How Big Banks Are Gaming The Foreclosure Fraud Settlement

As part of their foreclosure fraud settlement with the federal government and state attorneys general, five of Wall Street’s biggest banks were required to provide billions of dollars in relief to homeowners. After months of lagging, the banks have finally started: according to a report from the settlement watchdog, the banks have provided $26 billion in relief, including $6.3 billion in mortgage writedowns that directly reduce the amount borrowers owe on their loans.

But much of the money devoted toward relief thus far has not been put toward writedowns. Instead, it has been used to finance short sales that likely would have occurred even without the settlement, because such sales are more beneficial to banks than writedowns and less expensive than foreclosures, as the Wall Street Journal reports:

So far, short sales account for the vast majority of relief tabbed under the settlement, with banks forgiving around $13.1 billion on more than 113,000 properties. Many of those short sales might have happened without the settlement because banks generally lose less money on those than they do on foreclosures.

Counting short sales as relief isn’t prohibited, since under the settlement banks are required to spend $10 billion on principal reduction and $10 billion on other forms of relief. That they are counting short sales they likely would have conducted anyway instead of direct relief efforts, though, is yet another troubling sign for the mortgage settlement, which was hamstrung early by state governments that used mortgage relief funds to close gaping budget holes instead of to help distressed homeowners. As of October, less than half of the funds sent to states had been spent on relief.


Further, short sales, while less expensive for the banks, aren’t the best way to provide relief. According to recent studies, principal reduction, which provides direct relief to homeowners who are underwater thanks to plunging prices from the housing crisis, is the most effective means of preventing future foreclosures.