Breaking News: Fed to Modify Underwater Mortgages

"A cornerstone of the economic recovery plan that President Barack Obama is expected to unveil Monday will be modifying problem mortgages.

In a nod to Main Street over Wall Street, sources familiar with the plan say Treasury Secretary Tim Geithner plans to allocate almost half of the remaining $350 billion in funds from the Trouble Asset Relief Program to the so-called "Mo Mod," or mortgage modification, platform.

The "Mo Mod" program works by structuring a new mortgage that more accurately reflects a home's worth so that a troubled borrower no longer owes more on their home than the property is worth.

The process then enables a lender to pool these new mortgages together into securities that reflect more accurately a home's value, which makes them less risky for investors.

But it will also bail out borrowers who helped trigger the housing crisis by taking out loans they were unable to pay back from the outset, something that has drawn criticism because it effectively rewards the bad behavior of rogue borrowers and lenders.

Stopping the slide in housing prices is a priority for the Obama administration, which is also considering providing government guarantees for home loans that have been modified by their servicers in order to stem a surge of foreclosures that's hammering property values.

The "Mo Mod" plan comes as a record 19 million US houses stood empty at the end of 2008, and, according to real-estate Web site Zillow.com, US homeowners lost a record $3.3 trillion in equity last year.

About one-third of owners whose home values drop 20 percent or more below their loan principal will "hand the keys back to the bank," said Norm Miller, director of real estate programs for the School of Business Administration at the University of San Diego.

"When you're underwater and prices continue to fall, you tend to walk," Miller said in an interview. "It's a downward spiral that's tough to stop because it feeds on itself. Foreclosures encourage other foreclosures and falling prices discourage buying." [Source]