California Law Puts the Brakes on Foreclosures... At Least for Now
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When a new state law went into effect over the latter part of the summer, California immediately saw a drop in loan default notices, which has also proven to show a drop in foreclosure numbers.
In the second quarter of this year, a record 121,673 default notices were sent out in the State of California. After Senate Bill 1137 went into effect, a law that requires a lender or servicer to contact a delinquent borrower 30 days before filing a notice of default and explore options to avoid foreclosure, the number of default notices fell to 94,240 for the following quarter.
According to today's Los Angeles Times, "Default notices sank to 14,995 in September, after averaging more than 40,000 for each of the five preceding months."
This is good news. And SB 1137, which was introduced by State Senate President Pro Tem Don Perata (D-Oakland) in hopes of averting foreclosures for many homeowners who had been previously unsuccessful in contacting their lenders while trying to achieve some sort of loan modification, is a good law to give homeowners adequate time to negotiate with their lenders and come to terms with a situation that's a win-win for both sides.
However, the declining foreclosure statistics do not necessarily prove that the end is near per the foreclosure crisis or credit crisis. It just means that all of the adjustable rate loans that were taken out in 2005 and 2006 have had interest rate resets, and caused this "first wave" of foreclosures. There are still hundreds of thousands if not millions of adjustable rate loans from 2007 that will reset in the coming 12-18 months.
Further action needs to be taken in order to mitigate the next wave of default notices and foreclosures. The FDIC's plan has not worked to the extent it could, contrary to media reports, as they have only successfully modified 4,000 loans and all of those loan modifications were made to people who had not been served with a default notice or were not in the foreclosure process.
Shareholders and regulators need to understand where the value is at in this predicament, and squeeze what they can out of a situation that is not favorable. It'd be better to let a homeowner modify his or her loan at 89% of the original principal balance (not the current negative amortized balance) and wait till the market rebounds in three to five years (remember, these cycles of economic prosperity and recessions are "cycles"), subsequently, the home could then be sold at a price that's equitable or more than the modified loan. The homeowner would not get to walk away with any profits unless the remaining original balance (the 11% that was pared off to help the borrower stay in the home) was recovered by the lender, thus, the investor/shareholder would be able to recoup most if not all of their original investment.
This is one idea that would cut through the complications that have been created by the fact that most mortgages from 2004, 2005, 2006 and 2007 were packaged and sold as securities, and the investors in those securities may not want loan workouts to happen. However, it's likely better for everyone involved to work together on stabilizing the housing and credit markets, while making compromises, than to continue to be split on who gets what, leaving many parties involved with nothing.