California Law Freezes Foreclosures, Burns Servicers

Mortgage services with any volume to manage in the Golden State face a new law today that restricts the foreclosure actions they can take on defaulted borrowers. The California Foreclosure Prevention Act, signed in February, took effect Monday. The act forces a 90-day foreclosure moratorium on servicers that have not implemented sufficient loan modification programs. Any servicer that pursues regular, legal foreclosure proceedings on a mortgage collateralized by a borrower’s primary residence in California without such modification program in place is in violation of state law. “California is facing an unprecedented threat to its state and local economies due to skyrocketing residential property foreclosure rates in California,” the state legislature said, regarding the act. “Those high foreclosure rates have adversely affected property values in California, and will have even greater adverse consequences as foreclosure rates continue to rise.” State lawmakers’ response to the situation comes in the form of a forced foreclosure freeze among servicers without a modification program, to give borrowers more time to pursue modifications. The act applies to loans on primary residencies recorded from Jan. 1, 2003 through Jan. 1, 2008. It remains in effect until Jan. 1, 2011. To qualify for exemption from the mandatory freeze, the servicer’s modification program must target California residents with the goal of a 38% housing-related debt-to-gross income ratio. The program must include some combination of the following: an interest rate reduction for at least five years, an extension of the amortization period, a deferral of some portion of the principal amount of the unpaid principal balance until maturity of the loan, a reduction of principal and/or compliance with a federally mandated loan modification program. Critics of the act say the government intervention and forced modification spells trouble for first lien holders, who after the modification process get back a much riskier loan. “Over time — a year or less — most of the mods will re-default but at this point, house prices are likely to be even lower,” says Field Check Group’s Mark Hanson. “And because the homeowner is essentially a renter, the asset itself will be in much worse condition and who knows what new laws will be in place to prevent the lien holder from getting paid in a year.” Write to Diana Golobay.