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50–398 2010

S. HRG. 110–978 

TURMOIL IN U.S. CREDIT MARKETS: EXAMINING 

PROPOSALS TO MITIGATE FORECLOSURES 

AND RESTORE LIQUIDITY TO THE 

MORTGAGE MARKETS 

HEARING 

BEFORE THE

COMMITTEE ON 

BANKING, HOUSING, AND URBAN AFFAIRS 

UNITED STATES SENATE 

ONE HUNDRED TENTH CONGRESS 

SECOND SESSION 

ON 

THE HOPE FOR HOMEOWNERS ACT AND OTHER PROPOSALS TO ADDRESS THE ONGOING TURMOIL IN THE CREDIT AND MORTGAGE 

MARKETS WITH FOCUS ON THE IMPLEMENTATION OF VARIOUS PROPOSALS TO ADDRESS THE FORECLOSURE CRISIS 

WEDNESDAY, APRIL 16, 2008 

Printed for the use of the Committee on Banking, Housing, and Urban Affairs 

( 

Available at: http://www.access.gpo.gov/congress/senate/senate05sh.html 


smartinez on DSKB9S0YB1PROD with HEARING
(II) 

COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS 

CHRISTOPHER J. DODD, Connecticut, Chairman 

TIM JOHNSON, South Dakota 

JACK REED, Rhode Island 

CHARLES E. SCHUMER, New York 

EVAN BAYH, Indiana 

THOMAS R. CARPER, Delaware 

ROBERT MENENDEZ, New Jersey 

DANIEL K. AKAKA, Hawaii 

SHERROD BROWN, Ohio 

ROBERT P. CASEY, Pennsylvania 

JON TESTER, Montana 

RICHARD C. SHELBY, Alabama 

ROBERT F. BENNETT, Utah 

WAYNE ALLARD, Colorado 

MICHAEL B. ENZI, Wyoming 

CHUCK HAGEL, Nebraska 

JIM BUNNING, Kentucky 

MIKE CRAPO, Idaho 

ELIZABETH DOLE, North Carolina 

MEL MARTINEZ, Florida 

BOB CORKER, Tennessee 

SHAWN MAHER, Staff Director 

WILLIAM D. DUHNKE, Republican Staff Director and Counsel 

AMY S. FRIEND, Chief Counsel 

JONATHAN MILLER, Professional Staff 

AARON D. KLEIN, Economist 

JULIE Y. CHON, International Economic Policy Adviser 

DIDEM NISANCI, Professional Staff Member 

CHUCK JONES, Professional Staff Member 

MEGAN BARTLEY, Legislative Assistant 

MARK OSTERLE, Republican Counsel 

JIM JOHNSON, Republican Counsel 

MARK A. CALABRIA, Republican Senior Professional Staff Member 

TEWANA WILKERSON, Republican Professional Staff Member 

GREGG A. RICHARD, Republican Professional Staff Member 

COURTNEY GEDULDIG, Republican Legislative Assistant 

DAWN RATLIFF, Chief Clerk 

SHELVIN SIMMONS, IT Director 

JIM CROWELL, Editor 


smartinez on DSKB9S0YB1PROD with HEARING
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C O N T E N T S 

WEDNESDAY, APRIL 16, 2008 

Page 

Opening statement of Chairman Dodd .................................................................. 1 

Opening statements, comments, or prepared statements of: 

Senator Shelby .................................................................................................. 4 

Senator Reed ..................................................................................................... 6 

Senator Allard ................................................................................................... 7 

Senator Carper ................................................................................................. 7 

Senator Menendez ............................................................................................ 8 

Senator Corker .................................................................................................. 9 

Senator Tester .................................................................................................. 10 

WITNESSES 

Brian D. Montgomery, Assistant Secretary for Housing, and Federal Housing 

Commissioner, Department of Housing and Urban Development ................... 11 

Prepared statement .......................................................................................... 45 

Response to written questions of: 

Chairman Dodd ......................................................................................... 88 

Arthur J. Murton, Director, Division of Insurance and Research, Federal 

Deposit Insurance Corporation ........................................................................... 13 

Prepared statement .......................................................................................... 52 

Scott M. Polakoff, Senior Deputy Director and Chief Operating Officer, Office 

of Thrift Supervision ............................................................................................ 14 

Prepared statement .......................................................................................... 75 


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smartinez on DSKB9S0YB1PROD with HEARING
(1) 

TURMOIL IN U.S. CREDIT MARKETS: EXAMINING PROPOSALS TO MITIGATE FORECLOSURES AND RESTORE LIQUIDITY TO 

THE MORTGAGE MARKETS 

WEDNESDAY, APRIL 16, 2008 

U.S. SENATE, 

COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS, 

Washington, DC. 

The Committee met at 10:05 a.m., in room SD–538, Dirksen Senate Office Building, Senator Christopher J. Dodd (Chairman of the 

Committee) presiding. 

OPENING STATEMENT OF CHAIRMAN CHRISTOPHER J. DODD 

Chairman DODD. Let me thank our witnesses this morning and 

those who have gathered in the Committee room to be here for our 

hearing this morning entitled ‘‘Turmoil in the U.S. Credit Markets: 

Examining Proposals to Mitigate Foreclosures and Restore Liquidity to the Mortgage Markets.’’ And, again, I want to thank everyone 

for their participation over the last several weeks. We have had a 

very busy Committee activity, and it will continue as such. We 

have an awful lot on our plate, obviously, and so yesterday’s hearing was, I thought, a very good one, and I appreciate immensely 

the participation of as many Members. 

I know everyone has conflicting schedules as well, with other 

Committee assignments and responsibilities, but the fact that we 

have had as much participation by the Committee as we have had 

I think is an indication of how seriously every Member of this Committee takes these issues that we have in front of us. And I am 

particularly grateful to Senator Shelby and his staff, as well as my 

own, obviously, for the tremendous work being done and the effort 

made a week or so ago as we spent a good deal of time on the floor 

of the Senate grappling with at least our first efforts on trying to 

deal with the foreclosure issues. And while it was not everything 

that Senator Shelby wanted or I wanted or even things that are in 

there that we would not have necessarily written on our own, I 

think it was a major step in the right direction, and I am grateful 

to every Member of this Committee for their support in that effort. 

This morning, we will continue that discussion, obviously, as we 

examine further the questions of how can we mitigate foreclosures, 

how can we really help unleash the pent-up capital that is out 

there. I mentioned to Senator Shelby that yesterday morning I had 

the privilege of meeting with a large group of people involved in 

commercial mortgage-backed securities and heard an earful about 


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their problems. Last year, I think that business did some $230 billion worth of business in 2007. As of the middle of April, they have 

done $5 billion worth of business this year. It is just frozen up entirely. 

We heard that about 15 percent of lenders are no longer involved 

in the business of student loans, and those numbers could continue 

to skyrocket over the next several weeks and months. So any debate about whether or not there is a contagious effect in this issue 

I think has been obviously debunked by anyone who is listening to 

anybody else in various other sectors of our economy and how this 

is affecting us. 

So whether or not we can do something to play a worthwhile and 

responsible role in trying to bring this to a halt and move in a different direction is the critical question before us—the liquidity, 

transparency, and, most of all, confidence in our markets. 

So this morning, the Senate Banking Committee is meeting to 

hold its second hearing on the Hope for Homeownership Act and 

other plans to address the historic levels of foreclosures the American people are experiencing. This is Wednesday of this week. By 

the end of business today, another 24,000 people in this country 

will have filed for foreclosure, and roughly 1,000 a day will be in 

foreclosure. And every day that we move forward without addressing that underlying question, those problems will continue to grow. 

There is a growing consensus that the Federal Government 

needs to get more aggressively involved in helping American families keep their homes. In addition to my legislation, the Office of 

Thrift Supervision has put forward a plan. HUD has proposed a 

plan. Senator McCain ha a plan. And these plans embrace the key 

concepts, I would point out, in the legislation that I have circulated, that Barney Frank and the House side has also been working on and holding hearings on, including use of the existing FHA 

platform to refinance distressed homeowners into new loans. 

It is my hope that we can work collectively to bring together the 

best features of these various ideas and move legislation quickly 

before we watch any more people have to suffer the loss of losing 

the most important investment they are ever going to have in their 

lives. Our failure to act earlier has made the problems we now face 

more severe. 

Mark Zandi, a well-known housing economist, put it this way, 

and let me quote him. He said, ‘‘Policymakers’ initial response to 

last summer’s subprime financial shock was very tentative as they 

misjudged its severity and the extent of its economic fallout. Financial markets and the economy subsequently eroded. Only if more 

homeowners are able to retain or remain in their homes will the 

negative cycle of foreclosures begetting house price declines begetting more foreclosures be short-circuited. This in turn is necessary 

to ending the down draft in the housing market that is weighing 

so heavily on the economy and the financial system.’’ 

Briefly, the legislation that I have proposed creates a new fund 

at the FHA to insure new affordable mortgages for distressed 

homeowners. These FHA mortgages would refinance the old troubled loans at significant discount. The new loans would be no larger than the borrowers could afford to pay and no more than 90 percent of the current value of the home. This formula is very similar 


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to the one laid out by Federal Reserve Chairman Bernanke in his 

speech several weeks ago when he noted that creating new equity 

for underwater borrowers may be a more effective way to prevent 

foreclosures. The administration has also embraced the concept. 

Under my proposal, no one—I repeat, no one—gets what would be 

described as a bailout. Lenders and investors will have to take a 

serious haircut to participate in the program. But, in return, they 

will receive more than they would recover through foreclosure. Borrowers get to keep their homes, but they must pay for the FHA insurance and share the newly created equity and future appreciation with the FHA program to help offset any possible losses. Only 

owner-occupiers would be eligible for this new program, and only 

those who clearly cannot afford their current mortgages. 

There will be no speculators or investors allowed in this program. 

Not only would this initiative help deserving homeowners and the 

communities in which they live, this program would help stabilize 

capital markets, put a floor on excessive downward spiral of housing prices, and get capital flowing once again, which is absolutely 

critical, in my view. 

In addition to the witnesses we heard from last week’s hearing, 

the staff has been consulting widely with investors, lenders, 

servicers, economists, securitizers, regulators, and other Senate offices to improve the draft legislation. And we continue to seek 

input in order to make this product as strong as possible and move 

it forward as soon as possible. It is increasingly difficult to explain 

to the American people why it is that their government can act so 

quickly to put taxpayer dollars at risk to bail out, if you will, large 

financial institutions on Wall Street without making a more robust 

effort to help Americans keep their homes. In my own view, these 

efforts must go hand in hand. Before financial institutions can really get back on a steady course, we need to address the subprime 

and nontraditional mortgages underlying the alphabet soup of complex securities. While not a silver bullet, the Hope for Homeownership Act would, I think, help to do so. 

The need for action continues to be acute. Yesterday, RealtyTrac 

released new data which showed that foreclosures filings jumped 

57 percent in March from a year ago. This marks the 27th consecutive month of year-over-year increases in national foreclosure filings. And as I said a moment ago, another 8,000 families today in 

America will file for foreclosure; 8,000, roughly, did yesterday, the 

day before, and will tomorrow. At some point we have to step up 

and decide we are going to try and do something about that, and 

allowing it just to hemorrhage day after day after day is not an answer. Inaction is not an answer. And failure is not an answer. 

So today we are gathering once again to try and think about 

ways in which we can make a difference. In America, in our America, this should not be acceptable. If we do not take effective action, 

we risk being forced to take more dramatic and costlier action to 

respond to more dire consequences down the road. That is what 

happened with Bear Stearns, obviously. 

As I said last week, I understand that some people oppose this 

kind of program on the ground that we should not reward people 

who, in their view, acted irresponsibly. Let me respond by quoting 

Scott Stern, who testified last week on this very subject matter. To 


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remind my colleagues, Mr. Stern is the CEO of Lenders One, a coalition of 110 small and medium-sized mortgage lenders. Mr. Stern 

explained that he feels that the ‘‘condemnation of borrowers that 

took out risky loans is misplaced because of the growing practice 

of pushing high-risk loans on borrowers who had no reasonable expectation of being able to repay the mortgage.’’ Mr. Stern called 

this ‘‘mortgage malpractice.’’ He went on to say, ‘‘In our industry, 

we have frankly seen too much mortgage malpractice. Curing a 

loan that had a high risk of failure creates no moral hazard. Just 

the opposite. Modifying a loan which probably should not have 

been made in the first place is the kind of action that can help restore integrity and trust in the mortgage market.’’ 

Of course, some borrowers who might benefit from this program 

might not be deserving, according to some. But if we do nothing, 

we know for certain that hundreds of thousands of homeowners 

who need and deserve our help will lose their homes. That is why 

I believe we should act, and I look forward to working with my colleagues to craft the best possible solution to this problem. 

And, again, I want to thank Senator Shelby immensely for supporting the idea of these hearings for us to listen to people who can 

offer some sound advice and counsel on how we move forward, and 

with that, let me turn to the Ranking Member. 

STATEMENT OF SENATOR RICHARD C. SHELBY 

Senator SHELBY. Thank you, Mr. Chairman. 

As we continue our examination of the mortgage market and various proposals for further Government intervention, I believe we 

must ensure that our actions do not reward, and thereby facilitate, 

imprudent financial decisionmaking. As this Committee heard in 

testimony last week, many areas of this country are likely to experience further price declines. In States such as California, a mortgage writedown of 10 or even 20 percent could likely still leave borrowers with negative equity in just a year or two. Encouraging a 

family with no real equity to remain in a depreciating asset may 

not make sense. 

Mr. Chairman, I believe there is widespread agreement that 

many families, particularly those receiving subprime loans, were 

not quite ready for homeownership. If these same families were not 

ready for homeownership in a booming market, it is not clear to me 

how they become ready in a declining market. This, of course, begs 

the question. Who should qualify for taxpayer-backed assistance? 

We continue to hear that over 2 million homeowners may be facing foreclosure. The pressure to act in the face of such a dire prediction can be overwhelming. But before we act, Mr. Chairman, I 

believe there needs to be a frank discussion about equity and moral 

hazard. If the Government is going to step in and prevent foreclosures, who will qualify for this taxpayer-backed borrowing? Are 

all these borrowers deserving? If not, which ones are and why? 

What do we know about the households facing foreclosure? What 

information is relevant and what is not? The answers to these 

questions should drive our policy choices because we will undoubtedly be rewarding some while penalizing others. 

Mr. Chairman, I believe there is a consensus that we should not 

be bailing out investors or speculators, but there are other imporVerDate Nov 24 2008 01:29 Mar 20, 2010 Jkt 050398 PO 00000 Frm 00008 Fmt 6633 Sfmt 6633 E:\HR\OC\A398.XXX A398

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tant questions that need answers here. How many of these households made minimal or no downpayments on the properties they 

hold? How many of these households did a cash-out refinance on 

the same property and now face difficulty paying the higher mortgage cost? How many of these households have poor credit scores 

and have significant credit card debt? How many of these households face foreclosure because of an income decrease due to a voluntary job loss? Yes, how many homebuyers used exotic mortgage 

products, gambling on the ability to refinance in future years? 

What do we tell the family that waited and made prudent financial decisions when we bail out the people who overreached? When 

did we decide that the overextended homebuyer is more deserving 

than the potential homebuyer who can now take advantage of declining home prices? What is the FHA’s current financial condition? 

What impact would another significant expansion of the FHA have 

on the mutual mortgage insurance fund? 

Mr. Chairman, I hope we can get answers to some of these questions at today’s hearing. If we do not, I would encourage the Committee to continue exploring thoroughly all facets of your proposal 

before we act. I would also urge the Committee to expand significantly its examination of the in-time mortgage cycle. 

Mr. Chairman, we are facing one of the most significant economic 

events in decades, and I believe we have a responsibility to understand how we got there, who is at fault, and whether we can prevent it from ever happening again. I believe the Committee needs 

to examine comprehensively the reasons behind the ongoing liquidity crisis and the downturn in the housing market. The examination, Mr. Chairman, I believe should start with the origination of 

home loans and proceed through the securitization process that you 

referenced to the ultimate holders of such loans. It should examine 

the role played by all market participants, including commercial 

banks, investment banks, credit rating agencies, mortgage brokers, 

realtors, home builders, finance companies, and Federal and State 

regulators. 

I believe we should also examine the secondary effects of the 

downturn in the housing market, including the impact on the municipal credit markets, the availability of credit, and the condition 

of our financial institutions. The examination here should aim to 

provide, to the extent possible, an empirical basis for any conclusions reached so that any actions the Committee decides to take in 

the future are grounded in fact and not anecdotal evidence. 

Among the topics that should be examined, I believe, Mr. Chairman, are: Who were the largest underwriters of structured finance 

products? Did investment banks conduct proper due diligence when 

structuring asset-backed securities? Were underwriters aware of 

the poor quality of many of the loans they were securitizing? And 

if so, did they properly disclose the risk to investors? Was the Securities and Exchange Commission properly overseeing the activities 

of investment banks and ensuring that the disclosures of structured finance products were accurate? 

Were bank regulators properly monitoring the structured finance 

and derivatives activities of financial institutions? What role did 

bank capital requirements play in encouraging banks to move assets off their balance sheets through the use of securitization? And 


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will the new Basel II capital requirements eliminate or reduce the 

incentives banks have for securitizing assets merely to avoid capital requirements? 

What benefit did structured finance products provide? Did out-ofdate accounting standards lead to structured finance products 

being reported in an inaccurate or misleading manner on financial 

statements? Have accounting standards kept pace with innovations 

in financial products to ensure that the value of the new products 

is accurately reflected on balance sheets? 

Further questions: How often was securitization used for regulatory arbitrage purposes, such as avoiding capital requirements, 

reducing taxes, or securing beneficial accounting treatment? And 

who were the largest investors in structured finance products? 

Were they conducting proper due diligence on the products they 

were buying? And is there any evidence of widespread misleading 

or fraudulent sales practices of structured products to investors? 

And why have the credit rating agencies downgraded so many 

structured finance products? And to what extent did foreign investment or the Federal Reserve’s monetary policy fuel the sharp increase in housing prices? Did our current regulatory structure fail? 

If so, did it fail because it was not restrictive enough? Or did it fail 

because it was too restrictive, providing a false sense of security to 

market participants? And how significant was the role of real estate speculators in the run-up of housing prices? And to what extent did the practice of mortgage brokers, realtors, and home builders fuel the frenzy? And how often did buyers simply reach beyond 

their means when they purchased a home? 

Mr. Chairman, after a thorough examination of the full spectrum 

that I have gone through of the collapsing mortgage market, the 

Committee, I believe, should examine potential reforms to restore 

confidence in and improve the operation of our financial markets. 

Mr. Chairman, as you do, I believe the responsibility of understanding what happened rests solely with this Committee. We are 

uniquely positioned on this Committee to inform the American people, and it is incumbent upon us to do so. 

Thank you. 

Chairman DODD. I thank you very much. Certainly we have been 

doing that, and we are going to act as well, I hope. 

Let me ask if any other members here would like to be heard before we start. All your opening statements will be included in the 

record, but does anyone want to be heard? Tom. Jack. 

STATEMENT OF SENATOR JACK REED 

Senator REED. Just briefly, Mr. Chairman. Again, I want to commend you and Senator Shelby for holding the hearing and for your 

comments. 

The fundamental assumption that most people on Wall Street 

had and most people around the kitchen tables of America had was 

that housing prices would not go down, and for the last decade or 

more, they had been formulating their economic strategies based on 

that assumption. And that assumption is not valid, and as long as 

they feel that there is no floor on housing prices, I think both decisionmakers on Wall Street and Americans across the country will 

not get their financial traction, will not start spending again, will 


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not start feeling comfortable about the future. And we have to act, 

I think, promptly to restore a floor. 

There are various proposals. I think we can do an analysis, we 

must do an analysis, but we have to act. And, to date, the voluntary efforts of the administration have been modest at best in 

terms of reaching people who are in danger of foreclosure, and also 

reaching people who are paying their mortgages but they are underwater. Their mortgage is much greater than the value of their 

home. And that means they are not going to go out and take money 

out to send children to college; they are not going to go out and 

take money out to buy something. And, again, this is all adding to 

a recession that is upon us. 

So I think we have to act, and I hope this hearing will give us 

insights for prompt and timely action. Thank you, Mr. Chairman. 

Chairman DODD. Thank you very much. 

I would remind the Committee we are going to have Chairman 

Cox here next week to be talking about the role of the SEC and 

the credit agencies. We have had a series of hearings, and we will 

continue. Obviously, as Senator Shelby points out very accurately 

here, we have an obligation to know how this all happened, and 

certainly that is an important role and an ongoing one. 

I would also suggest we have a commensurate responsibility, of 

course, to act to make sure this problem does not grow worse. And 

my concern is it is. We had Larry Summers the other day talking 

about—I think, Jack, to pick up on your point—some 15 million 

homes now are underwater; that is, debt exceeds equity, and those 

numbers are growing. And, obviously, you go back to what values 

were before, Bob Corker likes to point out, and rightly so, that, you 

know, we are looking at values today versus where they were a few 

years ago in terms of reality and all of that. In the meantime, obviously, a lot of wealth is being lost. 

So we have two roles: one, to find out what happened; and, two, 

to make sure we take steps to see to it that we short-circuit this 

problem before it gets completely out of hand. 

Wayne, do you want to—— 

STATEMENT OF SENATOR WAYNE ALLARD 

Senator ALLARD. Mr. Chairman, I would like to just say that 

both you and Senator Shelby are bringing up some very credible 

questions that we need to continue to work on finding the answers 

on. 

I do have some reservations on taking FHA, which has a troubled past, and adding more risk to a newly recovering agency 

which would put taxpayers on the hook. So I hope we can be cautious about that. 

Chairman DODD. Thanks very much for that. 

Anyone else want to be heard? Tom. 

STATEMENT OF SENATOR THOMAS R. CARPER 

Senator CARPER. I am happy today to welcome our witnesses, 

and I look forward to your testimony. Some of you have already 

given us plenty of food for thought. 

I would just remind my colleagues as we approach this hearing, 

we had the opportunity during the debate on the Housing Recovery 


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Act, which we passed by a wide margin a week or so ago, and I 

applaud the Chairman and Ranking Member and others who 

helped to make that happen. 

You will recall that we had an opportunity to consider a proposal 

by Senator Durbin to empower a bankruptcy judge to modify the 

amount of principal that is owed in a primary mortgage, and we 

decided, by a fairly wide margin, that we are not going to do that. 

That was one effort to try to address the problem here that the 

Chairman would have us consider, and that is, where people owe 

more money on their home than their home is worth, and the value 

of the home might still be dropping. 

I am not interested in rewarding bad behavior. I am not interested in rewarding bad behavior on the part of borrowers or lenders or investors. I do not think any of us are interested in doing 

that. But I know that if Bob Menendez and I were neighbors and 

my home goes into foreclosure, there is a problem certainly for my 

family, but there is also a problem for him and his family and 

other people who live in my neighborhood because the value of 

their homes are going to go down as my home in foreclosure decays 

and is deteriorated. 

There are a number of good, constructive ideas of how to move 

forward on this. I think the Chairman’s proposal is certainly that. 

I think Congressman Frank has that. OTS has suggested a good 

idea. FHASecure is a good idea. Somewhere in the mix of all that 

is, I think, very good public policy that will help address the problem, the dilemma that is faced not just by the folks that are going 

into foreclosure, but also by the people who live in those neighborhoods, and to do it in a way that does not put taxpayers needlessly 

at risk. 

There is a way to do this, and I am very hopeful that we will 

find that way. 

Chairman DODD. I hope so as well. 

Anyone else want to be heard on this? Bob. 

STATEMENT OF SENATOR ROBERT MENENDEZ 

Senator MENENDEZ. Thank you, Mr. Chairman. I only wish I 

could live next to Senator Carper. I just cannot afford it. 

[Laughter.] 

Senator CARPER. We would have to change the Constitution. 

There would be three Senators from Delaware. 

Senator MENENDEZ. It would be a pleasure to live next door to 

him. But I just want to say I appreciate you continuing this series 

of hearings. You know, I have to be honest with you, Mr. Chairman. The terms of the administration’s proposals, both past and 

present, I am somewhat at a loss for words. I do not know what 

else Members of the Committee can say or the economists can say 

or the consumers can say that presents and convinces the administration the size of the crisis that we are facing. And I think a serious crisis deserves a serious and significant committed solution. So 

I am glad that the administration is on board with the idea of an 

expanded FHA plan, but I think your plan, Mr. Chairman, does a 

lot more to help a wider range of homeowners than some of what 

the administration is talking about. 


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And I will just take a moment just to remind us again about 

what Senator Carper was saying. This is far beyond the individual. 

It is about all of us. At the end of the day, it is about all of us. 

We had an economy that lost 80,000 jobs in March; the unemployment rate rose to 5.1 percent; the housing crisis has already subtracted 1.2 percent from the GDP growth; and home prices declined 

for the first year since the Great Depression. The first year since 

the Great Depression. We have $460 billion in adjustable rate mortgages scheduled to 

reset this year, which means that the number of padlocks on doors 

are only going to grow. And there were 8,000 filings for foreclosure 

per day in the month of February; 3 million mortgage loans are expected to default this year and next; and of these, 2 million are expected to result in foreclosures. 

And, finally, yesterday RealtyTrac reported that there was a 5- 

percent increase in foreclosure filings last month and a 57-percent 

increase from last year. And their report shows that one in every 

538 American households received a foreclosure filing last month. 

One out of 538. 

Mr. Chairman, we need to do everything that Senator Shelby 

and you have talked about in terms of protecting so that we do not 

find ourselves in this circumstance again. But the urgency of the 

moment is now, and I hope that, you know, we can convince the 

administration to move quickly and more significantly than it has 

talked about today, and we look forward to hearing the panel. 

Chairman DODD. Thank you. 

Senator Corker. 

STATEMENT OF SENATOR BOB CORKER 

Senator CORKER. I typically do not make opening comments, but 

there has been so much, I will just follow up on Senator Menendez 

and say that I agree with him. I think his last sentence was dead 

on, that the administration does have a plan, and I hope that they 

will move quickly to implement it. I read it last night. It actually 

makes a lot of sense. 

I just would say that, in general, our efforts so far have been incredibly clumsy. We have spent $168 billion with our first stimulus 

package, which is a boon for Walmart and Sears and others, but 

not for the economy in general. And this last effort, to me, while 

I applaud the bipartisan efforts, it was, again, incredibly clumsy, 

and we are spending lots of money doing things that have nothing 

to do with the problem. And I applaud you today for having a hearing that is surgically focused on the actual problem. But I hope as 

we move through this we remember how clumsy our efforts can be 

legislatively and that we encourage efforts by the administration 

that can move swiftly and actually do things hopefully that make 

more sense and do not have long-term lingering problems for others to pay for down the road. 

So this is a surgical meeting. I thank you for this. Yesterday’s 

hearing to me was outstanding, and I look forward to some good 

discussion today. But I hope we will keep in mind and look back 

at what we have done over the last couple months knowing that 

we have not even come close to hitting the target, and sometimes 

when we do things legislatively, that is what occurs. 


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Chairman DODD. Well, I could not agree more. We certainly have 

been trying to hit that target, and it is awfully difficult sometimes 

to get all the players aiming in the same direction. 

Senator Tester, any comments. 

STATEMENT OF SENATOR JON TESTER 

Senator TESTER. Yes, well, thank you, Mr. Chairman. The questions that Senator Shelby asked are good questions. I hope you 

submit them so we can get answers for them. 

Truthfully, I know some of them are global and some may not 

be able to be answered, but the truth is that for that 2 or 3 minutes you asked questions, they are all critically important, and they 

are questions I want to know, too. 

I think it is interesting because, you know, we talk about folks, 

if they can afford to get into a home, and then you have got bankers that allow them to get into a home on an interest-only loan 

with no down. So who is really at fault here? And I really revert 

back to personal experience. 

When I moved here 16 months ago and we were looking to buy 

a house instead of renting, for obvious reasons, I was offered a nodown, interest-only loan, and I was very tempted. If I had been 20 

years old, I would have probably jumped on it. It is goofy. It is 

goofy that they would offer that. And it is also goofy that you get 

checks in the mail for 5,000 bucks and you just go put them in the 

bank and you have got money. And if you are hard up, you do it. 

There are people that are responsible for this, and I want to— 

and I do not think the administration has done any kind of job at 

all over the last few years, having any oversight of what is going 

on in the industry. And it is very disturbing to me. And I do not 

know if what we have done is clumsy or not. I have not been totally 

happy with it either, Senator Corker, but the fact is that when 

Bear Stearns got into trouble, it took 3 days. And I just wonder 

how much due diligence was done there. 

Thank you, Mr. Chairman. 

Chairman DODD. Great question. Ninety-six hours, moved pretty fast, put $29 billion right on the block pretty fast, and no collateral 

last, except hoping the assets there are going to turn out to be 

worth something down the road. And here we are 1 year later, having sat in this very room with all the stakeholders, trying to get 

them to do something on this damn thing, and nothing happened. 

According to Moody’s, 1 percent may be workouts. Nothing. And 

the administration sat back in August, and all they wanted to talk 

about was the debt ceiling when we had the meeting on this issue. 

And using their language, it was ‘‘contained.’’ 

So clumsy is what I am getting from the administration in not 

responding to this because we are failing to address what is going 

on here, and it is getting worse, daily getting worse. So my hope 

is—and we are going to be able to act fairly soon on some of these 

ideas, and simultaneously obviously go back and try and figure out 

as much as we can about what happened. And that is clearly an 

important function of the Committee. But that is not going to be— 

we are not going to be judged historically by just examining what 

happened if, in fact, in the process we do not do something to 

short-circuit this. And if we do not do that, then history will indict 


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us if we end up with an economic mess on our hands that takes 

a generation to correct. And I am worried that is going to be the 

case. 

So, with that, we welcome our witnesses this morning. We are 

delighted to welcome the Honorable Brian Montgomery, Assistant 

Secretary for Housing, Federal Housing Commissioner. Mr. Montgomery formerly served as Deputy Assistant to the President in the 

Cabinet of the Secretary before coming to HUD. His duties included oversight of FHA’s $400 billion insurance portfolio and 

HUD’s various regulatory responsibilities. 

Arthur Murton is Director of the Division of Insurance and Research for the Federal Deposit Insurance Corporation. Mr. Murton 

has a Ph.D. in Economics from the University of Virginia, served 

at the FDIC since 1986—22 years. The Division of Insurance and 

Research directs the FDIC’s efforts in banking research and policy 

development, and let me just say Sheila Bair wanted to be here, 

but there has been a death in her family, and we extend, all of us 

do, our deepest sympathies to Sheila. She has been a wonderful 

public servant, has been before this Committee many, many times. 

We welcome you here today, Mr. Murton, but please extend our 

condolences to Sheila. 

Mr. MURTON. Thank you. I will do that. 

Chairman DODD. Scott Polakoff is the Senior Deputy Director 

and Chief Operating Officer of the Office of Thrift Supervision. He 

joined OTS in 2005 after serving the FDIC for over two decades. 

The OTS is the primary regulator of Federal and State chartered 

savings associations. 

We thank all three of you for being here this morning, and we 

will begin with you, Brian. Thanks for coming before the Committee. 

STATEMENT OF BRIAN MONTGOMERY, ASSISTANT SECRETARY FOR HOUSING/FEDERAL HOUSING COMMISSIONER, 

DEPARTMENT OF HOUSING AND URBAN DEVELOPMENT 

Mr. MONTGOMERY. Thank you very much, Mr. Chairman and 

Ranking Member Shelby, for this invitation, and I want to say I 

think the time is now for some clear vision and some wise policy 

as we go forward. 

I do want to say I am confident that we can find some common 

ground to address this housing crisis, given our mutual interest in 

breaking the cycle of foreclosure. You and I agree that what the 

Nation needs is a solution that restores desperately needed liquidity for the credit markets and some price stability to the local real 

estate markets, and I know that we all want to find a way for FHA 

to help hundreds of thousands of Americans keep their homes and 

certainly avoid foreclosure. 

I believe we must help responsible families and communities in 

need without transferring risks and costs that should be borne by 

the private sector to the taxpayers. In fact, I believe most Americans want to protect homeowners who play by the rules. They don’t 

want to have to pay for the risky financial behavior of others, and 

they don’t want to make the Federal Government the lender of last 

resort, with the private sector dumping bad paper on FHA and on 

the taxpayers. 


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The taxpayers do not want us to Federalize the housing market, 

which would be unwise economically. I believe FHA should remain 

true to its mission. And we must not harm our economy through 

solutions that, however well intentioned, further erode the foundation of the nation’s housing market, hurt homeowners who are 

meeting their mortgage obligations, or even perhaps prolong the 

correction. 

I will say this. For more than 2 years, the administration has 

suggested legislative ways to improve the agency’s ability to fulfill 

its mission to help low- and moderate-income and also first-time 

home buyers who are not served by the conventional mortgage 

market. The administration continues to urge Congress to reach 

agreement on a bill to modernize FHA so that the President can 

sign it into law. 

Mr. Chairman, in the meantime, FHA has been able to use its 

administrative authority to help hundreds of thousands of Americans refinance their home loan. In August of last year, the President introduced an effort known as FHASecure to help more Americans facing foreclosure refinance into a safer, more secure FHA-insured loan. Since then, close to 160,000 families have been able to 

refinance with FHA. We have always said that we are open to further expansion of FHASecure, but done so in a responsible way. 

Thus, last week at a hearing before a House Financial Services 

Committee, I announced some further administrative steps that 

will extend FHA opportunities to more homeowners that will help 

break the cycle of foreclosure. These efforts, using current regulatory authority, are targeted to distressed homeowners struggling 

to make their current mortgage payments and have no place to 

turn to refinance their homes as they continue to lose value. 

And our efforts will not create an unacceptable level of financial 

risk for FHA. I believe that some of the Congressional approaches 

often have unforseen consequences. For example, we believe mandatory write-offs of all existing mortgage debt will severely limit 

participation by existing lien holders. In addition, home buyers who 

speculated with a high-risk, high-leverage product would under 

this bill be rewarded with the deed to an upper-end house for a 

cost well below its long-term value. They can live in this house and 

later sell it for a substantial profit at the expense of the investors, 

who will take the write-down losses. The proposal does create significant inequity for the neighbors of such speculators. 

Also, the equity-sharing arrangements in this bill, we think are 

wrongly directed. The equity arrangements to prevent windfall 

profits to homeowners should not benefit the Federal Government, 

but the existing lien holder to minimize their losses. To be blunt, 

this is not our money. 

As well, creation of a new fund and board to expand the existing 

cap is redundant and, we believe, unnecessary because the existing 

FHA framework could achieve the same goal and much faster. 

Finally, Mr. Chairman, establishment of new GSE and suspension of the existing goals should be handled by HUD alone, the 

agency most familiar with the process. We believe adding extra 

cooks to that kitchen will unnecessarily complicate a process that 

we believe is currently working. 


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I should add that the administration opposes any provision 

which will provide billions of dollars in loans or grants to States 

and local governments, whether through the CDBG program or 

other programs, for the purchase and rehab of vacant foreclosed 

homes. We believe in addition to being extremely costly, such a 

program would constitute a taxpayer bail-out of lenders and speculators while doing little to help keep struggling families in their 

homes. 

These are my initial thoughts about the bill. Let me say in closing, I will reiterate that. We do have some common ground to explore here and I want to say I look forward to working with you 

and the entire committee to do just that. There is a lot riding on 

this, Senator and Mr. Chairman. Thank you. 

Chairman DODD. Thank you very much, Brian, for that, and we 

look forward to your ideas and thoughts in exploring some of the 

differences. 

Mr. Murton. 

STATEMENT OF ART MURTON, DIRECTOR, DIVISION OF INSURANCE AND RESEARCH, FEDERAL DEPOSIT INSURANCE 

COMPANY 

Mr. MURTON. Chairman Dodd, Ranking Member Shelby, Members of the Committee, I appreciate the opportunity to testify today 

on behalf of the FDIC. 

The problems we face in the housing and credit markets were 

caused by a complex set of interrelated concerns. The FDIC is concerned that we face a continuing cycle of default, foreclosures, declining home prices, and uncertainty, thus leading to potential for 

further losses, preventing recovery of the credit markets, and impairing the performance of the U.S. economy. Avoiding this result 

will require well-designed approaches to help distressed borrowers 

and to restore secondary market liquidity. 

No single solution can fully address the circumstances confronting us. Proposals addressing the current problems in the mortgage markets will raise issues of fairness, especially on the part of 

borrowers who have remained timely on their mortgage payments. 

However, properly structured proposals will provide benefits beyond the immediate participants by preventing a large number of 

foreclosures that would adversely affect other homeowners, other 

communities, and the broader economy. 

The FDIC has advocated systematic voluntary loan modifications 

to deal with poorly underwritten and unaffordable loans, particularly in the subprime market. While some progress has been made, 

the pace has been too slow to achieve the results that we were hoping for and to contain the broader harm to our communities and 

the economy. As Chairman Bair has stated, we are at a point 

where we need more intervention and it probably will cost some 

money. 

In the remaining time, I would like to make a few comments 

about the Hope for Home Owners Act of 2008. The proposal by 

Chairman Dodd addresses many of the principles the FDIC considers necessary for an effective program. It restructures troubled 

mortgages into loans that should be affordable and sustainable 

over the long term. It requires that investors recognize current 


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losses while preventing borrowers from being unduly enriched if 

home prices appreciate. It uses existing government and market 

structures, which should allow the program to be implemented 

quickly. And it includes a financial cushion to help insulate the 

FHA and the taxpayers from losses. 

Still, there are some specific issues that need to be addressed. A 

major obstacle to refinancing many troubled first mortgages is that 

a significant number of them are subject to second liens. Resolving 

this issue is essential. 

A second concern is whether the FHA in the short-term will have 

the capacity to run the program. 

Third, there is the potential for adverse selection. The concern 

here is that investors will have economic incentives to cherry-pick 

the better loans and push the weaker loans into the FHA program, 

thereby increasing the cost. 

A final issue relates to the lack of financial incentive for servicers 

to modify loans. 

In addition, my prepared testimony contains a few suggestions 

that go beyond the scope of the bill before the committee. 

So in conclusion, the FDIC supports long-term solutions that 

fairly share the costs and risks of modifying or restructuring loans, 

that use existing government and market structures, and that mitigate the potential exposure to taxpayers. The FDIC is committed 

to working with Congress and others on solutions that address the 

immediate problems and that look to the future. 

Thank you, and I would welcome any questions the committee 

would have. 

Chairman DODD. Thank you very much, Mr. Murton. 

Mr. Polakoff. 

STATEMENT OF SCOTT M. POLAKOFF, SENIOR DEPUTY DIRECTOR AND CHIEF OPERATING OFFICER, OFFICE OF THRIFT 

SUPERVISION 

Mr. POLAKOFF. Good morning, Chairman Dodd, Ranking Member 

Shelby, and Members of the Committee. Thank you for inviting me 

here today to testify on behalf of OTS on preventing home foreclosures in America. 

We are in the midst of a stressed real estate environment. Home 

sales have deteriorated sharply, with sales down by 36 percent 

since 2006, resulting in nearly a 10-month inventory. An increasing 

number of borrowers are having difficulty making their mortgage 

payments. Of the $11 trillion in mortgage loans outstanding, approximately $1 trillion are subprime loans. As of January 2008, 21 

percent of subprime borrowers are delinquent, compared to 14 percent 1 year ago. 

Foreclosure data suggests an increasing number of home owners 

are losing their homes, as the rate of foreclosure on all mortgage 

loans has doubled in the past 2 years and for subprime loans has 

risen to 9 percent from 4 percent in the 12 months ending January 

2008. 

Adding to the problem is the unprecedented home price depreciation. With home prices down 10 percent from their peak in 2006, 

approximately nine million home owners are expected to have no 

or negative equity in their homes. Our observation is that numerVerDate Nov 24 2008 01:29 Mar 20, 2010 Jkt 050398 PO 00000 Frm 00018 Fmt 6633 Sfmt 6602 E:\HR\OC\A398.XXX A398

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ous borrowers who would benefit from refinancing their mortgages 

can no longer qualify, as the equity has disintegrated over the past 

years. 

I should point out that a significant concentration of these nonperforming loans resides in private-label securitizations. A privatelabel securitization has many stakeholders. The borrower, the investor, trustee, and the servicer all play critical roles in this secondary market funding vehicle. Any proposal to help prevent avoidable foreclosures should consider the interests of each of these components and opportunities to align various interests for the good of 

our housing economy. 

As you know, OTS announced its foreclosure prevention proposal 

in February of this year. Since then, we have been meeting with 

other financial regulators, major mortgage servicers, the American 

Securitization Forum, and other industry experts in an attempt to 

refine our proposal to assist with these efforts. These meetings, 

particularly with the servicers and investors, have given us insight 

into what I consider to be the key question at hand, and that is 

how to provide the right incentives to all of the stakeholders. 

If the proposal is too rich to borrowers, then we risk moral hazard. If the proposal ignores the interest of investors, then we risk 

inactivity by servicers. And if we ignore the legal documents, specifically the pooling and servicing agreements, then we risk excessive litigation and potentially impair future liquidity in the secondary market. But if we don’t create an effective tool, then foreclosures will continue and the negative impact on neighborhoods 

and communities will be severe. 

As you know, the OTS plan has a good deal in common with the 

Chairman’s bill. Both seek to prevent foreclosures by refinancing 

the mortgages of distressed borrowers with loans guaranteed by 

the FHA. Both proposals suggest a conservative loan-to-value ratio 

based on the home’s current fair market value. We recognize that 

this current fair market value may be less than the principal owed 

on a loan due to home price depreciation. Under the OTS plan, the 

holder of the original loan would sustain a loss and receive a negative equity certificate for a sizable portion of the difference between 

the outstanding loan amount and the short refinance amount. The 

original loan holder could recover an amount up to the full value 

of the negative equity certificate when the home is eventually sold. 

I should point out that we have refined our proposal to allow the 

home owner to share in this negative equity interest as an incentive to stay in the home, maintain it, and perhaps even make improvements to get the best possible price upon resale. This borrower incentive is another important part in searching for the 

proper equilibrium of interests. 

Recently, we have heard stories where the second mortgage holder has prevented a borrower from entering a short refinance by refusing to subordinate its lien interest. It seems worthy to explore 

the possibility that such second mortgage holders could also share 

to some small degree in the negative equity certificate as an incentive to subordinate their position for a refinance opportunity. 

Last, there are two key components of our proposal that deserve 

mention. First, this vehicle would apply only to situations where 

default is reasonably foreseeable. While it has the ability to assist 


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borrowers who may be underwater in their mortgage, it is not intended to aid borrowers who have the ability to repay but lack the 

willingness to repay. 

Second, this model is intended to help owner-occupied borrowers, 

not investors. 

We recognize that there are multiple causes for real estate stress 

and there need to be multiple tools available to work through this 

crisis. 

Thank you for having me here today, Mr. Chairman, and I look 

forward to answering your questions. 

Chairman DODD. Thank you very, very much, and I thank all 

three of you for your comments. I should have said at the outset, 

if I didn’t, any supporting data, materials you want the committee 

to have as a part of the testimony we will certainly include as part 

of the record. 

I will put 7 minutes on here and see if we can’t hold to that so 

we give everyone who is here a chance to raise some of these very 

important questions that members have. 

Let me, if I can, just start out quickly with you, Mr. Montgomery, obviously to try to get as much information as we can 

about what is working and what is not working. And again, I want 

to emphasize the point, I know a lot of people are trying to figure 

out what best to do in all of this, and I welcome that and I am 

deeply appreciative of the various ideas that have been surfaced. 

Let me state as clearly as I can, there is no ideological position 

here. I am trying to be as practical as I can as to what can work, 

make a difference. And so I am less interested in people’s ideological framework than recognizing there are moments when an intervention is necessary. Ideally, I don’t like it. I would like the market 

to work. And if the market can work, there is no reason for us to 

act. But when the market is not working, then it becomes incumbent upon us, I think, to try and figure out a responsible way to 

intervene intelligently, thoughtfully, and responsibly, obviously understanding at the time you are never quite sure what is going to 

happen, but you hope you are smart enough that you are going to 

be a positive influence on it. 

But to do that, you have got to know what the data is. I am looking at an article that was entitled, ‘‘HUD Acknowledges Inability 

to Help Many Borrowers.’’ This was an article that appeared about 

a month ago, and the Director of FHA’s Office of Single-Family 

Program Development said that there had been only 1,500 FHA-secured financings. From March 1 to the 15th, HUD reported that 

just 242 loans were made for delinquent borrowers, or just 17 loans 

per day. 

I mentioned earlier we are getting some, according to Track Realty, in the neighborhood of 7,000 to 8,000 filings a day and as many 

as 1,000 of those 7,000 or 8,000 are actually going into foreclosure. 

At least those are the numbers we are getting on all of this. 

So instead of 17 a day, as opposed to the numbers we are looking 

at—let me ask, first of all, the two other witnesses. Do you agree 

with that general overview here, that the program is not— 

FHASecure, while it is a good idea, it is not addressing the magnitude of the problem. Is that your conclusion, as well, as you have 

looked at this issue? 


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Mr. POLAKOFF. Mr. Chairman, I wouldn’t be prepared to say that 

at this point. As we reach out to the servicers, we understand that 

the servicers themselves are modifying a number of loans in an attempt to do the right thing. Borrowers are using FHASecure as a 

vehicle. There still seems to be an incredible difficulty to reach a 

number of borrowers as they approach default and a foreclosure 

situation, sir. 

Chairman DODD. How about you, Mr. Murton? 

Mr. MURTON. Well, I think as I said in my statement, I think as 

Chairman Bair said, we are at the point where we do think more 

steps are needed. We think the efforts so far have been important, 

but we do think that more may be needed. 

Chairman DODD. Well, in your testimony, Mr. Montgomery, you 

state that FHASecure and HOPE NOW initiatives have together 

helped more than 1.3 million home owners. I would like to get that 

data, if I can, or the committee would, for the record that breaks 

out exactly how many borrowers are getting repayment loans and 

modifications, what kind of repayment plans and modifications 

they are getting. All of us hear, I think, that too many loans are 

being reclassified as modifications where no long-term interest rate 

freezes are involved or other considerations. The word ‘‘modification’’ is being rather used loosely, and it would be very helpful if 

we could at your earliest convenience here to get us the data that 

supports that conclusion of 1.3 million. 

Do you want to add any comments here in terms of the concerns 

I have about them? 

Mr. MONTGOMERY. Yes. Absolutely, Mr. Chairman. Thank you. 

When we announced FHASecure on August 31—— 

Chairman DODD. I point out, by the way, the industry itself has 

raised some concerns in the press about what they call cooking the 

books on these numbers, so—— 

Mr. MONTGOMERY. Anybody can look at our books who want to, 

sir, any time, any day. Let me just say that when we rolled out 

FHASecure, again, we are an insurance company. We needed to 

have a measure of response backing our actuarial soundness. But 

we did say going forward that we would make improvements as we 

saw fit. 

There have been 163,000 mostly subprime borrowers who are 

heading toward the slippery slope of delinquency—we know this 

because they tell us—who had never even heard of the FHA. Remember, for many years, and your staff will attest to this, FHA, 

I think a lot of people thought we were the Federal Highway Administration. We are almost an afterthought for many borrowers. 

A lot of publicity around the announcement. Again, borrowers tell 

us this. They thought they had no other option. 

So I will say this. We way overestimated the number who would 

come in delinquent, and I will get to that in a second. We way underestimated the numbers that would come in current. By the end 

of the fiscal year, we believe we will have 400,000 borrowers—remember, these were not FHA borrowers—that will refinance 

through a safe and secure FHA loan. 

Now let me fast-forward to last week. Moving forward, we wanted to make some more improvements to FHASecure, again coming 

at it from the sense of delinquencies, keeping our debt-to-income 


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ratios and the like. We think we will add another 100,000 to that 

number. Remember, a lot of these folks were never going to qualify 

anyway. They had no document loans. They had stripped out a lot 

of the equity in their homes. So going forward, I think a lot of those 

families who refinance will disagree that they have not been 

helped. 

Chairman DODD. Well, again, I think getting the data here would 

help us get a better picture on all of this. 

One of the things being raised, a concern about it, is, of course, 

that we are protecting taxpayers. Obviously, all of us want to do 

that. When this program or something similar was tried years ago, 

it actually produced a modest amount of income for the Federal 

Government in those days, in 1920s, 1930s dollars. We are not 

looking to make money off this, but obviously we want to avoid 

having great exposure for the American taxpayer, as well, that has 

been raised by many, including Senator Shelby and others. 

And one of the ways we try to protect the taxpayer in this plan— 

the three ways we try to do it, I would like to know how you feel 

about these and if there are any other ideas you would have that 

we ought to include as part of the proposal. 

One, it increases the maximum up-front and annual premiums in 

the proposal. It calls for FHA to share in future appreciation. So 

you are getting resources back to the program. And it limits the 

maximum loan-to-value of the new loan to 90 percent of the current value of the property, something Mr. Polakoff addressed. 

Do any of you have any other additional factors or reactions to 

these ideas and is there anything else you would add? How about 

you, Mr. Montgomery? 

Mr. MONTGOMERY. I would say on the LTV, again, sir, there is 

some common ground here. I can’t stress that enough. 

Chairman DODD. Yes. 

Mr. MONTGOMERY. We think there needs to be an incentive for 

the current lien holder as part of those agreements that were referenced earlier to want to do the write-off down to some certain 

number. I think a mandatory complete write-off, where the FHA 

refinance is accepted as payment in full, I don’t know that you will 

get the participation that you are looking. We think by coming at 

it a little differently that FHA steps in, there is a second lien for 

a part of that charge-off, we think is a more prudent approach. 

Ninety percent LTV loans perform very well for FHA. 

I would also say on the debt-to-income, I know that you give that 

authority to a board—— 

Chairman DODD. Yes. 

Mr. MONTGOMERY [continuing]. Which again we, speaking for our 

excellent career staff at FHA, believe strongly we have that expertise. But we feel very secure in keeping those debt-to-income ratios 

the same, and I know you would have this board do that, 31 being 

the front end, 43 being the back end. 

Chairman DODD. Right. 

Mr. MONTGOMERY. On the shared equity component, again, as I 

mentioned in my oral statement and the written, we were not 

party to that original transaction. This is not FHA’s money. 

Chairman DODD. Yes. 


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Mr. MONTGOMERY. I think we share in the goal that we want to 

keep that borrower in the home so they don’t experience some 

windfall profit. We think the 90 percent with the soft second supports that. But we could also have some sort of recapture provision, 

some sort of resell restriction to perhaps accomplish the same 

thing. 

Chairman DODD. I agree with that. That is not a bad idea. 

Mr. Murton. 

Mr. MURTON. Yes. In our written testimony, we did mention that 

perhaps increasing the fee from 3 percent to 5 percent, or in that 

direction, may be important. We are concerned about making sure 

that the government is protected to the extent possible. So I think 

there may be room for discussion on that. We do recognize that you 

do have to provide incentives for the investors to participate. 

Chairman DODD. Right. Exactly. 

Mr. POLAKOFF. Mr. Chairman, we would urge very strongly consideration that the negative equity certificate or the potential of 

sharing upside appreciation reside with the original loan holder, 

potentially also with the second and with the borrower. Whether 90 

percent LTV, whether that 10 percent cushion is the right amount, 

the key here for these FHA refinance, we believe, is insured financial institutions are going to be the ones that underwrite these 

loans. It should be fully documented, properly underwritten, with 

a 10-percent margin. We believe they should be safe and sound 

loans. 

Chairman DODD. Yes. Well, in fact, on the incentive idea, I think 

there is some real value in that, as well, striking that balance, because this is voluntary, and to the extent you want both the investor and obviously the borrower—the incentive of the borrower is 

there. You get to stay in your home. But the incentive for the investor to step up and say, I am willing to take that haircut and 

do this, I think you have got to have a proper incentive in there. 

It gets to the issue rather well of the safe harbor provisions, which 

I will come back in a later round since we have already gone over 

the time here. But I appreciate your comments on that. 

Senator Shelby. 

Senator SHELBY. Thank you, Mr. Chairman. 

Mr. Montgomery, you stated in your testimony that some ideas 

stretch FHA beyond its role or ability to serve the American people 

appropriately. Today, I will ask you, does FHA have the institutional capacity in terms of expertise, staff numbers, available funding, among other things, to be able to handle the proposed increases in its activities? 

Mr. MONTGOMERY. Well, not to get sideways with the budget 

folks, I guess the only good news in the fact that we are still waiting for FHA modernization is we have been able to take 2 

years—— 

Senator SHELBY. Some of us serve on the Appropriations Committee, too, so if you wouldn’t mind—— 

Mr. MONTGOMERY. Sorry, Senator. That we have been able to upgrade our systems, even though their average age is about 18 

years. So yes, we do need some systems upgrades. 

Senator SHELBY. Which is going to cost money, that capacity. 

Mr. MONTGOMERY. Yes, sir. 


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Senator SHELBY. OK. Would you explain to the committee what 

you believe constitutes underwriting flexibility? As some might say, 

underwriting flexibility is a euphemism for the loose underwriting 

standards that led many to present difficulties in the mortgage 

markets. What do you mean by underwriting flexibility? 

Mr. MONTGOMERY. Well, I will agree with some of what Senator 

Tester mentioned before. It was almost free money, these no docs, 

income-stated asset. Remember, FHA—— 

Senator SHELBY. That is asking for trouble, isn’t it? 

Mr. MONTGOMERY. Absolutely, sir. That is part of why we are in 

this predicament we are in, and FHA doesn’t do that. We have this 

crazy notion you have to prove your job history. You have to verify 

your income. We have rigid debt-to-income ratios that we are not 

going to change. 

Senator SHELBY. Mr. Murton, some have suggested that Congress should set up a board to oversee an expansion of FHA. On 

that board, some would say, should sit the FDIC, the Treasury, and 

Housing and Urban Development Secretary. Would you tell the 

committee here or in writing later what unique expertise the FDIC 

posses in the area of mortgage insurance? I know that is part of 

your portfolio, a big part. Go ahead. 

Mr. MURTON. Yes. I would be happy to provide a fuller answer 

in writing, but I think that when you look at our experience as 

safety and soundness supervisors, as supervisors for consumer protection, I think we have experience, a great deal of experience in 

the mortgage markets. And then in our capacity as the receiver of 

failed institutions, we have people who have dealt with these problems, who have tried to work out loans with borrowers, who have 

tried to avoid foreclosures and who have seen the effects of these 

kind of problems on communities and the economy. 

Senator SHELBY. Mr. Murton, you also mentioned in your testimony that one of the first principles for solutions is that the solution be sustained over the long term. In other words, doing something just for expediency generally won’t work. Do you believe that 

it is a sustainable solution to write down a mortgage and refinance 

it when many housing markets are likely to see future price declines of ten, 15, 20 percent? In other words, where is the bottom? 

Are we rushing too soon? Where are we? 

Mr. MURTON. I don’t know that anyone knows when we will get 

to the bottom. I think that we have borrowers who are not in affordable mortgages and I think they are facing the decision of 

whether to end up in a foreclosure, and I think that needs to be 

addressed and that we need to address that sooner rather than 

later is our perspective. 

Senator SHELBY. Mr. Montgomery, appraisal controls. A critical 

component of all of the write-down plans that have been presented 

is the integrity of the appraisal process. Lenders still will have a 

strong and clear incentive for properties to be over-appraised in 

order to shift as much risk as possible to the government. HUD’s 

Inspector General recently reported that FHA did not have adequate internal controls over its appraiser roster. What steps, Mr. 

Montgomery, is FHA planning to take to minimize the adverse impact of inflated appraisals on the Mutual Mortgage Insurance 


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Fund? I think it is very important that we get realistic, honest appraisals. 

Mr. MONTGOMERY. Absolutely, Senator. I agree 100 percent on 

that. We have had roughly 1,400 or so sanctions against appraisers 

in the last 3 years, and, in fact, stood up a program that would 

help using a risk analysis identify appraisers that we were getting 

high default rates, things of that nature. 

Back to your question. On the stimulus package, the increased 

loan limits for FHA, for that jumbo FHA product, as some are calling it, we just put out guidance a week-and-a-half ago that we are 

going to require two appraisals for those. Although remember, an 

appraisal is just an opinion of value. We are considering doing the 

same going forward on this FHASecure expansion. 

Senator SHELBY. Mr. Montgomery, were FHA to lower its underwriting standards in order to serve more borrowers, the most likely 

result is an increase in losses to the Federal Housing Administration, which could ultimately be borne by the taxpayer. What level 

of delinquencies and losses are you projecting for your planned expansion of the FHASecure program? 

Mr. MONTGOMERY. Well, by doing—— 

Senator SHELBY. Have you done some modeling there? 

Mr. MONTGOMERY. Well, sir, we have done modeling and more 

modeling. But there is about a five-legged stool here, and in the interest of time, I will be very brief. 

Senator SHELBY. That is OK. 

Mr. MONTGOMERY. We need to do some sensible risk-based pricing, and this is something that was in the original FHA bill a year 

ago—excuse me, 2 years ago. The seller-funded downpayment assistance, which I know the Senate has included prohibitions on 

that twice, that is, as you know, a lot in the predicament that we 

are in, long-term financial solvency. But remember, on our proposal 

for the delinquencies, if you have one 90-day or three 30-day delinquencies, that now has a 90-percent LTV requirement. That is a 

tighter restriction, because our existing product is only 97 LTV. 

And, again, historically, those 90-percent LTV products perform 

very well for us from an actuarial standpoint. 

Senator SHELBY. Mr. Chairman, I just want to wrap this up, if 

I can, in a few seconds. In my opening statement, I asked several 

questions that I believe this Committee—the Committee on Banking, Housing, and Urban Affairs—needs to have answered, and I 

commend the Chairman for his comprehensive approach to this. 

Before we can proceed to crafting good legislation—and I am going 

to go over this again—how many of these households made minimal or no downpayments on the properties they hold? That is 

something we need to find out, and perhaps some of you can help 

us with. How many of these households did a cash-out refinance on 

that same property and now face difficulty paying the higher mortgage costs? How many of the households have poor credit scores 

and have significant credit card debt—in other words, are overburdened? How many homeowners used exotic mortgage products, 

gambling on the ability to refinance in future years? You know, 

betting on the ever rising stuff out there. I do not know the answer 

to that, but I think that is all part and parcel of our dilemma here 

facing that. Do you disagree with that, Mr. Montgomery? 


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Mr. MONTGOMERY. No, sir. I agree with that statement. 

Senator SHELBY. Mr. Murton. 

Mr. MURTON. I agree with that. 

Senator SHELBY. Do you agree? 

Mr. POLAKOFF. Yes, sir. It is the question as to whether the borrower was a victim or an accomplice. 

Senator SHELBY. And sometimes a victim, sometimes right in 

there with them? 

Mr. POLAKOFF. Yes, sir. 

Senator SHELBY. Thank you, Mr. Chairman. 

Chairman DODD. Thank you very much, Senator Shelby. And, 

again, I have said over and over again that I think if you break 

these borrowers down to three groups of people, you have got those 

that were speculators, and there is nothing that I am proposing 

that is designed to provide any relief for the speculator. I feel badly 

for them, but they are not included. This has to be owner-occupied 

so you are not sitting there buying properties that you do not live 

in that you are just trying to make a buck off of. 

The second group of people that, frankly, never would qualify 

under any restructuring you could provide for would not be able to 

fit into this, and we cannot, tragically—maybe there are some other 

ideas that people have on how to help those people, but I cannot 

see how we can necessarily fit them into this idea we are talking 

about. What we are talking about is that constituency, those 

groups of people who are in situations that they can afford to stay 

in there with a workout, that will allow the investor to get something back so they do not lose everything, so that neighbors will 

not be adversely affected by foreclosed properties in the neighborhood. They may have, you know, chosen or should have chosen a 

wiser course to follow but, nonetheless, are in the situation they 

are in, and the moral hazard is not only—should not only be focused on whether or not that individual should have been more 

conscious of the kind of problems they could get into, but also the 

moral hazard is to the other people that will be adversely affected 

if we do not act and do something about this as well. And that is 

really the target audience we are trying to get at. The benefit is 

obviously to keep people in their homes where we can. The added 

benefit is, of course, that enough transactions will occur that you 

can actually determine what the floor and the bottom is. That may 

be the more important point from a macroeconomic standpoint so 

that the credit crisis begins to lessen and capital begins to flow and 

the problems begin to address themselves not only in this area but 

in other areas of the economy that are feeling this as a result of 

this particular problem. That is the idea behind this more than 

anything else, and getting at it. 

So I—and we know from the Wall Street Journal study, which 

I do not know how accurate it was, but there were some 60 percent 

of these borrowers that would have qualified for prime loans at a 

lot less cost to them than these subprime deals that they were 

talked into. And, again, you know, it is the relation of doctor and 

patient. I mean, I probably should ask all the right questions of my 

doctor before he operates on me. But, candidly, I am not a doctor. 

And I am sitting there and I am relying on someone across that 

table from me in a sense who is holding themselves out as a finanVerDate Nov 24 2008 01:29 Mar 20, 2010 Jkt 050398 PO 00000 Frm 00026 Fmt 6633 Sfmt 6602 E:\HR\OC\A398.XXX A398

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cial adviser to—probably I am anticipating more than I should, but 

when a doctor does not do their job, there is something called medical malpractice, and we do not turn to the patient and say, ‘‘You 

should have asked better questions before you got into this.’’ In a 

sense, that same analogy can apply to some degree here; when you 

are sitting across that table, it is not exactly a level playing field 

in many ways. And I think to sort of suggest as such is to misunderstand what occurs when people are trying to get into a home, 

trying to stay afloat. Most of these are second mortgages, as we 

know, not first-time homebuyers. And people are underwater financially. There are two or three incomes. They are using credit cards. 

The Chairman is absolutely correct. We know now—what is it? I 

think something—I was stunned yesterday that a quarter of students are paying for their student loans through credit cards. The 

average is almost close to $10,000 per household in credit card debt 

and obligation. So it is a mounting problem, the consumer debt 

issue, and that is not going to go away here, and I do not know 

if we are ever going to find the exact numbers of the economic profile of that individual caught in that situation that today is finding 

themselves facing foreclosure and moving out of their homes. 

So I want to make clear that is what we are targeting, trying to 

get to that audience that has the benefit, obviously, of keeping 

their family there, stabilizing that neighborhood, property taxes 

coming in, as well as not allowing this problem to spread throughout that neighborhood and getting the spiraling effect where foreclosures beget more problems beget more foreclosures, and you get 

that spiraling down problem, and the problem gets a lot worse and 

a lot more costly in many ways. 

And, again, anyone who claims they have cornered the wisdom 

on all of this or knows exactly the right thing to do, you ought to 

be immediately suspicious of them. I certainly do not. I am relying 

on smart people who have been through this and understand it, 

trying to come up with a formulation here that could make some 

sense and work for us. That is my job here, the practical applications of trying to short-circuit a problem that is growing worse. 

Senator Menendez. 

Senator MENENDEZ. Mr. Chairman, I think Senator Carper is 

next. 

Chairman DODD. I am sorry. I apologize. You are exactly right. 

My apologies. 

Senator CARPER. Thank you, my colleague and neighbor. 

Chairman DODD. You have moved in already. That was pretty 

quick. 

[Laughter.] 

Senator MENENDEZ. Just a summer home. 

Chairman DODD. Just a summer home, OK. 

Senator CARPER. Again, we appreciate your being here and your 

testimony today. 

Mr. Montgomery, right at the end of your testimony, you said 

these words. You said, ‘‘In conclusion, these are our initial thoughts 

about the bill. I again stress that there is a lot of common ground 

here given our shared interest in using FHA to help many Americans.’’ 

I am going to ask each of you to talk about the common ground. 


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Mr. MONTGOMERY. Do you want me to go first? 

Senator CARPER. Why don’t you go first? 

Mr. MONTGOMERY. I would say first and foremost I think we 

agree a lot of folks are in the right house but the wrong mortgage. 

No one is promised instant equity when they buy their home. 

There is also no doubt that we have not had a nationwide, almost, 

with some small exceptions, decline in home prices like we have 

seen recently. 

Going forward—and I agree with the Chairman and the Ranking 

Member. I think we all agree on who we want to help and who we 

do not want to help, as unfortunate as those other circumstances 

may be. So we think going forward if there is some sort of 

writedown to a number with a new appraisal, perhaps two appraisals, that FHA—and there is a reason we have an FHA, and this 

is a good one, I think—can insure a portion of that loan, recognizing that this does not happen in a vacuum. There are servicing 

agreements, pooling agreements. There are investors. There are 

these second liens, which a lot of these were piggyback loans. Everybody has a stake in this if we are going to do the ultimate thing, 

and that is, keep the home and the borrower out of foreclosure. 

So that is why we think, as well intentioned as doing this mandatory write-off is, I would just question how many lenders and 

servicers would want to participate versus what we want to do is 

put that option that exists today to have that soft second. It does 

not accumulate interest. There are no payments made on it. But 

it is out there so that some portion of that debt is resolved when 

the home is refinanced or sold, and ultimately we will turn this 

corner, whenever that may be, and prices go back up. And I think 

that is something we all—maybe not to the pace that we just saw 

recently, but I would say that is certainly some common ground. 

We shared this with House Financial Services Committee as well. 

Senator CARPER. All right. Thank you. 

Mr. Murton, where do you see the common ground? 

Mr. MURTON. Well, I think in our testimony we laid out four 

principles that we would like to see that people—— 

Senator CARPER. Go ahead and restate those. I saw those in your 

testimony. State them again. 

Mr. MURTON. That people be put in sustainable mortgages; people who can be in those should be in sustainable mortgages. The 

burden should be shared appropriately, that parties should take— 

third parties are going to have to take losses, and the burden will 

have to be shared. 

Senator CARPER. Who would you include among those third parties? 

Mr. MURTON. Can I come back to that in a minute, please? 

Senator CARPER. Sure. 

Mr. MURTON. Just let me get through—I am sorry. We would like 

to see it use existing structures, market and Government structures, so it can be done quickly. And we would like to make sure 

that we limit the liability to the Government, and I think there is 

common ground on most of those. 

And I think going back to the second one, that is where there 

may be more work to be done, because the burden sharing of this 

is quite complicated to figure out. It is absolutely clear that you 


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need to provide the appropriate incentives so that investors will encourage the participation on their behalf by servicers. That is absolutely critical. It is also critical that you protect the Government’s 

interest in this if the Government is going to provide funding. And 

I think finding the right sharing of those arrangements is one of 

the trickier issues. 

And then, finally, I think there is common ground or agreement 

that dealing with the question of second liens is going to be a complex problem, and we need to figure that out. 

Senator CARPER. All right. Thank you. 

Mr. Polakoff. 

Mr. POLAKOFF. Senator, we have to find ways to prevent avoidable foreclosures. Not all foreclosures are avoidable. There are multiple tools right now for servicers to consider. This bill offers another tool. 

I would say that our conversations with servicers suggests that 

servicers are trying to do the right thing, trying to reach out to the 

borrowers who are in financial distress right now. The common elements along those lines I think fit with much of what I heard 

today. 

I go back to the discussion that I think is very worthy of if a 

servicer is going to take a significant write-off in allowing the borrower, the distressed borrower, to be able to refinance, whether it 

is with an FHA guaranteed product. I also think there is a benefit 

to talk about the role of private mortgage insurance with loans underwritten at 90 percent with insured financial institutions. But 

the question that I would submit, the topic that deserves more discussion potentially is who can benefit from the home price appreciation, which will return at some point. 

Senator CARPER. I was talking with one of our leading bankers 

in our State, and we were talking about, among other things, the 

amount of money that a mortgage servicer is paid. And he suggested to me that their take, if you will, is 25 basis points in most 

situations, but in a foreclosure, the mortgage servicer can realize 

as much as 6 times that income. 

Can you confirm or correct that for me, anybody? 

Mr. POLAKOFF. Well, I cannot confirm it. I certainly would not 

be so bold as to correct it. But I would submit that typically a 

servicer in a subprime portfolio gets 50 basis points for servicing 

that portfolio, and typically in a foreclosure process, the servicer 

gets—or the servicer receives any out-of-pocket costs associated 

with the foreclosure. All of our investigation with servicers does not 

reveal that a servicer benefits going through a foreclosure process. 

Senator CARPER. Could anyone else comment on that? 

Mr. MURTON. I am not an expert on those numbers. As I understand it, they are compensated at a higher rate in a foreclosure, 

but there are offsetting costs and so forth so that it may not be 

profitable. But the concern that we have or the point we have made 

is they are paid some administrative expenses to compensate for 

those costs in foreclosures. It is not clear they are incented to do 

the same for modifications and other solutions that may be preferable. 


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Senator CARPER. All right. Share with us your best thoughts of 

how we should deal with second liens or second mortgages. Everybody agrees that this may be among the stickiest wickets. 

Mr. MONTGOMERY. Well, and you have probably heard some of 

the same concerns that we have from the investor and the lender 

community out there. But, yes, they absolutely have a stake going 

forward, and I think a lot of them will tell you there is no way they 

think they are going to get 70 cents on the dollar, 80, 50, 40, whatever. But the fact that there would be a mandatory discharge of all 

of that I think might be what would keep this from going forward. 

Senator CARPER. All right. Thank you. 

Mr. Murton. 

Mr. MURTON. I think that we agree that most of these seconds 

are not worth very much. Nevertheless, they have some power over 

taking the loans out of the mortgage—out of the pools and restructuring them. So one thought that we had is whether we can look 

at ways, some other solutions that might involve working with 

loans in the pools under other circumstances and finding arrangements that might work there, because you may have less of an 

issue on the second there. But it is—we wish we could have come 

with an answer there, but we would like to explore that. 

Senator CARPER. Mr. Polakoff. 

Mr. POLAKOFF. Senator, if I could offer a thought with the seconds, because we have heard these stories, I would submit that for 

loan modification purposes, the seconds are irrelevant from a power 

perspective. And certainly they are relevant if a borrower is going 

to pursue an FHA loan, a refinance. But everything that we are 

talking about with an FHA refinance a servicer can do with a 

modification, and by doing so eliminates the power of the second. 

So I would suggest very important to address from a refinance 

perspective, not necessary to address from a modification perspective. 

Senator CARPER. All right. Thank you. 

I think, Mr. Chairman, in your bill one other issue is the issue 

of a safe harbor for mortgage servicers, as I recall, that is in your 

bill, is it not? 

Chairman DODD. It is in our bill. 

Senator CARPER. Let me just ask, if I could on that, the inclusion 

of safe harbor as a part of what we do going forward, I think, to 

incentivize the—or at least to take away disincentive for the 

servicers to enter into these agreements. How important do you 

think safe harbor is? 

Mr. POLAKOFF. Well, I would offer that there is a real important 

element of the safe harbor. The servicer must abide by the pooling 

and servicing agreement, which obviously has a couple very important effects. One of them is maximizing proceeds. The other is for 

REMIC tax purposes. In order to define a reasonable, foreseeable 

default, we have to be sure that whatever we submit does encounter an IRS ruling for REMIC purposes. 

So I think there are a lot of very important elements to discuss 

with that. 

Senator CARPER. All right. Thanks. 

Mr. Murton. 


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Mr. MURTON. Chairman Bair held a number of roundtables last 

year to explore the complicated issues in this, and it is pretty clear 

that the contracts allow the servicer to act on behalf of all the investors in the group. And I think that anything that reinforces that 

we are very supportive of. 

Senator CARPER. All right. Mr. Montgomery. 

Mr. MONTGOMERY. That is a little out of FHA’s realm. We are 

not a banking regulator. 

Senator CARPER. OK. I understand. 

Mr. MONTGOMERY. But I would concur with their comments. 

Senator CARPER. All right. Thanks. 

Thank you, Mr. Chairman. 

Chairman DODD. Thank you very much, Senator. 

Senator Corker. 

Senator CORKER. Mr. Chairman, thank you. I am going to follow 

along the same line of questions as Senator Carper, and statements. I think that there is a lot of common ground. By the way, 

my ‘‘not neighbor.’’ As a matter of fact, sitting where I sit over 

here, I wonder if I am part of the continental United States sometimes. 

[Laughter.] 

Chairman DODD. We have all been there. 

Senator CORKER. I understand. I understand. 

Chairman DODD. You sometimes think you are part of the press 

corps over there. 

Senator CORKER. Well, I know these cameramen very well. 

Chairman DODD. They are slipping you notes all the time, I 

think. 

Senator CORKER. You know, I think that line of questioning was 

actually very good, and I know that I have shown my bias in regards to what we have done thus far on the economic stimulus efforts that have taken place. I think it has actually been my most 

discouraging moments here to see how we sometimes try to wrestle 

with issues and then come to conclusions that do not even really 

address the issue. 

This meeting to me, much like yesterday’s where I thought we 

had an opportunity and think we do to basically try to push the 

FFB into doing some things that would really solve the problem, 

I think has some of the same ingredients. And I think it has been 

an excellent hearing. And I think that sometimes the most productive things we do legislatively are not to legislate necessarily, but 

to place a marker out there that causes other organizations that 

exist to move toward that. And I think in many ways that is what 

you have done with your proposal, is to lay a marker out there that 

addresses a problem. 

I think there are a lot of commonalities in the approach between 

the administration, the witnesses today, and yours, and I think 

that, you know, keeping ownership is certainly a goal that has been 

laid out. 

It seems to me that the negative equity certificates are a very elegant way, if you will, of dealing with writing a loan down and getting a mortgage into a position that somebody can actually pay for 

it. And yet it does not create all those other issues of joint ownership. Many people have referred this bill to be something—referred 


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to this bill in a way to make it similar to what happened with RTC. 

But it is not. It is very different, because in that case there was 

a severance of ownership. The people no longer owned the property. 

In this case, they are actually going to be in the property. And I 

thought testimony we have had over the last few days where people were concerned about what do you do about home appreciation 

that occurs by somebody actually investing in their property, improving their kitchen, adding a garage. How do you deal with that? 

And then how do you deal with the possibility of the neighbor issue 

that was referred to earlier where one neighbor keeps their loan, 

the other neighbor does what is proposed in this bill and has a 

quick sale and actually benefits from doing the writedown? I think 

that in many ways these negative equity certificates really do deal 

with the issue far more elegantly and, again, keep us out of dealing 

with it. 

So the biggest issue—and it seems to me that Chairman Dodd’s 

bill also builds upon the FHA to actually do this. Is that correct? 

I mean, it is within the FHA, a new organization, a new entity inside the FHA per this bill, per his bill would actually carry out the 

efforts proposed in this bill. Is that correct? 

Mr. MONTGOMERY. As I understand, there is a board that is created that would set, you know, debt-to-income ratios, things of that 

nature. We would just submit, since time is of the essence here, 

that we have that existing—— 

Senator CORKER. So it seems to me also if this bill becomes law 

that there actually has to be an appropriations process to actually 

fund it. And it seems to me that everything that the bill lays out 

can be done within the FHA today. And it seems that the negative 

equity certificates are a much more elegant way of making sure we 

have no moral hazard. 

In addition, I guess the whole issue of debt forgiveness creates 

income, does it not? 

Mr. MONTGOMERY. Well, in our case, there would be some debt 

forgiveness. I think a lot of lenders and others are looking to see, 

to the Chairman’s point, where the floor is. But, you know, once 

it is written down to an appraised value, we come in and insure 

90 percent of that. That other equity is held as a soft second. 

Senator CORKER. But since it is held as a soft second, the borrower, who already has financial issues, does not owe the IRS 

money; whereas, if there is debt forgiveness, my understanding is 

that is income. It always has been income in the past. Is that not 

an issue that would have to be dealt with? 

Mr. MURTON. I believe that was taken care of in recent legislation. 

Senator CORKER. For a short window of time. 

Chairman DODD. It was taken care of. 

Mr. POLAKOFF. Senator, I believe there is a 2-year window, I 

think, for debt forgiveness not being considered income to the borrower. 

Senator CORKER. OK. And I would just say that it seems to me, 

then, on that note, though, that this is something that is set up to 

actually go forward, per the administration, for a longer period of 

time. We are only about a third of the way through resets at this 

moment in time. Is that correct? We still have tremendous numVerDate Nov 24 2008 01:29 Mar 20, 2010 Jkt 050398 PO 00000 Frm 00032 Fmt 6633 Sfmt 6602 E:\HR\OC\A398.XXX A398

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bers of resets to be dealt with. So it seems to me that the issue 

is urgent, that the FHA is set up at this point to deal with it, that 

it, in fact, takes no appropriations process for this to occur. And I 

guess the big question comes back to a question Senator Menendez 

offered in his opening statements. But is the FHA set up to plunge 

into this and deal with this plan in a way that would alleviate the 

need for any legislation of the type that is being discussed today? 

Mr. MONTGOMERY. The only difference being that we have a 2.25- 

percent premium cap right now to expand the fence line out a little 

further. We would need some flexibility in that premium structure 

since we are a self-sustaining entity that does not take taxpayer 

funds. Again, we are coming at it from a delinquency standpoint, 

things of that nature. 

So, yes, we are doing a lot of this now. We think in the interest 

of time the best thing is to let the Federal Housing Administration, 

perhaps with some legislative fixes, move forward. 

Senator CORKER. And could you be very specific about what those 

legislative fixes would need to be to cause us to move forward immediately in a way that appears to me to really be at no taxpayer 

expense? 

Mr. MONTGOMERY. Well, on the risk-based pricing, we have this 

guiding principle that we do not want to raise premiums on some 

family in Alabama or Texas who today is saving their money to buy 

a home in October, that we do not want to pay for this by raising 

their premiums and we want to wall them off from this. The only 

way that we can do that is to have some flexible pricing in that 

premium, recognizing the differences between the highest and lowest premiums. You know, our average borrower has a $50,000 income, buys $140,000 home. Those are very subtle dollar amounts, 

but they help our actuarial soundness, because we do not want to 

be back here later this year going to the appropriators saying we 

need money to keep our doors open, which I know seems almost 

counterintuitive because right now us and the GSEs are about the 

only game in town, so to speak. Our volume is up significantly. 

But, you know, we continue to have a drag on us with these sellerfunded gift downpayments, and I cannot overstate that enough. 

And, again, this body has been great to address that. 

Chairman DODD. Bob, can I just add, you know—here is what I 

am thinking. We have asked, by the way, CBO to score this, because obviously that is an important issue. And we do not know, 

but we believe that between the annual and the up-front premiums 

that we are talking about and the shared equity component that 

you have addressed here, we believe there is a real possibility that 

in terms of exposure, it would be minimal, and the tax provisions 

we think we have—the idea is to have a short window on this. 

Partly the idea of not setting up a whole new operation is exactly 

the point you are making. To go through that would be—we have 

an organization that knows how to do this in a way, and we are 

giving it a window of time. And you are right, we have resets coming. But if we can limit this in time and sunset this whole thing 

so you are in that window we are talking about on tax and we can 

avoid some of the very issues. I just offer that as a thought. But 

we are asking CBO to score it. 


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Senator CORKER. Well, you are addressing the specific legislative 

issues. You addressed one, and I think—I know my time is up, and 

I know we are probably going to have another round. But I will 

defer to Senator Menendez and come back and follow back up. 

Chairman DODD. Bob. 

Senator MENENDEZ. Thank you, Mr. Chairman. 

Mr. Secretary, a lot of questions have been raised here, and I appreciate the definitions of where there is common ground on the 

legislation and where there might be some differences. But I think 

some overarching questions were raised that we need to deal with 

as well, so let me go to the very beginning of your opening statement. 

You said, ‘‘Yesterday, Americans paid their taxes. That payment 

is a responsible action by each citizen, a necessary duty to pay for 

the services provided by the Government. Our citizens expect us to 

spend that money wisely, carefully, judiciously. After all, it is their 

money. They don’t want us to use tax dollars to reward risky behavior or irresponsible lending or to create moral hazard. We all 

have a duty to be good fiscal stewards.’’ And I cannot think of anyone on the Committee who would disagree with you. But that 

should be across a spectrum, should it not? 

Mr. MONTGOMERY. Absolutely. 

Senator MENENDEZ. So when we gave $29 billion to JPMorgan to 

buy Bear Stearns, did we create a moral hazard? 

Mr. MONTGOMERY. Sir, that is a little out of my lane. I am the 

Federal Housing Commissioner. 

Senator MENENDEZ. I understand that, but I think you have 

some sense of it. I mean, we had the Chairman of the Federal Reserve here, and I asked him questions about, well, what is the liability to American taxpayers, couldn’t define it for the Committee. 

Twenty-nine billion dollars in record time. 

Now, what message does that send to Wall Street about responsible behavior? See, if we are going to have a standard, which I 

think is an exemplary standard, then it has to be a standard across 

the spectrum. It is very hard for American homeowners—and, you 

know, I understand—Senator Shelby, whom I have a great deal of 

respect for, raised a question. Who is a victim? Who is an accomplice? 

Well, let me ask you, gentlemen: In a score of 1 to 100, with 100 

being the best score, what would you say is the average American’s 

financial literacy score? Anyone want to venture to give us a sense 

of it? 

Mr. MONTGOMERY. I would—rather than giving you an exact 

score, I would say probably not very high, sadly. 

Senator MENENDEZ. Would you all agree that would be the case? 

Mr. MURTON. I would agree. 

Mr. POLAKOFF. Yes, sir, I would agree. 

Senator MENENDEZ. And that is one of our great challenges, because the reality is, having practiced real estate law for a fair 

amount of time before I came to the Congress, I have to tell you 

that I had many hard-working people who I had to go to great 

pains to describe what their mortgage commitment was and what 

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soever. And the reality is that they were trying to reach for their 

dream, and they were trying to do it responsibly. 

And what I am saying here is, you know, the financial literacy 

is something I hope the Committee will increasingly pursue, Mr. 

Chairman, something I know I am personally interested in and 

have some initiatives on. The reality is this is a critical component 

because at the end of the day, whether someone is a victim or an 

accomplice, you know, depends upon in part what is their financial 

literacy. And I would venture to say that a great number of people—I have read from my own case files, individuals, including people who had standard mortgages for a long period of time, and, in 

fact, were good credit scores and had been responsible payers, and 

then were lured because they were told, ‘‘You are paying too much 

on your fixed-rate mortgage. You can actually get this lower rate,’’ 

and were told a whole series of things that led them to believe, 

they thought responsibly that, in fact, making that move made 

sense, and now they find themselves retired with their income 

stream fixed, and in the process of losing a home they otherwise 

would have kept just by continuing to pay their conventional rate 

mortgage. And I have got a whole bunch of stories like that. So moral hazard, you know, I have a problem with $29 billion 

to JPMorgan for Bear Stearns where the Chairman of the Federal 

Reserve cannot tell me what American taxpayers who paid their 

taxes yesterday liability is, and yet we can say to our millions of 

homeowners in this country that are going to affect our economy, 

all of our economy, that we think that 3 percent in the latest report 

from the Center for Responsible Lending still has that the industry 

plan reaches only 3 percent of at-risk homes. That means a 97-percent correction rate. Are we willing to take a 97-percent correction 

rate in the marketplace, not just for those millions of Americans 

who will lose their homes but the consequence to the rest of us? 

That is the essence here, Mr. Chairman, of how we look at the 

issue. And I think it is very important how we look at the issue. 

You know, why did we go ahead and do that for Bear Stearns— 

or for JPMorgan to purchase Bear Stearns? Because there was a 

general consensus that there is a consequence to the broader economy if we did not, right? Isn’t that basically what was the argument? Well, there is a consequence to the economy of what happens 

if we do not do something significant about these mortgages? 

So where is the difference between the moral dilemma, the duty 

to be good stewards, and rewarding risky behavior? And, by the 

way, where are the regulators who have the power to stop or intercede in a whole host of these instruments that, in fact, would not 

have brought us to the point we are? Where is their responsibility? 

Where is the risky behavior, good fiscal stewards standard for 

them? 

So as we apply these standards that we want to say this about 

homeowners whose, admittedly, financial literacy rate is on the 

lower side, and say we go to rescue Bear Stearns, and we say to 

the regulators, oh, well, we are the clean-up brigade versus the 

preventers of what is happening, let’s apply that across the spectrum, and then I think it will be fair. But if we are only going to 

apply that to the spectrum of those people who made decisions that 

largely are victims, I have a real problem with that. 


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Last, Mr. Chairman, I just want to ask one substantive question 

in addition to making—because I think the broader statement, if 

we are going to move forward on this, we have to have the parameters of what is, you know, good for the goose is good for the gander, so to speak here, and knowing what the standards are that we 

are going to apply across the board. 

But I want to ask you, Mr. Montgomery, I have heard reports 

that the FHA is no longer accepting borrowers without a credit 

score. Is that the case? 

Mr. MONTGOMERY. Well, FHA is about the only entity that does 

not base a decision solely on the credit score. That has been one 

of the hallmarks of FHA for generations. 

Senator MENENDEZ. Is that still your standard? 

Mr. MONTGOMERY. Yes, that still is. 

Senator MENENDEZ. So you are accepting individuals who do not 

necessary have a credit score? 

Mr. MONTGOMERY. Yes. They are a very, very small portion of 

our portfolio, less than 1 percent, probably. 

Senator MENENDEZ. Because there is a fair number of borrowers 

who do not have a credit score, but who use payment history such 

as rent, utilities, and other bills that are well documented or solid, 

responsible payers that, in fact, can hit a 620 score, FICO score, 

and are well within the FHA parameters. Those people are not 

being eliminated at this point? 

Mr. MONTGOMERY. No, sir. As a matter of fact, we support the 

provision in the Senate bill that would—assuming it is still in 

there on a pilot program going forward for non-traditional—— 

Senator MENENDEZ. Is the secondary market changing their 

standards in that respect? 

Mr. MONTGOMERY. Well, a lot of the pricing from private mortgage insurance companies, certainly from Fannie and Freddie, we 

are seeing a lot of cutoff points on FICO scores, absolutely, and certainly a repricing if not a retreat from the higher LTV/lower FICO 

score market. 

Senator MENENDEZ. Well, we look to see what exactly is happening there. You know, 22 percent of Latinos in this country have 

no credit score whatsoever. But yet they, in fact, have some great 

records of establishing due payments on time, long periods of time 

that would give them access to an opportunity to be considered. If 

we start eliminating that without looking at the substance of their 

abilities to pay, we are going to deny a whole host of people in the 

rush to now respond to some of what has happened before. 

So we have to be, you know, cautious, but at the same time we 

do not want to just eliminate opportunities for people across the 

spectrum who otherwise can be responsible lenders and good payees. 

Thank you, Mr. Chairman. 

Chairman DODD. Thank you very much, Senator. 

Senator Reed. 

Senator REED. Well, thank you, Mr. Chairman. And thank you, 

gentlemen. 

Mr. Montgomery, all these different proposals anticipate an expanded role for the FHA and raise several issues, but two major 


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categories: first, financial capacity and, second, managerial capacity. 

With respect to financial capacity, it was reported recently that 

for the first time in the 74-year history of FHA, you might be running a deficit with respect to your portfolio. Can you comment on 

that, how it would affect you going forward or what steps you are 

taking to reverse that troubling trend? 

Mr. MONTGOMERY. And I have commented extensively on this 

and met with a good bit of the staff that is sitting behind you who 

have been very supportive in this. That is the irony here, as FHA’s 

volume continues to grow, that we continue to have a drag on our 

solvency because of the proliferation of seller-funded downpayment 

assistance. Six, 7 years ago, it was barely 5, 7 percent of our portfolio. It is as high as 33 percent overall, and in some States— 

Texas—it is about 45 percent of our FHA portfolio. 

The IRS has put these organizations on notice that circular financial arrangements, things of that nature, it is clearly an inducement by all parties that you do not see in any other 501(c)(3). We 

could be the largest mortgage insurance entity in the world, but as 

long as we have that large a percentage of loans that use that sort 

of assistance—we are the only customer, by the way—then we will 

continue to have the drag on our financial solvency. And I have 

been sounding those alarms now for some time. 

Senator REED. Now, let us talk about managerial capacity, which 

is the resources, and many times, I suspect, you know, in comparison to a major mortgage lender and insurance company, your software, your hardware, your employee base is not as robust as you 

would like it to be, I suspect. Can you comment on that also? 

Mr. MONTGOMERY. You are absolutely correct, Senator. I mean, 

we have made some improvements to our existing systems—the average age of which, by the way, is about 18 years. And we can handle it. But I will say going forward we need a long-term fix to our 

information technology. 

The good thing about HUD is we have a very, very experienced 

and hard-working, dedicated career staff. But they have been there 

many, many years, and a lot of them are retiring. Just this year, 

I have to hire 400 people. That is just to keep even to where I was 

last year. And it is a problem we have been trying to address. 

The good news is—I guess the bad news is while there have been 

a lot of layoffs in this industry, we are getting a lot of high-quality 

candidates. 

Senator REED. Right. I mean, one of the unfortunate consequences of the economic climate and the meltdown of several 

major mortgage entities is that there are very talented people out 

there, unfortunately, that might be available. But I think this goes 

to part of the effort of reform to reauthorize FHA is that there has 

to be, I think, both the authorization of resources to modernize 

your information systems, to make sure you have appropriate staff, 

and also, I think, going back to the point about the seller-financed 

downpayments, did you have any discretion with respect to those 

products? Can you limit it within your portfolio? Or the other question would be it grew from 5 percent to 35 percent. Just in the general portfolio of management, having an asset like that becomes so 

large so quickly it would raise questions. Can you comment? 


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Mr. MONTGOMERY. Well, it would certainly raise questions. Obviously, we are bound by the Administrative Procedures Act. That 

process, as you know, can be quite time-consuming. I will briefly 

summarize here. We have put out a proposed rule. It went out for 

public comment. We put out a rule that was going to basically 

eliminate that sort of assistance. We were sued. There are various 

movants and intervenors within those cases, and the judge—it is 

the Eastern District Court of California, the Federal District Court 

of Washington. Both ruled against us. They enjoined us from implementing the rule. 

I will say this: If you read both of those decisions, I do not think 

the judges attacked us on the merits of the case, the evidence of 

the case, but they certainly hit us on the Administrative Procedures Act. And I will say this: They gave us a good road map to 

get it right. 

Senator REED. OK. 

Mr. MONTGOMERY. It was not good enough for us to be 97 percent right in their mind. We have to be 100 percent right. And we 

will continue to move forward. 

Senator REED. Thank you. Just let me raise another general 

question or a comment for the panel. I was listening intently to 

Senator Tester, who I think made a very profound point about 

these types of arrangements where people could buy a home without any money down. I had to buy a home, too, and, you know, we 

put down money because one thing we wanted to do is avoid paying 

mortgage insurance. So we put 20 percent down, and, you know, 

fortunately, we had it. But the whole mortgage insurance market 

is not there to help out now for some of these defaults because of 

the second mortgages which are issued simultaneously. 

It suggests to me that a lot of this was—the people who were 

writing not just the first mortgage, but also encouraging the borrower to take a second mortgage for a 100-percent financed house 

with zero down and also not looking carefully at the income capacity of the borrower, I mean, it goes back to the point the Chairman 

made. That seems to be mortgage malpractice, writ large. And, you 

know, one of the issues that struck me here is that, you know, a 

lot—in the old days, and I will date myself, if you—you know, you 

had to put the money down or you had to have mortgage insurance. 

If the mortgage went bad, you know, you lost the house, but the 

financial system recouped the mortgage. 

Any comments in terms of this problem, or reactions? Mr. 

Murton or Mr. Polakoff. 

Mr. MURTON. Well, perhaps it goes back to the point I think you 

made earlier, Senator, that people believed housing prices would 

always go up, and I think we got ourselves into that mind-set starting with the low interest rates, and then following that the 

unsustainable credit expansion. 

Mr. POLAKOFF. Senator, I agree that there was much irresponsible lending by mortgage companies and mortgage brokers, and I 

do believe that there were some poor decisions made by some borrowers who should have known better and were taking advantage 

of the system as well. 

Senator REED. I mean, one of the things pointed out to me is 

that, you know, if you have a stable income stream, getting a secVerDate Nov 24 2008 01:29 Mar 20, 2010 Jkt 050398 PO 00000 Frm 00038 Fmt 6633 Sfmt 6602 E:\HR\OC\A398.XXX A398

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ond could be a financially shrewd move because you avoid the 

monthly mortgage fees and mortgage payments, et cetera. But in 

the case of so many of these borrowers, particularly the subprime, 

where they did not have those assets, did not have those income 

streams, and getting into a second and being—and having someone 

underwriting that mortgage, that first mortgage, knowing that 

there was no equity, was a serious, I think, lapse of judgment. 

But, Mr. Chairman, again, thank you for this hearing. I have 

learned much. Thank you. 

Chairman DODD. Thank you very much, Senator. 

Just picking up on Senator Reed’s point, I think, you know, what 

was the underlying thinking of people in all of this? And one is a 

sense of optimism. I mean, you could say that they should have 

had better judgment in some cases, but that sense of optimism and 

confidence about their country, about themselves, about their futures is a valuable and tangible asset in all of this. And why are 

people doing this? Why were they taking that second? And you go 

back and you realize what tremendous economic pressure people 

have been under. 

I cite these statistics, and when I do, every time I say them I find 

myself questioning, and I go back and confirm them again. Between 2000 and 2006, if you exclude supervisory jobs in the country and speak only about 124 million Americans in non-supervisory 

jobs, their wages went up $1.60 in 6 years—$1.60. Not a year, not 

an hour. That was the total wage increase for 124 million people. 

That is $200 million in wage increases in that 6-year period of 

time. I might point out the five investment banks gave bonuses of 

$35 billion in that same 6-year period, by the way. And so when 

people have that limited income growth—and you are looking at 

energy, health, food, other matters going up—this idea of taking 

that second mortgage and doing—it was not out of greed. They are 

doing so because they are trying to stay afloat. That is why there 

are second family jobs, that third job, that fourth job. That is why 

credit cards in many cases people are financing these things. It is 

not just irresponsible behavior. It is people trying to keep their 

families together in very difficult economic times for a lot of them. 

And there are other things they probably should not be doing. I am 

not trying to create some image of a person who has been absolutely perfect, but the motivations here are not just about greed. 

They are about surviving in many cases. And they are about optimism, and it is about confidence about their futures. 

I think before we just decry all of this, we ought to understand 

the framework and the understanding of what motivated people in 

those moments to do what they did, the idea of having a home, 

raising a family in a place you call your own. I am a provider. I 

take care of my family. My wife and my children would love to 

have their own house. And that has been a strong emotion in our 

country from the founding days of this republic. Today, we find 

ourselves at a lot of risk of all of this. 

So just this idea of indicting people out there because they got 

themselves into bad deals, as we heard a minute ago, we have had 

people talking them into this stuff. I mean, I still go back—every 

time I look at that website of the brokers that the first rule is, hold 

yourself out as the financial advisor of the borrower. A complete 


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lie, because you are being paid based on yield spread premiums 

that reward you for how high a rate you can convince that borrower to take. And when you are looking across the table at someone who is a borrower who believes this person is their advisor, you 

know, there isn’t exactly a level playing field in that sense, either. 

Let me address, before I turn to Senator Corker, I know Senator 

Corker has some questions, Bob asked some very good questions. 

He asked about is there new legislation required here, and I asked 

my staff to kind of do a quick run-down here and let me share 

some thoughts we have on this and whether new legislation is 

needed. 

HUD is claiming—and Brian, you are correct on this—that it will 

serve up to 500,000 people with the new expanded FHASecure program. At least that is the number I have been given. Is that right? 

Mr. MONTGOMERY. Yes. With this expanded FHASecure, by the 

end of the calendar year—— 

Chairman DODD. Right. OK. And I think Senator Corker raised 

a very good point earlier, and I appreciate it, as well. I mean, I 

don’t know how we are going to do with this bill. I am going to try 

and move this idea. But I know in the process, we are also moving 

people probably to do some things they weren’t going to do in the 

absence of suggesting some ideas here, as well. So to some extent, 

I guess I ought to be taking a degree of satisfaction in that people 

are moving in a direction that I am not sure they would have been 

moving in had we not been proposing some of these ideas. 

But the administration was very slow to acknowledge the mortgage problem, as I mentioned at the outset of my remarks, and I 

say this respectfully, but there was just a failure going back more 

than a year ago. I might add, by the way, when I took over the 

Chairmanship of this committee a year and 2 months ago and my 

staff met with Federal Reserve Board staff, stunningly, they told 

us, the staff, they were aware of this problem emerging at that 

point, three-and-a-half years earlier. 

And so when we talk about this problem popping up last year, 

in fact, knowledgeable people claim they were beginning to get concerned about this issue, broadly, some time before then, and I just 

share that with you this morning. 

Congressman Frank and I have been talking about a larger scale 

and a more aggressive government program to assist home owners 

since late January, and last week, April 9, the administration announced its plan to expand FHASecure. We welcome that. I am 

just pointing out, this was a year and a month after we have been 

raising the issue. It is good to get it, but if you won’t mind me saying, I wish we had had a little earlier reaction to all of this. And 

in short, by pushing the Hope for Home Owners Act, I think we 

have been helping the administration move in the right direction. 

The Dodd bill expands the universe of eligible borrowers beyond 

the recent expansion of FHASecure. It gives the authority to FHA 

to raise fees beyond the current level, which I think is a benefit. 

I appreciate your point, Brian, that the levels are where they are, 

but we think by going a little higher, we actually address some of 

the underlying questions about taxpayer exposure and the like and 

making sure that borrower is going to have some skin in this so 

that they are going to get covered, as well. So giving HUD the auVerDate Nov 24 2008 01:29 Mar 20, 2010 Jkt 050398 PO 00000 Frm 00040 Fmt 6633 Sfmt 6602 E:\HR\OC\A398.XXX A398

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thority to charge more will allow it to expand the universe of eligible borrowers. 

In our discussions with servicers and lenders, there is a strong 

sense that our program could be effective even for borrowers who 

are more than 90 days delinquent. The HUD program would not 

extend to those borrowers, which is a limitation. I don’t know if 

that requires new legislation or not, but that is one of the things 

we are talking about. 

Third, the legislation also creates a safe harbor for servicers so 

they will be more willing to participate. That requires legislation 

because that doesn’t exist. 

And fourth, our plan creates a board, as you have been pointing 

out and talking about, that doesn’t exist, obviously, that includes 

Treasury, FDIC, as well as HUD, and we provide for lending of 

staff from other Federal agencies to help implement the program, 

one of the things we don’t do enough around here, because while 

this isn’t the only universe to deal with, we understand there are 

others that can come into this process that could be helpful and we 

do that. I don’t know whether you need to do that by regulation 

or legislatively, but it is one of the things we include legislatively 

to try and cover some of those questions that I think you properly 

raise. Do we need more authority under law to allow us to do some 

of the things we are doing? 

I have a lot of faith in FHA to be able to do this. I think you 

run a great shop. I think you make a huge difference for people. 

I think the modernization effort is going to be a major step in the 

right direction. And I don’t think you have to go out and recreate 

some agency to do this. I have a lot of confidence you and the wonderful staff you have can handle this idea, and as long as CBO 

gives us a mark here we can work with, then we may not even 

need to go through an appropriation process. 

So the last thing I want to do is go out and start some whole new 

ballgame here in town that you never get rid of. The old axiom in 

Washington was, you create something new, it never goes away. 

And the last thing we want to do is create something new that 

won’t go away. So just to address a couple of those questions. 

With that, let me turn to Senator Corker. 

Senator CORKER. Well, thank you for those comments. I think 

they are very helpful, and actually, I was confused, I guess, at the 

end of my last questioning as to what did need to happen to allow 

FHA to do what it has proposed through this Secure program. My 

understanding is if we were to pass the FHA Modernization Act, 

that that covers all the things that need to occur to handle the portions that you have described, not the additional portions Senator 

Dodd has described, is that correct? 

Mr. MONTGOMERY. That is correct. But to go above the premium 

structure, we would need—to do risk-based pricing, we would need 

some—— 

Senator CORKER. But we already have legislation that moved a 

little ways and is now bogged down. But, in fact, if FHA modernization passes, you have the frames you need to continue on 

with this aggressive effort you have laid out? 

Mr. MONTGOMERY. By and large, yes. 


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Senator CORKER. OK. So just to gain again more common 

ground, I would like for you to address what our Chairman has laid 

out regarding expanding the program in the means that he has 

talked about and then give a little bit of an explanation regarding 

this safe harbor component that he also has laid out in his legislation. 

Mr. MONTGOMERY. I will just say that the safe harbor, we can 

expand more on in writing. It is a little out of my area and more 

to the gentleman to my left. 

Again, going forward, I would just say, I think in concept we 

agree. A lot of families are in the right house with the wrong mortgage. There are some issues of predatory lending, too, where there 

is no doubt a lot of people were steered toward higher-cost loans. 

But trying to thread the needle, there are some very good things 

in the Frank proposal, there are some very good things in this proposal. I say personally there are some very good things in our proposal. But just going forward with the things the gentleman to my 

left had mentioned, there are a lot of players. There are a lot of 

legs on the stool and how can we make sure, whether it is a piggyback loan that the Senator over here discussed, there are a lot of 

players here that can bollix the whole thing up, so to speak. 

So going forward, we think doing the 90 percent LTV is good 

with a subordinate lien, but it will do us no good if whoever is holding the second on that piggy-back loan right now doesn’t want to 

go forward with it. And so that is why I think extinguishing those 

loans with a mandatory write-down, I think may limit the ability 

of this program to go forward. 

Senator CORKER. But that issue exists under the Dodd proposal 

and your proposal, is that correct? 

Mr. MONTGOMERY. Well, in ours, we would allow—certainly people could do write-offs today, by the way. I think the point was 

made earlier, a lot of people are waiting to see where the floor is. 

There is no mystery there are a lot of proposals floating out there. 

But in our proposal, FHA would only insure 90 percent of whatever 

the appraised value is, so that 10 percent equity would be in the 

soft second with a note, due-on-sale clause, something of that nature. Now, certainly the lender could put all that in a soft second. 

Eventually, home prices will go up. Again, I would just say we are 

trying to get to the same thing here but just a little differently. 

I would also say I think we need some rigid debt-to-income ratios 

for underwriting. We don’t want FHA to throw the baby out with 

the bath water here. We need, I think, to insert some fairly rigid 

debt-to-income ratios in there, as well. 

Chairman DODD. Can I bump just on this, because this piggyback loan issue, and I should have mentioned this earlier, sort of 

make this more free-wheeling, is we required in the legislation that 

that second lien be extinguished. That requires a negotiation between the first lien holder and the second to work that out, because 

it is not going to happen if it doesn’t. So there is no fancy I know 

of how to deal with this other than require that before you can participate in the program, if you want to, you have got to negotiate 

that out, and—— 

Senator CORKER. But that is on a voluntary basis. 


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Chairman DODD. That is a voluntary basis, yes. Otherwise, it 

can’t work, obviously. You have got a huge problem there. So the 

law says, in effect, resolve that before you step up. Now, I realize 

there may be those who can’t, so that is going to strike out a certain number. But otherwise, it wouldn’t work. I don’t know how 

you resolve the problem otherwise. 

Senator CORKER. Since we are in this free-wheeling mode, the 

negative equity certificate notion does seem to do away with the 

issue of moral hazard. In other words, the debt is still there. It has 

no interest that is being borne on that debt. But at any time in the 

future should the home sell, that debt is repaid and so you do away 

with the moral hazard issue. I would just be curious what your response to that is—— 

Chairman DODD. I welcome that idea. I think that idea has 

value. That is the carrot. I have got to get that investor to come 

up to the plate here. Obviously, the borrower wants to be here, although he is going to pay insurance, he is going to have to share 

back. The question is, can I get those piggy-back loans worked out. 

That is no small hurdle to get over, but let us assume he can do 

that. 

And then I have got to get that investor to do what culturally 

they have never been inclined to do. It is almost a cultural problem, in my view, and that is culturally, experience has told you in 

the past, get him out of the house. We do better under those circumstances than fooling around with a delinquent mortgage holder, 

or payer, rather, in this case he is. So there has got to be an incentive for that person to come forward. 

So I find that idea very appealing as a way of drawing in, for 

less of a moral hazard reason than I am—if I don’t get people to 

participate, this is just a lot of paper—— 

Senator CORKER. But it is also more streamlined in that you basically keep the arrangement between the lenders and the home 

owner instead of having a third party that is benefiting somehow 

from the sale or the value down the road and then figuring out who 

made it worth more. Was it things the homeowner did? It seems 

like to me, it is just a more elegant way of dealing with that particular cumbersome sort of problem there. 

Chairman DODD. And I want to, again, I don’t want to overstate 

a case to you in how you work that out, but I like the idea because 

some of that is involved. I will leave it there. 

Mr. MONTGOMERY. I would just say, we allow that under 

FHASecure, depending on whether they want to do a write-off, because they know they will certainly take a larger hit if it goes to 

foreclosure. But again, you couldn’t put it on the part of the soft 

second because the prices will go up and you will make some of 

this moral hazard that they had this windfall, so to speak. 

Senator CORKER. So I will summarize. I know Senator Carper is 

here, too. But it seems to me that actually, there is tremendous 

agreement here. In essence, it is a voluntary program. 

Chairman DODD. Right. 

Senator CORKER. It is one that the lenders participate in with 

their own desire. They have to work out things with the second and 

third or fourth and fifth mortgage holders, as they may be. They 

have to work it out with them. 


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Chairman DODD. Right. 

Senator CORKER. What is—— 

Chairman DODD. Owner-occupied. 

Senator CORKER. Owner-occupied. The fact is that it gets the person in the home in a position, again, on a voluntary basis by the 

lender, that allows them to actually make mortgage payments, 

OK—— 

Chairman DODD. They can afford. 

Senator CORKER. Ones that they can afford. There is no moral 

hazard if, in fact, we adopt this principle because there is a negative equity certificate, so the value of the home has to come back 

up at least to where the indebtedness was before there is any profit 

made by the home owner. And it just seems to me there is a lot 

of mutuality that we somehow ought to figure out a way to do, 

hopefully without legislation. I know you are talking to your staff. 

This is the part I wanted you to hear. Hopefully, without legislation. But it sounds like there may be some tweaking someplace. 

I would love for you all, if you would, at least to our staff and 

hopefully everyone, get back with us on the two issues, I guess, 

that Senator Dodd has brought up that I am not sure that I still 

fully understand how we would deal with the expansion piece and 

the safe harbor piece. But it seems to me we have had 2 days of 

streamlined surgical-type approaches to problems that really affect 

people. 

Chairman DODD. The bill hasn’t changed in the last month. 

Senator CORKER. Well, I think the issue of sharing—I think that 

sharing issue is a major, major—I think that is a major issue, and 

I think bringing in a third party to be involved in that is just something that is very troubling and very cumbersome, just for what it 

is worth. But I think that laying that marker out has caused other 

people to think about it in a different way and I think all these 

things are good. 

Chairman DODD. Thank you very much. 

Senator Carper. 

Senator CARPER. Thank you. On the issue of the negative equity 

contract, or negative equity certificate, when I first heard about it, 

I thought that this sounds like an elegant solution. In fact, those 

were my words, too. 

Let me just ask. Is there some precedent in the last decade or 

two where something like a negative equity certificate was used in 

another day and another way, maybe with the S&L crisis? Is there 

a precedent for that so we can actually look back and see how it 

was used and if it was to good effect or not? For some reason, in 

the back of my mind, I am thinking that there may have been a 

precedent for this that we can learn from. 

Mr. MURTON. Well, it may not be an exact analogy, but certainly 

the FDIC and the RTC when they resolved failed institutions and 

had to pay off the insured depositors and took assets and we had 

people work those assets, we had arrangements where on day one 

you didn’t know the value of it, but if it turned out that the properties we realized more value from, or the person working it for us 

realized higher value, we shared in that. So we have worked out 

a number of different sharing arrangements when values are uncertain and they worked quite well for us, I would say. 


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Senator CARPER. OK. 

Chairman DODD. I might say, Tom, on the Bear Stearns-J.P. 

Morgan Chase, I wish we had had some warrants coming back. We 

did that with Chrysler. 

Senator CARPER. We did that with Chrysler. 

Chairman DODD. We didn’t get anything out of that thing. You 

talk about these certificates coming back, the people putting a lot 

of skin in the game are the very people we are worried about here 

right now. We have got virtually nothing coming back on it except 

the hope. So I believe it will work out, but very little protection. 

Senator CARPER. Yes. Mr. Polakoff. 

Mr. POLAKOFF. Senator, if I could dive down to the weeds for a 

moment without boring you—— 

Senator CARPER. Go ahead. We will try to go with you. 

Mr. POLAKOFF. The concept from an OTS perspective allows the 

servicer in the securitization to literally write down the amount of 

the loan to the negative equity aspect of it, subordinated to the 

first, which would be an FHA-guaranteed first. So while the term 

negative equity certificate has gained a lot of traction, really what 

we are talking about is writing down the principal to that amount 

and then subordinating it to the first, making it non-interest bearing, changing the terms so that the maturity would either align 

with the current terms of the note or when the borrower sold the 

home. 

Senator CARPER. All right. I think I understood most of that. 

Thank you. An elegant explanation. 

I had an interesting conversation. The Chairman and I and some 

of our colleagues were able to discuss issues of the economy, some 

of the housing issues that were before us this past weekend. One 

of the folks who was there with us was the former, I think, Chief 

of President Clinton’s Council of Economic Advisors, Laura Tyson, 

and we talked a little bit about the issue of how do we—the sharing, if you will, after a second mortgage note, after a mortgage is 

reworked and you have a foreclosure avoided and then you have an 

appreciation over a period of time, to what extent does the borrower share in that and to what extent would FHA. If FHA is involved, to what extent would they share in it. 

I think Chairman Frank has a proposal that would say the first 

year, FHA, I think, would get 100 percent of the uptake, and that 

would be phased out over 5 years until FHA would get zero. I think 

I am on the right track here. I believe in Chairman Dodd’s mark 

that it is a little different take. Say the first year, FHA would get 

maybe 100 percent, 90 percent the second year, and then down to 

50 percent, and for an indefinite period of time beyond that, it 

would be split 50–50 between the borrower and FHA. There are a 

variety of different proposals. 

Ms. Tyson suggested to me—I guess it is Dr. Tyson suggested 

that maybe a better approach, she said, you need more than 5 

years, and she was talking to Chairman Frank’s idea. She said, you 

need more than 5 years, maybe 10 years. So the first year would 

be 100 percent FHA and then down and by the tenth year be 10 

percent FHA and then the home owner would realize the entire 

amount. 


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But there are different ideas here. Which of these approaches 

makes most sense to our panelists? 

Mr. POLAKOFF. Well, I would offer that what makes most sense 

is for the servicer in the securitization who is taking the writedown, and in this case taking a write-down beyond the current fair 

market value to 87 percent of the fair market value, deserves the 

upside potential of a negative equity certificate to be shared with 

the borrower. The borrower needs to have an incentive to stay in 

the house, improve the house, look to eventually, if he or she wishes, sell the house, and I think we should at least discuss the benefits of some sort of interest for the second lien holder to once again 

be willing to subordinate their position. 

Chairman DODD. That is a very good point, by the way, and one 

that Ben Bernanke has made, as well, in talking about that. 

Senator CARPER. OK. Good. Mr. Murton. 

Mr. MURTON. I think I agree that the negative equity certificates 

help address some of the moral hazard problem, and then I think 

the question is who do you share it with, the FHA or the investor, 

and I think there are arguments on both sides and maybe you can 

work out some arrangement where if the government is taken care 

of, maybe then it goes to the investor. There are lots of ways to 

structure things like that. 

On the issue of 5 years versus 10 years, perhaps Dr. Tyson was 

thinking that in the past, it has taken quite a while for home values to recover and the longer horizon may add value to that and 

that is a legitimate point. 

Senator CARPER. OK, thanks. Mr. Montgomery, a quick comment? 

Mr. MONTGOMERY. Just real quickly. There is not a lot of difference between the negative equity certificate and what we are 

proposing and rolled out last week with FHASecure, just we would 

put it in the form of a second subordinate lien. I just want to make 

that valid point. 

Also, I do want to say that on principal, we weren’t a party, FHA 

wasn’t a party to the original transaction. I am not so sure we 

should be sharing in equity, so to speak. If a borrower today buys 

a home with FHA insurance and 10 years from now they have a 

profit from it, we don’t come back saying, hey, we need a cut of 

that. That is why they pay premiums, up-front premiums and annual premiums. I think we can accomplish the same thing. 

I think we all agree, yes, owner-occupied homes. We want to 

keep that borrower in the home so they will realize some profit. We 

just would maybe do a re-sell restriction, due on-sale clause, something of that nature. 

Senator CARPER. All right. Just a closing thought on this, Mr. 

Chairman. I am looking here at this glass of water. Some people 

would look at this glass of water and say it is half-empty. I think 

in terms of actually finding common ground and moving legislation, 

the glass is half-full and I think we have an obligation to work very 

hard to find the middle ground in some of these areas. To the extent that some legislation is needed to complement what FHA is 

doing on their own and others, so be it. But I am encouraged. 

Chairman DODD. Senator Corker. 


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Senator CORKER. Unless you need to go to lunch or something, 

I will ask one more question. When I was mentioning third party 

earlier, I really meant FHA playing a role in equity sharing, which 

I think was just addressed. I don’t think that is an appropriate 

thing, but yet maybe having the interest payments due to the second mortgage holders at some point down in the future, maybe that 

does make sense, and I think we all nod our head in that regard. 

Getting back, though, to the debt forgiveness issue that I brought 

up earlier, and I realize our first stimulus package addressed that 

for a period of time, whether it is a second mortgage, as was just 

laid out by Mr. Montgomery, or whether it is a negative equity certificate, those do address the loan forgiveness issues in different 

ways. I assume if it was second mortgage, as you have laid out, 

there is no debt forgiveness, and so that is not triggered. If it is 

a negative equity certificate, I guess there would be a question, is 

that like a financial instrument that is a lien and is there still debt 

or not? 

But I think that while we are all here and while you all are all 

here, since something may happen soon, it would be interesting 

again just to sort of revisit the issue of debt forgiveness and how 

that ought to be addressed and I would love to hear from all three 

of you. 

Mr. POLAKOFF. Senator, I would say that under the negative equity certificate, if the borrower sells the home for an amount less 

than the negative equity certificate, then there could very well be— 

there would be a portion of debt forgiveness associated with that, 

yes, sir. 

Senator CORKER. And that would occur, like, way down the road? 

Mr. POLAKOFF. Potentially, but—— 

Senator CORKER. And I am just wondering if that is something 

we actually addressed appropriately, if you will, in the first economic stimulus package. But that is something that could happen 

8 years from now, is that correct? 

Mr. POLAKOFF. Yes, sir, though one would hope in 8 years there 

is much home appreciation. 

Senator CORKER. Do you want to address that, Mr. Montgomery? 

I mean, there are two different approaches. It seems that yours, 

you never forgive the debt, is that correct? 

Mr. MONTGOMERY. Well, whoever the existing servicer and lender is, I mean, there may be a charge-off going on. The home is 

worth—there is a $120,000 mortgage and the home is only worth 

$100,000. We insure 90 percent of it. They could put that delta, all 

of it in the form of a soft second, recognizing that prices ultimately 

go back up. They may decide going forward with an agreement 

there is a charge-off of $20,000 of that $120,000 and there is just 

10 percent in—— 

Senator CORKER. And again, that is a voluntary decision—— 

Mr. MONTGOMERY. Yes, absolutely. So there are a lot of ways to 

come at it. I mean, there are circumstances that will be unique for 

a lot of borrowers. They will be unique regionally. I think getting 

all the players involved to agree that they may ultimately—the current lien holders get something out of this, maybe the second lien 

holder is five cents on the dollar, I think is probably all they are 


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looking for, 10 percent, maybe more. But we think going at it a little differently, I think we seem to be moving in the right direction. 

Senator CORKER. Thank you very much. 

Chairman DODD. And that point, as well. I appreciate Senator 

Carper raising the issue earlier. Again, obviously getting the investor, but also you want that borrower to feel not only they are getting their home, but that this is also—that home represents a secure economic future, as well. And so that incentive—and there 

will be those who may turn around and say, look, you are far better 

if I just walk away from this whole thing. So we want to make sure 

that we are incentivizing that in ways that keeps both parties to 

the conclusion that it is in your neighbor’s interest and your interest and there is a financial reward for taking on this responsibility, 

and also from the investor side. 

So striking that balance is probably never going to be absolutely 

perfect, but you try to keep that in mind, as well, as we go forward. 

This has been very productive and very helpful, and great witnesses. I appreciate it very much. 

We are going to try and move at some point here, I just say, on 

this. There is a sense of urgency about all of this. And again, Senator Shelby had to move on to another hearing he had to go to, and 

I appreciate his opening statement and talking about the very legitimate questions which this committee is raising at every aspect 

we can while simultaneously trying to come up with some answers. 

So we are going to continue to explore what happened. We have got 

some legislation dealing with the practices that got us to this point 

which have to be addressed. But if I had to prioritize what our 

agenda ought to be, it is trying to step up and doing something 

that hits the target and how do we short-circuit this problem from 

getting worse. Obviously, it is important to make sure we shut the 

door so it doesn’t ever happen again, but if you had to choose which 

of those two is deserving more of this committee’s time and attention, it is the first one. It is dealing with the problem, and so we 

are going to try and deal with that, also as well as focus on the 

other questions of how we got into this mess and what steps we 

ought to be taking to make sure we don’t repeat it. 

I thank everyone very much. The committee stands adjourned. 

[Whereupon, at 12:18 p.m., the hearing was adjourned.] 

[Prepared statements and responses to written questions supplied for the record follow:] 


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RESPONSE TO WRITTEN QUESTIONS OF SENATOR DODD 

FROM BRIAN MONTGOMERY 

Q.1. There have been a variety of reports regarding the number of 

loans made under the original FHA Secure program. That program 

was designed to provide FHA-insured loans to borrowers who became delinquent because of interest rate resets. According to the 

press report I quoted in the hearing, HUD officials have said that 

this program has insured only 1,500 loans. In fact, according to a 

HUD report on FHA activity, ‘‘just 242’’ loans were made for delinquent borrowers (the key parameter of the original FHA Secure 

program) in the two-week period of March 1 to March 15. Exactly 

how many loans have been made to date that meet the original parameters of the FHASecure? 

A.1. As of May 13, 2008, there have been 3,068 endorsements of 

loans to borrowers who became delinquent because of mortgage 

resets and refinanced through FHASecure. 

Q.2. In your testimony, you state that the FHASecure and HOPE 

NOW initiatives have together helped more than 1.3 million homeowners. Please provide the HOPE NOW data that breaks out exactly how many borrowers are getting repayment plans and modifications, and what kind of repayment plans and modifications they 

are getting. 

A.2. As of February, 27 servicers were part of the HOPE NOW Alliance, representing more than 90 percent of all subprime loans and 

a substantial percentage of all mortgage loans. Results of the 

HOPE NOW Alliance include: 

• An estimated 1,035,000 homeowners were helped to avoid foreclosure from July 2007 through January 2008. This includes 

758,000 formal repayment plans and 278,000 modifications. 

Subprime modifications increased from 19 percent of total 

workouts in the 3rd quarter and 35 percent in the 4th quarter 

to nearly 50 percent in January from 19% of total workouts in 

the 3rd quarter of 2007. 

• Since November 2007, HOPE NOW servicers have sent over 

one million outreach letters to at-risk borrowers who have not 

previously been in contact with their servicer. 

• 16 percent responded in November. 

• 21 percent responded in December. 

• When servicers send similar letters to their borrowers, the normal response rate is 2–3 percent. 

• Homeowner calls have increased to 5,000 per day through the 

Homeownership Preservation Foundation’s Homeowner’s 

HOPE Hotline. Over 37,000 counseling sessions were completed through the Homeowner’s HOPE Hotline in the 4th 

quarter of 2007. To date, the HOPE Hotline has received 

456,243 calls, which led to counseling for 165,755 homeowners. 

Nearly half of those counseled have avoided foreclosure by 

working out new loan terms or by selling their home. 

Q.3. How many people do you expect the expanded FHASecure program to serve? I have seen estimates that range between 100,000 


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and 500,000. Please provide the analysis that explains how you 

reached your estimate. 

A.3. Our estimate is 500,000 by December 31, 2008. The analysis 

is based on True Standings data on the mortgage characteristics of 

current and upcoming mortgage resets of nonprime loans. 

Q.4. If I understand your new proposal, the FHASecure program 

would allow subordinate liens to remain on the homes, leading to 

combined loan-to-value ratios after the first mortgage is written 

down and receives FHA insurance of 100% or more. Is this correct? 

What kind of performance do you expect these loans to exhibit? 

Please explain the basis for this analysis. 

A.4. Allowance for the re-subordination of junior liens has always 

been FHA policy on refinance loans. There have not been any performance problems associated with that policy. What is new here 

is to permit the holder of the original first-lien mortgage to create 

a second-lien position from any excess indebtedness, over what is 

permissible in a new, FHA-insured first-lien. HUD’s performance 

expectations start with experience with re-performing loans in the 

FHA portfolio. They are loans that were seriously delinquent (three 

or more months delinquent) and received loss mitigation work-out 

assistance. Some of that assistance involved creating second liens 

on the borrowers’ extended arrearages, after HUD brought the loan 

current via a ‘‘partial’’ claim. HUD expects an 18 percent ultimate 

claim rate on those re-performing loans, based upon experience to 

date. Because of the uncertainty surrounding the new loans that 

will be insured under the expansion of FHASecure, the Administration has decided to score these loans for budget purposes with a 24 

percent ultimate claim rate potential. That reflects uncertainties 

surrounding house price and economic stability in the short run, 

which is tempered by an expectation that borrower monthly payments will be lower after they refinance—even with a bifurcated 

mortgage—than they were on the original mortgage. 


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