Senator Charles Schumer (D-NY) called Wednesday on both Fannie Mae and Freddie Mac to reduce the principal balance of loans for borrowers whose property values have fallen below what they owe on their mortgage, as part of an effort to help borrowers avoid foreclosure, Reuters reported. Called a “partial charge-off,” Schumer’s not alone in endorsing the idea; Office of Federal Housing Enterprise Oversight director James Lockhart also expressed support for partial charge-offs at a summit sponsored by Reuters on Wednesday:

In a letter to the heads of the two companies, Schumer asked that they immediately state that “when appropriate, servicers can and should make partial chargeoffs available to struggling homeowners.” … “I have had it with them. They keep saying ‘It will lower our stock price. It’s not as profitable as what else we do.’ Then, ‘Hello!’ Fannie and Freddie, ‘Go become a private company,” Schumer said. “You have a government guarantee. You don’t pay taxes. You have a lot of benefits. Now if ever is the time for you to step up to the plate.” James Lockhart, the Director of the Office of Federal Housing Enterprise Oversight, told the Reuters summit that he also wanted to see Fannie Mae and Freddie Mac explore “partial chargeoff” as an option. “I think the GSEs need to look at this issue and we have discussed it with them. Historically, it has not been one of their practices… It is something that they need to look at and that we are encouraging them to look at,” he said.

The idea here is that with loss severity approaching 50 percent on many loans, it’s less costly for lenders to charge-off a percentage of the original principal amount of a mortgage than to take a greater loss in foreclosure. The line of thinking is that if Fannie and Freddie start doing it, the rest of the mortgage industry will begin widely using the approach in loss mitigation. Stepping outside of Schumer’s press-friendly rhetoric, all this really signals is the wider realization that industry problems aren’t in subprime, they’re in housing leverage. Principal reduction isn’t exactly a new idea — the FDIC’s Sheila Bair has already been stumping for it for some time now. As others have noted, I just don’t know that it really will matter all that much in the end, even if partial charge-offs end up being “embraced.” Ultimately, we’re talking about servicers modifying loans until they’re squarely straddling the line set by a PSA. For HW readers looking to read an in-depth analysis of the issue, Tanta at the Calculated Risk blog has already written a novel on the matter.

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