Second liens and “piggyback” loans have been big impediments to successful mortgage modifications for thousands of financially-stressed home owners. Now the Obama administration has a new program to deal with the problem.

Under a plan outlined last week, the Treasury department will soon begin offering cash incentives and subsidies to lenders who lower troubled home owners' monthly payments on second mortgages and credit lines, or simply write them off their books.

The second lien problem is huge because piggyback mortgage combinations were wildly popular in many markets during the boom years. Piggyback plans allowed buyers who couldn't afford downpayments and closing costs to buy houses by using a second lien to fill the gap.

But many of those same buyers now are underwater. Their houses have declined in value, they can't afford the monthly payments on either of their loans. Many are now looking to the federal government to help persuade their lenders to sharply lower their payment terms or forgive a portion of what they owe.

The Obama second lien modification program is itself a modification of the $50 billion program outlined in February to alter the payment terms of an estimated three to four million distressed mortgages heading for foreclosure.

The original program didn't attempt to deal with second liens, but instead provided incentives and federal funds to lenders to lower borrowers' monthly payments to 31 percent of household income. Home owners with large, high-cost second mortgages on the property still had to make full payments on them - or risk foreclosure.

Now the Treasury will enter into agreements with second lien holders to reduce interest rates to just one percent on fully-amortizing seconds and to two percent for interest-only seconds, for the next five years.

The Treasury will pay cooperating lenders $500 for each second lien they modify, plus $250 a year for each year the home owners stay current on payments. Alternatively, lenders may be offered a lump-sum cash payment from the government to cancel the second-lien debt altogether.

Under the plan, whenever first mortgage holders cut a borrower's principal balances by a percentage of the loan amount, second lien holders will be required to reduce balances owed by a similar percentage.

Home owners who are interested in participating in the new program need to talk to their second loan servicer as soon as possible, though Treasury officials said the first modifications may not start until the end of the month or June.

Published: May 4, 2009

Use of this article without permission is a violation of federal copyright laws.

Kenneth R. Harney writes an award-winning, nationally-syndicated column on housing and real estate from Washington, D.C. He is also managing director of the National Real Estate Development Center, a professional education company. He is a past member of the Federal Reserve Board's Consumer Advisory Council, a committee that by federal statute reviews all Fed actions on home mortgage, consmer credit and banking industry regulation. He served as a member of the U.S. Department of Housing and Urban Development's Working Group on Computerized Loan Origination (CLO) systems, and is a member of the Editorial Board of the Fannie Mae Foundation's journal, Housing Policy Debate. He is the author of two books on mortgage finance and real estate.