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Urban Institute: 5 steps BofA should take in its settlement with DOJ

This would better serve consumers and investors

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Now that Bank of America (BAC) is nearing a reported $17 billion settlement with the Department of Justice, there are some steps the banking giant could take to better set things right, says the Housing Finance Policy Center staff at the Urban Institute.

Under the terms of the deal in discussion, the bank will pay between $16 billion and $17 billion to resolve allegations of mortgage-related misconduct in the run-up to the financial crisis, according to sources close to the negotiations.

The settlement under negotiation includes likely $7 billion in consumer relief, for fraudulent mortgage-related activities.

“Our analyses of earlier settlements reveal several lessons, including these five strategies that should be considered by the current parties to ensure a more successful outcome for consumers, communities, and investors,” the staff at housing center said.

  1. Harness the power of incentives. As we learned from the 2012 National Mortgage Settlement (NMS), well-constructed rules can shape bank behavior. By providing more credit for preferred actions such as principal reduction, the settlement could create better outcomes for communities and individuals.
  2. Give clear and substantial credit for real estate owned (REO) donations and other community-based activities. The NMS resulted in a disappointing number of REO donations, a type of consumer relief that can be incredibly beneficial to communities. By clarifying that REO donations are a preferred type of relief, the settlement could do more for communities.
  3. Give less credit for second liens. Conversely, the NMS saw a huge number of low quality second-lien modifications, due to strong incentives. Less credit for this type of modification could move the focus from easy write-offs to those with greater impact.
  4. Set limits on the use of other people’s money. Mortgages serviced for investors are viable candidatesfor modification when it is beneficial to consumers and fair to investors. Deciding the maximum amount of consumer relief that can be granted upfront with investor funds could help smooth investor concerns. That percent should be published prior to finalizing the settlement, so investor objections can be considered.
  5. Clarify and publicly disclose net present value (NPV) calculations. NPV models used to determine the loans eligible for modification are opaque to investors and the public. Clarifying and disclosing these measurements, and requiring the settlement monitor or similar party to validate that the models are properly applied to investor loans, could further investor satisfaction with this and subsequent settlements.

In November, JPMorgan Chase (JPM) agreed to pay $13 billion to settle claims of mortgage-backed securities fraud brought against the bank by the U.S. government.

The U.S. Department of Justice then used some of that money to speed up its cases against other big banks, like Citigroup (C).

Last month, Citi officially announced a $7 billion dollar settlement with the U.S. Department of Justice, several state attorneys general, and the Federal Deposit Insurance Corporation to settle residential mortgage-backed securities and collateralized debt obligations after industry whispers that the bank was nearing a resolution.

BofA took a little longer, as the New York Times said the bank was at an impasse in negotiating a multi-billion dollar settlement deal related to the bank’s involvement in the mortgage crisis.

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