NEW YORK - The $25 billion settlement with banks over foreclosure abuses may result in a wave of home seizures, inflicting short-term pain on delinquent U.S. borrowers while making a long-term housing recovery more likely.
Lenders slowed the pace of foreclosures as they negotiated with attorneys general in all 50 states for more than a year over allegations of faulty and fraudulent paperwork used to repossess homes. With Thursday's agreement, banks are likely to resume property seizures.
"The best thing about the settlement, frankly, is that it will be done," said Stan Humphries, chief economist for Seattle-based Zillow Inc., a provider of home-sales data. "The shadow of the settlement hung over the market for a year now."
The backlog of foreclosures has trapped homeowners in properties they can no longer afford, depressed neighborhood prices by increasing the number of abandoned homes and led banks to tighten mortgage credit standards because of uncertainty about the cost of their potential obligations. Foreclosure starts fell 46 percent in December from October 2010, when the investigation into the so-called robo-signing of mortgage documentation began, according to Irvine, Calif.-based RealtyTrac Inc.
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The agreement will direct $17 billion to writing down debt to buffer about 1 million homeowners from foreclosure through mortgage forgiveness, forbearance or loan-modification programs, according to Housing and Urban Development Secretary Shaun Donovan. About 750,000 borrowers may get direct payments of as much as $2,000 to compensate them for servicing errors.
Principal reductions and other loan modifications will be accessible to a small universe of borrowers because the deal doesn't include loans owned or guaranteed by Fannie Mae, Freddie Mac or Ginnie Mae, which pools and sells Federal Housing Administration loans. The five banks included in the settlement control or own 7.3 percent of all outstanding single-family mortgages, according to Inside Mortgage Finance.
"The primary beneficiaries of any principal reductions, loan modifications or refinancings are really a universe that excludes 92 percent of mortgage borrowers," said Guy Cecala, publisher of the newsletter.
After a six-year slide in home prices, demand is showing signs of strengthening, bolstered by a jobless rate that fell to 8.3 percent last month. The number of Americans who signed contracts to buy previously owned homes in December held near a 19-month high, indicating that stabilization in the market that began in late 2011 may continue this year.
A surge of home seizures may drive down values, at least for a while, in a fragile market. The number of new foreclosure filings fell 34 percent last year, according to RealtyTrac, resulting in a backlog that now may flood the market with low-cost properties.
About 1 million foreclosures will be completed this year, up 25 percent from 2011, according to the firm.
"All of this will result in more foreclosure pain in the short term as some of the foreclosures that should have happened last year instead happen this year," Daren Blomquist, a RealtyTrac vice president, said in an email Thursday.
About 5 million homes have been lost to foreclosure in the U.S. since 2006, according to RealtyTrac.
"I think there'll be more price weakness, because we'll see the number of distressed sales pick up," said Mark Zandi, chief economist for Moody's Analytics Inc. in West Chester, Pa. "But I think the price declines will be modest. I think the banks themselves are going to be very sensitive to market prices. I don't think they're just going to dump property. That wouldn't be in their best interest."
Home prices have dropped 33 percent from their July 2006 peak, according to the S&P/ Case-Shiller index of values in 20 U.S. metropolitan areas. About 11 million U.S. homeowners have negative equity, or owe more on their mortgages than their homes are worth, according to CoreLogic Inc., a provider of real estate data. That has limited their ability to sell or refinance and reduced the incentive to keep paying.
Principal reductions may help cut the number of mortgage delinquencies by improving borrowers' finances and reducing incentives for so-called strategic default, when homeowners walk away from a property because they have too much negative equity, according to a Federal Reserve report sent to Congress Jan. 4.
U.S. homeowners have $750 billion in negative equity, Humphries said.
The deal will help the residential market "at the margins, but little more," according to an analysis of the impact of the settlement by London-based Capital Economics.
The money may have an added benefit: It will test the effectiveness of principal forgiveness in preventing defaults, and may spur a larger-scale program if successful, said Paul Diggle, a property economist at Capital Economics.
