Bungled Foreclosures May Cost Banks Billions

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NEW YORK (MainStreet) – Banks and lenders may have a big problem on their hands – a $535 billion-sized problem. That’s the conclusion of a new study that says homeowners who suffered from bungled foreclosures could be in line for a bailout of their own.

The investment banking firm Keefe, Bruyette & Woods is on the case, with a new report stating that mortgage servicers will need to review up to $535 billion worth of foreclosed mortgages. It’s possible, even likely, the firm says, that mortgage lenders will have to pay back billions to foreclosed homeowners, based on a consent order between leading major lenders and the U.S. government.

The firm did note that it’s unlikely that all of the reviewed foreclosures would result in payments, and that actual payments to aggrieved homeowners could be as low as $5 billion – if those reviews of foreclosure practices go well for lenders.

Part of the reason for any low-ball estimate is the head start some mortgage lenders have already taken with foreclosure remediations. For example, one portion of the review process that mortgage servicers have already started is to make sure that all potential foreclosed mortgage holders are given a shot at a loan modification before banks or lenders commence foreclosure proceedings. 

Banks’ and lenders’ renewed interest in working better with homeowners is no coincidence, however. The Keefe, Bruyette & Woods study follows closely on the heels of that consent agreement between mortgage lenders and Uncle Sam. The agreement, announced April 13, was crafted by the U.S. Office of the Comptroller of the Currency, the Federal Reserve, the U.S. Office of Thrift Supervision and representatives from 14 major U.S. banks and mortgage lending firms.

Bank of America (Stock Quote: BAC), Wells Fargo (Stock Quote: WFC) and J.P. Morgan Chase (Stock Quote: JPM) were among the financial institutions that agreed to the deal, which guarantees (as yet undetermined) compensation for homeowners whose homes were foreclosed upon improperly, reforms to the lenders’ foreclosure practices and independent reviews of their loan foreclosure books for 2009 and 2010, among other stipulations.

Among the possible fees and penalties consumer advocates wanted – but didn’t get – in the order were principal write-down offers (something lenders have aggressively lobbied against), triple financial damages for foreclosure infractions and a $20 billion “pool” that mortgage servicers would contribute to for disbursing funds to wronged homeowners.

Government officials seem happy with the deal, although right now there’s no way to know if aggrieved homeowners are closer to the $535 billion level or the $5 billion payout level that Keefe, Bruyette & Woods projects.

"These comprehensive enforcement actions, coordinated among the federal banking regulators, require major reforms in mortgage servicing operations," said acting Comptroller of the Currency John Walsh in a statement. "These reforms will not only fix the problems we found in foreclosure processing, but will also correct failures in governance and the loan modification process and address financial harm to borrowers. Our enforcement actions are intended to fix what is broken, identify and compensate borrowers who suffered financial harm, and ensure a fair and orderly mortgage servicing process going forward."

That process, particularly the 2009 and 2010 foreclosure practices reviews, will take some time. But at least homeowners who were foreclosed upon under shady circumstances may yet hold dysfunctional mortgage lenders accountable where it hurts most – on their balance sheets.

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