In the Sub-Prime of Life

Williams, who is black, says that while there are blacks who have been outright ripped off by predatory lending, the subprime market has also given the black community a chance it didn't have before. In many cases, she says, the sob stories that drive media reporting are examples of basic whining, not victimization.

“Nobody made them go and buy that house,” she says, later adding that when the “underclass” blows a true opportunity, they make it a “‘poor me' situation...It's the American dream. They're giving you a chance. And time after time they blow it and then they go and blame the establishment. And it's not the establishment.”

Subprime loans took off in the 1990s and exploded after 2000, according to Prentiss Cox, associate professor of clinical law at the University of Minnesota. That year, subprime loans made up eight percent of all mortgage loans. By 2006, subprime loans accounted for 22 percent of a $6.5 trillion market.

Simply put, there are a lot of people who can benefit from originating a loan for an unsophisticated, first-time homebuyer with sketchy credit. It doesn't matter if they can identify a balloon payment, and it really doesn't matter if they can actually afford the house, because by the time the Sheriff is auctioning it off, most of the interested parties have been paid.

“The reason there's an explosion of foreclosures is there was an explosion of incredibly stupid and risky lending over the last ten years and particularly over the last three years,” Cox says.

Enter securitization. Unlike the bank-and-borrower mortgage of yesteryear, when a single lender oversaw the entire life of a loan, the advent of mortgage-backed securities allowed lending institutions to shift risk to investors. The mortgage company can sell the loan to a Wall Street firm like Lehman Brothers, which bundles thousands of loans into a pool with different tiers of credit risk, called tranches. The firm then sells bonds backed by the mortgages to investors, who make money off the loan payments. The loan pool is held by a special-purpose vehicle — a trust established to keep the pool at arm's length from the sellers of the bonds and the investors. The firm then hires a master servicer to collect the payments from conventional, healthy loans, while a special servicer deals with the subprime. If the borrower defaults, it's the servicer who has to handle the foreclosure. Often, as in Litton's case, the special servicer or an associated entity is also an investor.

With so many investors wanting a piece of the market, some loan originators have put quantity ahead of quality and churned out the kind of loans that Cox bemoans. Many subprime loans are “stated income,” in which the borrower plucks a number out of the air and everyone looks the other way. Tack that onto an adjustable mortgage rate, where the borrower is enticed by a low initial interest rate, and the loan practically sells itself.

This system got hundreds of thousands of people with questionable credit into houses — it just hasn't kept them there.

In April, when proponents and critics of the subprime loans associated with securitization testified before the Senate Banking Subcommittee, Lehman Brothers made sure it would be heard. In his statement, David Sherr, managing director of Lehman's securitized products, explained: “While this subcommittee is focused on very recent instances of foreclosure, please remember that for three decades, mortgage-backed securities have provided, and continue to provide, great benefits to the average American...It cannot be emphasized enough that no participant in the securitization process has any incentive to encourage the origination of loans that are expected to become delinquent.”

Additionally, he testified, “Servicers are ramping up their home retention teams both with respect to early intervention for at-risk borrowers and loan modification programs for borrowers that are in financial crisis.”

But sometimes foreclosure is unavoidable, and when it comes to that, the servicer has to play the heavy. The servicer is the only entity the borrower sees kicking them out of their house. And while servicers are not interested in owning real estate, they are not beholden to the borrower; they work for the sellers of the securities, and their flexibility in working out payment arrangements for troubled loans is spelled out in their contract with those sellers.

In many cases, the servicer is given a lot of flexibility to help borrowers out of a jam — that is certainly the case with the loan pool that Murray's loan fell into. For that pool, Litton is allowed to waive or defer missed payments and refinance loans once they go into default. It's because of this latitude that Litton CEO Larry Litton Jr. sees his company as the last line of defense for the borrower. And that's why, he says, Litton saved 70,000 people from foreclosure last year and is projected to save 95,000 this year. Unfortunately, he says, the satisfied majority is often overshadowed by the civil suits and online complaints of a bitter few who didn't like hearing that Litton wouldn't offer a free ride. However, it's difficult to tell if it's the borrowers who don't like what they hear, or if it's Litton.