U.S. banks and investors scrap over housing aid plan

By Patrick Rucker and David Lawder

WASHINGTON (Reuters) - Investment funds are battling with large banks over the fine print of a U.S. housing rescue plan that will determine many of the final winners and losers in the recent housing bust.

At issue are bad bets on high-risk mortgages and the second-lien home equity loans that allowed many borrowers to buy a home they could not afford.

While investors gobbled up most mortgages and related securities created during the recent housing boom, big lenders like Bank of America (BAC.N), Citigroup (C.N) and JPMorgan Chase (JPM.N) are now servicing those loans and collecting the monthly payments for investors.

Officials want to see banks give troubled borrowers a break on those payments -- a move that could come at investors' expense.

Large insurers like Prudential Financial (PRU.N) and MetLife (MET.N) are joining asset managers like Fortress Investment Group (FIG.N) and BlackRock (BLK.N) to warn lawmakers that big banks could game the housing rescue at their expense, said sources familiar with the strategy.

A plan that would give mortgage servicers broad power to retool problem loans has raised the investment community's hackles. That "safe harbour" legislation, which would shield servicers from investor lawsuits over reduced income, has passed the House of Representatives but investors are sending lobbyists to slow it down in the Senate.

Some of those investors have joined together and hired Patton Boggs LLP, one of Washington's largest lobbying specialists, to argue that large banks have a conflict of interest as mortgage servicers and holders of second liens.

"There is no prohibition against a servicer acting in his self-interest in modifying these loans," said Micah Green, an attorney for the lobbying firm and a former co-chief executive of the Securities Industry and Financial Markets Association.