Regulators Advise Lenders on Avoiding ‘Payment Shock'

Bank regulators yesterday called on mortgage lenders to help prevent a rash of foreclosures by identifying borrowers at risk of defaulting and helping them to refinance their home loans.

A deluge of loan defaults is expected in the coming months as some $600 billion worth of loans are "re-set" to higher rates, with increases of as much as 3%. Such rate hikes could lead to a "payment shock to the borrower," the joint statement from the Federal Reserve, the Treasury Department, and other regulators said. By refinancing loans, borrowers and lenders can avoid the expensive foreclosure process, the regulators said. Among the recommendations for refinancing are modifying loans, allowing deferrals of payments, extending the life of loans, and converting adjustable-rate mortgages into fixed-rate or fully indexed mortgages.

The statement came days after President Bush announced that his administration was putting forward a package of measures to stave off more foreclosures, including working with the Federal Housing Authority to pass laws that would make it easier for home owners to refinance their loan at better rates.

Yesterday's call for more refinancing may be hard to accomplish. Many mortgages have been packaged and resold to investors, a process called commoditizing, making it much harder to follow the regulators' recommendations, a senior vice president at Preferred Empire Mortgage Company, Jeffrey Appel, said. Lenders will have to go to the investors and convince them that refinancing is a better option than foreclosure. "It's not as simple as the Fed is encouraging, but it's definitely a step in the right direction," Mr. Appel said. "It's very costly for the investor to foreclose as a way to earn the money back in their portfolio. … A workout is much less damaging to our fiscal and economic environment."