Avoiding Mortgage Default
Forbearance opportunity has ended The HUD foreclosure and forbearance moratoriums for FHA and USDA loans ended. The same for FNMA and FHLMC. Forbearance is just one example of avoiding mortgage default, however, the window to enter forbearance has closed. Those still in forbearance must find out the best way to exit in the shortest time period possible. The costs can grow to be insurmountable over an extended period in forbearance. Those still in forbearance (yes, millions are still in forbearance) have some choices to make.
If you currently have issues paying your mortgage, taxes and insurance, what options do you have? What if you are current, but have a concern going forward on ability to pay? Do you know what a Right Party Contact is with your lender/servicer? What about a SPOC? Protect yourself and learn your options with a copy of Winning Mortgage, Winning Home at Amazon. Remember, multiple industry studies show about 2/3 of buyers and millennials over the past 2 years had reservations and concerns about their home and mortgage. Be proactive-don’t wait to be foreclosed. See if you have options.
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Consider A Sale
With the run up in housing prices, the ability to sell and pay off the mortgage provides the cleanest escape financially and credit wise. Prices are still high at present, but are falling every month since mid 2022. Determining what to do about a new residence becomes the problem after a sale. Work out options for recasting a mortgage in forbearance have expanded for FHA, Fannie Mae and Freddie Mac. Chances are your mortgage is owned by Fannie Mae or Freddie Mac despite who your originally made the mortgage loan. Who’s who? The lender made the loan, then likely sold it to an owner such as Freedie Mac or Fannie Mae or a bank, and the owner likley hired a servicer to handle the loan and dealing with borrowers.
Already in default? Default severely narrows choices available. Proactive contact with the lender creates any restructuring opportunities. A servicer more likely handles your mortgage instead of the original lender. Owners of the mortgage (unless its a bank) generally delegate to a servicer all interactions with borrowers. Don’t shy away and avoid the lender or servicer!
How do I get better information to make a good decision?
Now that the forbearance and Covid actions have expired, what can delinquent borrowers expect? If income has not returned to a level to support the loan, borrowers need to face reality. Foreclosure may be imminent. That has not been the case so far. A data firm found that nearly a third of borrowers who start the foreclosure process with at least 40% equity in their homes go to foreclosure anyway. That means the borrower loses and throws away money unless the borrower sells. A borrower may not be able to buy another home immediately since income hasn’t returned. But financial reality means selling, pocketing the money, and renting for a period of time. Why let 40% of the value of your home vanish?
Over half of the 7.7 million borrowers who entered bailout programs are current on their mortgages and making payments again. About 23% of borrowers either sold their homes or refinanced their mortgages to make them more affordable. Roughly 7%, or just over half a million, are in active loss mitigation with their lenders, still trying to work out a loan modification plan. Roughly 73% borrowers in foreclosure have more than 20% equity, and about 28% have more than 50% equity. Many refuse to sell or want to buy a replacement home immediately. Reality has no mercy; it doesn’t let them buy a replacement house and inertia drags them into foreclosure and loss of all equity.
Three Main Categories Causing Mortgage Defaults
How can you avoid mortgage default? Trouble isn’t always avoidable if you haven’t planned or allowed for it. Some causes sneak up on borrowers:
Surprise Financial Hardships
- Job loss or reduced hours, reduced pay.
- Painful, unforeseen medical costs.
- Surprise home repairs.
- Unforeseen vehicle repairs.
- Natural Disaster/Flood/Fire
Poor Spending Habits
- You can’t spend more than your income!
- Upgrading to the newest phone, car or other gadget frequently.
- Keeping up with friends—new purchases or high spending outings.
- Running up credit card balances.
Borrowing Too Much/Buying Too Much Home
- Did you qualify for a larger mortgage than you can actually afford?
- Are you counting on variable commissions or salary jumps to afford the home you bought?
Right-sizing the Mortgage
The lender evaluates your ability to pay a mortgage differently than your ability to live day to day. Winning Mortgage, Winning Home explains the difference between the lender view and your true ability to pay. The lender looks at your income and your debts, but doesn’t consider medical expenses, food costs, or other lifestyle spending choices. Also, the lender looks at PITI (Principal, Interest, Taxes, and Insurance). Borrowing more than 80% penalizes you with PMI (Private Mortgage Insurance) which can be $100-700/month or more.
Remember, the lender doesn’t want a loan to go into default! A foreclosure can cause a loss of +/-30% of the loan amount! PMI helps prevent this large of a loss (read how much PMI you are paying for and how it helps the lender and not you). You may not want to just give up though. Get a SPOC assigned by the lender and find out your options (TPP, Modification, Cash for Keys, Short Sale, Extended Loan Term, Temporary Rate Reduction, and other options).
Forbearance
A note about forbearance (see our BLOG Page for some additional resources). At present, mandatory forbearance for FEDERAL mortgages may help or hurt you. Loans owned by Fannie Mae/Freddie Mac or insured/guaranteed by FHA, VA or USDA qualify as Federal mortgages. But, mortgages owned by other parties (banks, investors) are not subject to mandatory forbearance and can go to foreclosure. Forbearance doesn’t mean any payments are forgiven. Borrowers are expected to pay what they can pay. They must demonstrate what they can’t pay. Later, they pay the portion that they can’t pay now. Choices are limited on repayment — either by paying for a longer term or making additional payments when possible.
Borrowers need to get on a repayment plan and have 3 timely payments to improve a rate and opportunity to refinance.
Cash Out Refinancing
In most states, buyers can refinance and take out a loan greater than the original amount owed when a home was purchased. The amount and restrictions vary by state. This cash-out mortgage might be used for college tuition or other life events. However, most borrowers spend the money and use the house as a piggy bank. In fact, cash out refinancing in 2021 reached a level not seen since 2007. The time of the last housing crash. Many borrowers pulling cash out in 2006-2007 found that the home soon became worth less than what was owed. Borrowers who used their home as a piggy bank found that their spending habits (spending too much money) met its end when the home no longer supported drawing out ever more money from home equity. Many of these individuals found themselves in foreclosure and default soon afterwards.