Reducing the impact of real estate foreclosures with Amortizing Participation Mortgages

• Published in: Journal of banking & finance Vol. 71; pp. 62 - 74
• Main Authors: Wojakowski, Rafal M., Ebrahim, M. Shahid, Shackleton, Mark B.
• Format: Journal Article
• Language: English
• Published: Amsterdam Elsevier B.V 01-10-2016; Elsevier Sequoia S.A
• Subjects: Default; Dodd–Frank Act; Foreclosure; Home loan modification; Home loans; Indexation; Loan workouts; Mortgages; Partial amortization; Prepayment; Shared Income Mortgage; Studies; United States; Wall Street Reform & Consumer Protection Act 2010-US; United States > US; Dodd–Frank Act; Partial amortization; R31; Indexation; R38; G21; Home loan modification; Prepayment; Default; Shared Income Mortgage
• ISSN: 0378-4266; 1872-6372
• DOI: 10.1016/j.jbankfin.2016.05.005

We employ Amortizing Participation Mortgage (APM) to offer a novel ex post renegotiation method of a foreclosure. APM belongs to the family of home loan credit facilities advocated in the Dodd–Frank Wall Street Reform and Consumer Protection Act 2010. In our framework, APMs reduce the endemic agency costs of debt by improving affordability. These benefits increase the demand for real estate in bust times and reduce fragility of the financial system thereby preventing foreclosures. We evaluate APMs in a stochastic control framework and provide solutions for an optimal amortization schedule. We generalize our approach to partially amortizing and commercial mortgages which encompass balloon payments. Finally, we provide concrete numerical examples of home loan modifications. We also offer detailed sensitivity analysis to market parameters such as house price volatility and interest rates.