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Banks Urged to Consider Higher Home-Equity Reserves

Aug 3, 2009 @ 06:00 AM, Business, Jody Shenn

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Aug. 3 (Bloomberg) -- U.S. banks may need to boost reservesfor potential losses on home-equity loans after the FederalDeposit Insurance Corp. issued guidance in response to a slumpin property prices from their peak in 2006.

The regulator, in a letter today to banks and examiners,urged lenders to consider issues such as whether borrowers’total housing debt exceeds the value of their properties andwhether homeowners’ first mortgages have been reworked whendetermining allowances for losses on the debt.

Senate Banking Committee Chairman Christopher Dodd andHouse Financial Services Committee Chairman Barney Frank in aletter last month asked regulators to assess whether banks arecarrying home-equity lines of credit, or HELOCs, and non-revolving home-equity loans at “potentially inflated values,”hindering efforts to have mortgages modified to stem the soaringforeclosures that have roiled the U.S. economy.

“It was probably triggered by the fact that the FDIC doesnot like what it is seeing with respect to marks on the HELOCbooks,” Paul Miller, a bank analyst at FBR Capital Markets inArlington, Virginia, said in an e-mail today.

A drop in values has left about 22 percent of the nation’s93 million houses, condos and co-ops with mortgages that exceedthe value of the properties as of March 31, Seattle-based realestate data service Zillow.com said in a report May 6. Banksheld a record $674 billion of HELOCs and $211 billion of closed-end home-equity debt as of March 31, according to FDIC data.

Investor Complaints

Mortgage-bond investors including Fortress Investment Grouphave complained to lawmakers that banks making loan-modificationdecisions have ignored suggestions to cut balances of morehomeowners because other types of changes in first-lien loanterms don’t require the banks to report losses on their holdingsof home-equity loans.

“Failing to properly consider the current effect of moresenior liens on the collectibility of an institution’s existingjunior lien loans is an inappropriate application” ofaccounting principles, the FDIC said in the letter.

JPMorgan Chase & Co. and Citigroup Inc., both based in NewYork, Wells Fargo & Co. of San Francisco and Charlotte, NorthCarolina-based Bank of America Corp., the four-largest mortgageservicers, own almost $450 billion of home-equity loans,according to analysts at Amherst Securities Group.

The FDIC said failing to recognize credit losses “coulddelay appropriate loss mitigation activity, such asrestructuring junior lien loans to more affordable payments orreducing principal on such loans to facilitate refinancings.”

‘Inevitably Imprecise’

The letter reminds industry that loan-loss allowances“should be reflective of credit conditions that impact theirportfolios,” LaJuan Williams-Dickerson, an FDIC spokeswoman,said in an e-mail. “Recognizing those conditions allows lendersto make good decisions and work with their borrowers, based onrealistic economic circumstances.”

Tom Kelly, a JPMorgan spokesman, and Scott Silvestri, aBank of America spokesman, declined to comment. Mark Rodgers, aCitigroup spokesman, and Kevin Waetke, a Wells Fargo spokesman,didn’t return messages seeking comment.

Home prices in 20 large U.S. cities have dropped 32 percenton average since peaking in July 2006, according to theS&P/Case-Shiller index. Writedowns and credit losses at theworld’s largest financial companies have reached more than $1.54trillion since subprime-mortgage defaults began rising in 2007,according to data compiled by Bloomberg.

Mortgage-bond investors are seeking greater use of theFederal Housing Administration’s Hope for Homeowners program forloans backing their securities, Curtis Glovier, a managingdirector at the New York-based Fortress, told lawmakers at ahearing last month. Banks acting as loan servicers, managingoutstanding mortgages, have blocked such action, he said.

‘Negative Equity’

Under the program, borrowers with “negative equity” getpart of their mortgages forgiven as they refinance intogovernment-insured loans. It was created last year and revisedin May by Congress to encourage participation.

The program requires a holder of home-equity debt to accepta pay-off representing a small amount of what’s owed, whileother steps to change terms keep the debt “on the books of thefinancial institution as a performing asset,” Glovier said,speaking for the Mortgage Investors Coalition, formed in Aprilto represent 11 firms that manage $200 billion of assets.

Bank of America had an allowance for home-equity lossesequal to 5.59 percent of its $155 billion portfolio as of June30, according to slides from a July 17 earnings presentationposted on the lender’s Web site. Nonperforming debt represented2.56 percent of the portfolio; debt at least 30 days delinquentand not deemed “nonperforming” totaled 1.29 percent.

Florida, California

Half of the portfolio was tied to borrowers whose debtexceeded 90 percent of their property’s value, with 41 percenttied to Florida and California homes, according to slides.

Wells Fargo said last month that 2.65 percent of loans inits $117.5 billion core home-equity portfolio were two paymentsor more past due at the end of the second quarter, up from 2.53percent the previous period. The annualized loss rate rose to3.25 percent from 2.09 percent; loans in California and Floridamake up 37 percent of the portfolio. The bank has an additional$9.35 billion of home equity loans that it’s liquidating.

To contact the reporter on this story:Jody Shenn in New York at jshenn@bloomberg.net

Last Updated: August 3, 2009 16:41 EDT

Source: Bloomberg


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