I’ve been talking to homeowners recently that have received mortgage modifications that just aren’t going to work. To these homeowners, it’s a big let down to grind through all the work and wait for months on-end obtain the papers only to find out that they can’t afford the modification.
Here’s an example that underscores the problem. One of the homeowners that called had an interest only 10/1 arm (fixed for 10 years and then adjustable) that was close to reset. The problem with this loan is that becomes “fully amortized” and adjustable once the interest only period expires. This means that the principal due at the end of 10 years (which will in most cases be what you started with) is now payable over only 20 years. This dramatically increases the payment due to the shorter term, even if your interest rate goes down by 1%.
The borrowers were in trouble, barely treading water. So they called their bank and were told they would not be able to do anything unless they became delinquent. The law firm they hired for $2,500 told them the same – so they stopped making payments. Now – listen to this – after 14 months of paperwork, dead end phone calls and mostly plain waiting, the modification papers arrive. There’s a cover sheet that shows monthly payment of $1,500 (less than the original payment) and a new maturity date. The loan balance had been increased by $50,000 to account for back interest and monthly late penalties over the 14 month waiting period.
At 3%, the modified mortgage looked great, however, the new loan balance was now $600,000 because of the missed back payments and penalties. After reading the fine print and attempting to sort through the complex language, the homeowner called me to help interpret the paperwork. Further inspection revealed that rate would jump to 4.875% in 2016, with a 25 year amortization. The new payment at that time would jump to $3,464 – almost $2,000 more per month.
The homeowner was in shock when I told her this was a great deal from a rate standpoint. The originally adjustable mortgage was converted to a fixed rate below 5% for the duration of the loan after paying only 3%. Here’s the problem, however: affordability is only temporary with that huge looming payment – and the truth is, this would have been the case had there not been a mortgage crisis, since the original loan was adjustable and would have surely jumped to something higher than 5%.
What’s the bottom line? If you can’t afford your current mortgage, you must investigate the reality of the situation and determine if a loan modification will be a band-aid that they’ll rip off while there’s still a scab. The bank in this case dragged their feet for 14 months, while late penalties continued to accrue. The attorneys the homeowners hired didn’t review their financial condition and, in my opinion, should have been able to give them an idea of that a modification wouldn’t work prior to allowing them to rack up another $50,000 in debt.
In their case, since there was no way they could afford the home at the onset, foreclosure would have been a better option (something the bank was motivated to stall, since the home was worth only $400,000 when the process began).
So these homeowners got dragged along a road that led them in a great big circle – right back to where they started. Facing foreclosure.
Th lesson is thus: don’t fear foreclosure as the end of the world if you can’t possibly afford your home. Renting isn’t a bad option considering what might happen if you get sucked into the false hope of a loan modification.
