Loan Modification

Loan Modification allow a restructuring of the original note reducing the monthly payments for a homeowner. These restructuring have been around for some time but have been in the news much recently because of the financial crisis.

Loan Modifications focus on the monthly payment. The belief is that homeowners will stay in their homes if they can afford the payment each month. If homeowners stay in their homes, then fewer homes are on the market for sale. With fewer homes for sale, supply is lowered, creating more demand for the homes that are on the market. More demand creates higher prices that in turn benefit the lenders. With higher home prices, the mortgages that are currently in place are better secured. Also, those selling homes as a part of the normal course of business will be better able to pay off existing mortgages, thus protecting lenders.


The downside to the lender is the cost of analyzing the modification request, preparing and signing the paperwork and the loss of interest.

Recent legislation attempts to assist lenders in recouping these costs by offering incentives. These incentives include $1,000.00 for each modification and $1,000.00 for each year the borrower(s) are current on their mortgage after the modification is agreed to by the parties, up to 3 years.

Borrowers have the incentive of reducing the principal of the loan by $1,000.00 a year for up to 3 years for each year they are current on the loan payments.

The other downside is the number of loans that in the process of being changed. It is staggering to think of the hundreds of thousand of loans being changed currently. For notaries, this means business of course. Having done hundreds of loan modifications myself, I can attest to how relatively easy they are to perform. Only a few documents are involved.

How Payments are Calculated

Payments are calculated using a formula to determine what the borrower can pay. Remember, the goal is to keep the borrower in the home. So the best way to do this is to recalculate the payments so the borrower can afford them. Otherwise, it will be a complete waste of time for all involved (and a waste of money).

Calculations are based on gross income. To meet the new requirements, the payments should be between 31-38% of gross income.

To reach this number, lenders go through a progression. First, see if this percentage can be reached by lowering the interest rate to the current loan rates. If not, second, lower the interest rate up to 2%. Not enough? Then third, the lender can extend the loan to 40 years. If that is not enough, fourth, lower the rate to no interest. If that is still not enough, then the lender can reduce the principal.

There is also a cash flow analysis that banks look at to determine if the cash flow from the modification is sufficient. This is a bit complicated to go into here, but most loans that go through this process meet the cash flow analysis.

Want more information? You can visit HUD's loan modification site. Or visit this article at US News and World Report