What is a Loan Modification and Who Qualifies for One?

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What is a loan modification?

Whether you call it a loan modification, mortgage modification, restructuring, or workout plan, it’s when a borrower — who is facing great financial hardship and is having difficulty making their mortgage payments — works with their lender to change the terms of their mortgage loan. The workout plan could result in temporary or permanent changes to the mortgage rate, term and monthly payment of the loan. The plan’s goal is to help the borrower reduce their monthly mortgage payments to 31% of their gross income. Under Obama’s plan, loan modifications will be standardized, with uniform loan modification guidelines used by Fannie and Freddie Mac, and then they will be implemented throughout the entire mortgage industry.

Who is eligible for a loan modification?

According to the Department of Treasury:  “Anyone with high combined mortgage debt compared to income or who is “underwater” (with a combined mortgage balance higher than the current market value of his house) may be eligible for a loan modification. This initiative will also include borrowers who show other indications of being at risk of default. Eligibility for the program will sunset at the end of three years.”

As reported in the LA Times, “This program applies to borrowers who are unable to make — or are struggling to make — mortgage payments that exceed 38% of their monthly income. If the lender agrees to lower the interest rate or reduce the principal amount to bring the payment to 38% of the borrower’s income, the government will pay half of the additional cost to the lender to reduce the payment to 31% of the borrower’s income.”

Who’s not eligible for a loan modification? Speculators — or  those who bought homes for investment purposes. All homes must be owner/occupied. Also, mortgages with amounts above the conforming loan limits would not be eligible.

How does someone get a loan modification?

The details of the plan will not be released until March 4, but, in the meantime, call  your lender — the company where you got your loan — and ask for the loss mitigation department. Honestly state your situation. They will assess it via phone calls and paperwork and determine whether you qualify for a modification and might tell you to wait until March 4, when details are revealed. Keep copious, detailed notes on who you speak with and details of the conversations so you have documentation down the road if you are faced with foreclosure.

Also depending on the direness of your financial difficulties, it’s always good to hire legal counsel. Get a referral from  your local state bar association. Or, call a local HUD-Approved Housing Counseling Agency for guidance.

One word of warning: This new bill has spawned a whole new wave of loan modification salespeople who might be perfectly fine and those who are not. Be careful. 

Why would lenders modify your loan?

Incentives.  According to USA Today, the plan also includes incentives to encourage mortgage servicers — who collect fees for refinanced and delinquent mortgages — to work with qualified borrowers to modify loans. Servicers will get $1,000 for each eligible modification they make, and another $1,000 a year for three years as long as the homeowner remains current on payments. Homeowners who stay in their properties and are current will get a monthly balance reduction to help reduce their loan principal. That will amount to up to $1,000 a year for five years.

Also, banks would rather have you stay in your home — even if they’re not making the full amount they signed up for — rather than have the house go to foreclosure. They stand to lose more if you foreclosure than if your loan is modified.
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