WASHINGTON Nov 22 (Reuters) - More than 20 Democrats in the U.S. House of Representatives on Tuesday called on the regulator of Fannie Mae (FNMA.OB) and Freddie Mac (FMCC.OB) to help underwater borrowers by allowing their loan principal to be reduced.
The regulator has faced increasing pressure to permit the write-down of principal by the two government-controlled mortgage finance providers as a way to help some of the millions of Americans who owe more than their homes are worth. The Federal Housing Finance Agency, however, has stood fast out of concern such a change would undercut finances of Fannie and Freddie.
"We strongly urge that you reconsider your refusal to allow principal reductions to achieve better-performing (loan) modifications and avoid the extreme losses of unnecessary foreclosures," the 21 lawmakers wrote in a letter to the FHFA.
Fannie Mae and Freddie Mac provide guarantees to investors against the possible default of loans, which encourages banks to make new loans. The two companies are the biggest sources of U.S. mortgage financing, and regulations on their activities have a widespread effect on the mortgage market.
Fannie Mae and Freddie Mac, which were taken over by the government in 2008, have together received more than $145 billion in taxpayer-funded support.
Given an expanding gap between U.S. home values and mortgage balances, many Democrats and housing industry representatives have argued for comprehensive anti-foreclosure efforts that include principal write-downs.
Mortgage modifications usually involve a reduction in the interest rate but not the principal balance of the loan.
In the letter, Democrats estimated principal reductions for troubled borrowers would lead to lower defaults and reduce the risk of default for about 20 percent of Fannie and Freddie's portfolio.
Efforts to reduce principal debt are rare, often voluntary. Fannie and Freddie are also concerned that writing down loan balances would create a moral hazard -- the concept that rescue efforts breed further behavior that exacerbates the existing problem -- prompting other borrowers to stop making timely loan payments.
"The performance of the enterprises' mortgage modifications leaves much to be desired for homeowners, for the housing market, and for taxpayers," Representative Brad Miller, a Democrat and a member of the House Financial Services Committee, said in a statement. Miller, who has proposed legislation to reform housing finance, led the Democrats in writing the letter.
Some economists see principal reductions as central to cleaning up the housing mess and preventing foreclosures. Settlement talks between the government and some of the biggest mortgage servicers to clean up alleged foreclosure abuses include widespread principle reductions in their agreement. (Reporting by Margaret Chadbourn; Editing by Leslie Adler)