Dana Milbank’s Mortgage Problems and the Problem of Mortgage Debt Servicing

This story has happened many, many times before and here it has happened again. Dana Milbank writes Behind the foreclosure crisis, big banks’ reign of error. You should read all of it, but here’s part of it:

The problem in the nation’s housing market now isn’t subprime lending. It’s subpar lenders.

Last fall, my wife and I refinanced our mortgage with Citibank. Sixty days later, we received a “cancellation notice” from our homeowners insurance company “for non-payment of premium.”

Turns out Citibank, which had been collecting hundreds of dollars a month from us to pay the insurer, hadn’t made the payments. It was, I later learned, one of the usual tricks mortgage servicers use to squeeze more cash out of their customers. About a month later, I learned of another trick: Citibank informed us that it was increasing our monthly payment by nearly $300.

Along the way, a simple refi became a months-long odyssey: rates misquoted, interest charged on a phantom account, legal documents issued in wrong names, a mortgage officer who disappeared for days at a time (first it was his birthday, then his laptop was in the shop), a bounced check from Citibank’s own title company, and the freezing of our bank accounts.

For me, this amounts to no more than the hassle of arguing with Citibank to fix its “mistakes.” But consumer advocates tell me these are typical of the screw-ups by the big banks that service home mortgages. And these errors – accidental or otherwise – are driving large numbers of people into default and foreclosure when it otherwise would not have happened….

My wife and I are reasonably savvy consumers – she has a brand-name MBA, and I began my career as a business reporter for the Wall Street Journal – but we were no match for a bungling bank. After five months of trying, we still haven’t been able to resolve all of Citibank’s mistakes – nearly all of them, curiously, in the bank’s favor….

“What happened to you,” Ira Rheingold of the National Association of Consumer Advocates told me, “happens to people every single day.” And it will continue, with its resulting drag on the economy, unless and until the big banks can be brought to heel.

A few obvious, but important, things.

1. The payments system for the largest consumer debt market in history, the payment system that runs one of the largest parts of our domestic economy, can’t be fully trusted. When an electric plant fails, there is a political response. Where is the political response to the failure of this far more crucial function of our economy? How much worse does it have to get?

2.  To chart part of the conflict of interests, I’m copying this excellent table from the National Consumer Law Center’s Why Servicers Foreclose When They Should Modify and Other Puzzles of Servicer Behavior, (pdf) by Diane E. Thompson:

As it is structured servicer fees (like late fees and foreclosure frees) create an incentive to keep a borrower in default. The servicer’s monthly servicing fee, computed as a percent of the outstanding balance, is more interesting. That gives an incentive where servicers benefit from any and all delays in reduction of principal and suffer a permanent loss of income when they agree to a principal reduction. Loan modifications that increase principal by capitalizing arrears and fees give a boost to these fees. (It won’t surprise you that 70% of mortgage modifications fall into this category of increasing principals by capitalizing arrears and fees.) This structure give servicers a huge incentive to do make-work modifications, ineffectual interest-rate adjustments and principal forebearance, because even though the monthly payment might be a bit lower the principal is the same and their servicing fee comes off the top (before the interest payment to bondholders).

3.  One of the more important traps Milbank needs to watch for is pyramiding fees.   Many of us knows what it is like when we are a day late with a credit card payment and we get hit with a late fee or an interest jump.   That sucks, but in the grand scheme of things people survive.   What can happen with servicing, something we see time after time, is that fees get added.  And payments get applied to the fees first, instead of the fees last (which is how it should be by contract).    Since there isn’t a full payment, more fees are added.   Suddenly, within 6 months, a family could see itself with massive bills even though they believed they were making the payments.    Investors hate this, consumers obviously hate this, yet we have no investigation of how prevalent this is.

4.   Milbank is a former economics reporter with a prominent platform;  his wife has an MBA from a top school.  Imagine how much worse this would have been if they were poorer, less critical, more desperate, more trusting that the financial markets weren’t going to try and commit fraud, or simply had less power.   The system as it currently stands preys on consumers and borrowers in a way far behind anything we should be willing to tolerate.