Feature Article: 

The Case for Loan Modification 

With a Foreword by Sheila C. Bair, Chairman 

Federal Deposit Insurance Corporation 

Foreword 

Residential mortgage credit quality continues to 

weaken, with both delinquencies and charge-offs on 

the rise at FDIC-insured institutions.1 This trend, in 

tandem with upward pricing of hybrid adjustable-rate 

mortgage (ARM) loans, falling home prices, and fewer 

refinancing options, underscores the urgency of finding 

a workable solution to current problems in the 

subprime mortgage market. Legislators, regulators, 

bankers, mortgage servicers, and consumer groups have 

been debating the merits of strategies that may help 

preserve home ownership, minimize foreclosures, and 

restore some stability to local housing markets. 

On December 6, 2007, an industry-led plan was 

announced that will help avert foreclosure for certain 

subprime homeowners who face unaffordable payments 

when their interest rates reset. This plan provides for 

a streamlined process to extend the starter rates on 

subprime ARMs for at least five years in cases where 

borrowers remain current on their loans but cannot 

refinance or afford the higher payments after reset. 

An important component of the industry-led plan is 

detailed reporting of loan modification activity. Working with the Treasury Department and other bank regulators, the FDIC will monitor loan modification levels 

and seek adjustments to the protocols if warranted. 

I have long advocated a systematic and streamlined 

approach to loan modification that puts borrowers into 

long-term, sustainable mortgages. I support the industry 

plan as a means to allow borrowers to remain in their 

homes, provide investors with higher returns than can 

be obtained under foreclosure, and strengthen local 

neighborhoods where foreclosures are already driving 

down property values. It is my hope that this plan will 

be implemented in a way that delivers real progress on 

these important policy goals. 

Sheila C. Bair, Chairman 

Federal Deposit Insurance Corporation 

1 FDIC Quarterly Banking Profile, Third Quarter 2007, 

http://www2.fdic.gov/qbp/2007sep/qbp.pdf. 

FDIC QUARTERLY 22 2007, VOLUME 1, NO. 3 
The Case for Loan Modification 

The text of this article is based on testimony delivered by Sheila C. Bair, Chairman, Federal Deposit Insurance 

Corporation, on December 6, 2007, before the U.S. House of Representatives Financial Services Committee. 

Problems in the subprime mortgage market are affecting 

the U.S. housing market and the economy as a whole 

and pose a serious policy challenge for the industry and 

regulators. About 1.7 million hybrid loans worth $367 

billion are scheduled to undergo their first reset during 

2008 and 2009.2 This wave of mortgage resets, in 

combination with the decline in home prices and 

limited refinancing options, could prompt hundreds of 

thousands of additional mortgage foreclosures over the 

next two years. These foreclosures will hurt individual 

borrowers and their communities, as they potentially 

could place further downward pressure on home values. 

This article summarizes the current situation in the 

subprime mortgage market. It describes loan modification as a straightforward strategy the mortgage industry 

can undertake on its own to minimize unnecessary foreclosures and return some measure of stability to housing 

markets. Misconceptions about the effects of such an 

approach are also addressed. 

U.S. Housing Markets and Mortgage Credit 

Performance Have Deteriorated 

The U.S. housing boom of the first half of this decade 

ended abruptly in 2006. Housing starts, which peaked 

at more than 2 million units in 2005, have plummeted 

to just over half that level, with no recovery in sight. 

Home prices, which were increasing at double-digit 

rates nationally in 2004 and 2005, are now falling in 

many areas across the country (see Chart 1). As home 

prices decline, the number of problem mortgages, 

particularly in subprime and Alt-A portfolios, is rising.3 

As of third quarter 2007, the percentage of subprime 

adjustable-rate mortgages (ARMs) that were seriously 

2 Estimates are based on the LoanPerformance Securities database. 

They reflect data collected through August 2007 on first-lien mortgages secured by owner-occupied properties where the mortgage has 

been securitized in private mortgage-backed securities issues. These 

figures have been adjusted to include an estimate of subprime securitized loans that are not included in the LoanPerformance database. 

3 Alt-A loans are those made under expanded underwriting guidelines 

to borrowers with marginal to very good credit. Alt-A loans are riskier 

than prime loans because of the underwriting standards of the loans, 

not necessarily the credit quality of the borrowers. 

delinquent or in foreclosure reached 15.6 percent, more 

than double the level of a year ago (see Chart 2).4 The 

deterioration in credit performance began in the industrial Midwest, where economic conditions have been 

the weakest, but has now spread to the former boom 

markets of Florida, California, and other coastal states. 

During the past year, investors and ratings agencies have 

repeatedly downgraded assumptions about subprime 

credit performance. A Merrill Lynch study published 

in July estimated that if U.S. home prices fell only 5 

percent, subprime credit losses to investors would total 

just under $150 billion, and Alt-A credit losses would 

total $25 billion.5 On the heels of this report came news 

that the S&P/Case-Shiller Composite Home Price Index 

for 10 large U.S. cities had fallen in August to a level 

that was already 5 percent lower than a year ago, with 

the likelihood of a similar decline over the coming year. 

The complexity of many mortgage-backed securitization structures has heightened the overall risk aversion 

of investors, resulting in what has become a broader 

illiquidity in global credit markets. These disruptions 

have led to a precipitous decline in subprime lending, 

a significant reduction in the availability of Alt-A 

loans, and higher interest rates on jumbo loans (see 

Chart 3). The tightening in mortgage credit has placed 

further downward pressure on home sales and home 

prices, a situation that now could derail the U.S. 

economic expansion. 

Subprime Hybrid Mortgages and Securitization 

The crisis in subprime mortgage lending began with the 

rapid growth of two- and three-year adjustable-rate 

subprime hybrid loans after 2003. Between year-end 

2003 and mid-2007, some 5 million of these loans were 

originated. Of these, slightly more than 2.5 million 

loans representing $526 billion of mortgage debt 

remain outstanding. 

4 Mortgage Bankers Association, National Delinquency Survey Q307. 

Data cited are not seasonally adjusted. 

5 Merrill Lynch, “Mortgage Credit Losses: How Much, Where, and 

When?” July 20, 2007. 

FDIC QUARTERLY 23 2007, VOLUME 1, NO. 3 
 

 

Chart 1 

U.S. Housing Market Activity Turned Further Downward in the Third Quarter of 2007. 

New Single-Family Homes Sold Existing Home Sales (Millions of Units) Composite Home Price Index (10 Cities, Jan. 2000=100) 

1.4 7.5 230 

1.3 220 

7.0 

1.2 210 

6.5 

200 

1.1 

6.0 190 

1.0 

180 

5.5 

0.9 170 

0.8 5.0 160 

0.7 4.5 150 

2004 2005 2006 2007 2004 2005 2006 2007 2004 2005 2006 2007 

Sources: Bureau of the Census, National Association of Realtors, and S&P Case-Shiller Composite Home Price Index. 

Note: Home sales data are at a seasonally adjusted annual rate. Gray sections indicate 2007 data. 

Chart 2 

Source: Mortgage Bankers Association, Haver Analytics. . 

A Rapid Rise in Mortgage Credit Distress Is Being Led by Subprime ARMs 

Conventional Loans Past Due 90+ Days 

1998 2000 2002 2004 2006 

Subprime 

All 

ARMs Only 

Prime ARMs Only 

All 

0.0 

0.5 

1.0 

1.5 

2.0 

2.5 

3.0 

3.5 

4.0 

4.5 

5.0 

Percent 

Conventional Loans in Foreclosure 

1998 2000 2002 2004 2006 

Subprime 

ARMs Only 

Prime 

All 0.0 

2.0 

4.0 

6.0 

8.0 

10.0 

Percent 

ARMs Only 

All 

FDIC QUARTERLY 24 2007, VOLUME 1, NO. 3 
The Case for Loan Modification 

Chart 3 or sell their home when the loans reset without a loss 

The Availability of Subprime Credit 

Declined Sharply in the Third Quarter 

Quarterly Issuance of Subprime MBS, 

Dollars in Billions 

$160 

$140 

$120 

$100 

$80 

$60 

$40 

$20 

$0 

Q3 05 Q4 05 Q1 06’ Q2 06 Q3 06 Q4 06 Q1 07 Q2 07 Q3 07 

Source: Inside Mortgage Finance. 

The typical structure of these loans provides for a fixed 

starter rate (typically between 7 and 9 percent) for the 

first 24 or 36 months, followed by a series of steep 

increases in the interest rate (typically 300 basis points 

during the first year after reset) and a commensurate 

rise in the monthly payment (see Table 1). Almost 

three-quarters of subprime mortgages securitized in 

2004 and 2005 were structured in this manner, as were 

more than half the subprime loans made in 2006. Most 

of these loans, commonly referred to as 2/28 and 3/27 

ARMs, also imposed a prepayment penalty if the loan 

was repaid while the starter rate was in effect. 

Despite the steep “payment shock” built into these 

loans, they performed reasonably well until last year. 

As recently as second quarter 2006, just 6.5 percent of 

subprime ARMs were seriously delinquent. Rapid rates 

of home price appreciation in many areas of the country 

allowed even highly leveraged borrowers to refinance 

Table 1 

Hybrid Loan Borrowers May Experience 

a Series of Rate Reset Shocks 

Weighted-Average Interest Rates for Two- and Three-Year 

Nonprime First Lien Hybrids 

Origination 

Year 

Average 

Initial Rate 

Maximum 

Rate at 

First Reset 

Maximum 

Lifetime 

Interest Rate 

2003 7.37 9.79 13.67 

2004 6.85 9.41 13.16 

2005 7.23 9.79 13.53 

2006 8.23 10.77 14.53 

Source: LoanPerformance ABS database. Data for nonprime two- and three-year hybrids 

included in private label securitizations. Data current through August 2007. 

All averages are weighted by loan origination amount. 

to themselves or mortgage investors, masking the 

underlying weakness of the structure and underwriting 

of these loan products. However, in today’s more challenging environment, the ability of borrowers to refinance is limited, and payment reset will more often 

lead to default and foreclosure. 

The securitization of subprime hybrid ARMs has been 

very common in recent years and increases the 

complexity of achieving loan modifications. Once these 

loans are placed in a securitization trust, the assessment 

of borrower ability to repay is determined by the loan 

servicer. As stated in the pooling and servicing agreement (PSA), the servicer’s primary objective is to maximize the value of the assets in the securitization trust; 

therefore, the servicer’s interests are primarily aligned 

with the investor’s.6 When confronted with a distressed 

borrower who will impact the trust’s cash flow, the 

servicer must (1) protect the interests of investors and 

(2) conduct a net present value (NPV) analysis to 

determine the appropriate loss mitigation strategy in a 

default scenario. Although initially there was concern 

that the securitization documents and the PSAs might 

constrain servicers’ ability to modify loans in the pool, 

most documents provide the servicers with sufficient 

flexibility to do so. In practice, however, third-party 

servicers have been slow to exercise this flexibility on 

a large scale. 

In addition to maximizing asset value, servicers must 

ensure that they pursue loss mitigation actions that will 

present the least amount of loss to the pool. Generally, 

servicers that conduct an NPV analysis and conclude 

that the NPV of the modified loan payments is greater 

than the anticipated net recovery in the case of foreclosure may assert that the modification is in the best 

interest of the securitization of the pool as a whole. 

In many circumstances, particularly in the case of a 

declining housing market, the cost of modification will 

be less than the cost of foreclosure. 

A Proposal for Loan Modification 

The seriousness of the problems in the subprime mortgage market points to the need for new and innovative 

strategies to limit the immediate fallout in a way that 

6 The PSA describes the servicer’s roles and responsibilities. It also 

discusses the servicing of the mortgage loans and addresses foreclosure and loss mitigation alternatives, including modifications. 

FDIC QUARTERLY 25 2007, VOLUME 1, NO. 3 
will not harm the credit markets over the long run. The 

proposal that has garnered the most support in recent 

months is loan modification targeted at the group of 

loans that remains current at the starter rate, but may 

face default and foreclosure after rates reset. 

This approach applies the notion of triage to subprime 

borrowers. Conceptually, subprime borrowers can be 

divided into three basic groups: 

• Loans already past due under the starter rate that 

either cannot be remedied or will need to be reunderwritten and restructured on a case-by-case 

basis; 

• Well-structured and well-underwritten loans that 

can reasonably be expected to perform after reset 

without modification; and 

• Marginal loans that have remained current prior to 

reset, but likely will not remain so after reset without modification. 

Based on available data on securitized subprime loans, 

it is difficult to estimate precisely the size of each group. 

We do know that of the 1.7 million subprime loans 

worth $367 billion scheduled to reset during 2008 and 

2009, some 221,000 loans are already at least 90 days 

past due or in some stage of foreclosure before reset.7 

This represents a reasonable estimate of the first group, 

which is made up of more difficult cases where problems go deeper than just the interest rate reset. 

We can also roughly estimate the size of the second 

group—loans that can reasonably be expected to 

perform after reset without modification—in terms of 

loan characteristics at origination. However, because 

these loans were underwritten according to standards 

that were well below traditional industry norms, the 

number that can be expected to perform after reset 

appears to be small. Of loans scheduled to reset in 2008 

and 2009 that remain current, only 2.9 percent (or 

about 50,000 loans) show a combined loan-to-value 

ratio below 80 percent and a debt service-to-income 

ratio below 30 percent at origination. This implies that 

the third group—loans that remain current prior to reset 

7 Estimates are based on the LoanPerformance Securities database. 

They reflect data collected through August 2007 on first-lien mortgages secured by owner-occupied properties where the mortgage 

has been securitized in private MBS issues. These figures have been 

adjusted to include an estimate of subprime securitized loans that are 

not included in the LoanPerformance database. 

but face a higher likelihood of problems after reset— 

may range as high as 1.4 million loans.8 A strategy of 

either streamlined refinancing or streamlined restructuring, or both, appears to offer the greatest potential 

to improve outcomes for all parties when applied to 

this third and largest group of subprime loans. 

When feasible, the best option appears to be providing 

opportunities for borrowers to refinance their high-cost 

loans into affordable fixed-rate loans. Refinancing 

provides a near-term, full recovery of principal to 

investors and the potential for a long-term, stable 

source of financing to borrowers. However, the decision 

to refinance must take into account the availability and 

cost of credit to marginal borrowers, as well as the 

transactions cost to borrowers, including any prepayment penalties. The disruption of mortgage and credit 

markets that has taken place since mid-2007 has 

curtailed access to credit for many subprime and Alt-A 

borrowers, and sharply limited terms on credit for 

others. In response to these developments, private and 

government-related loan programs have been established to help expand refinancing options for subprime 

borrowers. For example, an estimated 240,000 subprime 

borrowers will eventually be able to refinance under the 

new FHASecure program.9 

In the remaining cases where refinancing is not an 

option, servicers will be left with a very limited set of 

choices as they try to maximize the net proceeds of 

loans under their management. The standard procedure 

has been to wait until the loan enters default and then 

initiate foreclosure proceedings. While this strategy 

makes sense in an environment when defaults are 

relatively rare and home prices are stable, it becomes 

increasingly self-defeating in situations where defaults 

are common and home prices are falling. It is in these 

situations that a shift toward streamlined restructuring 

can help servicers maximize the amount of monthly 

payments that come in from borrowers and minimize 

the credit losses that arise from foreclosure. 

The rapid pace of resets—nearly 100,000 per month 

at present—and the deterioration in housing market 

conditions argue for a systematic, rather than a one8 It should be noted that as we move into 2008, the total number of 

loans scheduled to reset will tend to decline as loans default or are 

paid down, and the proportion of loans that are seriously delinquent 

prior to reset will tend to rise over time. The net effect is likely to 

be a gradual decline over time in the number of loans considered 

candidates for restructuring. 

9 Federal Housing Administration press release, August 31, 2007. 

http://www.fha.gov/press/2007-08-31release.cfm. 

FDIC QUARTERLY 26 2007, VOLUME 1, NO. 3 
The Case for Loan Modification 

at-a-time, approach to the problem. Moving forward on 

a wholesale basis in cases where reset is the problem 

will free up resources for servicers to concentrate on 

more difficult cases where the solutions may be more 

complicated and time consuming. The key issue is 

how to address mortgage loans for owner-occupied 

properties where the borrowers are current on their 

payments but will not be able to maintain the payments following reset. Where the homeowner has 

remained current at the starter rate, but cannot make 

the higher reset payments, a better strategy is to 

modify the loan to keep it at the starter rate for a 

period of five years or more. 

Correcting Misconceptions about Mortgage 

Restructuring 

Subprime hybrid loans represent a relatively recent 

development in mortgage lending, and one with which 

many people have little or no firsthand experience. In 

addition, loan restructuring represents a significant 

departure from the standard servicing practices that are 

pursued under normal market conditions. For these and 

other reasons, a number of popular misconceptions 

have arisen with respect to this strategy which, it can 

be argued, do not necessarily hold up well in light of 

present facts. 

Misconception: Restructuring is a bailout of 

subprime borrowers and/or investors. 

The emergence of large financial sector losses sometimes results in the failure of depository institutions. 

In these cases, losses that would have been borne by 

insured depositors are covered by the FDIC Deposit 

Insurance Fund (DIF) under applicable laws and 

administrative rules. However, financial distress also 

often results in proposals for and against other types 

of ad-hoc government “bailouts” in the interest of 

financial stability. The critics of financial bailouts are 

generally correct; in the end bailouts usually end up 

benefiting one group at the expense of another and 

undermining market discipline on risk taking. 

In this case, however, those criticisms do not apply for 

the following reason: this is in no way a government 

bailout. The proposal being discussed is one where 

servicers attempt to restructure loans on their own in 

the interest of investors. If successful, they will have 

implemented a shift in servicing strategy to the benefit 

of all interested parties. But in no case is there a 

subsidy, implicit or explicit, of investors or borrowers 

that would result in cost-shifting or undermine market 

discipline. On the contrary, renegotiation of loan 

terms is a common private financial practice in times 

of distress; in this case the problem is convincing 

servicers that they have the legal flexibility to shift 

strategies and that doing so will improve the outcome 

for investors. 

Misconception: Restructuring violates the 

contractual rights of investors. 

Streamlined restructuring is a strategy that can be 

pursued voluntarily by servicers in the interest of 

investors under existing PSA agreements. The significant deterioration we have seen in mortgage credit 

performance and housing market conditions points to 

this strategy as a means to maximize the total net present value of securitized subprime mortgages. Given that 

this is the legal mandate of servicers, it is not surprising 

that they have begun to embrace this approach more 

often as conditions have worsened. But as long as this 

path is chosen voluntarily by servicers under their 

existing PSAs, and as long as they can demonstrate 

that their strategy is to maximize the proceeds of the 

pool, it is difficult to argue that doing so represents a 

violation of anyone’s contractual rights. 

Misconception: Restructuring will create a windfall 

for subprime borrowers. 

Some have expressed concern that restructuring 

subprime loans to a fixed percent of interest at the 

starter rate will result in a windfall for subprime 

borrowers. This misconception is based on the belief 

that the starter rates for these loans are similar to the 

low 1 to 2 percent “teaser” rates that were aggressively 

advertised for prime borrowers. In fact, of subprime 

hybrid mortgages originated in the first quarter of 

2006, the average starter rate was 8.28 percent, which 

exceeded the weighted-average rate on subprime fixedrate loans made in that same quarter (7.93 percent) 

and was well above rates paid on prime fixed-rate 

loans. Therefore, these subprime borrowers will 

continue to pay subprime rates even after restructuring. 

Misconception: Restructuring will deny investors 

their expected return. 

Another popular misconception is that restructuring 

will deny investors a considerable stream of interest 

payments that would rightfully accrue to them after the 

loans reset to the full contract rate. The reality is that 

very few hybrid borrowers actually remain in the pools 

after reset and pay the full contract rate. Among such 

loans made and securitized in 2003, only one in 30 is 

FDIC QUARTERLY 27 2007, VOLUME 1, NO. 3 
still paying the full contract rate after just four years 

(see Chart 4). 

The amount of additional interest income that accrues 

to investors after payment reset, the so-called excess 

spread, depends on the ability and willingness of 

borrowers to make monthly payments over the long 

term. However, the fact is that these loans generally 

were never designed or underwritten to perform at the 

full contract rate after reset. Among subprime hybrid 

loans made in 2006, nearly half had loan-to-value ratios 

above 90 percent, and more than half had monthly 

debt service-to-income ratios above 40 percent. About 

a quarter of these loans met both criteria. 

If these marginal borrowers cannot perform at the full 

contract rate on the loans, then what can lenders expect 

to recover in a short sale or a foreclosure? Studies show 

that foreclosure costs can run to more than half the 

loan amount.10 These loss rates are only going to rise in 

today’s troubled housing markets, particularly if more 

subprime borrowers are pushed into foreclosure. Studies 

also show that foreclosures tend to drive down the 

value of nearby homes.11 As these loans reset from the 

starter rate to the full contract rate, credit losses will 

mount as more borrowers default and enter foreclosure. 

The basic math is this: given current conditions in 

housing and mortgage markets, as rates on these loans 

increase from the starter rate to the full contract rate, 

credit losses will rise faster than interest income. Thus, 

resets will be self-defeating for investors and will exert 

wider negative effects on local communities and the 

overall economy. 

Misconception: Restructuring is unnecessary based 

on past levels of credit losses. 

Some argue that based on past levels of credit losses, 

standardized and widespread restructuring of subprime 

hybrid ARMs is not needed at this time. However, previous experience with losses of subprime hybrid ARMs is 

a poor indicator of how these loans will perform going 

forward. For example, through August 2007, the cumulative default rate (CDR) for subprime hybrid loans origi10 Karen Pence, “Foreclosing on Opportunity: State Laws and Mortgage 

Credit” (Federal Reserve Finance and Economics Discussion Paper 

2003-16, May 13, 2003), p. 1. 

11 Dan Immergluck and Geoff Smith, “The External Costs of Foreclosure: 

The Impact of Single-Family Mortgage Foreclosures on Property 

Values,” Housing Policy Debate (17:1) Fannie Mae Foundation (2006), 

www.fanniemaefoundation.org/programs/hpd/pdf/hpd_1701_immergluck 

.pdf. 

Chart 4 

$0 

$50 

$100 

$150 

$200 

$250 

$300 

$350 

$400 

$450

 2003 2004 2005 2006 0% 

10% 

20% 

30% 

40% 

50% 

60% 

70% Origination amount ($Billions) 

Current balance to origination 

amount (%) 

Source: LoanPerformance ABS database. 

Note: Current ratio calculated as active dollar volume of loans current or less than 60 days 

past due to total origination dollar volume per year. Data include securitized nonprime 

first lien two- and three-year hybrid loans. Active status as of August 2007. 

The Dollar Volume of Hybrid Loans Remaining 

Current Diminishes Quickly With Seasoning 

nated in 2004 has been 10 percent; that is, of 1.6 million 

such loans originated that year, 162,000 have defaulted 

(see Table 2). However, these loans were made in a 

period of rapidly rising home prices in many parts of 

the country and underwent reset during a time of ready 

access to new subprime credit, making it relatively easy 

to repay 2004 vintage loans through refinancing or 

even the sale of the property. 

By contrast, loans resetting today are doing so in an environment of declining home prices in many areas of the 

country and a virtual absence of private subprime lending. Of hybrid loans originated in 2006, the CDR already 

has reached 10.5 percent—before any of these loans have 

reset. Under today’s market conditions, interest rate reset 

likely will drive the CDR to levels much higher than 

experienced on previous vintages. This means that the 

benefits of restructuring cannot be measured against 

credit losses of prior years. Rather, the benefits must be 

viewed in the context of how many borrowers can 

afford to pay at the full contract rate when refinancing 

options are extremely limited and the value of the 

property has declined or not increased as anticipated. 

Conclusion 

Poor underwriting and abuses in the subprime mortgage 

market are exerting a significant negative impact on 

the housing markets and the U.S. economy. In the 

coming months, large numbers of subprime ARMs will 

reset to higher interest rates, and hundreds of thousands 

of borrowers will face default and possible foreclosure. 

The traditional approach taken by mortgage servicers 

is to wait for default and then pursue foreclosure. 

FDIC QUARTERLY 28 2007, VOLUME 1, NO. 3 
The Case for Loan Modification 

Table 2 

Performance of Two- and Three-Year Nonprime Hybrid Loans 

Has Deteriorated in Recent Vintages 

Originations and Cumulative Default Rates for 2- and 3-Year Nonprime First Lien Hybrid Loans as of August 2007* 

Origination Year 2003 2004 2005 2006 

Total number of 2- and 3-year first lien hybrids originated 827,347 1,620,924 1,928,064 1,330,900 

Cumulative number of defaulted loans 82,924 162,099 226,124 140,297 

Number of loans currently in foreclosure, bankruptcy, or REO 19,629 71,438 155,837 124,739 

As Percent of Loans Originated in Year 

Cumulative default rate 10.0% 10.0% 11.7% 10.5% 

Percent currently in foreclosure, bankruptcy, or REO 2.4% 4.4% 8.1% 9.4% 

*Default includes all loans which entered foreclosure, bankruptcy, or REO. 

Source: LoanPerformance ABS database. Data for nonprime two- and three-year hybrids included in private label securitizations. Includes loans in subprime and Alt-A pools. Data current 

through August 2007. 

While this may be the optimal approach for most loan 

types under normal market conditions, the large 

payment resets imposed on subprime hybrid borrowers 

will, in today’s distressed housing market, require 

servicers to consider new strategies to limit credit 

losses and maximize the value of the mortgages they 

manage. 

An emerging consensus suggests that a streamlined 

loan modification approach is not only feasible, but 

that it can reduce the cost and complexity of restructuring. On October 10, 2007, Secretary of the Treasury 

Henry M. Paulson, Jr., announced the formation of 

HOPE NOW, a private sector alliance of counselors, 

servicers, investors, and other mortgage market participants, that will maximize outreach efforts to homeowners in distress to help them stay in their homes 

and will create a coordinated plan to aid as many 

homeowners as possible.12 In addition, on November 

20, 2007, the Governor of California announced he 

has reached an agreement with several large loan 

servicers, including Countrywide, GMAC, Litton, 

and HomEq, to streamline “fast-track” procedures to 

help keep more subprime borrowers in their homes.13 

Developments such as these represent real progress on 

the part of the mortgage servicing industry in dealing 

with the ongoing mortgage credit crisis. They reflect 

a recognition of the benefits of restructuring and the 

potential costs of a business-as-usual approach to the 

problem. The ability of mortgage servicers to get ahead 

of the curve by embracing restructuring on a wider 

basis could, in the end, be one of the most important 

factors in limiting the depth and duration of the present mortgage credit crisis. 

12 For more information about the HOPE NOW alliance, see 

www.hopenow.com. The U.S. Department of the Treasury press 

release is available at http://www.ustreas.gov/press/releases/ 

hp599.htm. 

13 “Gov. Schwarzenegger Works with Lenders to Help Homeowners 

Avoid Foreclosure,” November 20, 2007 (press release available at 

http://gov.ca.gov/index.php?/press-release/8147). 

FDIC QUARTERLY 29 2007, VOLUME 1, NO. 3