Bankruptcy Reform Could Save Distressed Borrowers From Foreclosure

A few changes to the U.S. bankruptcy code could save many troubled homeowners from foreclosure as a mortgage crisis takes hold in the next two years, bankruptcy lawyers and an economist told lawmakers on Tuesday.

The members of the U.S. House of Representatives Judiciary Committee who heard the testimony are mulling legislation that would let bankruptcy judges erase billions of dollars in mortgage debt.

“Residential mortgage loan defaults and foreclosures are surging and without significant policy changes will continue to do so through 2008 and into 2009,” said Mark Zandi, chief economist at Moody’s Economy.com in West Chester, Pennsylvania, who broadly endorsed the plan.

Two million homeowners will have their property seized between this year and next, Zandi said, and the bankruptcy reform plan is needed to confront that crisis.

The proposal, backed by consumer groups but opposed by the lending industry, would give bankruptcy judges new authority to modify mortgage terms for homeowners deemed to be insolvent. It would let bankruptcy judges extend the life of a home loan, change the interest rate or simply mark down the loan amount.

Judges currently have that broad authority to modify other types of debt, including money owed on credit cards or auto payments, but not home loans.

CRITICS SAY RATES WOULD RISE

Congressional critics of the plan say giving bankruptcy judges the power to tinker with home loans will scare off investors who otherwise might invest in the mortgage market.

“All lenders abhor risk and uncertainly. This is injecting uncertainty,” said Rep. Tom Feeney, a Republican from Florida.

“I am worried about the long-term economic consequences.”

But supporters of the plan say it could save 600,000 Americans from foreclosure.

Yet David Kittle, chairman-elect of the Mortgage Bankers Association, said the bill would also force mortgage lenders to raise their rates in order to cover the additional risk of a bankruptcy judge scratching the terms of a loan.

Lending industry sources say that they are already doing what they can to reach troubled borrowers and help restructure their loans before they sink into foreclosure.

But terms on only 1 percent of shaky subprime home loans were changed in the first nine months of the year, according to Moody’s Investors Service.

Subprime loans are those offered to borrowers despite shaky credit and are among those seeing the highest losses.

SUPPORTERS: ACT NOW OR REGRET IT

Several lawmakers and witnesses said a new policy is needed to confront today’s crisis of failing loans.

“You either do this sooner or you do it later,” said William Brewer, Jr., a North Carolina bankruptcy lawyer. “If I am right, you will come back here next spring and this fire I am talking about will be burning out of control.”

Rep. John Conyers, chairman of the Judiciary Committee, said Tuesday that he hopes to see the legislation pass his panel as early as next week.

“I’ve got to deliver the bacon on this right away,” the Michigan Democrat said. “There will be no delay or procrastination from our end at all.”

The bankruptcy legislation has already passed a subcommittee, but Tuesday’s hearing was meant to encourage more support from lawmakers on the committee, a Conyers spokeswoman said.

Earlier this month, 16 conservative Democrats in the House asked party leaders to hold off on the planned bankruptcy reform.

Bankruptcy reform can stem foreclosures, panel told
By Patrick Rucker | Reuters