With the rising costs of homeownership and the other effects of inflation, many homeowners are feeling less economically secure. These costs are becoming an increasing factor in causing homeowners to struggle with their mortgage payments and for some to fall behind. When a homeowner falls behind on their mortgage, they have few options to avoid foreclosure. First, the homeowner can, if they have the funds available, reinstate their loan by paying all of the missed mortgage payments and any outstanding escrow fees that are due in one lump sum. Second, if feasible, a homeowner can file for Chapter 13 bankruptcy and repay their past due mortgage payments and other debts through a 60-month court approved payment plan. Finally, the homeowner can submit a loss mitigation application and request a loan modification. In this article, we will take a closer look at the loan modification process and some of the issues with it. As we will explain, Chapter 13 bankruptcy is often a better option for distressed homeowners seeking to retain their home and avoid foreclosure.

How to Qualify for a Loan Modification

In order to qualify for a loan modification, a homeowner must show that there has been an income loss or reduction in their household that caused them to miss their mortgage payment(s). However, they must also be able to show that they have sufficient income to afford a modified mortgage payment. Depending upon the investor or servicer guidelines, there may be additional requirements to be approved for a loan modification as well.

Loan Modification Options

If a request for a loan modification is approved, the payments missed by the homeowner are capitalized into a new modified loan. For a conventional mortgage loan, a loan modification may include any of the following:

• A Freddie Mac or Fannie Mae Flex modification
• Extension of the loan term
• Reduction of monthly payment amounts
• A partial forbearance on principal
• Change from an adjustable to a fixed rate mortgage

If a homeowner has an FHA loan, there are additional options that may be available, including the following:

• Adding missed payments to the original principal and extending the term to 30 years at a fixed interest rate.
• Addition of a partial claim – an interest-free subordinate lien on the property, to be paid at the end of the loan term or when sold or refinanced.

The Loan Modification Process

When applying for a loan modification, a borrower must typically submit a loss mitigation application for it to be considered. This involves organizing a package of financial documentation that provides the underwriters with a snapshot of the borrower’s financial situation. Please note that Fannie Mae and Freddie Mac require their servicers to review all borrowers for a Flex Modification when the borrower is between 90 and 105 days behind in their payments. Eligible borrowers should then be sent a trial plan offer. Some servicers may even offer this type of modification even without application.

Once an application has been submitted to a mortgage servicer, the homeowner should respond promptly to any requests from the servicer for additional documentation or information. Failure to timely respond to a “missing documents” letter can delay the application process or worse, lead to a denial. Typically, if the borrower’s application is approved by the underwriter, a trial plan will be issued requiring that payments be made prior to final approval. These trial periods are usually three months long but can extend longer.

The Home Affordable Modification Program (HAMP) was created under the Troubled Asset Relief Program (TARP) in response to the subprime mortgage crisis of 2008. HAMP was a loan modification program introduced in 2009 to help struggling homeowners avoid foreclosure. The primary goal of HAMP was to reduce the borrower’s monthly payment by adjusting the interest rate and loan terms to make the mortgage more affordable. From 2009 to 2016, many homeowners were able to obtain loan modifications under HAMP. The interest rates for loans modified under HAMP were between 2-5% with a low rate locked in for the first 5 years. The HAMP program officially ended at the end of 2016, but market interest rates were still low at the time, so many homeowners still received modifications with these low rates. Additionally, some loan servicers simply continued using the HAMP guidelines to qualify borrowers and determine interest rates. However, as a result of post-COVID inflationary pressure and changes in the housing market, this has changed with the significant increases in mortgage interest rates over the past few years.

Now for the bad news: Newly modified loans are now commonly receiving market interest rates, which means that they can be in the 6 to 8% range. For many borrowers, this is an incredibly bad deal, as it will significantly increase the cost of their mortgage over the life of their loan. In addition, with the higher rates and the arrears added to the loan balance, borrowers are often not obtaining the affordable monthly payment they may expect when applying, as many borrowers already have a significantly lower interest rate on their existing mortgage. This may be from purchasing the home with a low rate or previously obtaining a modification with favorable terms.

Receiving a modification with a higher interest rate will allow a borrower to avoid foreclosure and keep their home, but at a large cost over the life of the loan. Furthermore, many homeowners have an increased risk of denial since their low rates may not be reduced further under some modification guidelines. However, there is a way for a borrower to keep their current lower interest rate and avoid foreclosure, they can file for Chapter 13 bankruptcy.

Keep Your Current Interest Rate with Chapter 13 Bankruptcy

Chapter 13 bankruptcy is often the best way to pay back missed mortgage payments and keep an existing low interest rate. When a Chapter 13 bankruptcy petition is filed, the debtor receives an automatic stay that prohibits the continuation of all debt collection efforts, including foreclosure lawsuits and even foreclosure auctions. The debtor then pays back their mortgage arrears and other debt over a 60-month payment plan, typically interest-free. Simultaneously, the debtor will also commence making their regular monthly mortgage payments, but at their existing rate. At the end of the plan, the debtor receives a discharge, and their mortgage is reinstated as all pre-petition arrears have been alleviated. Most importantly, they will then be current on their mortgage with their favorable interest rate.

Contact the Law Offices of David I. Pankin, P.C.

At the Law Offices of David I. Pankin, P.C., we have almost 30 years of experience helping homeowners to avoid foreclosure and save their homes. If you are behind on your mortgage, or are about to fall behind, contact our office today for a free consultation. We can be reached by phone at (888) 529-9600 or submit a webform at debtlawyer.com.