Foreclosure Reform?

It’s year 5 of a housing crisis in which more than 3 million Americans have lost their homes to foreclosure, with more still at risk.

It’s a strange time to have glimmers of optimism in this crisis.

Over the next few weeks, initiatives are coming out that are aimed at

reforming the foreclosure process, holding mortgage lenders and services accountable for their past abuses, and creating more effective mortgage workouts.

The complexity of the foreclosure crisis stems from the process of bundling hundreds of thousands of mortgage loans into securities and selling them to investors.

Typically, banks retained almost no financial interest in the mortgages they originated, other than the duty to service them — collect payments and pursue delinquent homeowners.

We’ve seen the downside to that system when the housing economy crashed.

Ownership of the repackaged loans was split among investors, so it’s hard to know even today who the owners are or whether their ownership was documented. This has led to further abuses, such as the infamous “robo-signing” outbreak, where banks trying to foreclose on mortgages have submitted forged documents attesting to their legal right.

Last March, one group produced a 27-page proposal for foreclosure reforms that drew fire from some consumer advocates for being too lenient — its provisions include mandates that banks comply with state law in dealing with borrowers — and from business interests for putting too much pressure on banks to reduce principal balances for homeowners having trouble keeping up payments on homes with values that have fallen below the mortgage balance.

The settlement calls for BofA to pay investors in the trusts $8.5 billion and to commit to an improved mortgage servicing and modification process, including giving “individualized attention” to high-risk borrowers aimed at helping them stay in their homes.

The proposal settlement provides a possible framework for solving the foreclosure crisis by giving all parties something they want: Borrowers get efforts at loan modifications from their banks, in return for which the banks and investors would get the borrowers’ acknowledgment that they’re owed the money. Fewer foreclosures, more loan modifications and an end to robo-signing — in the housing world, that’s nirvana.

A third driver of solutions to the foreclosure crisis is investigations by individual states into foreclosure abuses. California, where nearly 800,000 homes have been lost to foreclosure since 2006, according to the property information service DataQuick, and tens of thousands more might fall in the next year, is ground zero of the foreclosure crisis.

There may be a cash settlement commensurate with the pain caused to Californians by foreclosure abuses, and real reform. The louder that states like California threaten investigations, the more inclined banks may be to agree to reform.

It’s unclear how each of these initiatives will influence the others, or indeed if any of them will result in relief for strapped and defrauded homeowners. Bankers have been perfectly candid about their power to draw out the legal process indefinitely if they choose: Bank of New York has defended its proposed $8.5-billion settlement with Bank of America in court by warning that the alternative is “litigation …over the course of several years.”

It warns that there might be legal questions over whether Bank of America, which acquired Countrywide in 2008, could be forced to cover judgments against the latter. Without BofA’s deep pockets, it’s hinted, there won’t be money for anyone.

The fact is that voluntary loan modification efforts haven’t helped more than a handful of affected borrowers.

Bringing the banks, investors and borrowers to the same table to work out a solution that benefits them all is the most promising idea to emerge since the housing market first crashed. Why has it taken so long to get there?