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A recent report “Why Servicers Foreclose, When They Should Modify, and Other Puzzles of Servicer Behavior,” from the National Consumer Law Center (NCLC) seems to indicate that another record month of foreclosures is the result of servicers taking the more profitable road.

This report makes the case that foreclosing on mortgages in a market with severely depressed property values, high unemployment, and continued economic weakness simply makes more financial sense to servicers. Whereas a short sale or foreclosure can leave the bank recovering only 30-75%. Often this deep loss can be avoided with a loan modification.

However, from the servicers’ perspective loan modifications consume a lot more over time in administrative and processing expense, cutting into their profits.

Loan modifications are often an intense legal negotiation and filled will verification processes, than a majority of these borrowers will default again. This reality, driven by an unstable economic climate makes loan modifications a risky proposition for servicers. And although a loan modification is likely to advantage the mortgage investor or bank and the borrower, the incentive are still not adequate to convince the servicer.

The report, in analyzing foreclosures from 1995 to 2009 also seemed to find that forbearance (giving the borrower several months of payment grace in order to recover financially and then resume payments) was actually the most successful work-out strategy.

The bottom line of this report was that the loan modification programs put in place by the federal government are still insufficient incentives to avoid foreclosure.

Here are some of the suggestions the National Consumer Law Center makes:

• regulate loan originations
• mandate loan modifications before foreclosure
• fund quality loan mediation programs
• provide for principal reductions on existing loans through the Home Affordable Modification Program (HAMP) program and through bankruptcy reform
• increase automated and standardized loan modifications for borrowers in default and provide a safety net for borrowers who do not qualify for a standardized modification
• ease accounting rules for loan modifications to facilitate standardization and encourage long-term loan modifications
• require loan servicers to be more transparent and uniform in how loan modifications are reported
• limit fees charged to borrowers

What do you think? Why are we still working on this crisis years after the collapse of the mortgage market?

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