Reason Foundation

Why a Judge Should Reject the Mortgage Settlement

Posted on March 23, 2012, 1:51pm | Anthony Randazzo

We've written a lot about the mortgage settlement's flaws over the past several weeks, but the one serious chance that exists for avoiding the mess it creates is for the U.S. District Court of DC to reject the settlement. In a piece for RealClearMarkets on Thursday I laid out the case that MBS investors could make in urging a judge to order the settlement renegotiated or at least prevent the banks from using investor money to pay for the settlement. Here is the heart of the matter:

The second complaint from MBS investors will be that they are innocent of any wrongdoing in this matter. There are eight counts in the complaint filed against the banks for the mortgage settlement including: unfair and deceptive loan servicing, foreclosure processing, and loan origination practices, violations of the False Claims Act and Servicemembers Civil Relief Act, and various misconduct relating to homeowners in bankruptcy.

MBS investors have no authority over how foreclosures are processed or whether the right fees are being charged. The investors rely on the servicers to do their job as much as the homeowners. It is purely the banks at fault in this regard (even if the overall settlement fine doesn't fit the crime). Vincent Fiorillo, a portfolio manager at DoubleLine Capital and AMI's board president, says, "The banks are trying to pay [their] fines with our money."

If it is true that investors were not responsible for any of these process abuses or failures, then banks are shifting their liability on to an innocent party.

See here for the full column. If the courts don't invalidate the settlement then be on the look out for other banks being forced to join the settlement by their regulator. PNC, US Bancorp, SunTrust and others are being talked about as possible banks that would agree to the same servicing standards and pay into the fines and modifications. The thing to watch for will be whether these banks join willingly, or if their regulator strong arms them into joining. 

Finally, below is an interview I did on RT covering the MBS investor case against the settlement:

As a side note, if a judge rules that banks have to use all of their own money for principal writedowns, refinancies, and short-sales it does not change the fact that the settlement is political extortion and that the settlement has nothing to do with robosigning. For that reason it should be rejected entirely.

The IRS Gets Sued for an Illegal Licensing Scheme

Posted on March 20, 2012, 3:33pm | Anthony Randazzo

Most people don't like to fight the IRS, but the Institute for Justice is not most people. Last week IJ sued the Internal Revenue Service for authorizing an illegal licensing scheme that is driving thousands of independent tax advisors out of business. Check out the video for the whole story.

IJ's website says: 

Congress never gave the IRS the authority to license tax preparers, and the IRS can’t give itself that power.

But last year the IRS imposed a sweeping new licensing scheme that forces tax preparers to get IRS permission before they can work. This is an unlawful power grab that exceeds the authority granted to the IRS by Congress.

The burden of compliance will fall most heavily on independent tax return preparers and small businesses. Unsurprisingly, big firms such as H&R Block and Jackson Hewitt support the licensing scheme. As The Wall Street Journal explained: “Cheering the new regulations are big tax preparers like H&R Block, who are only too happy to see the feds swoop in to put their mom-and-pop seasonal competitors out of business.”

These regulations are typical government protectionism. They benefit powerful industry insiders and at the expense of entrepreneurs and consumers, who will likely have fewer options and face higher prices. But tax preparers have a right to earn an honest living without getting permission from the IRS. And taxpayers—not the IRS—should be the ones who decide who prepares their taxes.

That is why on March 13, 2012, three independent tax preparers joined the Institute for Justice in filing suit against the IRS in the U.S. District Court for the District of Columbia. This lawsuit challenges the IRS’s statutory authority to impose this licensing scheme, and seeks to overturn regulations that would affect an estimated 350,000 tax return preparers, forcing many of them to stop working in the occupation of their choice.

See the full story here.

Mortgage Settlement's Servicing Standards are Codifying Theft

Posted on March 20, 2012, 1:51pm | Anthony Randazzo

In February 2011, I was testifying before the House Financial Services Subcommittee on Capital Markets. Ranking member Maxine Waters asked each of the panelists whether we thought national mortgage servicing standards were necessary in response to the robo-signing scandal. To the best of my memory I responded that while I am no expert on servicing standards, I did think that a national standard would be unwise because it would open the system up to corruption worse than what we are dealing with currently.

Now that we have the detailed documents from the national mortgage settlement, it is becoming clear that these concerns are valid. As I will cite below, there have been a number of critics railing against the new mortgage servicing standards that were included in the legal agreement between the top five banks and the state and federal regulators negotiating with them. While these standards only apply to the five banks that agreed to them, they will impact over 50 percent of mortgages in the country. And there are a number of provisions that basically codify theft. This is basically regulatory capture 101. Public choice professors should take note.

For a full run down of problems with the mortgage settlement's servicing standards, see Abigail Caplovitz Field's article over on HuffPo from yesterday. Here are a few of the dazzlers (all references are to Exhibit E that can be found in all five settlement documents; here is Wells Fargo's):

Let's start with the metric called "incorrect loan mod denial." (Top of page E-1-2.) This metric is supposed to ensure that when you qualify for a loan mod, you're given a loan mod. According to Column C, the loan level error tolerance for income errors in this metric is 5%. As a practical matter, here's what that means: Imagine your household income is $80,000. Imagine that at $80k the bank's formula says you get a modification and thus you can keep your house. But the bank doesn't use $80k in its math; it uses $77,000. So the computer rejects you, and you lose your home to foreclosure. Does law enforcement care about the bankers wrecking-your-life error? No, because the $3,000 error, while enough to deny you the mod, isn't 5% of your income. The error was too small to count. If that doesn't count, what incentive do the B.O.B.s have to eliminate errors, or at least fundamentally minimize them? Doesn't law enforcement understand that people whose homes depend on the banks' math need much, much better? [...]

Since most people don't pay more than what they owe each month, posting less than you paid would seem to make you delinquent when you're not. How can that be ok? What are the consequences? The servicing standards say the banks have to take your payment if you're within $50, (See page A-5 at 3.a) but if your mortgage payment is $2000/month, 3% is $60. What if you start facing fees? What if you were trying to bring your account current and the bank screws up the data entry and starts foreclosing? Why isn't that potentially devastating error reportable? [...]

take the very first metric in the table, page E-1-1, "Foreclosure sale in error". If it happens, that means the B.O.Bs sold your house when they weren't supposed to. On first glance, things look good: no loan level error is tolerated (Column C is N/A). Column D looks tough, but only if you don't think much about it: only a 1% error is tolerated... [And according to the settlement] it's not reportable error to sell your house even though you weren't in default, so long as you foolishly cured the default too close the sale date and the B.O.Bs tried to stop the sale of your home.

The thing is, if any one of these banks were to write up their servicing procedures like this on their own one of tow things would happen: either a regulator would say this is ridiculous and force them to change their process, or the servicer would be publicly shamed for their thieving system and see market share slip away as customers flock to alternative firms.

But these bogus standards are not just approved by the regulators, they are blessed by the regulators across state lines and instituted at the top five "alternatives". The regulators have been captured by the banks, and if the other main servicers come on board the agreement (as is being discussed) there will soon be almost nowhere to run.

Housing Starts Up, Problematic Short-term Perspectives on Housing Also Rise

Posted on March 20, 2012, 10:39am | Anthony Randazzo

It's time for our regular broken record feature where we highlight short-term thinking on housing. Today we have a March Commerce Department Housing Starts Edition.

The Commerce Department released data for March 2012 showing that in February, home builders broke ground on enough homes to maintain a 698,000 annual pace of building. "Housing starts in the U.S. hovered in February near a three-year high and building permits rose, adding to signs that the industry at the heart of the last financial crisis is stabilizing," according to a Bloomberg article.

That same article went on to cite a number of positive analyses of the data, including some of these classics:

“The housing market continues to recover at a very gradual rate,” said Sal Guatieri, a senior economist at BMO Capital Markets in Toronto, who forecast a 697,000 pace for housing starts. “The increase in permits likely flags further strength in the months ahead.” [...]

We have the wind at our back as the economy recovers and housing improves,” Sheree Bargabos, president of roofing and asphalt at the Toledo, Ohio-based company, said on a March 9 conference call. [...]

“Growth is anticipated as the housing market recovers, driven by home affordability, improving home values and home remodeling activity.”Paul Hylbert, chairman of Kodiak Building Partners in Denver, Colorado, a building materials supplier, said “business is definitely picking up. We are on the road to recovery.”

It continues to baffle me that these analysts feel the need to be so positive. Especially when the housing market has a collective pile of bricks hanging over its head. Here are four quick points to think about:

First, the Fed’s quantitative easing has led to today’s historic lows for mortgage rates, but now they pretty much can only go up, meaning the future will have increasingly hard downward pressure on housing prices as interest rate eventually increase from zero. 

Second, the shadow inventory of homes is still very high. A recent estimate put it at 9.8 million homes unsold or pending in foreclosure. That is more downward pressure on prices in the coming years as the homes reach the market.

Third, housing prices have finally fallen to where they should be based on a historical trend. But while this is a good thing, it does not mean we’ve reached the bottom of this price decline. In addition to eventually increasing mortgage rates and the shadow inventory, every housing bubble since WWII has seen prices dip below the historical trend line average for a few years before sweeping back up to prices that are more the norm. 

The final thing to consider is that household debt is still very high and savings are low. The dark side of interest rates at zero percent is that there is little point in saving, and higher incentives for keeping, adding, or refinancing debt. As a result, household debt, which is preventing a lot of consumption in the economy, has only deleveraged to 2007 levels—meaning there are years left of household debt deleveraging to get through.

All of this would suggest that we have at least a few years left before housing prices begin to climb again and there is recovery in the housing system.