Who Needs A Principal Balance Reduction?

The most common example of someone in need of a loan modification are those that are in soon to adjust ARM’s (adjustable rate mortgages) or even worse scenario is a POA (payment option arm a/k/a negative amortization). Your ARM is about to adjust to a higher interest rate causing your payment to increase $200 or more per month and you just can’t swing it. If you have suffered a job loss, divorce or your property value had dramatically decreased your chances of refinancing into a fixed rate are not very good if not impossible. With this type of hardship your only options are to lose your house or modify the loan. That is what the bank needs to understand. If you were making your payments on time with the payment you had before the rate adjustment the bank is likely to agree to the interest rate reduction or extending the length of your loan to 40 years or more with no problem.

Principal Balance Reductions

Principal balance reductions are not favorable to a bank and rarely do they offer this option. When they do decide to grant a reduction they do it only because the value of the property is much less than the balance you own and there would be no reason for you do anything other than walk away. An important note though is that if they grant a principal balance reduction the bank can issue you a 1009 for the forgiven amount. This is something that you will need to discuss with your tax attorney and decide if you should ask your bank to waive this. This article is in no way meant to be legal advice.

If you have a 1st and a 2nd mortgage your chances of a principal reduction is greater. That’s because in a foreclosure situation the bank holding the 2nd mortgage will likely get nothing. The bank would rather get 20 cents on the dollar than risk getting nothing. If the same bank owns both the 1st and the 2nd mortgages you are in the best possible scenario for a reduction. If they are owned by different banks then it things are a little more challenging. When a bank only owns the 2nd mortgage they will most likely to fight for whatever they can get. If your loans are owned by the same bank they will most likely be more concerned with getting the first into a manageable situation while viewing the 2nd as almost worthless.

Keep in mind that the banks DO NOT want to be in the real estate business. They don’t want to foreclose on a property in a declining market. In today’s market the banks stand to lose $0.35 to $0.80 on the dollar on any foreclosed property. If we were in a booming market the scenario would be more in the banks favor and you would most likely not be reading this post. Any bank would rather collect lower payments than none at all.

Next post we will discuss Negotiations…