Bankruptcy Mortgage Modification Legislation Nears

Sen. Dick Durbin, D-Ill., has introduced a bill that would allow bankruptcy judges to modify mortgages on primary residences and he is working to include it in the economic stimulus package. The Senate assistant majority leader said Congress has already committed over $1 trillion to address the financial crisis. "Why don't we take a step that would indisputably reduce foreclosures and that would cost taxpayers nothing?" Sen. Durbin asked. 

Giving Debtors in bankruptcy the ability to modify their mortgages could keep many homeowners behind on their mortgage payments in their home.  Mortgage modification in bankruptcy is when a bankruptcy judge divides a home mortgage loan into two parts: a secured portion that’s equal to the current value of the home, and an unsecured portion that represents the rest of the outstanding debt. The secured portion is paid at typically a lower monthly mortgage payment than the original mortgage loan, and the unsecured portion is paid at a substantially reduced amount or not at all.  The particulars of the pending legislation still need to be ironed out, however, the ability to modify mortgages placed against a principal residence will be a first.

Although this type of judicial  modification is already available for investment properties, under current bankruptcy law, debtors do not have the ability to modify mortgage loans that are partially secured by a home’s value that is their principal residence.  The bill presented by Sen. Durbin and others will do just that, close this loop hole and make mortgage modifications available for the everyday American.  As home values have yet to hit rock bottom, many homeowners currently over their heads in mortgage debt may benefit.  This change in the law particularly will lead many homeowners who never contemplated bankruptcy before, into bankruptcy court in order to reap the benefits of reduced mortgage debt, thus reducing their mortgage payments over the long term.  Under this bill, not only can the balances owed on mortgage loans be reduced, but the interest rates applicable to those loans may also be reduced, translating to even greater savings.

Citibank and a consortium of other mortgage lenders have teamed up and are now sitting with members of Congress in an attempt to hammer out the terms of this new bill.  Although the mortgage industry was previously opposed to this plan, after calculating the losses and revenues associated with mortgage modifications and foreclosures, it became quite evident that mortgage lenders would lose substantially more money to foreclosure as opposed to judicial modification of mortgage loans.

According to "The Obama-Biden Plan" that the president elect's transition team provided congressional staffers on Monday, President-elect Barack Obama and vice president-elect Joe Biden want to provide "immediate assistance" for struggling homeowners as part of their economic stimulus plan. They are urging Congress to enact a 90-day moratorium on foreclosures and changes to the bankruptcy code that allow judges to modify mortgages on primary residences. "Obama and Biden are calling for legislation to close the loophole in our bankruptcy code that allows bankruptcy judges to modify the terms of mortgages on investment properties and vacation homes but not on primary residences,"

With the backing of President-Elect Obama, Congress, and the mortgage banking sector, mortgage modification legislation has never been closer.  Stay tuned for details as they emerge.