at 23 percent and range as high as 92 percent.

Market trends will affect loan loss severity: foreclosure costs vary by loan amount and property value. Interest and principal costs depend on the loan amount. Property taxes and broker fees depend on the value of the property. There are fixed costs such as legal and court fees but the major costs, interest and loss in property value, vary with the real estate market. The loan loss severity on a foreclosed loan to the 1st lien holder can be expressed as:

Loan Amount + Interest Costs - Sale Price of Foreclosed Property + Transaction Costs

Transaction costs are a mix of fixed costs and other costs that may vary with the loan amount, current appraised value, and sales price at foreclosure. Standard and Poor's (2008) models the transaction costs as a function of the loan amount and UBS models them as a function of the property value. UBS (2008) makes the caveat, however, that there is a minimum fixed cost of $20,000 for transactions cost.

The loss severity can more formally be expressed as:

The loan amount is L. The proportion of principal and interest costs is i. The property value at its previous valuation is V. The rate of market-wide depreciation rate since purchase is d. The current market value of the home is (1-d) x V. The reduction in value as a result of the foreclosure sale is s. Thus, the sales price at foreclosure is (1-s) x (1-d) x V. Costs are expressed as a proportion, c, of the foreclosure sales price. An alternative means of expressing the loss severity is as a ratio, dividing through by the loan amount, L, yields:

This formulation is based on the UBS (2008) report formulation, as presented in Kiff and Klyuev (2009), but with modifications to the manner in which the transaction cost and the stress factor are expressed.

The UBS report assumes an interest cost of 10 percent. This is consistent with Standard and Poor's assumption of 13 percent. UBS uses a stress factor of 15 percent. This is consistent with NAR's estimates that distressed properties sell for a discount of between 15 percent and 20 percent. We assume a market rate of depreciation since the last of sale of 25 percent. This estimate of depreciation is over two years and is consistent with the default and ensuing foreclosure of a loan originated two years previously: The Case-Schiller index has declined by 27.6 percent from 183.17 in the second quarter of 2007 to 132.64 in the second quarter of 2009. UBS uses a transaction cost ratio of 20 percent. Our assumed loan to value ratio is 80 percent. In this scenario, the amount of outstanding indebtedness owed to the 1st lien lender (80 percent of the original property value) would be greater than the current market value (75 percent of the original property value).

The loan loss severity ratio is thus 46.25 percent.

The original property is assumed to have been $280,000. The size of the original first mortgage is $224,000 (80 percent X $280,000). The loss severity of foreclosure is $103,600 (46.25 percent X $224,000).

The benefit to the lender of participating in HOPE for Homeowners is not equal to the benefits of avoiding a foreclosure because there is a cost to participating. To enter the program, the lender must accept, as payment in full, an amount equal to no more than 90 percent or 96.5 percent of the current property value depending on the characteristics of the loan. We assume an average of 93 percent. The average new mortgage would be $195,300 (93 percent of $210,000, which is the value of the $280,000 property after 25 percent depreciation). The net value of the new mortgage after subtracting the FHA Mortgage Insurance Premium (2 percent of the new mortgage amount, $195,300) and closing costs (1 percent of the new mortgage amount) is $189,441. The lender loses $34,559 on the original $224,000 loan ($224,000-$189,441) by participating.

The loss to the lender from participating in HOPE for Homeowners is smaller than the loss from a foreclosure. The net benefit from participation is $69,041 (loss from participation less the loss from foreclosure, or -$34,559 + $103,600).

Standard FHA policy regarding closing costs is applicable, including the 1 percent cap on origination fees. The origination fee compensates the lender for administrative costs in originating and closing the loan. The origination fee covers administrative costs for taking the loan application, evaluating, preparing and submitting a proposed mortgage loan. The origination fee cannot be supplemented by other fees to cover these administrative costs, such as "application or processing" fees or broker fees.

Exhibit 1. Example of Average Lender Benefit from Participating

Original Lender Benefit from Participating
1. Original Property Valuation


2. Original 1st Mortgage (80% of 1.)


3. Current Property Value (25% decline of 1.)



Consequence of Foreclosure

4. Loss if Mortgage Forecloses (46% of 2.) -$103,600

Participation in Hope for Homeowners


5. New Mortgage (93% of 3.)*


6. FHA Upfront MIP (2% of 5.)


7. Closing Cost (1% of 5.)


8. Net New Mortgage to Lender (5. - 6. - 7.)


9. Loss from Participation (8. - 2.)



Net Lender Benefit from Participation (9. - 4.)


The benefits to the lender from participating could be greater than $69,041. It is possible that the loss of property value ($210,000 before foreclosure) via foreclosure in target areas of the program will be substantially more than the $103,600 estimate. First, in a distressed market, the loss of value on the property could be substantially higher. Vacant homes in distressed neighborhoods are also more likely to suffer vandalism, forcing the lender to incur property-rehabilitation expenses. Thus, the final loss to the lender from foreclosure could exceed the $103,600 estimate.

Second Lien Lender
Impeding a refinancing deal may be in the second-lien lender's interest. A subordinate lender stands to lose the entire value of the loan from a foreclosure because repaying the first-lien lender takes precedence. In our example, the second-lien loan is 20 percent of the original property value ($280,000) or $56,000. The decline in value of the property from the time of the original sale is assumed to be 25 percent (or a reduction of $70,000), which exceeds the second-lien loan amount. Facing such a situation, second-lien lenders may prefer to keep delinquent loans on their books in the hope that the housing market will recover in the near future. Approximately seventy percent of all of the loans eligible for HOPE for Homeowners have second liens. HOPE for Homeowners offers participation incentives to second-lien lenders in order to make the refinancing deal more attractive than a foreclosure. Upfront payments for subordinate lien holders are based on the number of days the subordinate lien is past due at the time of the loan application and its cumulative combined-loan-to-value position. In accordance with the chart below, subordinate lien holders may receive an upfront payment equivalent to the percentage of the total principal and accrued interest they are writing off. Subordinate lien holders whose write off is less than $2,500 will not receive the opportunity for an upfront payment.

Exhibit 2. Upfront Payment as a Percentage of Total Principal
  Days Past Due
Cumulative LTV Paid within month due 30-59 60-89 90+
<90.00 50 40 28 9
90.01 - 100.00 45 36 26 6
100.01 - 125.00 35 28 20 3
125.01 - 150.00 20 16 11 3
>150.00 10 8 3 3

Based on our assumption of a 25 percent rate of decline, the cumulative LTV would be 133 percent and the upfront payment would range from 3 percent to 20 percent depending on days past due. For the size of loan assumed ($56,000), the second-lien holder would receive an upfront payment. Lacking data on the distribution of loans by days past due, we use an expected $7000 payment to second-lien lenders (an average of 20 percent, 16 percent, 11 percent, and 3 percent, or 12.5 percent times $56,000). To reflect the assumption that 70 percent of Hope for Homeowners applicants will have a second lien, we adjust the expected payment to $4,900 (7,000 times 70 percent).

Transfer from Taxpayers
The cost of the HOPE for Homeowners program to the taxpayer is the credit subsidy cost--the estimated long-term cost to Government of the loan guarantee, calculated on a net present value basis excluding administrative costs. FHA's standard mortgage insurance program currently operates at a negative subsidy rate, meaning that it generates sufficient revenues to cover all costs. However, for the HOPE for Homeowners program, HUD is estimating a positive credit subsidy rate, given it forecasts a program foreclosure rate of 50 percent. The estimated subsidy to the FHA, in terms of net present value of all program cash flows, per refinancing is $32,034 (16.91 percent times the new mortgage net of costs, or $189,441). The upfront and annual premiums are higher for HOPE for Homeowners than for standard FHA loans (2.0 percent vs. 1.75 percent and 0.75 percent vs. 0.5 percent). The costs of the HOPE for Homeowners Program may be ultimately reimbursed by Fannie Mae and Freddie Mac, although in this analysis they are considered to be costs to taxpayers.

Efficiencies: Avoidance of Deadweight loss
A benefit of the Helping Families Save Their Homes Act that the rule implements is the prevention of foreclosures, which have economic costs. The Joint Economic Committee of the U.S. Congress (April 2007) estimates the cost per foreclosure by adding the aggregating the impacts on consumers, lenders, property markets, and local governments.

The HERA included a loan limitation of $300 billion, which is the maximum amount of HOPE for Homeowners mortgages FHA may insure through FY 2011. The total cost of the program will depend on program participation.

Consumer loss
The foreclosed-on household pays moving costs, legal fees, and administrative charges of $7,200 (Moreno, 1995). These transaction costs represent a loss for the foreclosed upon household. One could argue that the individuals who earn fees at a foreclosure benefit from the foreclosure. While this may be the case, the size of the producer surplus will be small, or nonexistent (depending on marginal costs), relative to the cost of the service itself. Additional costs include the emotional stress imposed on affected family members and the higher cost of housing in the future due to a poor credit rating. Because the analysis was completed in 1995, we increase the estimate of $7,200 to $10,070 to account for inflation from 1995 to mid-year 2009 (39.85 percent).

Lender loss
In the scenario described above, there is a net benefit to the lender of $69,041 by paying a cost of $34,559 to avoid a $103,600 loss severity. While the participation of the lender is necessary to achieve the benefits of the goals of the program, the gain by the lender can not necessarily be counted as social surplus. Much of this benefit is a transfer. If there had not been a foreclosure, the interest would have been paid by the borrower and not the lender. The same logic applies to taxes, insurance, and utilities. The foreclosure affects who bears the burden of a specific cost but not the aggregate cost.

Transaction costs borne by the lender that should be considered as deadweight loss include legal and court fees, broker fees, and the additional preservation and maintenance needed for a home in poor repair. Cutts and Merrill (2008) provide proportions of the average gross cost of foreclosure. The total transaction costs are estimated at $35,700 (see loss severity formula). The proportion of transaction costs that are deadweight loss (as characterized above) is 45 percent. The efficiency gain in transaction costs avoided would thus be $16,065 (45 percent of $35,700) per foreclosure prevented.

A major loss for the investor is the depreciation of the value of the property upon sale. It is not evident, however, how depreciation should be counted. Market-wide depreciation would have occurred regardless of an individual. The reduction in value from being forced to sell a home because it is foreclosed (stress discount) could be a source of deadweight loss.

There is evidence that properties lose value that they would not have if they had been traded in another circumstance. Pennington-Cross finds that REO properties suffer a 22 percentage point discount in appreciation as compared to the metropolitan average. One obvious explanation for this result is one of reverse causation: a default may occur because appreciation in a particular submarket lags behind the metropolitan average. There are two other theoretical explanations for this empirical result that provide insights into economic behavior.

First is the possibility that in an environment of asymmetric information, a foreclosure is a signal of a "lemon" property, in which case the buyer is compensated through a lower purchase price for taking a risk. One could argue that this discount should be small when investors are savvy. In the case of a housing market with a large inventory of foreclosed homes, this discount may become larger as the market is thinner and as a home spends more time on the market (delaying the receipt of surplus for the buyer). While the seller will lose from the reduction of value, there will be another investor who may gain from the opportunity to purchase at a lower price.

A second explanation of the stress discount involves an avoidable deadweight loss. Frequently before owners sell a home, they invest a great deal in them, at least in cosmetic aspects of the property. An owner who knows that he or she will default will cease to maintain and upgrade the property, and may even actively disinvest (sell appliances or fixtures, for example). The depreciation to the property is structural and real: the new owner must invest resources to restore the property to its pre-foreclosure state. Harding et al. (2000) find evidence of this externality: borrowers with high loan-to-value ratios spend, on average, 19 percent less on maintenance than those with lower LTV ratios. Knowledge of impending default would increase the overuse of housing. By refinancing, HOPE for Homeowners could eliminate some of the loss associated with the depreciation of the structural value. We estimate this structural damage at one-third of the stress discount on the property, which yields $10,500 (1/3 X 15% X $210,000).

We have estimated two sources of real social benefits: preventing transaction costs that would not have been paid without the foreclosure and preventing the real structural loss surrounding a foreclosure. The total surplus is $26,565 ($16,065 + $10,500) or almost 40 percent of the total benefit to the lender.

Neighborhood Effects
Foreclosures resulting in long-term vacancies have a negative impact on the value of neighboring properties by reducing the physical appearance of the neighborhood, attracting crime, and depressing the local economy. The Joint Committee of the U.S. Congress cites an estimate of $1,508 by Immergluck and Smith (2006) of the negative externality of a single foreclosure on a neighboring property. This figure of $1,508 is included in the oft-cited total cost of foreclosure of nearly $80,000 from the Joint Committee. If, however, one were to take the Immergluck and Smith study seriously the external cost of a foreclosure on surrounding properties would be much greater. Their study reports a reduction of 0.9 percent of value for all properties within one-eight of a mile. Given that there are 31.4 acres in a radius of one-eighth of a mile and a reasonable density is 3 units per acre, this effect would extend 94 properties. For example, if the average sales price were $180,000, then the aggregate externality would be $152,000. Immergluck and Smith report aggregate impacts of a similar size ($159,000 and $371,000).

The median price of existing homes sold was $178,400 for July 2009 as reported by the National Association of Realtors® (NAR). NAR practitioner surveys conducted in July showed that distressed properties remained steady at 31 percent of all sales in July, and continue to downwardly distort the median price because they generally sell at a 15 to 20 percent discount relative to traditional homes.

A similar study by Leonard and Murdoch (2007) find a negative one percent impact of a foreclosure within 250 feet in Dallas County, Texas. There are some obvious difficulties with a hedonic estimation of the impact of a foreclosure. Although it is reasonable to expect that a neighboring foreclosure will negatively affect property values, it may be just as correct to interpret the foreclosure as an excellent indicator of a declining property submarket. Foreclosures, after all, are not independent events but are caused by economic stress and price depreciation. The causality may be reversed. Thus, we should be cautious in applying these results. In an attempt to resolve this reverse causality, Schuetz et al. (2008) control for past trends in sales prices, and find evidence of discounts in home sales in proximity to foreclosures. They also find that the effect may depend on the number of foreclosures and thus may not be linear.

One approach to using the results from this literature would be to limit the negative effect to close neighbors (ones directly adjacent and across from the foreclosed property: two on each side of the property and five across the street). Doing so would limit the aggregate effect to $14,580 (0.9 percent X $180,000 X 9).

Local Government loss
The local government faces direct costs from a foreclosure through lost property taxes from the foreclosed property, unpaid utility bills, property upkeep, policing, legal costs, building inspections, an increase in demand for social services, and, in some cases, demolition. The public administrative costs of a foreclosure borne by local governments can be seen as a deadweight loss of public resources that could have been used for different purposes. The Joint Committee uses an estimate of $19,227 of the average direct cost per foreclosure to local governments from a study by Apgar and Duda (2005). This figure is based on Scenario 6 from the Apgar and Duda (2005) study in which the structure is demolished by the local government. A more typical situation would be one in which the property is sold. A scenario where there the property is vacant for a period of time, where there is modest criminal activity and where the property is sold at auction costs the local government an average of $6,200 (Scenario 4).

Local governments provide public goods such as environmental amenities, public safety, roads, and school quality to remedy classic market failures. Most of these local public goods would be provided at a suboptimal level during a foreclosure crisis by a jurisdiction with a strong reliance on property tax revenue and a balanced budget requirement. An increase in provision should yield a surplus for the community. By preventing a foreclosure, HOPE for Homeowners allows local governments to spend revenue in a manner that generates social surplus.

We do not predict that all of the $6,200 in savings will generate social efficiencies. A great deal of government expenditures are transfers and do not constitute an increase in economic welfare. Data from the Census of Governments provide a means of estimating the proportion of expenditures on public goods: libraries, parks and recreation, highways, sewerage, hospitals, fire protection, police protection, and education add up to 69.4 percent of local public expenditures. Applying this proportion yields $4,300 of local government efficiencies.

Summary of Impacts per Refinancing
The sum of all deadweight costs avoided by the prevention of a foreclosure is $55,517. This benefit will not be realized, however, for every household assisted. Some households will default on their new FHA loan and eventually lose their homes in foreclosure even after the loan writedown. Although the program maintains the FHA's requirement that new loans be based on a family's long-term ability to repay the mortgage, some foreclosure is experienced on all types of FHA loans.

At an assumed program foreclosure rate of 50 percent, the expected efficiencies created per household assisted would be $27,759. At a lower program foreclosure rate, the expected benefit of preventing a foreclosure would be higher. The most recent OCC and OTS Mortgage Metrics Report (First Quarter 2009) shows that the re-default rates of loans twelve months after a modification, which resulted in a decrease of payments by 20 percent or more, was 37.6 percent. We calculate the gross benefits using a slightly higher program foreclosure rate of 40 percent, but lower than the 50 percent assumption used to establish the program's credit subsidy rate and which reflects program-specific characteristics. In the lower foreclosure rate scenario of 40 percent, the expected economic benefits are greater, at $33,310. If FHA realized this lower foreclosure rate, then the credit subsidy might be lower and the benefits, net of the FHA subsidy, even greater. In this analysis, we assume that the credit subsidy remains at 16.91 percent.

The first lien lenders will retain their full benefit of $69,041 per loan sent through the program, because these benefits are not affected by foreclosures on the new loans. The second-lien lender retains the transfer of $4,900 regardless of the outcome. The expected benefit per refinancing for other categories (social surplus originating from homeowners, lenders, local governments, and neighboring properties) is equal to our estimated benefit multiplied by the probability that a property does not go into foreclosure after the writedown.

Note: to avoid double-counting, we display the transfer to the lender net of the social surplus generated by the program. One portion of the transfer consists of social benefits ($26,565) and the rest of the transfer is a pure transfer ($42,476 ) that does not represent an increase in the nation's economic welfare.

Education is arguably a transfer. At a national scale, however, there are strong efficiency arguments for the public provision of education. Rauch (1993) finds that an additional year of education increases U.S. total factor productivity by 2.8 percent.

Exhibit 3. Expected Economic Benefits per Refinancing

Category of Benefit Expected Benefits per Foreclosure Prevented ($) Expected Benefit per Refinancing at Program Foreclosure Rate of 50% ($) Expected Benefit per Refinancing at Program Foreclosure Rate of 40% ($)
Source of Efficiency      
Homeowner 10,070 5,035 6,042
Original Lender 26,565 13,283 15,939
Local government 4,303 2,151 2,582
Neighboring home value 14,580 7,290 8,748
Total Economic Efficiencies 55,517 27,759 33,310
Recipient of Transfer      
Original lender 69,041 69,041 69,041
Transfer less lender efficiency 42,476 55,759 53,102
Second-Lien Lender 4,900 4,900 4,900
Subsidy to the FHA 32,034 32,034

Aggregate Impact
While the benefits per refinancing are substantial, the aggregate impact depends upon participation. The regulatory impact of this rule stems from its increasing participation. The HOPE for Homeowners program has been unsuccessful to date: only one loan has been endorsed. Nonetheless, it is hoped that the recent legislative improvements to HOPE for Homeowners included in the "Helping Families Save Their Homes Act" (S.896) will ease restrictions on eligibility and enable refinancing of underwater mortgages for a greater number of borrowers. The success of the HOPE for Homeowners program will largely depend upon alternative opportunities for borrowers to refinance or modify their loans and the ability and willingness of servicers and investors to embrace the program.

According to Loan Performance Securities data there are approximately 775,000 non-prime first lien loans which are very likely to experience foreclosure but might be able to save their homes through an intervention such as a loan modification or a HOPE for Homeowners refinance. This estimate includes households that are presently in some stage of delinquency, or in some stage of the foreclosure process, but are expected to eventually experience a completed foreclosure if they do not receive a loan modification or a HOPE for Homeowners refinance. About 645,000 of these loans are sub-prime loans and 130,000 are Alt-A mortgages. If 25 percent of these 775,000 non-prime foreclosures were to participate in the program that would constitute 193,750 loans..
Anecdotal evidence suggests that the HOPE for Homeowners refinancing program will continue to be second in a sequence of outcomes with loan modification first and foreclosure third. That is, servicers will evaluate the borrower first with respect to loan modification options. If loan modification is not possible, then it will consider the HOPE for Homeowners refinance program. Finally, there will be many households that will not qualify for a loan modification or a HOPE for Homeowners refinance. We assume most servicers will make these sequential evaluations even though the Administration is requiring servicers to evaluate each candidate according to both loan modification and HOPE for Homeowners criteria. It is expected that the loan modification and HOPE for Homeowners refinancing programs will be most effective within the next 18 months, especially when applied to the non-prime sector as these mortgages have already or will experience mortgage payment resets in addition to being underwater.

Although HUD estimates that a little over three quarters of a million non-prime borrowers experiencing foreclosure could potentially be helped through a revised HOPE for Homeowners program, far fewer may ultimately participate. This estimate of 25% of the 775,000, or 193,750 loans (or about 130,000 annually) may prove to be an optimistic outcome. There remain reasons that annual program participation could be less than 130,000, and potentially far less. Lenders may not find sufficient incentives to participate, even compared with the costs of foreclosure. In general, a lender must be willing to assume some loss if it allows mortgage holders to refinance. Foreclosure and the HOPE for Homeowners program are not the only alternatives available to a lender. The lender also has the option of proposing to the borrower a workout plan of the lender's own design.

Some other features of the program could discourage lenders from participating. For every refinancing, the senior mortgage holder must reach an agreement with the homeowner as well as the junior mortgage holder and the new FHA lender, and must do so relatively quickly. The burden of negotiating among four parties, and doing so quickly, may lead to the failure of some efforts to accomplish a workout.

At a 50-percent program foreclosure rate, the total efficiencies generated with even a low level of participation (10,000) would be sizable at $278 million. Although costly to the taxpayer at $320 million, this subsidy transfer also creates a transfer to 1st lien lenders of $558 million (net of efficiencies to avoid double-counting). The most optimistic scenario of 193,750 participants (over the 18 month life of the program) yields correspondingly greater benefits.

Exhibit 4. Aggregate Annual Benefits of Program (in millions)
At 50% Program Foreclosure Rate

Number of Participants Total Efficiencies Generated by HOPE for Homeowners Pure Transfers to Original Lenders
(transfer less efficiency gains from lenders)
Transfer to FHA


279 160


558 320


1,394 801


2,788 1,602


5,018 2,883


10,756 6,207

FHA = Federal Housing Administration.

With regard to costs of originating the HOPE for Homeowners loans, we note that standard FHA policy regarding closing costs is applicable, including a 1 percent cap on origination fees. The origination fee compensates the lender for administrative costs in originating and closing the loan. The origination fee covers administrative costs for taking the loan application, evaluating, preparing and submitting a proposed mortgage loan. The origination fee cannot be supplemented by other fees to cover these administrative costs, such as "application or processing" fees or broker fees. At the 10,000 loan participation level, these costs would amount to $20 million. At the optimistic level of participation, these costs would be $378 million.

Apgar, William C., and Mark Duda. 2005. Collateral Damage: The Municipal Impact of Today's Mortgage Foreclosure Boom, report prepared for the Homeownership Preservation Foundation, Minneapolis (May 11).

Cutts, Crews Amy and Merrill William A."Interventions in Mortgage Default: Policies and Practices to Prevent home Loss and Lower Costs "Freddie Mac Working Paper #08-01 (March 2008)

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Content Archived: April 21, 2010

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