Solving the Mortgage Mess By Modifying Loans - and Borrower Behavior

Last week, the Treasury Department took steps to simplify the process for qualifying for a mortgage loan modification through its Making Home Affordable Program. Among the changes, lenders will now have to collect a borrower's paperwork upfront. Borrowers will also be able to give lenders electronic access to their tax returns rather than having to pull those documents together themselves. Both of these things should help ensure that more trial modifications are eventually converted to permanent ones.Yet the folks at the Center for Responsible Lending and other advocates of revving up the program in a more significant way yawned. "We think those are incremental changes," said CRL spokeswoman Kathleen Day. "Right now the program is being overwhelmed by how many foreclosures and delinquencies there are. One is a tsunami and one is a drop in the bucket."

Day points to two changes that need to be made to the program in order to see greater success: It must be mandatory for lenders rather than voluntary, and it must attack the principal of the loans rather than just the interest rates. Giving bankruptcy judges the power to modify mortgages on primary residences would accomplish both, she says.

But it may also be possible for the program to succeed without those changes. Look at the track record of Ocwen Financial, a mortgage servicer that is voluntarily modifying principal payments when necessary. On Jan. 21, The New York Times reported on the success rates of mortgage companies in converting trial loan modifications for troubled homeowners to permanent ones. Bank of America (BAC) had converted less than 2%. JPMorgan Chase (JPM), 4%. Ocwen Financial (OCN), 40%.

I had never heard of Ocwen, but I was curious, so I picked up the phone.

Improving Communication to Improve Results

A brief history: The publicly-traded company was founded in 1988 and cut its teeth in the days of the Resolution Trust Corporation, buying nonperforming loans at a discount for its own account, then rehabilitating them through workouts, modifications and forbearances. With borrowers once again secure in their homes, Ocwen resold the loans at significantly higher prices. Over the years, they shifted their business model away from buying their own loans to servicing loans for others. That brings us to today.

"We developed institutionally an appreciation for the economic power of rehabilitating loans rather than slamming them through foreclosure," explains Executive Vice President Paul Koches. "It doesn't happen by itself, you have to have the technology platform." He credits Ocwen's platform with the company's success. Not only did it have the capacity to meet the increasing number of delinquencies, it was developed with a dose of behavioral science that has proven useful in keeping struggling borrowers in the loop.

"In the technology, we have embedded certain preferred words and phrases [in certain orders] that we have tested over time to show optimal results with borrower communication," Koches says. "It's about getting [borrowers] into a mindset to understand we need actual documentation from them. We are getting better responses on the document-gathering than the other banks. That's driven by the behavioral science techniques."

To that end, the company has partnered with faith-based and community-activist groups in hard-hit area. And borrowers are assigned to work with a single consultant, someone whom they can feel is on their side, rather than having to deal with whoever is next to answer the phone.

Likewise, the company uses personality testing to measure the future success of its "home retention consultants," the staffers tasked with gathering the documents and working the phones. "It's like the Vince Lombardi school of drafting," Koches says. "He didn't like to take players from other teams because he was afraid they were taught bad habits. Instead, he'd reach out to the best athlete and teach them to play football his way."

The company -- which won't reveal its entire formula -- looks for patience and optimism in its consultants. It also trains them to deal with the government's bugaboos. Under the Home Affordable Modification Program, for example, there have been extremely precise documentation requirements. For instance, it's not a simply a tax-return that has to be submitted, but a signed copy of a tax-return. People who miss that piece of instruction and send an unsigned copy get bounced. Ocwen's consultants are trained to offer reminders so that doesn't happen.

Lastly, but perhaps most importantly, Ocwen is modifying not just interest rates, but principal in about 15% of its cases where it deems it necessary. Koches wouldn't elaborate on the standards. But by two different measures, it seems to be working. The first is the percentage of trial modifications converted to permanent, which as noted above, is far above the norm. (A fact worth noting: Ocwen grants a smaller percentage of its population trial modifications than the big banks do, but converts substantially more). The second standard of Ocwen's success it its redefault rate: 25%, about half what the big banks are seeing.

An inspiration? No. But a good place to start.

Jean Chatzky, award-winning journalist and best-selling author, is the financial editor for NBC's Today, a contributing editor for More Magazine, and a columnist for The New York Daily News. She is the author of six books, including her newest, Money 911: Your Most Pressing Money Questions Answered, Your Money Emergencies Solved. Check out her blog at jeanchatzky.comand learn more about theDebt Diet Online.
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