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Fed and Senate Take Steps to End Mortgage Credit Crunch
As the Federal Reserve Board continued last week to reduce interest rates and alleviate stress in the money markets, the Senate made up for several weeks of inaction on key legislative priorities for NAHB and passed bills that would modernize the Federal Housing Administration and eliminate taxes on forgiven mortgage debt.
During the previous week, the White House announced an ambitious effort to significantly reduce foreclosures with a five-year interest rate freeze on certain subprime mortgages, another important provision that home builders are hoping will help restore confidence in the housing market and lead to a prolonged period of recovery beginning in 2008.
At its meeting in Seattle in September, the NAHB Board of Directors laid out a detailed strategy to correct the current mortgage credit crunch and restore the health of the housing industry, and most of the individual provisions in that plan have been falling into place in rapid succession recently. A prime impetus among leaders in Washington has been the looming specter of an economic recession should the housing downturn take a further toll on the financial sector and lead to an erosion in consumer spending.
NAHB President Brian Catlade called the Fed’s Dec. 11 decision to cut short-term interest rates by 25 basis points, the third rate reduction since September, a reassuring sign that “it is determined to cut interest rates as needed in order to keep the economy moving forward, boost consumer confidence and increase liquidity in the credit markets.”
Catalde added that the Fed should be prepared to act again quickly in the event that further reductions in interest rates become necessary to stabilize financial markets and reassure investors.
Recent efforts by the Administration, he noted, show that the government realizes the importance of housing to the nation’s economy and the need to get housing back on track.
Calling on the Senate
Catalde also called on the Senate to move quickly to approve House-passed initiatives “to modernize the FHA, provide tax debt forgiveness when the terms of a mortgage are renegotiated and a portion of the loan is forgiven, strengthen the regulatory oversight of the GSEs and allow Fannie Mae and Freddie Mac to purchase mortgages in high-cost markets.”
By the end of the week, the first two of those congressional objectives had been accomplished.
On Dec. 14, the Senate by an overwhelming 93 to 1 margin approved S. 2338, the FHA Modernization Act of 2007, which would enable the FHA to respond to the needs of borrowers and play an important role in stabilizing the mortgage markets.
“The measure would offer borrowers a safe and fair mortgage alternative to the volatile subprime market,” said Catalde. “We urge the House and Senate to move quickly to iron out differences between their bills and bring this legislation to the President’s desk before year-end.”
Specifically, S. 2338 would:
- Increase the current limit for FHA-insured mortgages to enable deserving potential buyers to purchase homes in more markets across the country
- Grant the FHA authority to establish greater flexibility in setting downpayment requirements for its single-family programs
- Simplify requirements for condominium loans, which are often burdensome and differ significantly from the rules applied to mortgage loans for detached single-family homes
- Allow the FHA to insure more “reverse mortgages” and increase the maximum loan amount for such transactions
Later on the same day, the Senate moved in support of current efforts to prevent foreclosures by approving legislation that would eliminate any taxes home owners might face when banks renegotiate the terms of a home loan and forgive a portion of the outstanding mortgage debt.
Existing tax rules under Section 108 of the Internal Revenue Code impel many struggling home owners to seek foreclosure over restructuring their loan with lenders because forgiven mortgage debt is taxed as ordinary income.
S. 1394, the Mortgage Cancellation Relief Act of 2007, would remove this tax burden on mortgage indebtedness, encourage market-based restructuring between lenders and home owners and discourage foreclosures, said Catalde.
Sponsored by Sens. Debbie Stabenow (D-Mich.) and George Voinovich (R-Ohio), the bill would provide a temporary, three-year change to the tax code to eliminate taxes on forgiven mortgage debt.
For example, to keep a struggling borrower with a generally solid credit history from losing their home, a bank could elect to reduce the amount of the loan by 20% — from $250,000 to $200,000. While substantial, the $50,000 reduction would still be considerably less than the 30% to 50% loss that would be likely if the home were repossessed. The outcome, obviously, would be better for the home owner, who otherwise would lose the property.
Under current tax law, the $50,000 in forgiven mortgage debt is considered taxable income. “That’s a deal-killer for the home owner who is already fighting just to stay afloat. That’s why we need to change the law,” said Catalde.
S. 1394 also includes an NAHB-supported provision that extends the deductibility of mortgage insurance for three more years. Mortgage insurance is especially critical for low- and moderate-income first-time home buyers, many of whom may not qualify for a market-rate mortgage.
Easing Money Market Strains
On a more technical note, the Federal Reserve on Dec. 12 announced that it had established a plan to “address elevated pressures in short-term funding markets.”
The Fed plan establishes a temporary Term Auction Facility (TAF) designed to inject liquidity into the U.S. banking system.
The Fed also established reciprocal foreign exchange “swap” lines with the European Central Bank and the Swiss national bank in an effort to put downward pressure on interbank dollar rates in offshore markets, particularly in the LIBOR market.
The TAF will advance funds through the Federal Reserve discount window, but at a lower (auction-determined) rate than currently available on discount window loans and without the stigma associated with ordinary borrowing at the window.
While the TAF is not designed to increase the overall volume of reserves in the banking system, the facility should make banks more willing to lend into the interbank market, helping to ease strains in the money markets.
Four TAF auctions currently are scheduled, two this month and two in January, and the TAF may eventually become a permanent part of the Fed’s monetary policy tool kit.
To read legislation, click here and enter the bill number in the box at the center of the page.
For more informatiion on legislation, e-mail Michael Strauss at NAHB, or call him at 800-368-5242 x8252.
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