Mortgage rescue advances in Senate

Plan would let government back loans but not put taxpayers at risk. Banking Committee led by Shelby and Dodd OKs bill. Next stop: Senate floor.

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By Jeanne Sahadi, CNNMoney.com senior writer

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NEW YORK (CNNMoney.com) -- Congress moved a big step closer Tuesday to expanding government efforts to help at-risk homeowners.

The Senate Banking Committee voted 19-2 to pass a bill to limit foreclosures, create affordable housing and revamp oversight of two of the mortgage market's biggest players: Fannie Mae and Freddie Mac.

"Many thought we couldn't do this - that it would be a partisan exercise. I hope we've avoided that; I believe we have," said Banking Committee Chairman Christopher Dodd, D-Conn.

The pressure has been building in Washington to respond to the huge increases in foreclosure filings. Dodd said he hopes to get the bill approved by the full Senate soon and to President Bush for enactment by early July.

The legislation is the result of weeks of heated negotiations between Dodd and the committee's top Republican, Ranking Member Richard Shelby, R-Ala.

A key measure in the bill would allow the Federal Housing Administration to insure $300 billion in new loans for at-risk borrowers if lenders agree to write down loan balances below the appraised value of borrowers' homes.

"The passage of this bipartisan legislation marks tremendous progress in my ongoing effort to help stabilize our markets and provide relief to hundreds of thousands of Americans," said Dodd.

A sticking point had been Shelby's push to shield taxpayers if borrowers default on their payments after getting government-backed loans. He wanted the FHA plan funded by redirecting money that Dodd's original bill earmarked for a new affordable housing trust fund. The funds would be paid by Fannie Mae (FNM, Fortune 500) and Freddie Mac (FRE, Fortune 500).

"My primary concern in negotiations has been to protect the taxpayer," Shelby said.

The compromise bill will still create a fund to spur affordable housing but would use the funding for that program in the first year to backstop the FHA mortgage program.

How the FHA plan would work

Dodd's FHA plan is similar in structure to one sponsored by Rep. Barney Frank, D-Mass., and passed by the House on May 8 in a 266-154 vote. One key difference, Dodd's FHA plan would be in effect through 2011 and Frank's would go through 2012. Dodd's plan would also not go into effect until Oct. 1.

To qualify for an FHA-backed loan in either proposed program, lenders would have to be willing to write a new, 30-year fixed rate loan for borrowers for an amount no greater than 90% of the appraised value of the home. The other 10% would be equity for the borrower.

So, in cases where borrowers owe more on their homes than they're worth, lenders would forfeit any amount owed above appraised value plus 10% equity. They also would have to pay upfront costs to the government to participate.

Borrowers, for their part, must pay an annual premium to the FHA for the insurance backing their new loans. And they must share their equity with the government when they sell or refinance their homes.

They also must meet a number of qualifying criteria. They must be a full-time resident of their principal home. They must have a mortgage debt-to-income ratio of more than 31% under Dodd's bill (or 35% under Frank's version). And if they have a second mortgage, the second mortgage holder must agree to extinguish that debt before the borrower can enter the FHA program.

The new FHA program could benefit an estimated 500,000 people, according to Dodd.

Its cost: up to an estimated $500 million paid for by Fannie and Freddie. If it turns out the costs fall below that level - that is, should few if any borrowers default on their new FHA loans - the funds from Fannie and Freddie would be redirected back to the affordable housing trust fund.

Regulating the big boys

The legislation also provides for stricter oversight of Fannie and Freddie. The two government-sponsored enterprises guarantee the purchase and sale of home mortgages in the secondary market.

Shelby had been campaigning for more stringent safeguards than Dodd's original bill provided. Both Fannie and Freddie have experienced accounting scandals in the past and both saw steep first-quarter losses.

Dodd said he is hopeful he can get the votes he needs to pass the bill through the full Senate in time to go to President Bush before the July 4 congressional recess.

It remains an open question whether Bush would support the bill. He has threatened to veto Frank's bill.

White House spokesman Dana Perino said Tuesday it is premature to say whether the president would sign the Senate version. "But we're hopeful that we'll be able to get to that point."

Frank said in a statement "it [is] highly likely we will be able to compromise on a significant housing package."

- With additional reporting from CNN Producer Lesa Jansen To top of page

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