How to fend off a foreclosure

Homeowners behind in their mortgage payments can get help from lenders eager to get bad loans off the books.

By Les Christie, staff writer

NEW YORK ( -- As the subprime mortgage meltdown sends delinquencies soaring, up to 1.2 million homeowners could lose their homes this year. But in some cases, that doesn't have to happen.

Indeed, as this scandal has unfolded, lenders have said repeatedly that they don't want to foreclose on homes. They generally don't make money by taking over a delinquent owner's property, so it's a losing proposition that they consider to be a last resort.

Indeed, John Robbins, chairman of lender AmNet Mortgage, as well as the Mortgage Bankers Association, says that every time his bank forecloses on a homeowner, it costs an average of $40,000.

Lenders would prefer to help delinquent borrowers get back on track, and they have many options at their disposal to do so.

"Lenders often have great discretion," says Donnie R. Shorts, whose company, Mortgage Mitigation Services, acts as an advocate for borrowers in trouble.

According to Shorts, a lender's response to delinquency depends on many different factors, such as how long the borrower has owned the home, how much equity there is, local market conditions and the local economy.

The first step is usually up to the borrower who should contact the lender as soon as he or she gets into trouble. The earlier the problem is addressed, the easier it is to deal with it.

If non-payments go on for more than a couple of months, the size of the debt involved may grow too large for a borrower ever to get out from under it.

One of Shorts's clients was a Dallas woman who bought her home less than three years ago when her mortgage payment came to $1,600 a month. Because of a job loss and a period of unemployment, she fell behind. She called her lender but met with little sympathy.

"The lender more or less told her, 'We want our money now,'" says Shorts.

After that, like many borrowers in the same boat, she got scared and tried to ignore the problem. Too often, according to Shorts, borrowers in trouble stop opening their mail or answering the phone. That just makes it worse.

"By the time she came to us," says Shorts, "she had missed three payments and was three weeks from foreclosure."

The lender's reaction may seem schizophrenic. On the one hand lenders have a responsibility to their shareholders to try hard to collect debts. But a hard-nose attitude can work against them by discouraging borrowers in trouble from seeking help.

In fact, most mortgage outfits have two different departments to deal with late payments, according to Ken Wade, CEO of NeighborWorks America, a community development organization. One is a collections department and the other is meant to help borrowers' work out a repayment plan. Delinquent borrowers should make sure they are talking to the latter.

Just what are lenders prepared to do to ease the difficulties of mortgage borrowers? The help they generally offer falls into two categories: Steps that will help borrowers keep their homes and ones that will not.

In the first category are:

Loan modification: Changing at least one term of the mortgage. It is used to bring the loan current by capitalizing the delinquent interest, extending the fixed period on an ARM loan or lowering the interest rate - by as much as a full point - to reduce the monthly payment amount. This will be done only if the borrower's income can support the modified payment.

Repayment plan: A formal, written agreement in which delinquent borrowers pledge to bring their loan up to date within a limited amount of time, usually less than 18 months. This is used often by borrowers who have had serious setbacks, such as illnesses or injuries or temporary layoffs, that will most likely not be repeated.

A Forbearance Agreement: This is when the lender reduces or suspends payments for a specific period of time, usually no more than three months. It's a useful strategy for people who have experienced a catastrophe such as a natural disaster, short-term illness, short-term unemployment, or if there is a pending sale of the property. The suspended payments are added on to the loan.

Even if a lender's help can't save the home, homeowners may still come out ahead by employing some of these options:

Preforeclosure sales: This is especially good for owners with home equity left in the property after the loan is paid off. That sum goes right to them.

Deed-in-lieu-of-foreclosure: If there's not enough home equity to yield a profit, lenders may accept this option, which results in no exchange of cash. The homeowner simply turns over ownership to the lender and walks away. The borrower preserves more creditworthiness than if the home is foreclosed on.

In addition to these mitigation options, if the mortgage is an FHA-insured loan, the owner may be eligible for a one-time payment from the Federal Housing Authority's insurance fund that will wipe the arrears clean.

The borrower does, however, have to sign a promissory note for the amount FHA pays, and there will be a lien placed on the property that will only be removed after the note is repaid. Fortunately, the note is interest-free and is due when the property is sold or the first mortgage is paid off.

In the case of the Dallas woman, Shorts worked out a similar deal with her lender. He got the three months of arrears added to the end of the note, enabling her to stay in her home. That kind of happy ending is common in mortgage mitigation.

"For lenders," says Shorts, "it's not about the property, it's about getting a bad loan off the books."