Congress is poised to pass legislation allowing bankruptcy judges to modify home mortgages to stem the high flow of mortgage defaults and resulting foreclosures. The overall initiative is an excellent initiative because this will help stabilize the value of mortgage-backed securities on the nations banks books helping the banks to sell these assets increasing their cash capital and aiding them in getting back to normal lending conditions and it will help stop the flood of foreclosed properties for sale in the housing market driving down home prices and blocking new home construction demand. However, the specific bill in Congress being presented to do the job has significant shortcomings and needs significant modification or the America people will be getting a lousy piece of legislation here. This current bill being offered is Senate bill S 61 (or the House version HR 200) with the additions, which the bills sponsors made to try to accommodate the banking industry, that the loan modification authorized by the bill will only apply to home mortgages made before the enactment of the legislation, that in order to qualify the debtor before filing the bankruptcy petition has had to have been in contact with the lender about the debtors inability to pay the loan and lenders rights will only be affected by major violations of the Truth In Lending Act not any legal violation of the act. The problems with the actual congressional bill entail the following. The text of the bill calls for restricting lenders rights in bankruptcy as to inappropriate conduct as dictated by State consumer protection law (Section 3 of bill S 61). Even if this restriction is limited to major violations of State consumer protection law it should be scrapped. Prudence calls for the conclusion if it hasnt already happened that states are going to go overboard in penalizing lenders for wrongdoing they engaged in during the lending process because, in part, overall the public is mad at mortgage lenders for their large part in causing the nations severe recession. Depriving lenders their bankruptcy rights under these conditions is neither fair nor is it good for the banking industry, credit markets, the investment industry and thus the overall economy. Again, Congress should get rid of this state consumer protection provision. Another problem with the bill has to do with the fact that there is no mechanism in the bill to weed out burrowers who realistically wont be able to afford the mortgage loan even with the bankruptcy courts modification, too often this specific legislation will result in lenders being strung along for years not getting their rightful payments from the debtor burrower because the mortgage payment on the modified mortgage is still unaffordable. The bill needs such a mechanism. The way the bankruptcy court will handle these mortgage modification is that they will reduce the principal on the loans to the market value of the home bankruptcy courts call this a cramdown which applies only to secured loans (which is not unreasonable because if the lender foreclosed on the home that is all the lender would get at best) and the bankruptcy court will modify the interest rate on the loan to a fixed rate in the amount of the prevailing fixed rate mortgage rate (S 61 dictates this). If the bankruptcy courts just implement these loan modification requirements for all eligible home mortgages, the nation will still see high rates of defaults among these burrowers receiving these reworked loans which will just prolong this harm on the banking, credit and housing markets. Remember, the current track record in the U.S. mortgage industry is that of home mortgage loans that are modified to try to accommodate the burrower at least half of those loans are in default within a year. The smart analysis seems to be that if the nation wants to see low default rates on modified mortgages than the monthly mortgage payments should be no higher than 31 % of the debtors monthly income, seeking to rework as many mortgage loans as possible the nation could responsibly raise that figure 5% points to 36%. The lesson here is that Congress should put a test in this legislation for debtors to pass to be able to qualify to have their home mortgages modified in bankruptcy. The test should be that if the principal of the loan is made to equal the fair market value of the home and the interest rate is made the prevailing fixed rate market interest rate and the term of the loan is forty years the resulting monthly mortgage payment must not exceed 36% of the debtors current income or the debtor does not qualify for the bankruptcy loan re-modification program. This legislation should also be modified in the following way. This legislation sets up a goofy way to modify the home mortgage loan in terms of the modification of the length of the loan (See S 61 Section 4(3)(C)(i)). What should be driving the loan modification with respect to changing the term length of the loan is to keep the monthly mortgage payments no higher than 31 % of the debtors monthly income so that it is affordable and the nation wont see high re-default rates. The bill should prescribe that the bankruptcy judge in his or her calculation of the modified loans term start with the remaining term on the original loan and using the new principal and new interest rate calculate the monthly mortgage payment and if that monthly mortgage payment is greater than 31 % of the debtors monthly income then recalculate using this 31 % figure as the monthly mortgage payment and the new principal figure as the principal and determine what this calculation produces as the term of the loan and use this term as the new term of the loan unless it exceeds 40 years which in that case the term 40 years should be used. This bill should scrap the provision requiring the Bankruptcy judge to add a reasonable risk premium to the modified interest rate above the prevailing current interest rate (See S 61 Section 4(3)(C)(ii)). This premium idea is bad public policy it will result in an added financial burden on the burrower, the burrower will end up paying more for the loan. It essentially amounts to Americans that are less economically well off paying more for credit than Americans that are better economically well off on what should be considered an ordinary and necessary credit transaction. It is essentially creating a second class citizen, it is essentially creating a lower standard of living for the burrower that has to pay the interest rate premium. This is not something the Government should be pushing and mandating, the government should be in the business of protecting peoples rights not undermining them. This specific bill should authorize the bankruptcy judge to modify late fees, late penalties and any other penalties prescribed by the loan mortgage agreement. To not do so undermines the whole idea behind this bankruptcy modification initiative which is to keep the burrower paying the rightful monies due the lender on the loan and stay out of foreclosure. It is counterproductive to allow the loan to have harsh or onerous penalties on the burrower for falling behind on the burrowers mortgage loan which would likely cause a complete loan default. The bankruptcy judge should be empowered to modify late fees and any other penalty provisions in the loan mortgage agreement to make them reasonable, fair and not excessive.