Foreclosure alternatives and foreclosure options

 

Mortgage foreclosure is a tragic and traumatic event for any homeowner. It is the legal process whereby property rights to one's home are stripped away due to inability to maintain the obligations of a mortgage loan. The actual process varies by State of residence, and can take anywhere from 6 weeks to 18 months, depending on the jurisdiction.

In almost every State, foreclosure involves the auction of a property by a representative of the county court or the lender in order to satisfy the debt on the house. The investor usually gives instructions to the loan servicer to bid at or near the value of the debt. The servicer usually wins the bid because foreclosure generally occurs only when the debt is greater than the value of the property. The servicer or investor must then manage the house, provide repairs, and sell it through normal real estate channels, hoping to lower the final loss from what would otherwise have been realized if a third-party bidder had purchased the property at the foreclosure auction.

Foreclosure is then not only a costly experience for the family losing a home, but can be a lengthy and expensive procedure for the loan investor, the servicer, and any insuring agency that is also involved. Contrary to popularly held beliefs, these mortgage market participants lose money on nearly all foreclosures. Fortunately, these firms have discovered they can benefit themselves and homeowners if foreclosure can be avoided. Below are options that you as a homeowner need to be made aware of.

1. Industry sources suggest that 70 to 80 percent of all loans at 90-day delinquency can still be reinstated without assistance

2. Borrowers must be encouraged to proceed in that direction; the greatest danger is that borrowers will give up hope or panic and either walk away from their properties or use the legal system to forestall what they believe to be inevitable foreclosures. When a borrower's delinquency extends past day 90, the servicer must change from delinquency management to loss mitigation.

After 3 months of loan delinquency, the organization bearing the credit risk faces a potential for some type of loss, and foreclosure with the associated property management and final sale, is the most costly option. Loss mitigation means finding some resolution short of foreclosure. These resolutions are typically called loan workouts.

3. The least costly workout options are those that keep borrowers in their homes, and the next best are those that assist borrowers in getting out of the now burdensome financial responsibilities of homeownership in a more dignified and less costly manner than foreclosure.

4. The option used for homeowners with truly temporary, one-time difficulties is the advance claim. In this case the insurer pays the servicer the amount of the delinquency in return for a promissory note from the borrower. The mortgage loan is then made whole, and the insurer can collect part or all of the advance from the borrower over time.

5. The next option for keeping borrowers with temporary problems in their homes is a forbearance plan. This option is used for borrowers who have temporary reductions in income but have long-term prospects for increases in income that could again sustain the mortgage obligations. It is also used when troubled borrowers are working to sell properties on their own. The forbearance period can extend from 6 to 18 months or longer, depending on the borrower's circumstances. During this time borrowers may be initially permitted to make reduced monthly payments, working to eliminate the delinquency through increased payments during the latter part of the forbearance period. Because insurers, Fannie Mae, and Freddie Mac typically consider forbearance plans a servicer matter, they are rare in practice, leading some homeowners to lose their homes unnecessarily.

6. For permanent reductions in income, the only way to assist troubled borrowers to keep their homes is through loan modification. Loan documents can be modified in any way, but the two most common are interest-rate reductions and term extensions. Loans with above-market interest rates can be refinanced to the market rate and borrowers charged whatever portion of the standard origination fee they can afford. If the interest rate is already at or below the current rate, then monthly payments can be permanently reduced by extending the term of the mortgage, even starting a new 30-year amortization schedule.Such modifications can be done quickly and inexpensively for loans held in portfolio, and in recent years they have become easier to implement for those loans in mortgage-backed security (MBS) pools.

In many cases borrowers are better off getting out of their existing homes. There may be a need to find employment elsewhere, a divorce settlement that requires selling the property, reductions in income that necessitate moving to lower cost housing, or a deceased borrower with an estate to be liquidated. Whatever the reason, there are three options currently available for borrowers who must give up their homes.

1. The first is selling the home with a loan assumption. This is valuable if the mortgage carries a below-market interest rate that would make its sale more attractive, and in cases in which the assumption permits the purchaser to obtain a higher loan-to-value ratio than could otherwise be attained. Credit agencies will waive the due-on-sale clause of fixed-rate mortgage contracts as needed to assist troubled borrowers sell their properties and avoid foreclosure.

2. Borrowers who must move and who have negative equity in their properties may be eligible for preforeclosure sales in which the insurer or secondary market agency (Fannie Mae or Freddie Mac) helps the borrower market the home and covers any loss at the time of settlement. Borrowers can be asked to contribute to the loss according to their financial abilities. This has become the number one loss-mitigation tool of the 1990s. Industry sources indicate that preforeclosure sales prices are generally at least 5 percent higher than those for homes with foreclosure labels on them, and all of the costs and uncertainties associated with foreclosure and property management are eliminated. Borrowers benefit by avoiding the indignity of a foreclosure.

3. The last option short of foreclosure is for the borrower to voluntarily convey property rights to the lender/servicer. This is an old technique and, as it involves the homeowner signing over the deed to the property, is called a deed in-lieu-of-foreclosure, or simply a deed-in-lieu.

Win-win opportunities

Attempting loan workouts is risky; if they succeed, there are cost savings over foreclosure, but if they fail and foreclosure must be pursued anyway, default resolution has greater costs. That means that the entire decision about whether or not to offer foreclosure alternatives, from the creditor's perspective, comes down to understanding two probabilities: the break-even probability of workout success and the probability of an individual borrower succeeding in a workout. A break-even probability indicates how many workout offers must succeed in order for the total cost of all workouts (successes and failures) to equal the cost of immediate foreclosure on all loans. If the individual's success probability exceeds the break-even level, then it is financially prudent to offer that person a workout .

In summary, there are options out there to save your mortgage, save your house and avoid foreclosure. But even if those options are inevitable, there are still ways to ease the sting of having to deal with a mortgage you cannot afford. To find out more about your mortgage options click here.