Loan Modification Help: Why Lenders Are Slow To Provide Loan Modifications

Have you fallen on hard times? Do you need a loan modification?

Just flip on the television, radio, or Internet to find countless ads for companies claiming to do successful loan modifications.

The only problem is, it’s tough to know if they truly will be able to help you. Why? A new study reveals that some mortgage lenders actually make more money when a loan goes into foreclosure than if it is modified.

In fact, mortgage servicers –- including many large banks – have found it cheaper to foreclose on homeowners than to offer loan modifications that would benefit homeowners and investors, according to “Why Servicers Foreclose, When They Should Modify, and Other Puzzles of Servicer Behavior,” a new report from the National Consumer Law Center (NCLC).

And as every good investor knows, net profit isn’t just about the rate of return. It’s also about how well you hold down the expenses associated with that investment.

Most homeowners assume that foreclosure is a money-losing proposition for lenders and investors. There’s a lot of talk that with a short sale, a lender might only lose 10 to 20 percent of an investment. But with foreclosures, lenders might settle for 20 to 30 cents on the dollar or more.

These numbers would seem to point mortgage servicers toward doing more loan modifications. But as the recent RealtyTrac foreclosures number showed, the third quarter had the highest number of foreclosures on record.

“The country is in the midst of a foreclosure crisis of unprecedented proportions. Millions of families have lost their homes and millions more are expected to lose their homes in the next few years,” noted Diane E. Thompson, an attorney with NCLC and author of the study.

Thompson argues that reduced home values and high unemployment is pushing homeowners to the edge financially.

“With home values plummeting and layoffs common, homeowners are crumbling under the weight of mortgages that were at best only marginally affordable when made,” she explained.

The report examined foreclosures made from 1995 through 2009 and found that loan servicers make more money by offering forbearance (where the homeowner is given a specific period of time to not make payments in an effort to regroup financially) or payment plans than by cutting principal or offering reduced interest rate payments.

According to the report, “Loan modifications inevitably cost the servicer something. A servicer deciding between a foreclosure and a loan modification faces the prospect of near certain loss if the loan is modified, and no penalty, but potential profit, if the home is foreclosed.”

Moreover, the report found that financial incentives offered by the government to help homeowners avoid foreclosure do not equal the profit generated by foreclosure. The lack of “third-party oversight allows servicers to pursue foreclosure instead of effective loan modifications that would benefit homeowners as well as investors.” Credit rating agencies and bond insurers do monitor servicers, NCLC found, but they, too, generally push for foreclosure instead of loan modifications.

“The people who could change the way servicers are doing business – Congress, the Administration, and the Securities and Exchange Commission – and the market participants who set the terms of engagement – credit rating agencies and bond insurers – have failed to provide servicers with the necessary incentives to reduce foreclosures and increase loan modifications,” Thompson said.

The report suggests the following changes in order to encourage more loan modifications: regulate loan originations; mandate loan modifications before foreclosure; fund quality loan mediation programs; provide for principal reductions on existing loans through the HAMP program and through bankruptcy reform; increase automated and standardized loan modifications for borrowers in default and provide a safety net for borrowers who do not qualify for a standardized modification; ease accounting rules for loan modifications to facilitate standardization and encourage long-term loan modifications; require loan servicers to be more transparent and uniform in how loan modifications are reported; and limit fees charged to borrowers.

You can download the full report at ConsumerLaw.org.