It’s normal to feel frustrated when you’re struggling to repay your home loan, specially if you have worked tirelessly to repay it. The thought of losing it to foreclosure due to temporary hardship can be unbearable.

Fortunately, pursuing loan modification can help save your home. However, the loan modification process is typically complex; it requires you to understand it well to benefit from it. Read on to discover what you can do to save your home through loan modification:

What Is a Loan Modification?

The loan modification process is when borrowers and lenders negotiate the original loan terms to come up with more favorable terms. The new terms that both parties settle on are considered permanent.

How Loan Modification Reduces the Repayment Burden

A loan modification process can make repaying your loan easier in a few ways, including:

Reducing Your Interest Rate

It is possible to switch to a lower interest rate through loan modification process. As a result, you’ll be making lower monthly payments.

For instance, a 30-year fixed-rate mortgage of $200,000 that’s at an interest rate of 4% translates to monthly payments of $955. If the same mortgage is modified into one with a 3% interest rate, your monthly payments will reduce to $843.

Increasing the Loan Term

Lengthening the term of your mortgage can make it more affordable as it will reduce the monthly payments.

For instance, let’s say that you’re on a 15-year $100,000 mortgage with a 4% interest rate. Your monthly payments will amount to $740. By extending the mortgage to 25 years, you can reduce the monthly payments to $528 per month.

However, do note that increasing the repayment period might be more expensive in the long run since you’ll pay more interest over the loan’s lifetime.

Switch to a Fixed-Rate Mortgage from an Adjustable-Rate Mortgage

If you’re on a fixed-rate mortgage, but the current market interest rates are lower than your loan’s interest rate, it might be worthwhile to switch to an adjustable-rate mortgage. This move will ensure that you’ll start paying a lower interest rate. The downside is that you lose protection from changes in the market interest rate. You’ll pay a higher interest rate if the market interest rate increases.

Reduce the Principal Balance

Although rare, there are instances when lenders lower a borrower’s interest rate. In most cases, this option is viable when there’s a housing crisis that was preceded by loose lending standards. Once the home values drop, the risk of most borrowers defaulting on their mortgage is increased.

The chances of a lender’s choosing this path will depend on factors like the current housing market and the loss they could make by reducing your principal amount in comparison to opting for foreclosure.

The Loan Modification Process

Loan modification isn’t an easy process. It can be both confusing and time-consuming. As a borrower, you might be negotiating with a lender that’s dealing with multiple borrowers who all want loan modification. Understanding the entire process is essential to increase your chances of a successful application.

Among the most important parts of the application process is to prove your financial hardship. Lenders are often looking for enough details to prove that you’re in dire need of loan modification.

In most cases, providing your lender with the right documentation can help prove your financial status. You’ll need to provide documents like:

• Your bank statements
• Your financial records
• Your income/expense worksheet
• Your tax records
• Proof of any additional income you have.

In addition to assessing these documents, lenders need to factor in three elements to decide whether you’re eligible for a loan modification. These considerations include:

• The financial hardships you’re experiencing
• Whether you’ve missed any mortgage payments or are at risk of missing future payments
• Your debt-to-income ratio (more on this later).

The modification process takes time as the lender assesses your request. Working with a reputable lawyer will help smooth out the entire process.

Who Qualifies for a Loan Modification?

You’re likely to qualify for a loan modification if you’re undergoing some financial hardship. However, each lender will have their own list of requirements that borrowers seeking loan modification need to meet.

For instance, you’ll need to have been late or missed at least one mortgage payment to qualify for modification with some lenders.

All lenders will typically assess the financial hardship you’re experiencing to determine whether loan modification is the best option. Case in point: a borrower who gets fired from their job and loses their other income sources might struggle to afford the mortgage post-modification. However, if their income has only slightly reduced, restructuring the loan terms to accommodate lower monthly payments is a viable option.

There are multiple reasons why you might struggle to afford your mortgage, but your lender will ask for proof of hardship in all of them. Some of these reasons include the following:

• Illness
• Natural disaster
• Getting fired
• Pandemic
• Divorce.

The earlier you can consult your lender on whether you qualify for loan modification, the better. Quick solutions can not only protect your credit score but also help save your home from foreclosure.

Why Your Loan Modification Request Might Be Denied

Since lenders have different requirements for loan modification eligibility, your request could be rejected for a number of reasons. Your best bet is to spend time understanding the lender’s requirements for eligibility. Some of the most common reasons for rejection include:

Failure to Afford Repayments for the Modified Loan

Your lender will deny your request if they think that you can’t afford the monthly repayments even after loan modification. In such cases, the best option might be to prove your ability to repay the modified monthly payments.

Failure to Meet Your Lender’s ‘Hardship’ Standards

Lenders will require you to prove that you’re unable to repay your mortgage as it currently is. Failing to meet their hardship standards will result in a rejection of the modification request.

In the financial hardship letter you send them, you should include as much evidence as possible concerning your hardship. For instance, if your hardship is caused by a medical emergency, be sure to include documentation of your current medical condition.

You Can Afford Your Current Mortgage Repayments

Modification often results in slightly unfavorable terms for the lender. That’s why they might be unwilling to modify loans for people who can actually afford their current mortgage. Unfortunately, you might want to restructure your loan to a lower interest rate despite being able to afford it.

If you’re denied because you can still afford the mortgage, refinancing your mortgage is still an option. This way, you can still enjoy better interest rates or repayment terms to suit your current financial situation.

The Lender Has Already Approved Your Loan Modification

Lenders will typically accept only one loan modification request per year. If you’ve already been approved for loan modification, the chances are that the second request could be unsuccessful. Fortunately, you can still file for Chapter 13 bankruptcy to delay having your home auctioned.

You Failed to Adhere to All Trial Modification Payments

In some cases, lenders will offer borrowers a trial modification period before making the loan modification permanent. For instance, they may have you pay your loan under the trial modification payment terms for three months. If you miss a payment during this period, you’re likely to have your loan modification denied.

Debt-To-Income Ratio and Your Loan Modification

As mentioned earlier, your debt-to-income (DTI) ratio is an essential determinant of your eligibility for a loan modification.

Your DTI is calculated as the percentage of your gross monthly income that you use to service your debts. Lenders will typically factor in two types of DTI to assess your eligibility: the ‘front-end’ DTI ratio and the ‘back-end’ DTI ratio.

How to Determine Your Front-End Debt-To-Income Ratio

You can calculate your front-end DTI ratio by dividing your total monthly first mortgage payment by your gross monthly household income.

Lenders often refer to your monthly first mortgage payment as PITIA, which stands for Principal, Interest, Taxes, Insurance, and homeowner’s Association fees. The idea is to add up all of these initial costs of the mortgage and divide them by your monthly household income.

Front-end DTI ratio = Monthly House Payment (PITIA)/Gross Monthly Household income

Do note that you still need to include your insurance, property taxes and/or your homeowner association fees in your total monthly first mortgage payment, even if you pay them separately from your mortgage.

How to Determine Your Back-End Debt-To-Income Ratio

Your back-end DTI is calculated by dividing your monthly debt payments by your gross monthly household income. In this case, you’ll be including all liabilities that appear in your credit report.

These liabilities include:

• Personal loans
• Alimony
• Child support
• Credit card payments
• Second mortgages
• Your PITIA or house payments
• All other accounts that are reported in your credit report.

The formula for calculating the back-end DTI ratio is:

Back-end DTI ratio = total monthly debt payments/gross monthly household income

Why Your Debt-To-Income Ratio Matters

Lenders are trying to minimize their risks as much as possible, which is why they focus on your debt-to-income ratio. DTI ratios act as indicators of your ability to repay your loan.

A high debt-to-income ratio means that a majority of your income is going into debt repayment. Lenders might feel that you might struggle to repay your loan post-modification in such a case, which often results in a rejected loan modification request.

On the flip side, a low debt-to-income ratio proves to lenders that you can easily handle your loans. It shows them that your income isn’t currently tied up in debt repayment, which is why they’ll be more willing to modify your loan.

You can calculate your DTI before approaching a lender for a loan modification. In case your DTI is too high, look for ways to lower it, such as reducing the number of debts you have.

Lenders will typically have their own DTI ratio requirements for a loan modification. However, most lenders will be willing to offer loan modification to homeowners with DTI ratios that are lower than 50%.

How Loan Modification Affects Your Credit Score

Loan modification can impact your credit score negatively as long as your lender reports it. However, this negative impact might be minimal in comparison to the hit your score will take from missed payments or foreclosure. What’s better is that your credit score is bound to bounce back if you keep up with loan payments under the modified loan terms.

Be sure to consult with your lender to know whether they’ll be reporting your modification. If the impact of modification might derail any financial plans you have, consider other options like debt refinancing, if possible.

How Debt Modification Compares to Refinancing

Unlike debt modification, refinancing involves acquiring an entirely new loan to replace your current loan. While debt modification is great for anyone who’s at risk of foreclosure, refinancing will be great for lower-risk borrowers that could enjoy more favorable terms by restructuring their loan.

Refinancing will be ideal for you if:

• You have equity in your home.
• You are looking to save money through more favorable mortgage terms.
• You are in a generally great financial position.

You don’t have to get your loan from the same lender when refinancing your loan. You can shop around for more favorable rates. However, since you’ll be getting a new mortgage, you’ll have to pay closing costs when refinancing your home.

Save Your Home Today

Experiencing financial hardships doesn’t have to condemn your home for foreclosure. You can still save it through loan modification. As long as you meet your lender’s requirements for eligibility, saving your home will be a viable option.

Consider working with Dickson Frohlich Phillips Burgess’s attorneys for an easy time negotiating loan modification with your lender. Our loan modification attorneys can guide you through the loan modification procedures.

We have experience helping clients save their homes throughout Tacoma, Seattle, and the Puget Sound region. Contact us today or call us at (206) 621-1110 if you are located in Seattle, or at (253) 572-1000 if you are in Tacoma to place the fate of your home in able hands.