How a Loan Modification Can Help You

by tammy on May 25, 2010

Since the collapse of the residential real estate market in 2008, many homeowners have found themselves in all sorts of untenable situations: owing far more on a home than the home is actually worth, seeing their adjustable mortgage rates skyrocket, facing some external economic hardship that renders their regular mortgage payments too expensive to maintain, and so on and so forth. As a consequence, people have adopted a wide range of different strategies, from deliberate default to desperate measures to sublet portions of the home to help defray the expense.

One popular option that has gained a lot of traction is loan modification. This is essentially an agreement between the lender and the borrower to modify the original mortgage in various ways to make it easier for the borrower to make their payments and avoid foreclosure or default. With very few exceptions, almost all loan modifications are done to the detriment of the lender, therefore one can safely assume that most lenders will not even consider a loan modification unless the borrower is in very serious financial trouble and that default and foreclosure looks probable without a modification.

Further, since virtually all loan modifications are seen by lenders as an admission by the borrower of an inability to meet their obligations, all loan modification agreements generally involve negative credit reporting on the borrower and other has other undesirable side effects on the borrower’s financial standing. Not only does this policy accurately – at least from the lender’s perspective – reflect the borrower’s lack of creditworthiness, it also actively discourages people from seeking loan modification unless they really have no other viable alternative available.

The negative side effects notwithstanding, the fact remains that a loan modification can be the best way to keep borrowers in their homes despite changed circumstances. Further, since foreclosure proceedings usually cost the lender between $20,000 and $40,000 from start to finish, many lenders are willing to compromise to some extent with borrowers seeking loan modification as a means of avoiding foreclosure. Loan modifications can also take many different forms as well, many of which in fact result in no actual loss of money to the lender, though the repayment period may be extended. Lenders are much more resistant to loan modification agreements that actually reduce the amount of money owed.

The most common type of loan modification that lenders are willing to accept is an extension of the loan’s amortization period, or the period of time covered by the loan. The usual upper limit for loan extension is ten years; so if you had a twenty year mortgage paying so many dollars per month, adding ten years to this will reduce the size of the monthly payments significantly, without actually reducing the amount owed. Similar loan modification ideas that do not result in the overall amount being reduced include tweaking the way the interest is calculated or specifically waiving and dropping additional fees and penalty payments.

Much more difficult to get are loan modifications that actually reduce the amount of money owed. These are usually accomplished by either reducing the interest rate or reducing the principal owed. Generally speaking, the lender will resist these types of modifications, so the only times these types of modifications are ever actually agreed to is when default by the borrower is eminent AND the lender determines that a reduction in the amount owed would be a better outcome than a default.

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