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We really appreciate your efforts on this. It is my understanding that Representative Shannon is introducing a bill in the House that will do essentially the same sort of thing. We wish you well in your efforts.
Senator DANFORTH. Thank you very much, Mr. Willoughby.
May 27, 1983
Summary of Principal Points
Although the savings bank industry is experiencing a modest recovery
in the present economic climate, it remains very vulnerable to increases in
The root cause of past problems and current concerns is the
industry's extensive holdings of low-yielding, fixed-rate mortgages.
Many institutions have embarked on programs designed to encourage borrowers to
prepay these older mortgages by providing the borrower with a "discount" for
paying off the loan prior to its scheduled due date.
Existing tax policy, however, imposes a serious penalty on the
borrowers participating in such programs and thus acts as a major disincertive
to consumer acceptance. The IRS has issued rules describing the income tax consequences of a typical situation where a homeowner prepays the mortgage in
exchange for a discount, and has ruled that the discount must be treated as
taxable income (Revenue Ruling 82-202).
s. 1147 would address this situation by overturning the IRS ruling
that the discounted amount is to be treated as income to the taxpayer.
savings bank industry strongly supports S. 1147 and similar legislation to
remove the Internal Revenue Code barriers to the successful operation of
programs to encourage the prepayment of low-yielding mortgages.
We believe that the preferable approach is to provide complete
forgiveness of the discounted amount of the prepayment.
This approach would
be simple for the lender to explain, the borrower to understand and the IRS to Statement
administer, thereby contributing materially to the marketability of prepayment
May 27, 1983
Mr. Chairman, members of the Committee, my name is Keith Willoughby.
I am President of the Mutual Bank For Savings, Boston, Massachusetts, and am
appearing today on behalf of the National Association of Mutual Savings Banks
NAMSB is the trade association of the nation's savings bank industry.
Located primarily in the New England and Mid-Atlantic states, savings banks
are community-oriented financial institutions.
In the areas where they are
most heavily concentrated, savings banks are the largest holders of consumer
savings, as well as the dominant mortgage lenders among the various types of
Later this year, NAMSB will be merging with the National Savings and
Loan League which represents a large number of savings and loan associations
located primarily in the Southern and Western states, and I would like to
point out that this statement also represents the views of the National
League. The total assets of institutions to be represented by NAMSB and the
National League are in excess of $350 billion.
We appreciate this opportunity to testify on s. 1147, the Mortgage
Debt Forgiveness Tax Act of 1983, and related bills dealing with the discharge
of mortgage indebtedness. Although the thrift industry is experiencing a
modest recovery in the current, more favorable, economic climate, it remains
very vulnerable to increases in interest rates.
The problems experienced by
the industry in the high interest rate environment of the recent. past and the
cause of our continued concern center on our extensive holdings of
low-yielding mortgages. The savings bank asset structure, for example,
remains heavily concentrated in long-term, fixed-rate mortgage loans acquired
in earlier years. Three-fourths of total savings bank residential mortgages
bear rates below 10 percent, and more than one-half of our loans have rates
below 9 percent.
Savings banks need a lengthy period of relatively low and
stable interest rates to work off low-yielding mortgages and thereby generate
the earnings needed to compete in a deregulated environment.
To augment this effort, many institutions have embarked on programs
designed to encourage borrowers to prepay these older, low-yielding mortgages.
Under such programs, the lender agrees to accept an amount less than the total
due on the mortgage loan if the borrower agrees to prepay the loan in full, or
to substantially increase the monthly payments (and thereby pay the loan back
sooner). In short, the borrower is given a "discount" for paying off his loan
prior to its scheduled due date.
To date, however, such programs have met with only mixed success. In
addition to tax considerations which I'll address in a moment, the great
disparity between open market rates and the mortgage portfolio yields that
existed during the 1980-82 period tended to discourage both lenders and
borrowers. Lenders--already hard pressed--could ill afford to offer the large discounts necessary to attract borrowers into prepayment programs. At the
same time, borrowers were enjoying an unprecedented rate of return on their
liquid assets and thus were reluctant to give up these yields to "buy out" the
principal amount of their mortgages even at a healthy discount.
While it is true that the "gap" between market rates and mortgage
portfolio rates has narrowed, this should in no way lessen the important role
which prepayment programs can play in enhancing the competitive posture of the
thrift industry. To the contrary, the narrower "gap" may well make such
programs more marketable, and it should be kept in mind that the restructuring
needs of the thrift industry call for eliminating not just low-yielding
mortgages, but also those fixed-rate loans that may be in the middle range of
investment returns. Thus, the introduction of S. 1147 and these hearings are
These bills address a most critical component in making prepayment
programs feasible. It is obvious that in order for a program of this kind to
be a success, it must offer benefits to both parties. Existing tax law,
however, imposes a serious penalty on the borrower, and in turn, acts as a
major disincentive to consumer acceptance. Section 61(a)(12) of the Internal
Revenue Code states that the gross income of a taxpayer includes income from
the discharge of indebtedness.
Section 108 of the IRC provides certain
exceptions to this rule, but these do not cover the types of transactions we
are discussing this morning.
In fact, the IRS has issued rules describing the
income tax consequences of a typical situation where a homeowner prepays the
mortgage in exchange for a discount, and has ruled that the discount must be
treated as taxable income (Revenue Ruling 82-202).
s. 1147 would address this situation by providing an additional
exception to the general rule of IRS Section 61(a)(12) and, in effect,
overturn the IRS ruling. The savings bank industry strongly supports s. 1147
and similar legislation to remove the Internal Revenue Code barriers to the
successful operation of programs to encourage the prepayment of low-yielding
Such a step not only represents a more logical tax policy, but
with banking deregulation proceeding apace, government policy should clearly
include maximum iacentives for asset restructuring by the thrift industry.