What is a Loan Modification?

While relatively new, the term "Loan Modification" is becoming increasingly familiar to homeowners as adjustable rates rise, property values fall, and economic uncertainty persists. As housing sales have fallen and mortgage re-financings have become much more difficult to qualify for, loan modifications are the only thing standing between millions of homeowners and the aspect of losing their homes to foreclosure. Simply put, a loan modification is a negotiated transaction between a borrower and the current lender on that borrower's mortgage. The specific purpose of a loan modification is to bring the borrower's monthly mortgage payments back in line with his or her current financial situation. The primary requirement for a loan modification is a verifiable financial hardship for the borrower. The hardship must directly relate to the borrower's ability to make payments toward the mortgage on the home in which he or she lives. Hardships include adjustable rate increases, a loss of value in the property to a point of negative equity, and/or job loss to name a few examples. Once hardship is determined the work can begin to reduce the monthly payments required of the borrower.

Many borrowers will try initially to negotiate directly with their lender in a do-it-yourself manner. This is usually an extremely frustrating and unproductive endeavor due to the borrower's lack of knowledge of the loan modification process. At the same time, lenders are reluctant to provide the time, education, and advice in a situation where the lender would be negotiating against itself. Modification shops participate in the loan modification process using negotiation templates that may or may not have been reviewed by an attorney at one time. By running the process according to the template, end results for borrowers can typically be less than satisfactory due to the sense that money was left on the table in a negotiation didn't yield as much as it should have. Often forgotten is that a mortgage is, in itself, a legal document drawn by the lender with fine print, difficult language, and obligations the borrower might not even be aware of. While these first two options are always available to borrowers, an attorney's experience and knowledge of mortgage documents and the negotiation process can make a huge difference in the eventual outcome of a loan modification.

Loan modification is accomplished by adjusting one or more of the terms of the mortgage to allow for a reduction in the borrower's monthly mortgage payment. Most, if not all, loan modifications start with a reduction in the interest rate of the borrower's current mortgage. The interest rate reduction can be fixed or adjustable, usually with an initial term of three to five years. Another method is to extend the borrower's mortgage beyond its current maturity. A normal extension will take a mortgage from 30 years out to 40 years. The extra ten years on the mortgage typically reduces the borrowers' total monthly payment by 6.5%. The combination of an extension with a reduction in interest can result in much lower monthly payments for borrowers. In cases where property values have decreased substantially, homeowners may see a reduction in the principle amount of their mortgage as well. This type of reduction is seen in only about 5 % of executed loan modifications.