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While all foreclosures are difficult, they are sometimes the least bad option
for an individual borrower. They allow borrowers to walk away from both the home
and the loan, at a cost to their credit rating, but not nearly as big a hit as
they would take if they declared a personal bankruptcy.
Having borrowers continue to pay into a bad loan, even with reduced payments,
takes away money they could be using to start over. Redefault rates from
existing government-backed loan modification programs indicate that they are
often ineffective. And in the case of borrowers facing job losses, staying in
one’s home while being saddled with a mortgage can delay the necessary step of
moving to an area with more job opportunities.
There are many reasons for foreclosures, from borrowers getting into a house
than they couldn’t afford to a job loss or other factors that cause loss of a
family’s income. Whatever the cause of the homeowners’ troubles, the focus
should not be primarily on keeping people in their homes, but on opportunities
to improve their economic situation, such as relocating to areas experiencing
job growth. If the government wants to spend $75 billion to help troubled
homeowners, it would be better off giving a tax holiday to families subject to
foreclosure, rather than attempts to stop the foreclosure from occurring that
often have unintended consequences.
It would also be unfortunate if, as reports indicate, President Obama
endorses legislation in Congress creating a bankruptcy “cramdown” or other
efforts to abrogate mortgage contracts. Mortgage-backed securities frequently
aren’t owned by banks, but by investors, and those investors include pensions
and mutual funds that belong to middle-class families. The government’s forcing
or encouraging the abrogation of mortgage contracts could cause a hit to
middle-class retirement savings. And it could also further tighten credit and
drive up borrowing costs for American businesses and consumers due to the
possibility of contract abrogation in the future.