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Unsafe as houses

Proposed US legislation shows that patience has snapped with the markets.

Lenders and bondholders caught out by the US mortgage crisis must now brace themselves for the coming legislative and regulatory response. Proposals tabled last month, notably by Senator Dick Durbin (Democrat, Illinois), focus on a change to the Chapter 13 bankruptcy code that would prevent mortgage loan holders from seizing the primary residence of defaulting borrowers. Instead, a bankruptcy judge might alter the terms of a mortgage loan, based on a reduced valuation of the underlying home, and allow borrowers to repay the new debt over a longer term.

Mortgage loans would thus be crammed down, like unsecured loans to corporations seeking bankruptcy protection under Chapter 11, and borrowers going into foreclosure would be able to continue living in and retain ownership of their homes for as long as they continued to service the reduced debt.

This is a substantial and significant change, eliminating specific protections against modification of loan terms for mortgage providers. It clearly favours borrowers over lenders.

The initial response of the Bush administration, outlined at the end of August, was limited to helping borrowers with decent credit histories who had been sold sub-prime mortgages at cheap teaser rates to switch to loans backed by the Federal Housing Administration before higher re-set rates plunged them into foreclosure.

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