What Is a Loan Modification?

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If you're a homeowner who's struggling to make your loan repayments, a loan modification could be your best way to a fresh start. With loan modification, your lender makes a permanent change to one or more of the terms of your current mortgage, which results in a lower payment you can afford. It's a way of resetting the clock on your repayments so you can catch up and avoid foreclosure.

What Is a Loan Modification?

Essentially, it's a small but permanent tweak to your current mortgage to make the monthly payment more affordable. There are various ways to achieve this, such as reducing the interest rate, converting the loan from a variable interest rate to a fixed interest rate or extending the term of the loan. To be eligible, you must have experienced a hardship that caused you to fall behind on your payments, such as a job loss or unexpected medical bills. Back this up with bank statements, bills and pay stubs, and you may qualify for a loan modification.

What Is a Trial Period for a Loan Modification?

Before lenders go through the effort of drafting the loan modification paperwork, they want to test that you can actually make the lower payments. With a trial period, you'll make the payments for three consecutive months based on your new payment amount. Think of it as a loan modification "light" – you'll make the new principal and interest payments, but the payment won't cover any escrow, property taxes or insurance payments that are due or past due. If you can get through the trial period successfully, the lender will offer you a permanent loan modification.

What Is a Streamline Loan Modification?

A streamline loan modification – now called a flex modification – helps eligible borrowers obtain a permanent loan modification without the hassle of completing loan modification paperwork or documenting a financial hardship. The aim is to reduce your monthly payment by around 20 percent. Lenders are obligated to offer you a streamline program if you meet all the following criteria:

  • Your loan is owned by Fannie Mae or Freddie Mac

    if you're not sure, you can look this up on the Fannie/ Freddie websites.
    You have a first-lien mortgage that is at least 12 months old.
    You are more than 90 days delinquent on your mortgage.
    * You have not modified your loan more than twice before.

A lesser delinquency might also be eligible if the property is your primary residence and you are at risk of imminent default. Whatever the circumstances, you still have to complete the trial period, which you can begin as soon as you receive your offer letter. Make all three trial payments on time, and the lender will permanently modify your loan.

What Is the Difference Between a Loan Modification and a Refinance?

Refinancing is another way to change your mortgage term and/or get a better interest rate to reduce your monthly payment. The difference is, with a loan modification, you're simply tweaking the terms of your existing loan. With a refinance, you're getting a whole new loan to replace your current loan. That means you can shop around for the best lender, the best product and the best rates – but you'll also have to qualify all over again and pass income and credit checks. If you're considering a refinance, one tactic is to speak with your lender. Some may be willing to modify your current loan in your favor – even without a financial hardship – to stop you from refinancing through another bank.

Tips

  • A loan modification is a permanent change to the terms of your current mortgage to reduce the monthly payment. This helps borrowers who are struggling to repay the loan.