If, like may Americans and Iowans you are finding your self with too much month left at the end of the money, you may have heard of something called a loan modification. For most people it is an alien sounding word like Arteriosclerosis, where by the time you finally know what it means- it already too late. What a loan modification is -in laymen’s terms- is any change or alteration to your promise to pay back the bank. It usually happens in the form of lowered payments, a reduction in principal or tacking on missed payments to the back of the loan.
The other thing I hear many people say is something to the effect of , “Hey, isn’t our (adjective) President Obama supposed to set up some bailout money to help with this?” This sentence is generally delivered like a mad gab depending on what side of the political isle you find your self on.
The answer to your query is yes, there is something out there for you…potentially. It is called H.A.M.P, and it is highly likely that your bank or mortgage servicer is a partipant 1. If you have a Fannie Mae or Freddie Mac backed loan (check here 1) then they are required to participate (although as of today’s date April 21st they have yet to comply).
The Home Affordable Refinance Program gives up to 4 to 5 million homeowners with loans owned or guaranteed by Fannie Mae or Freddie Mac an opportunity to refinance into more affordable monthly payments. The Home Affordable Modification Program commits $75 billion to keep up to 3 to 4 million Americans in their homes by preventing avoidable foreclosures. http://makinghomeaffordable.gov/about.html 5
In order to tell if a homeowner would qualify for a loan modification, the government apparently hired John Nash from “A Beautiful Mind” to come up with something call the NPV Test (Ok, maybe it wasn’t John Nash). The guts of the Net Present Value Submit test are as follows:
1.) You Front End Debt to Income (referred to in the industry as DTI) can not exceed 31% after the modification.
- Now in plain English what this means is that if you made $45,000/yr gross/ 12 = $3,750/mo then your total monthly payments on your house could not be more than 31% of that number = $1,162.50./mo
Your bank or servicer, would look at your financial situation and see whether they could realistically lower your payment enough to make that happen.
2.) Net Present Value of Modification: This is the bank’s way of telling you “It’s not you … it’s me”. They are looking at your loan as two roads diverging in the woods. They are using this complex model to determine what they perceive the likelihood of you defaulting again if they do the loan modification -vs.- the amount of money your house is likely to sell for if they foreclose on it – minus the cost to do so. So, if they plug you into the system and they think you are a good candidate + the house is in a bad market = approved loan mod. If, on the other hand, you have a mountain of debt + no job + and the market is rebounding in your area= declined. The following is an explanation from www.makinghomeaffordable.gov:
In the context of a mortgage borrower who has become distressed, the investor- or a third party servicer acting on behalf of the investor- faces the choice of whether to modify the mortgage or to leave it as is. Each choice generates expected cash flows, and the present value of these two cash flows are likely to be different. If the loan is modified, there is a greater chance the borrower will be able to repay the loan in full. If not, there is a higher likelihood that the loan will go into foreclosure, and the investor will absorb the asscociated losses. If the NPV of the modified loan is higher that the NPV of the loan ‘as is’, the loan is said to be “NPV Positive”.
The Making Home Affordable Plan is structured to produce modifications that are mostly likely to test NPV positive, increasing the number of modifications that will be done, and keeping more Americans in their homes. It does this first, by lowering the probability that borrowers will default by making borrower payments more affordable, and second by providing incentive payments that are added to cash flows received by lenders (or investors).
The good news? If you pass the test your in. The bad news? The people giving the test are the same people who got us into this mess. Consider the following quote:
…customization capabilities are built into the base NPV models to preserve the ability servicers, lenders and investors [have] to tailor the base NPV model to reflect the unique characteristics of the loans they service or own and to incorporate knowledge gained from years of working with those particular groups of mortgages.
This means that many (especially larger) banks “participating” in HAMP can modify the model and as a result of customization servicer NPV results and resulting modification decisions will likely
vary -even when borrowers’ circumstances appear to be similar. So, if two identical homeowners were with 2 different banks (Citimortgage and Bank of America) they could get opposite results. The other distressing part of this is that according to Bankrate.com:
The NPV test is a “black box” in which data goes in, a decision comes out, and borrowers aren’t privy to details about how the decision was made. The Federal Housing Finance Agency maintains secrecy over its formulas, updated at the beginning of each quarter, for calculating projected home values and REO discounts. Mortgage servicers don’t disclose the probabilities that they assign for redefault and self-cure rates and the rest. Consumer advocates have lobbied, in vain, for this information to be made public. “Without access to the NPV analysis, homeowners are entirely reliant on the servicer’s good faith,” Julia Gordon, senior policy counsel for the Center for Responsible Lending, told the House Financial Services Committee Dec. 8.
I anticipate similar challenges with loan modifications to those that have persisted before. Consider the following findings from a Center for Community Capital at UNC: Submit
- Loan Mod’s cost servicers about $500-600.
- Sub-primer servicers derive high fees from late fees & can expect to be reimbursed in a foreclosure, so no incentive to modify.
- For securitized loans, the Pooling and Servicing Agreement may limit or preclude a loan modification. Doing so may open the servicer up to litigation risks.
- Redefault rate is extremely high because modifications don’t usually come with principal reductions to reflect declining home prices. Two studies (Credit Suisse and the OCC) showed default rates on Loan Modifications ranged from 40-53%
- Only 53% of Loan Modifications ended up with a lowered payment. While 23% ended up with a higher payment. The remainded had the same payment.
The only loan modifications that seem to work long term are those where you have a payment reduction of about 35% or more, and/or a principal reduction in your mortgage balance. In order to do this though, you need to imploy some pretty advanced strategies of negotiation.
In summary, a loan modification is an option under HAMP, you can request one today here: http://makinghomeaffordable.gov/requestmod.shtml Submit. If you get approved, fantastic! If you don’t get approved you should look at two other things:
1.) Ask your bank if they would consider doing a moratorium. This is an industry term for a stay or relief. It will often buy you up to 6 months to try to work out other options. Many times they will let you make half payments during that time and not do start the foreclosure. While you are under the terms of the moratorium you can pursue a:
2.) Short Sale: If you get declined for a loan modification under HAMP, they are to offer you as an option immediately a short sale. See their information sheet here Submit. Borrowers who successfully complete a short sale may be eligible for up to $1,500 in relocation incentives.
I hope this information is helpful, for more information about short sales and issues related to them, feel free to read our other articles on the site. Thanks for visiting us.
