Tuesday, 29 Sep 2015 | 12:15 PM ETThe New York Times
Private equity and hedge fund firms have bought more than 100,000 troubled mortgages at a discount from banks and federal housing agencies, emerging as aggressive liquidators for the remains of the mortgage crisis that erupted nearly a decade ago.
As the housing market nationwide recovers, this is a dark corner from which banks, stung by hefty penalties for bungling mortgage modifications and foreclosures, have retreated. Federal housing officials, for the most part, have welcomed the new financial players as being more nimble and creative than banks with terms for delinquent borrowers.
But the firms are now drawing fire. Housing advocates and lawyers for borrowers contend that the private equity firms and hedge funds are too quick to push homes into foreclosure and are even less helpful than the banks had been in negotiating loan modifications with borrowers. Federal and state lawmakers are taking up the issue, questioning why federal agencies are selling loans at a discount of as much as 30 percent to such firms.
One company has emerged as a lightning rod, criticized by housing advocates and lawyers for borrowers, but admired by investors: Lone Star Funds, a $60 billion private equity firm founded in 1995 by John Grayken. In just a few years, Lone Star’s mortgage servicing firm, Caliber Home Loans, has grown from a bit player to a major force in the market for distressed mortgages.
An examination by The New York Times of housing data and court filings, as well as interviews with borrowers, lawyers and housing advocates, revealed a pattern of complaints that Lone Star was quick to begin foreclosure proceedings, whether the firm had bought a delinquent mortgage at a federal auction or directly from a bank.
Take Charles and Pamela Hubbard of Sacramento. They briefly lost their home when Lone Star’s Caliber subsidiary dealt harshly with their request for a loan modification. The couple said they had submitted the application to reduce their monthly mortgage payments four days before a planned foreclosure sale, but the Lone Star subsidiary said the Hubbards had been late in completing the application and pushed ahead with the sale.
Within a month, the three-bedroom house that the Hubbards had lived in for two decades was auctioned off to another affiliate of Lone Star with the right to resell it later. The foreclosure was rescinded only after the couple went to court.
Caliber declined to comment on individual borrowers, but it said that in general, it was “committed to providing the best possible service to all borrowers, and identifying solutions that allow troubled borrowers to continue to pay their mortgages and stay in their homes is our top priority.” It said it had one of the highest loan modification rates in the industry.
Another window into how Caliber and Lone Star operate can be seen in a rare look into one of Lone Star’s biggest deals — a bundle of 17,000 distressed mortgages that had an unpaid balance of $2.96 billion.
With money from public pension funds, Lone Star bought those mortgages in the summer of 2014 at an auction held by the Department of Housing and Urban Development. The loans were originally underwritten before the financial crisis by banks like JPMorgan Chase and Bank of America, with insurance guarantees from the Federal Housing Administration.
The list of those mortgages was provided to The Times by the Legal Aid Society of Southwest Ohio, which obtained them through a Freedom of Information Act request.
HUD rules barred Lone Star from foreclosing on most of the mortgages it had acquired until early March. But since then, the firm has picked up the pace of foreclosures, an analysis showed.
As of the end of August, Lone Star and Caliber had foreclosed on at least 1,500 of those formerly F.H.A.-guaranteed mortgages — or 9 percent of the pool, according to an analysis of the home addresses performed by RealtyTrac, a foreclosure tracking service. Many of the foreclosed homes are clustered in Florida, Ohio, New Jersey, California and Texas.
A majority of the homes foreclosed on by Caliber have been bought back by another Lone Star affiliate at either a trustee or sheriff’s auction. The private equity firm is looking to resell the homes, and many can be found on Zillow, an online real estate listing service.
Moving Fast in Ohio
This foreclosure push was felt by John P. Glynn and his wife, Tammy, of Gahanna, Ohio. They were working with JPMorgan Chase on a loan modification when their mortgage was sold to Lone Star in last summer’s HUD auction.
After Caliber took over the handling of the Glynns’ mortgage, the talks that had been going on with JPMorgan over a modification ended. Caliber filed a lawsuit in February seeking to foreclose on the loan.
“I got the impression they didn’t want to work anything out,” said Mr. Glynn, an industrial engineer.
Caliber is now working toward reaching a settlement with the Glynns.
The firm said it had modified or restructured loans for 2,300 delinquent borrowers in the HUD pool. It noted that modifications were outpacing foreclosures and that it expected “the number of successful modifications to continue to increase over time.”
The number of foreclosures can be expected to rise as well.
In February, a HUD report analyzing the status of some of the 79,000 soured mortgages it sold over the last five years — including those bought by Lone Star — reported that 20 percent of the mortgages had been foreclosed, 9 percent had been restructured and 6.4 percent had been resold to other firms or investors. Borrowers remained delinquent on about half the loans.
In addition to Lone Star, other private equity firms have emerged as big buyers of troubled mortgages from federal agencies and banks. They include Bayview Asset Management, an affiliate of Blackstone Group, and Selene Investment Partners.
These firms have swarmed into troubled mortgages because they can squeeze profits from these loans by either restructuring them or by foreclosing on them and then repackaging the distressed loans into bonds that are sold to mutual funds and hedge funds.
Private equity’s push into the distressed mortgage market has produced some benefits. Thousands of homes that were abandoned by borrowers are now back on the market. In the HUD sales, about 10 percent of homes were vacant, according to the February report.
Still, housing advocates argue that federal housing agencies should make it easier for nonprofit organizations to have a better chance to compete for troubled mortgages, believing that these groups would work harder to avoid foreclosures.
Representative Michael E. Capuano, a Massachusetts Democrat, wrote this year to Julian Castro, the HUD secretary, expressing concern that nonprofit housing groups were too often losing out to private equity firms in the bidding for distressed mortgages.
In his letter, Mr. Capuano, who singled out Lone Star, said the HUD sales “may turn out to be an efficient new mechanism for increasing evictions.”
The tendency to act quickly on foreclosures is, in part, by design.
The acquisition of distressed mortgages by Lone Star is the engine in a well-oiled securitization machine that assumes that foreclosure and resale of the homes are inevitable components of the process. In these securitizations, many of the soured loans are bundled into bonds that yield up to 4 percent. They are then sold to hedge funds and mutual funds.
The short-term securities generate income for investors from the proceeds derived from foreclosing on the mortgages and then selling the homes on the open market. Last year, Lone Star sold 17 such securitizations, with a combined unpaid loan balance of $10 billion, and the firm is on pace to complete a similar number of deals this year, according to Intex Solutions, a securitization deal tracking service.
A confidential offering document for one of these Lone Star deals — named VOLT 2015 NPL, a transaction backed by 4,895 delinquent mortgages — indicates that the firm considers foreclosure and sale of the homes the most likely outcome for a majority of the loans.
The offering statement, reviewed by The Times, says “payments on the notes are expected to largely come from liquidation and sale proceeds, although there are expected to be collections each month from monthly payments by mortgagors.”
The document notes that about 9 percent of the mortgages were part of the pool of loans purchased from HUD.
Lone Star and other private equity buyers contend that many of the foreclosures involve homes that have been abandoned by borrowers, or loans beyond hope. The private equity firms also maintain that foreclosures are less profitable than modifications because the process is costly and time-consuming, and the homeowners are not making any payments for years at a time.
Federal housing officials reject much of the criticism of their sales of loans to firms like Lone Star, noting that many of the borrowers have not made a mortgage payment in three years. The private buyers, officials say, often represent borrowers’ last, best hope of striking a deal that can keep them in their homes. HUD officials also point out that the loan sales have reduced the obligation of the F.H.A. insurance program to guarantee mortgages against default, saving billions in the process.
In a letter in May responding to the criticism from Mr. Capuano, the Massachusetts congressman, Erika L. Moritsugu, a HUD assistant secretary, said the program was “putting the loans in the hands of purchasers motivated to help a borrower reperform.”
She said the private buyers were expected to reduce the principal owed by a borrower because “that is often the best way to help someone who is multiple years in arrears” and “headed for foreclosure.”
Nonetheless, in response to the criticism, HUD recently increased the period during which a private buyer cannot foreclose on homes to 12 months from six months, and it sought to create smaller pools of loans to give nonprofits a better chance at submitting winning bids.
While HUD has hoped that buyers of its loans will seek to reduce permanently the principal or debt owed by a borrower, Caliber tends not to do so.
In the first half of 2015, Fitch Ratings said of the loans it had reviewed, Caliber had not completed any modifications that included permanent principal reductions.
Instead, Caliber generally offers to modify loans for five years, during which a borrower makes either reduced monthly payments or simply pays interest on the loan. But those modifications revert to their original payment terms in the sixth year, sometimes with any deferred unpaid principal or unpaid interest added to the back end of the loan.
Such deals provide short-term relief to borrowers but do not provide a permanent remedy for homeowners short of cash.
George Velazquez, 51, an auto appraiser who lives on Staten Island with his wife, Evelyn, said there was no room to negotiate with Caliber when it presented him with a five-year interest-only mortgage modification after Lone Star bought their loan from HSBC.
Diane Cipollone, a lawyer and a consultant to the National Fair Housing Alliance, said these kinds of modifications simply delay the inevitable and do not present “good odds for any of these borrowers to keep their homes when the temporary modifications expire.”
Phillip Harris, 62, who has black lung disease, has lived for more than 40 years in a three-story building in San Francisco that doubles as his home and a boardinghouse. Caliber threatened to foreclose on the mortgage a few months after Lone Star bought the loan from Bank of America and scheduled a sale of the property for March 19.
Mr. Harris sent in an application for a loan modification — a move that under California law would stop the foreclosure process. But because the documents were not yet in Caliber’s computer system, the firm said it intended to go ahead with the foreclosure and sale of the house.
About a week before the trustee sale, Mr. Harris and his lawyer, Tiffany Norman, said they called Caliber and spoke with an employee who identified herself only as Katrina. On the recorded call, Mr. Harris and his lawyer repeatedly told the Caliber employee that the application had been submitted.
“We definitely don’t doubt you guys sent that in,” the Caliber employee said during the phone call, a recording of which was produced in litigation. But the employee said there was nothing she could do to stop the sale because it took five to seven days for an application to be “uploaded into” Caliber’s system.
Ms. Norman went to court and got a temporary restraining order against Caliber. A few weeks ago, a Caliber lawyer approached Ms. Norman about a potential settlement.
Formerly known as Vericrest Financial, Caliber has grown rapidly. Today it manages more than 327,465 mortgages with a combined value of just over $71 billion. Some of Caliber’s growth has come from Lone Star’s steering of standard mortgage origination business to the firm by requiring prospective buyers of the foreclosed homes it puts up for sale to be prequalified for a mortgage from Caliber.
As Caliber has grown, so have the customer complaints. More than 1,000 complaints have been lodged with the federal Consumer Financial Protection Bureau, with complaints running 54 percent higher than a year ago, the agency reports. Caliber said in an email that the modifications it had made had reduced the average borrower’s monthly payments more than 20 percent.
“A collaborative solution that turns a nonperforming loan into a performing loan is not only the best outcome for homeowners, but it is the most attractive economic outcome for the long-term oriented investors who own the mortgages,” Caliber said.
Help From the Court
In the case of the Hubbards, it took court action to get Lone Star and Caliber to work with them.
Lone Star bought the loan on their three-bedroom home in Sacramento from Beneficial Financial, a division of HSBC, in the summer of 2014 for an undisclosed sum.
Soon after buying the mortgage, which had an unpaid balance of $300,000, Caliber and Lone Star moved to foreclose. The sale of the home on Jan. 20 sent the couple running to court. They argued that the sale took place even as Caliber employees said they were trying to “find a way to escalate the submission.”
After the Hubbards sued, Caliber and the couple began negotiating. In May, they agreed to a short-term modification that would reduce the Hubbards’ monthly payments on the mortgage by several hundred dollars, to $1,953 for the next five years.
Caliber filed a formal notice with county officials on May 29 that rescinded the sale of the home to Lone Star.While the matter was resolved, it could have turned out differently if a buyer not affiliated with Lone Star had stepped in to buy the home.
“I don’t know why they went through with it because it just didn’t make any sense,” said Mr. Hubbard, 64, a civilian employee with the Army. “Maybe people who get into these situations are categorized as no good, and they simply don’t want to deal with them.”
In the end, you’ll never really know who is taking your house until it’s too late…