Between 2007 and 2014 millions of home owners proactively reach out to the company that was servicing their home loan in an attempt to modify the terms of their current home loans. In many situations, banks proactively reached out to home owners who currently had loans that were considered a higher level of risk like pay option adjustable rate mortgages or some of the high-interest rate second mortgages and offered to either lower the interest-rate or even forgive a portion of the debt.
Many of these banks inherited these loans from other banks when Countrywide Financial was purchased by Bank of America they acquired over 500,000 option-ARM loans and within the first two years had modified almost 50% of these loans into more stable mortgage products.
The Home Loan Modification
A loan modification is the permanent restructure of an existing home loan. The restructure can represent several different types of changes to the current home loan obligation:
Interest-Rate Conversion-
This type of loan modification will either convert an adjustable interest rate from an adjustable rate mortgage to a more stable fixed rate or will lower the interest rate and effectively lowering the monthly payment. Some of these interest-rate modifications were permanent, while others including the government’s Home Affordable Modification Program, only reduced the interest rate for a period of time and then the rate would convert back to the original rate.
Loan Term Extension-
This type of loan modification will extend the remaining period of the loan which will lower the monthly payment. For example: if a $250,000 loan has a term of twenty years at an interest rate of 6.5%, the minimum monthly payment required is $1,863.93 per month. If that loan is extended to a forty-year term at the same interest rate the minimum payment falls to $1,463.64 or a monthly savings of 21%.
Principle Reduction-
This is the holy grail of loan modifications, in this situation the lender will reduce the outstanding balance of the loan and moving forward your loan will be based on the payment of the new loan amount. It is always important to research the tax implications of a principal reduction loan modification and there are also some agreements that require the homeowner to not sell the property for a specific period of time.
Forbearance- This type of loan modification is typically reserved for homeowners who are experiencing a temporary hardship and the lender will agree to reduce or suspend monthly mortgage payments for a period of time. In many forbearance modification situations, the suspended payments are applied to the end of the original mortgage term.
Impact of a Home Loan-Modification on a New Loan
When someone applies for a new home loan, one of the first places that a loan officer will look to determine qualification will be the credit report. If there were late mortgage payments related to the loan modification, the credit score will be impacted as a result of the delinquency. In many circumstances of loan modification, the lender will report to the three credit bureaus specific language related to the modification within the report. It does not make a difference if the property that was modified was an owner-occupied, second home, or investment property nor does it matter what type of loan modification, interest-rate conversion, extension of loan term, principal reduction, or forbearance, a lender will classify any form of loan modification as a settlement of debt and will apply guidelines related to the loan modification.
Fannie Mae-
Mortgage lenders who underwrite specifically to Fannie Mae guidelines will require a minimum of twenty-four months from a loan modification to provide a new home loan.
Freddie Mac-
Freddie Mac does not have a required waiting period from a loan modification to the ability to secure a new home loan that meets the loan amount limits of Freddie Mac. If you are working with a lender that is unable to provide a conventional or conventional high-balance loan with less than a twenty-four-month time from a loan modification, that lender is more than likely unable to provide home loans that are underwritten specifically to the requirements of Freddie Mac. This “additional guideline” is what is referred to as a lender overlay which the bank that the loan officer works for places on top of the actual guidelines set forth by Freddie Mac. The solution in this situation is to identify another loan officer that is not limited by the same lender overlays.
FHA-
The Federal Housing Administration or (FHA) loan programs do not have any restrictions related to loan modifications. If you are being told that there is a waiting period related to a recent loan modification it is a lender overlay and not reflective of the actual program restrictions.
VA-
VA home loan programs do not have any restrictions related to loan modifications. If you are being told that there is a waiting period related to a recent loan modification it is a lender overlay and not reflective of the actual program restrictions.
USDA-
USDA home loan programs do not have any restrictions related to loan modifications. If you are being told that there is a waiting period related to a recent loan modification it is a lender overlay and not reflective of the actual program restrictions.
Jumbo Home Loans-
It is much more difficult to provide an all-encompassing guideline for how all lenders will interpret a recent loan modification in the process of obtaining a new home loan. Jumbo loans are not sponsored by a Federal agency like FHA, VA, or Fannie Mae and Freddie Mac. Mortgage banks that offer Jumbo loan financing each establish their own requirements related to loan modifications. There are some Jumbo lenders that will treat a loan modification without a principle reduction without a waiting period, but for someone who was able to reduce the balance of the mortgage loan that was modified will impose a forty-eight month waiting period. There are also Jumbo lenders that do not require any waiting period from a loan modification with, or without a principle reduction.
