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HOPE refinancing can be lenient, but it's no free ride

After six months of haggling and political gamesmanship, a massive housing relief bill is heading for final approval.

Though it has hundreds of pages and dozens of separate initiatives – including revamping federal oversight of mortgage giants Fannie Mae and Freddie Mac – the centerpiece is a $300 billion “HOPE” program designed to provide refinancing lifelines to as many as 400,000 homeowners in deep trouble on their loans.

A quick overview:

The basic idea by Congress is to save people on the edge of the waterfall: families and individuals at immediate risk of losing their houses, but who could avoid foreclosure if their mortgage balances and interest rates were reduced.

The program will be entirely voluntary. Lenders and investors who own defaulting mortgages cannot be compelled to allow their borrowers to refinance. If they conclude that they're likely to lose less by allowing delinquent borrowers to go to foreclosure rather than refinance into HOPE loans, they'll be free to do so.

Lenders will have to agree to substantial write-downs of principal and penalty fees currently owed to them. The new maximum HOPE loan amount – insured by the Federal Housing Administration – will be 90 percent of the current market value of the property, not the value of the house when the lender originally made the loan.

Plus, FHA will impose an up-front insurance fee of 3 percent of the new loan amount, payable out of refinancing proceeds that would otherwise go to the original lender. Lenders will also have to clear away any potential issues with holders of second liens on properties – typically banks who've extended equity credit lines or second mortgages and have a claim on any refinancing proceeds – before participating in the plan.

There are important hurdles borrowers must get over to qualify as well. They must:

Demonstrate a “lack of capacity” to pay their current mortgage but have enough income to make regular monthly payments on a smaller, fixed-rate FHA loan. Their current income-to-mortgage debt ratio must be above 35 percent.

Certify to the government that they haven't “intentionally defaulted” on their current mortgage or on any other debt in order to refinance into a HOPE loan. They must also certify that they are telling the truth about all aspects of their financial status, and have never been convicted of a fraud. Anyone who lies on their application will be subject to severe penalties, including prison sentences up to five years. Agree to use the refinanced house as their principal residence.

An important and somewhat unusual feature of the program is the federal government's requirement that homeowner beneficiaries share any appreciation profits or equity gains from sales of their houses in subsequent years. The message here is that HOPE is no free ride. The refinancing process itself will essentially create new equity stakes for borrowers since the maximum loan amount will be 90 percent of the appraised market value of the property.

Borrowers who had been underwater and in serious default will suddenly find themselves with 10 percent equity stakes overnight. But they won't be able to tap that money quickly. If the home is sold within the first year after the refinancing, FHA must be repaid the equity created in full. In sales occurring during the next four years, homeowners can retain rising percentages of the equity, up to 50 percent. In addition, FHA will be entitled to 50 percent of any appreciation in market value of the house from the date of refinancing to a subsequent sale.

Under the legislation, the HOPE program could start as early as Oct. 1, but must terminate on Sept. 30, 2011.

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