Refinancing Versus Loan Modification
It is a common misconception that loan modification was “invented” by the Obama administration to combat the current mortgage crisis. On the contrary, they existed long before the government catapulted them into prominence. Despite the fact that loan modifications require less paperwork and are inexpensive to process, however, they have been rare and characterized by drawn-out processes because it was (and still is) difficult to persuade one’s lender to voluntarily modify his mortgage. It had become the norm, then, for borrowers to instead apply for a refinancing, which is expensive and contingent on one’s credit score, but easy to execute for those who are approved.
In light of the Federal Government’s Home Affordable Modification Plan (HAMP), however, the tables have turned completely. Under the plan, lenders are incentivized (such that the costs to borrowers are theoretically nil) to modify loans for at-risk borrowers. Such modifications typically involve reduced interest rates, although some lenders have been known to cut the principal as well. Of course, it is now common knowledge that by almost every measure, this program has been an abysmal failure. Only 66,000 borrowers (as of Decemeber 31) have been approved for permanent modifications, far less than the 3-4 million that was initially touted.
In response, the government has taken to chastising lenders that aren’t aggressive enough in modifying loans, in the form of frequent “report cards.” Lenders blame borrowers, naturally, for not providing the necessary paperwork, and borrowers recriminate that the documentation demands are too onerous. The government’s latest attempt to remedy this discontent is to streamline the paperwork requirements so that borrowers need only to provide a request form for modification, proof of income, and authorization for the lender to check their tax history via the IRS. Despite these hurdles and the fact that delays of many months before being accepted (or rejected, for that matter) are common, the program still holds great appeal for borrowers. In fact, some borrowers are deliberately not making their mortgage payments, in a subtle attempt to demonstrate their financial plight to their lenders.
As a result of this shift and the simultaneous tightening of lending standards, it has become quite difficult to refinance a mortgage. The government has responded by unveiling a parallel program, this one aimed at refinancing. All loans that are owned by Fannie Mae and Freddie Mac (themselves “owned” by the government) are automatically eligible for refinancing. Even underwater loans – up to 125% Loan-to-Value – can be refinanced. Otherwise, the only option for those rejected for loan modification and desperate to refinance, is an FHA refinancing.
Given that mortgage rates are hovering around record lows, refinancing for many borrowers would achieve comparable cost savings to modification. One has to wonder, then, if after the expiration of HAMP and the return of the mortgage market to normal functioning (admittedly, this is an uncertain prospect) if the pendulum will swing back in favor of refinancing. With that possibility in mind, borrowers should think twice about deliberately skipping mortgage payments to increase their chances of modification, because such will also dent their chances of getting refinanced. At the same time, the fact that mortgage rates are projected by many to begin rising in 2010, the window on viable refinancing could soon close.
In short, it seems that for those of you who are genuinely at-risk of defaulting, keep talking to your lender about a loan modification. For everyone else, refinancing is probably still your best – and most realistic – option.
