CALIFORNIA REAL ESTATE PRIMER – Loan Workout Before The Sale

DISCLAIMER

This article is intended to be a general discussion only and should not be considered legal advice. Your use of it does not create an attorney-client relationship. Any liability that might arise from your use or reliance on this article or any of its links is expressly disclaimed. This blog is not legal, accounting or tax advice, is not to be acted on as such, it may not be current, and is subject to change without notice.

SOME GENERAL NOTES

A. Disregard The Confusion – Even The Banks Are Confused

You don’t have to be an expert to know that the lending industry is in disarray. Confusion really is the order of the day (it’s not just you). But take heart, there are a number of loan workout methods or plans which might give you some relief. Some of these plans are available to certain lenders, others are not, and all of them are (of course) confusing. To our knowledge, none of the plans are mandatory. Meaning the lender is not “required” to rewrite your loan just because you seem to qualify for a given program.

Still, your lender may have a number of plans available depending on the specifics of your loan and your finances. Some of these plans will undoubtedly be custom plans developed by your lender, and some may not apply to your situation at all.

B. Establish Your Objective?

Assuming you are employed, and can make reasonable payments, you will need to decide what your ultimate objective is before you do anything. In other words, what is most important to you?

For example, if are you more interested in keeping the family home than you are in getting appreciation from it, you might be willing to trade mortgage relief now for a share in the future appreciation. On the other hand, if appreciation is your prime objective, you may want to focus on a different type of loan workout, or even consider a short sale to shed yourself of the property.

In all events, if your objective is to save the family home you owe it to yourself to contact your lender’s Loss Mitigation Department and give them a chance to adjust your loan (workout your loan) so that it becomes economically feasible for you.

C. Be Proactive

The worse thing you can do is nothing. If you do nothing and you go into default on your home, you will eventually lose the property. There can be no other result. In today’s confusion it may take longer than normal, but the inevitable result of inaction is foreclosure. And under certain circumstances a deficiency judgment or collection action against may even be possible.

Educate yourself, consult the appropriate experts, and above all take positive steps to correct the problem. This may sound obvious, but inaction remains the homeowner’s greatest threat and the most common mistake.

 

SOME GENERIC PLANS

To get you thinking along the lines of possible solutions we’ve listed two generic loan workout plans. Remember neither of these is mandatory, they may no longer be in effect and they may not match the plans available from your lender.

A. Mortgages Owned Or Guaranteed By Fannie Mae or Freddie Mac

On October 10, 2007 a program for mortgages owned or guaranteed by Fannie Mae and/or Freddie Mac was announced by the federal government.

Known as the “Hope Now” initiative, the plan targets homeowners who live in the home and have missed at least three payments and can qualify for a workout designed to reduce the monthly payments to 38% of the borrower’s gross income. This target is achieved by one of the following three different methods:

(1) The payments are reduced by extending the term of the loan up to 40 years;

(2) The payments are reduced by lowering the interest rate temporarily or permanently; or,

(3) “Principal Forebearance” which is achieved by excluding part of the loan balance when calculating monthly payments.

Unfortunately, Freddie Mac and Fannie Mae loans account for only about 20% of the delinquent mortgages and it isn’t obvious which loans are owned or guaranteed by these entities. The only way to know for sure is to call your lender.  For more information on the Hope Now Initiative contact one of their free counselors in your area.

B. Federal Housing Administration Refinancing Program

The FHA, H4H (Hope for Homeowners) program was designed to help individuals with FHA loans avoid default and foreclosure by letting them refinance into a new 30 year fixed rate loan with lower payments. The program became effective on October 1, 2008 and will continue until September 30, 2011.  On June 10, 2011, HUD issued Mortgage Letter 11-20 providing instructions on how to process cases during the phase out of the program.  The H4H program is still effective for endorsements on or before September 30, 2011.

To qualify, the existing loan had to be an FHA loan originated on or before January 1, 2008. The payments on the existing mortgage, as of March 1, 2008, exceed 31 percent of the borrowers gross monthly income. Any defaults were not intentional. The borrower does not own any other real estate, has not been convicted of a fraud within the last ten years and provided no false information to obtain the original mortgage.

There were four steps or stages to the H4H process:

(1) Cost Benefit Analysis

Based on their portfolio the lender will decide whether or not it will make sense for it to take a loss on the difference between the new loan (which will be set to 90 percent of the current appraised value) and the existing loan (which was based on an appraised value determined sometime before January 1, 2008). The lender may choose to do a loan modification rather than take the loss (write down) associated with declining property values.

In this first stage the borrower’s eligibility will also be determined and the costs of the program will be disclosed. These costs will include a 3 percent up front mortgage insurance premium (UMIP) and a 1.5 percent annual premium, and equity and appreciation sharing with the Federal government. There will also be a prohibition against new junior liens unless related to property maintenance.

(2) Negotiations With Lien Holders

The lender refinancing the loan will need to obtain agreements with existing lien holders to waive prepayment penalites and fees and to accept the H4H loan as payment in full. All subordinate liens on the property must be extinguished. To accomplish this the FHA can give the holder of the junior lien a share in its future appreciation entitlement.

(3) Originating the H4H Mortgage

During underwriting the lender will determine the future appreciation and the share for each holder of a subordinate lien according to FHA guidelines. At closing, the lender will record, in addition to the traditional security instrument and note on the first mortgage, an additional shared equity note and mortgage (SEM) and a shared appreciation note and mortgage (SAM). The lender also submits the new mortgage for FHA insurance and certifies that it has been originated and underwritten and closed pursuant to H4H requirements.

(4) Complying With H4H Obligations

When the property is sold, the proceeds are used to pay off the H4H mortgage and the shared equity and shared appreciation mortgages. The FHA will provide instructions to the settlement agents regarding lien holders entitled to a portion of the appreciation.

 

Traditionally lenders have declined to discuss loan modifications until the borrower is 60 to 90 days late on his payments. This placed the borrower in a default position before a discussion could even begin. Under those conditions if the loan modification discussion broke down the amount of time remaining in which a short sale could be effected was drastically reduced.

In late 2008, Fannie Mae (with an estimated 18 million home loans) announced that if the borrower becomes “reasonably certain” that changes (impending or otherwise) in their income will cause them to miss payments they will be considered for a loan modification before they fall behind.

Borrowers who qualify for a modification will be given a trial payment period and if they successfully make their payments, the loan modification under consideration could be finalized.

This movement by Fannie Mae was consistent with the trend toward early intervention  being followed by giants such as Bank of America and JP Morgan Chase. So if you are reasonably certain you are going to fall behind in your payments pick up the phone and see if you qualify for an early workout.

C.  Home Affordable Refinance Program

If you aren’t behind in your payments the HARP program may provide a loan modification even if the value of your home has declined.  The Making Home Affordable video (uploaded in 2009) is one of 29 videos which might be helpful in giving you a general explanation of the HARP program.

Remember, the most important thing you can do is contact your lender and determine which programs it is using.

DISCLAIMER

This article is intended to be a general discussion only, and should not be considered legal advice. Your use of it does not create an attorney-client relationship. Any liability that might arise from your use or reliance on this article or any of its links is expressly disclaimed. This blog is not legal, loan, accounting or tax advice, is not to be acted on as such, it was outdated the moment it was written, and is subject to change without notice. If you are dealing with a potential short-sale you are advised to consult the appropriate licensed professional.

As the housing markets recover, fewer and fewer homes will be underwater until finally the loan modification and the short sale will again become an unusual event.

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