What Is a Mortgage Loan Modification?
A mortgage loan modification is a change to the original terms of your mortgage loan. Unlike a refinance, a loan modification doesn’t pay off your current mortgage and replace it with a new mortgage. Instead, a loan modification directly changes the conditions of your loan as a negotiated resolution to assist a borrower to lower the monthly mortgage payment. A borrower can be current but imminently about to fall behind, in significant delinquency, or in foreclosure proceedings. Mortgage modifications specifically work to restructure mortgages by reducing the interest rate, capitalizing mortgage arrears, and reducing monthly mortgage payments to the affordability level of the borrower. The monthly mortgage payment can be lowered by reducing the interest rate, deferring or forgiving principal balance, increasing the loan amortization, or a combination to get a borrower into a comfortable mortgage-to-income range.
History of Loan Modifications
Loss mitigation became prevalent in 2006, a time marked by a dramatic increase in foreclosures nationwide. As many lenders went out of business, the surviving lenders were forced to eliminate all loan programs which were most prone to foreclosure and tighten lending guidelines. Homeowners who were formerly able to qualify for loans were no longer able to refinance. With the real estate market saturated in risky sub-prime, adjustable rate, and negative amortization loans, many homeowners fell victim to dramatic payment increases and subsequently defaulted.
Because of the significant rise in defaulting mortgages, the federal government introduced the Home Affordable Modification Program (HAMP) in 2009 (Section 230(b) of the National Housing Act (12 U.S.C. 1715u(b)), which helped struggling homeowners by lowering monthly first lien mortgage payments to an affordable level in relation to a borrower’s income. Additional programs were subsequently rolled out to expand the program's reach.
Today we have Fannie Mae and Freddie Mac flex modifications, FHA’s Covid-19 recovery modification, FHA standard modification and partial claim, and non-GSE proprietary modifications.
Loan Modification Guidelines
Many of the modification requirements are similar with subtle differences:
Fannie Mae and Freddie Max Flex Modification Guidelines
· Conventional first lien mortgage
· The mortgage loan must be at least 60 days delinquent of in imminent default
· The mortgage loan must not have been modified more than three times previously
· The mortgage loan must have been originated at least 12 months prior to the evaluation date for the mortgage loan modification.
FHA Covid-19 Recovery Modification Guidelines
· The property is owner-occupied
· Borrower indicates they can make the modified monthly payment
· The modified Mortgage is a fixed rate Mortgage
interest rate of the modified mortgage does not exceed the
applicable limit set forth by FHA
Partial Claim, as part of a Covid-19 recovery
Modification, does not exceed 25 percent of the unpaid principal
balance as of the date of default at the time of payment of the
initial partial claim less any previous partial claims paid
Recovery Modification fully reinstates the
Mortgage including all arrearages
FHA Standard Modification and Partial Claim Guidelines
· Verified loss of income or increase in expenses
· The property is owner occupied
· Maximum modified principal and interest (PI) payment is the lesser of 31-percent of the borrower’s gross income or the greater of 80-percent of borrower’s current PI payment or 25-percent of the borrower’s gross income
· Statutory maximum for the partial claim is 30-percent of the unpaid principal balance at time of default
Most Non-GSE Proprietary Guidelines (General)
· A meritorious hardship
· A loan that is greater than 60 days behind or in imminent default
· Total monthly credit expense does not exceed 55-percent of the borrower’s qualifying gross income
· A 31- to 38-percent mortgage-to-income ratio that does not exceed the investor’s threshold for interest rate
· A capitalized balance within the threshold of the investor’s interest rate range that can create a lower payment than the borrower’s current mortgage payment
· A positive Net Present Value (NPV) analysis of cash flows
· Net income services all the credit and household expenses
Loan Modification Denial Reasons
Lenders can sometimes make a straightforward loan modification submission extremely burdensome to underwrite. Presenting modification applications to the lender requires an experienced legal team that understands the relevant financial ratios and can therefore demand that lenders operate in good faith while reviewing a borrower for eligibility. Although most underwriting guidelines are clearly outlined in an investor matrix for every loan servicer, some financial calculations or ratios can be more complex when various sources of income and expenses are used.
Here are several financial mistakes we have found underwriters to make that have led to wrongful loan modification denials:
· Including a monthly credit expense that is not being paid or will be paid off in soon
· Failing to include all the household income in the underwriting (i.e., contributor income, rental income, self-employment income).
· Requesting superfluous evidence of contributor income deposits that went beyond the investor’s guidelines
· Excluding rental income from the analysis as such income was not deposited in exact separate amounts for the supporting months although the income was deposited
Here are a few of the most common reasons a lender might use to deny a loan modification application:
1) Denial Reason I: Lender cannot create a modified payment that is lower than the current monthly payment or the modified payment would exceed the investor’s guidelines.
In basic terms, this denial reason means that if the lender were to capitalize principal balance at the lowest allowable interest rate and longest amortization, the new modified payment would still exceed the regular payment. Alternatively, the denial reason could also mean that if the lender used a 31- to 38-percent ratio of a borrower’s qualifying income to create a modified mortgage payment, the resulting payment cannot be created even using the lowest interest rate and longest amortization term.
The difficulty in this denial reason is the lack of specificity to allow a borrower to remedy the denial. For example, if the denial reason stated that the capitalized principal were too high, the borrower may be able to raise a down payment sufficient to lower the principal balance. Or if the denial reason stated the borrower’s income were too low, the borrower may have other household income to evidence in the underwriting.
2) Denial Reason II: Negative Net Present Value Result.
Net Present Value (NPV) measures a lender’s cashflows from both a loan modification and a potential foreclosure and chooses the option which provides the greatest profitability for the investor of the loan.
However, an NPV uses a matrix of values. Some values like the property value are concrete but other values such as the interest rate and amortization term that a lender will use to measure the cash flow of a modification can lead to a negative NPV result. By increasing a projected modified rate, the NPV might flow to positive. So, if a denial is based on a negative NPV result, the financial values used in the underwriting should be requested for further examination.
3) Denial Reason III: Missing documents.
Lenders have the right to request for further documents for their income-expense analysis, clarity, and verification. Usually, a deadline to provide the documents is provided else the file will close. However, some lenders will sit on a file for many months and not review the file, requesting for the same documents repeatedly while holding the file in perpetual review, and in some cases denying or closing files for missing documents when such documents were never requested.
In New York, CPLR 3408(f) directs loan servicers to operate in good faith negotiations so if a borrower finds themselves in a perpetual underwriting with no actual review in sight, a motion to the court may be made to seek judicial intervention and remedies.
How to Address a Loan Modification Denial
The denial reason must be clear. If the denial reason is vague such as the lender’s inability to create a modified payment, the first step is to call the lender to clarify the denial reason. Most loan servicers will have a deadline by which to file an appeal. In the appeal, evidence to support an applicant’s position should be provided. For example, if the denial reason stated the borrower’s income was too low and the income was calculated incorrectly, a delineation of the household income with supporting documents (i.e., pay stubs, bank statements) to substantiate should be provided. The more evidence a borrower gathers to support their position, the greater the likelihood the appeal will be reviewed more closely and potentially submitted for a new underwriting.
Sometimes a lender is constricted by investor guidelines and limited to what they can offer based on a borrower’s financial profile. In such a circumstance, most investors will entertain exception requests by their loan servicers to go outside of the conventional loan modification guidelines, if the supporting reasons to do so are compelling enough.
What a Loan Modification Submission Looks Like
The following documents are what a general loan modification submission contains:
· Request for Modification Assistance form (RMA)
· 4506-C or 4506-T
· Dodd-Frank Certification
· Most recent federal tax return (signed and dated)
· Two months recent bank statements evidencing all income stated in the RMA
· Income evidence (two recent paystubs, most recent P&L statement, Social Security/Pension Award letter, and/or lease agreements)
· Contributor credit consent form, letter, and evidence of income (if applicable)
· Utility bill (preferably gas or electric) evidencing residency
The Important of Legal Counsel in the Loan Modification Process
Some lenders make it extremely burdensome to get a good faith underwriting. Some of the lender obstacles include repeated requests for identical documents, inaccurate expense analysis, disregarded household income, and miscalculated financial ratios.
Most loan servicers service mortgage loans for investors that have specific guidelines that a loan servicer is required to follow. The knowledge of the loan servicer, the investor, and where a borrower may or may not be positioned within the matrix of investor guidelines is important to support your position to modify a loan. Even with knowledge of the investor guidelines, ensuring that an underwriter calculates the correct financial ratios, includes the entire household income presented, calculates a borrower’s accurate expense profile, and uses a fair market appraisal value is critical for the greatest chance of a loan modification approval.
Our legal team has worked on over 2,500 loan modification and settlement cases and through our experience in working with hundreds of lenders and creditors has the financial and legal background to understand not only the concrete guidelines of most investors, but the nuances of financial analysis and how to escalate files that have been denied multiple times.
Every single percentage point an interest rate can be lowered adds up to tens or hundreds of thousands of dollars in interest payments to the mortgage lender over the course of a loan term, so the guidance and support of an experienced lawyer are financially critical even if a loan modification case appears relatively explicit and simple to work with. So call our office today at 718-819-1674 for a free consultation so that we can review and explain the merits of your case and develop a strategic plan specific to your needs and situation.