State and federal regulators are urging companies servicing mortgages that have been securitized and sold to investors to “determine the full extent of their authority” to employ loss-mitigation strategies to avoid unnecessary foreclosures.

Mortgage loans — especially those offered to subprime borrowers with blemished credit — are held for investors in securitization trusts. The servicing of loans that have been securitized is governed by contracts called pooling and servicing agreements. The agreements spell out when and how often loan servicers can work out loan modifications with troubled borrowers, instead of taking possession of the properties that serve as collateral for the loans.

Some critics say the agreements can prevent loan servicers from engaging in workouts with troubled borrowers.

In a statement issued today, federal banking regulators and the Conference of State Bank Supervisors said that where allowed, loan servicers should pursue options including loan modifications, conversion of adjustable-rate mortgages into fixed-rate loans, deferral of payments, or extended amortization.

Loan servicers “are encouraged to use the authority that they have” under the pooling and servicing agreements to:

  • Proactively identify borrowers at heightened risk of delinquency or default, such as those with impending interest-rate resets.

  • Contact borrowers to assess their ability to repay.

  • Assess whether there is a reasonable basis to conclude that default is “reasonably foreseeable.”

  • Explore, where appropriate, a loss-mitigation strategy that avoids foreclosure or other actions that result in a loss of home ownership.

In evaluating loss-mitigation techniques, servicers are instructed to consider the borrower’s ability to repay a modified loan, taking into account monthly housing-related payments, including principal, interest and taxes, and their impact on debt-to-income ratios.

Loan servicers are also being encouraged to refer borrowers to qualified nonprofit counseling services and government programs such as those administered by the Federal Housing Administration.

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