What is the Purpose of the Loan Modification Hardship Letter?

by tammy on April 21, 2010

As a general rule, all loan modification proposals initiated by the borrower are detrimental to the lender, resulting in either the amount owed being paid back over a longer period of time or the amount owed being reduced. This is why most loan modification agreements have an adverse effect on the borrower’s personal credit. This means that lenders are usually not very excited at the prospect of accepting a loan modification proposal suggested by the borrower. Nevertheless, in many cases it is in the lender’s best interest to accept a modification as opposed to simply declaring the loan in default and foreclosing, therefore many lenders will grudgingly accept loan modification.

The above being said, the lender still wants some valid reason for accepting loan modification; that is, they require the borrower to explain why the original terms are unacceptable. This is where the hardship letter comes into play. In a voluntary loan modification proposal – one directly between the borrower and lender – a hardship letter may or may not be necessary, but it will be required that the borrower illustrate some form of hardship. If applying for loan modification using the Making Home Affordable (MHA, www.makinghomeaffordable.gov) program, a hardship letter can be appended to the loan modification application, though this is not strictly necessary.

When applying for loan modification under the MHA program, the application requires the applicant to provide a general outline of their financial hardship situation, but specifically asks the applicant not to provide too much detail. Once the application is approved, the lender will then require the borrower to fully document and substantiate their hardship claim during the three month trial period that is part of all MHA loan modifications. A hardship letter can serve as a key document explaining the situation during this phase of the process and all the claims in the letter have to be substantiated by appended documents included.

There are usually three types of hardship that are viewed as acceptable to lenders and the MHA program: major increases in payments, major decreases in income, or some sort of financial disaster. People that had adjustable mortgages and saw their payments skyrocket after the introduction period ended are prime beneficiaries for MHA loan modification. The same is true for people that lost their job or saw their income decrease significantly as a result of the overall economic downturn, even if their mortgage payments remained the same. Finally, people that have encountered a major financial disaster – such as a medical emergency that has resulted in major medical bills – are also good candidates for loan modification under MHA. However, in the latter instance, if the borrower still has a strong regular income, the lender may insist on a loan forbearance agreement instead and MHA may back this.

The basic idea behind a hardship letter is to explain to the lender why the original agreement is no longer tenable and to explain what has changed making the original agreement no longer acceptable. Generally speaking, each and every claim in this letter will have to be substantiated and documented, so it is important to ensure that all the claims made are provable ones. Claims of hardship without documentary evidence are not taken seriously at all.

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