State Attorneys General Support Bankruptcy Code Amendments

by Catherine Brock

Most of the banks in this country are starting to feel like they're up against a reincarnated Bonnie and Clyde. That's because support for bankruptcy-ordered mortgage loan modifications is piling up. The banks have lobbied against this concept for years, but it looks as if those efforts aren't going to shield them much longer.

Foreclosure, bankruptcy, and Congress

In early-January, 22 state Attorneys General, and the Attorney General of the District of Columbia, appealed to Congress to allow bankruptcy courts to modify mortgage loans. The group urged lawmakers to change the U.S. Bankruptcy Code, using the argument that all other efforts to slow the pace of foreclosures have failed.

The mortgage crisis has shown no signs of slowing down, despite the actions of the federal government, industry groups, and mortgage lenders. Last year, for example, the Feds rolled out the Hope for Homeowners program with the objective of averting 400,000 foreclosures. In the first month of the program, only 111 mortgage applications were processed. Other efforts by non-profit counseling groups and mortgage lenders have had somewhat better results, but no program has effectively slowed the tide industry-wide.

The Attorneys General believe that modifying the Bankruptcy Code could be the right solution that finally helps millions of homeowners keep their properties.

Sharing mortgage crisis losses

The program envisioned by the Attorneys General would have homeowners and mortgage investors sharing the losses generated by the court-ordered loan modification. The mortgage investor would be at risk of losing the outstanding principal that exceeds the home's value.

Massachusetts Attorney General Martha Coakley prefers this alternative to any expensive, taxpayer-funded programs. Coakley explains, "Not only will [changing the bankruptcy code] give the Bankruptcy Court the power to modify residential mortgage loans without any cost to taxpayers, it will save lenders from costly foreclosures and aid the millions of homeowners unable to make their monthly mortgage payments."

Bank opposition remains

With the exception of Citigroup, all major U.S. banks are firmly against court-ordered loan modifications. They insist that this would increase the cost of mortgages, and would ultimately delay a mortgage crisis recovery.

The trouble is, there's no concrete data on how much more expensive mortgages would be. Proponents say that allowing court-ordered modifications will only add about 0.15 points to mortgage rates; the banks themselves argue that the impact will be much greater.

It appears likely that banks and investors will eventually have to deal with the court-ordered modifications, even if it does feel like a Bonnie-and-Clyde hold-up. Support for the move is growing among the most influential of lawmakers: House Speaker Nancy Pelosi says that she'd like to authorize the Bankruptcy Court to make loan modifications, and President Obama is expected to back the measure, as well.