Loan Modification Offers False Hope to Many Struggling Families

Families in danger of foreclosure are seeking modifications of their loan terms in record numbers. It seems like a great solution to a difficult issue, and they reason that a modification will allow them to make their payments regularly and not fall too far behind. They may figure that since they are still paying down the mortgage that paying a lesser amount for a short time will have no consequences. Unfortunately, they are wrong. People seeking loan modifications often face similar credit history damage to those whose homes end up in foreclosure or short sold.

Loan Modification Is Not a Cure-All

Credit managers and mortgage brokers around the country have touted the benefits of loan modification, proclaiming it as a solution for the financial ails of the home-owning working class. What looks like a mutually workable solution — paying a smaller payment for a fixed time or renegotiating the terms of the loan — is actually fraught with financial pitfalls.

A major loophole in the system is the one that is particularly applicable to larger lenders, such as Bank of America or Wells Fargo, employ thousands in a number of different departments. An existing customer who wants to modify a mortgage deals directly with someone in the loan mitigation/modification department to find a solution. The loan mitigation representative may or may not communicate a change in terms to the lender's foreclosure department. The intended effect of the modification — saving your home without doing irreparable damage to your credit — is thwarted if those two organizations within the lender are not on the same page.

Even if you request a temporary loan modification that results in your making smaller payments, each one of those could be reported to the credit bureaus as a partial payment, thus lowering your score each time a similar report is made. The credit bureaus may not see a loan modification in the same way you do; they view each partial payment as a continuing breach of your original mortgage contract, and their opinion will have a negative impact on your credit score. Another tricky financial situation arises when a temporary modification is only granted on a trial basis — even though you successfully complete the conditions of the temporary period, you might be unsuccessful in obtaining a permanent modification. If that happens, you will be on the hook for any past due amounts including the shortfall between what your regular payments would have been versus the smaller amount you paid plus any interest that would have accrued on the shortfall in that time.

Is It Possible to Protect Your Credit?

Virtually any loan modification will show up negatively on your credit history. There are several ways to minimize the damage done by a loan modification/mitigation:

  • Seek a modification under the Home Affordable Modification Program (HAMP), since there is a markedly lower impact on your credit
  • Speak frankly with your lender and specifically request that your trial payments not be reported as such
  • If at all possible, make all payments on time throughout the trial period

If it is too late to prevent the damage, a skilled financial counselor or bankruptcy attorney may be able to help you mitigate some of it by:

  • Having your lender report your history of on-time payments through a company handling credit rescoring — this is both time-consuming and expensive, costing as much as $1,200
  • Filing for Chapter 7 or Chapter 13 personal bankruptcy protection

If you want to keep your home and stop foreclosure, a bankruptcy filing may be your best option. A skilled bankruptcy attorney can help you determine if bankruptcy is right for you, and if so, which method is best for your specific situation.