U.S. taxpayers bail out California homeowners, as banks fail to pay their share

Contrary to what voters were led to believe, California took the unprecedented step this month to give banks and struggling homeowners up to $100,000 in taxpayer funds to reduce underwater mortgages.

Originally, banks and lenders were supposed to pay 50 percent of the cost of reducing the principal for those whose homes are worth less than their mortgage. But when the banks refused, California took the controversial step of paying the entire amount, up to $100,000.

"We thought, you know, 50-50 was much more attractive and we'd have much more traction with lenders, and it just didn't turn out to work as well as we would have liked," said Diane Richardson, legislative director of the California Housing Finance Agency.

The program, known as the Hardest Hit Housing Market fund, is part of a $7.6 billion federal effort to help underwater homeowners in 18 states. California received $2 billion. But when banks and lenders who service loans refused to write down even a small portion of the negative equity loans, California decided to use the taxpayer money to pay 100 percent of the mortgage reduction.

Richard Green, a professor of real estate at the University of Southern California, said it's not what taxpayers signed up for.

"I think taxpayers would be furious at the idea that everybody gets completely off the hook for this," Green said. "There are people that say, look, I've been a renter all these years, I've been paying my mortgage all these years, why am I bailing out these people who made a bad decision? I think the politics of it are very combustible."

Back in 2009, President Obama and other lawmakers discussed the "moral hazard" such federal programs represented. If you help some homeowners, will others abuse the system because they know others will pay up the tab? How many borrowers would purposely fall behind on their payments in the hopes of getting an principal reduction is anyone's guess, but mortgage giants Fannie Mae and Freddie Mac recently rejected the idea of cutting loan balances, saying savings did not justify the cost.

"A solution that doesn't take a little bit of flesh from both borrowers and lenders I think is problematic," Green said. "I do think there needs to be a less sum ... of taxpayer money in reducing these balances. I just think borrowers should have to pay for something and lenders should have to pay something for this."

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