- January 28, 2021
If you’re having a hard time making mortgage payments, you may want to know, how do you qualify for a loan modification? A mortgage modification changes your repayment plan and lowers your monthly payments. You might be eligible if you show your lender your financial situation has changed and you can’t make payments.
Is loan modification a good idea? Attorney and CPA Jerry E. Smith has found that loan modifications usually don’t prevent people from seeking bankruptcy protection. Getting one might just complicate and worsen your situation.
What Is a Mortgage Loan Modification and How Does It Work?
A mortgage loan modification is a mutually agreed upon, substantial change to your loan terms because you’re going to miss an upcoming payment, or you missed past payments. Each Lender approaches this differently, but the goal should be to prevent foreclosure. Ideally, you stay in your home and the lender won’t spend money on seizing and reselling your home.
How realistic this goal is depends on your situation. You may want this to work, but your desire to stay in your home may blind you to tough realities you face. Your lender may go through the motions without much faith that foreclosure will be avoided. Between fees and penalties for late payments, your lender may see mortgage loan modification as a way of getting more money from you before it forecloses.
How Do You Qualify for a Loan Modification?
Qualifying for a loan modification typically means showing you’re going through a significant financial hardship. Some lenders don’t usually allow loan modifications, so it may not be an option. There are COVID-19-related mortgage modification programs, but you may not qualify, and they may not be a good idea for you.
What is loan modification and how it works depends on the details. Your monthly payments will go down after a mortgage modification, however, you’ll probably pay more over the lifetime of the loan. Lower payments could be the result of:
- Lower interest rate: Depending on the rate decrease, your payments could go down significantly. But if your rate is already low, it may not make much of a difference. This lower rate won’t last forever. Your interest rate and monthly payments will go up over time.
- Longer repayment period: Stretching payments over a greater period of time should cut your monthly payments. It may also significantly increase the interest you pay overtime. Ideally, your situation will improve, you’ll be able to afford a higher payment, and you will refinance your mortgage with a better rate.
- Going from an adjustable rate to a fixed interest rate: A fixed-rate loan will be more predictable and should be more manageable.
- Principal reduction: In rare cases, the lender could cut the principal of your loan, giving you more equity. Note, however, this change may be considered taxable income.
- Refinancing: This isn’t a modification because there’s a new loan agreement, not a change to an existing one. If you’re having financial trouble, you probably won’t qualify for refinancing. If you have other, significant assets that could be collateral, the lender may offer this option.
Eligibility for a mortgage loan modification varies from lender to lender, but usually, you must:
- Be at least one regular payment behind or show that you’ll miss one very soon.
- Show a significant financial hardship, such as a severe illness or disability, death of someone whose income was used to make payments, a natural disaster, a sudden increase in your housing costs (such as a sharp property tax rise).
Loan Modification in the COVID-19 Pandemic
The economic downturn caused by the COVID-19 pandemic has put millions out of work. More than a third of those responding to a U.S. Census Bureau survey in November and December 2020 stated they believed they face eviction from their apartment or foreclosure on their home in the next two months, reports Newsweek. If a federal agency or program backs your mortgage, a government mortgage loan modification plan may be an option:
- Fannie Mae and Freddie Mac: Their Flex Modification program allows mortgage term changes in cases of financial hardship. Mortgages need to be at least a year old, and applicants must be delinquent on payments or facing foreclosure.
- Federal Housing Administration (FHA): First-time homebuyers with FHA-backed mortgages (or FHA loans) may have many relief programs available. They could be in the form of a forbearance (a temporary stop to payments or fewer payments for a given number of months) or mortgage modification. You may qualify for partial claim loans from the Department of Housing and Urban Development, which may be used for forbearance repayment. They won’t be due until the original FHA loan is fully paid or the property is sold.
- Department of Veterans Affairs (VA): Active and retired military service members and their surviving spouses with VA-backed mortgages can seek loan modification programs and other efforts to try to prevent foreclosure.
- Coronavirus Aid, Relief and Economic Security (CARES) Act: This law allows many options for borrowers with federally backed mortgages. Loan forbearance may be available for up to 12 months, followed by a mortgage modification.
Is Loan Modification a Good Idea?
It might be, but you need to seriously consider alternatives, including bankruptcy. Among your options are:
- Repayment plans: If you’ve missed some payments but can resume making payments, this can temporarily increase your monthly payments until you’ve paid what you missed (plus interest); then the payments go back down to normal.
- Mortgage forbearance: This would suspend or cut your payments for up to 12 months. You would start making regular payments plus repay what you missed. These programs are for those with temporary financial problems.
- Bankruptcy: You should also seriously consider filing for bankruptcy protection under Chapter 13 to re-organize your finances. Your mortgage company can’t raise your interest rate or change the loan terms to retaliate against you for your filing.
Why Bankruptcy May Be a Better Option than Loan Modification
You may be able to file bankruptcy and keep your home.
A successful bankruptcy will discharge your personal liability for the loan, but the lender’s security interest in your home remains in place. Your lender may foreclose on your home if you don’t make payments. If you’re not current with mortgage payments and want to avoid foreclosure, you’ll need to catch up with missed payments to keep your home. There’s no Chapter 7 process to pay your back payments, so if you owe past payments Chapter 13 may be a better option.
Benefit of a Chapter 13 Repayment Plan Instead of a Loan Modification
A Chapter 13 bankruptcy filing has no impact on your mortgage. You must continue paying it during and after the bankruptcy. If you don’t, you risk foreclosure. With Chapter 13, you could pay back missed payments, plus what you normally owe, through a three to five-year repayment plan. If you have the ability to make your regular mortgage payment and catch up your mortgage arrears within that three-to-five-year plan, a Chapter 13 should work for you to save your home.
You might be able to deal with second or third mortgages through “lien stripping.” If you lack the equity to secure these mortgages, the court can “strip” the liens securing them and reclassify this debt as unsecured. Their payments are rolled into your repayment plan. Most people who get Chapter 13 protection pay only part of their unsecured debt.
With Chapter 13 bankruptcy there is also an option for you to modify your mortgage and reduce the principal you owe to your home’s actual value. This is known as a “cram down.” There are many limitations to this option. Most important, it doesn’t apply to mortgages secured only by your residence. It’s available if your mortgage was to pay for:
- A multi-unit building
- Buildings or land that are not part of your residence
- In some cases, a mobile home.
You would also have to pay off this newly modified mortgage during your repayment period. This would be very difficult or impossible for most people. Given all the possibilities available to you under a Chapter 13 filing, it’s best to speak to an attorney for guidance about your particular situation.
Bankruptcy May Be a Better Option Than a Mortgage Loan Modification
Is loan modification a good idea? It’s not as good an idea as you may think. Many people assume it’ll prevent foreclosure because they’ll be able to make payments on the modified loan. From our experience working with clients who first try the loan modification path, that’s not usually what happens. The mortgage modification approval process often takes about three to four months. Most people aren’t allowed to make payments during that time and fall father behind, which will cause your Chapter 13 plan payments to be larger.
Though the COVID-19 programs may allow for more modifications, generally, most applications are rejected. When this happens, people can’t get out of their deep mortgage payment hole. More months go by without payments, and if eight or so payments are missed, foreclosure is virtually guaranteed.
Chapter 13 bankruptcy filing is best for most homeowners. They can reorganize their debts and can accomplish what they hoped a modification would achieve and stop getting farther behind.
Our Indianapolis Bankruptcy Attorney Has Helped Others. He Can Help You, Too.
Loan modification in the COVID-19 pandemic probably is not the magic wand that will make your mortgage problems go away. Chapter 7 or 13 is a way out for working people to try to resolve serious financial problems. It may be the right choice for you and your family. If you need an affordable bankruptcy attorney who will explain the law, answer your questions, and listen to your side of the story, talk to attorney and CPA Jerry E. Smith. Call us at (317) 917-8680 for a free consultation (up to one hour) today.