Loan Modifications: More Harm tha Good?

In 2009, millions of United States homeowners learned that modifying their existing home loans served only to expedite foreclosure rather than prevent it. A U.S. Treasury report released in early December of 2009 revealed that only 4% of applicants under the federal government’s Home Affordable Modification Program (HAMP) have been able to successfully modify their loans on a permanent basis. Further, of those 4% that were able to modify their loans, an amazing 40% went into default within the following 6 months. The unfortunately reality exposed by this report is that while many homeowners allowed their homes to go into default to initiate a time consuming modification process, they effectively disregarded their most viable option for debt relief: a short-sale.

As many homeowners across the country became enticed with the prospect of reducing their monthly payments and loan balances via the HAMP loan modification process touted by government officials, borrowers began contacting their lenders in droves. Banks often instructed borrowers that they must discontinue making their mortgage payments in order to qualify for a modification. Homeowners also found that allowing their home to go into default provided them increased leverage to expedite modification negotiations with their lenders. It is at this point in the modification process that an agonizingly slow train wreck was initiated as seemingly endless unretu
ed phone calls, requests for more documentation, and transfers to various bank representatives were experienced across the country. All the while the normal 6 to 8 month window between default and the foreclosure sale was closing steadily.

The vast majority of homeowners ultimately learned that the bank would not reduce their principal loan balances and that their monthly mortgage payments would only be reduced nominally or temporarily. Often times this realization didn’t come until after the notice of trustee’s sale was received by the homeowners – when the debt relief window was only still barely open a crack. The unsubstantiated hope that the HAMP modification program created in millions of financially distraught borrowers served only to prevent them from taking advantage of what has become the most reliable and effective way to avoid foreclosure.

The short-sale process initially started out on rocky ground before banks had time to set up adequate systems and procedures to accommodate large numbers of applicants. However, the year 2009 saw the short-sale process grow increasingly more expedient as the average bank processing period for a completed application rapidly dropped from 4 to 6 months down to 2 to 3 months by year’s end. Further, most borrowers are no longer required to default on their monthly payments prior to attempting to sell their homes for amounts less than what is owed. Apparently realizing that short-sales represent the most effective method to stave off mass foreclosures, the federal government has also acted to eliminate income tax penalties for short-sales until 2012. Not surprisingly, all of these events have led to an increasingly large amount of successful short sales in 2010.

Many will contend that loan modifications are more appealing since they permit borrowers to remain in their homes while short-sales only serve to sell their homes to others. However, it is essential to remember the large percentage of borrowers that are foreclosed upon even after they have successfully modified their loans. Not to mention the incredibly small number of applicants who are actually able to modify their loans to agreeable terms. Furthermore, is it unreasonable to assume that financially troubled borrowers would be better served selling their properties short and moving into more reasonable accommodations until better suited to take on increased debt?

Short-sales represent the conservative option for borrowers looking to get out of increasing debt and into a position where they can begin saving for the future again. Alte
atively, loan modifications have become a long-shot gamble on the part of the borrower with only a limited amount of time between default and foreclosure. If the goal is to reduce debt and monthly payments while avoiding foreclosure, there is no doubt that a short-sale is the most reliable and effective course of action.