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You may be able to get a mortgage modification—a restructuring of loan terms that lowers your monthly payment—if you can show your lender that financial hardship is preventing you from making scheduled payments. Here's what a mortgage modification is, how it works, qualification requirements and a step-by-step guide to applying for a mortgage modification.
What Is a Mortgage Modification?
A mortgage modification is a significant change to your home loan, which a lender typically only considers if you are about to miss a loan payment or have already missed one payment or more. The goal of mortgage modification is to avoid foreclosure, sparing the lender the hassle and expense of seizing and reselling your house and allowing you to keep the home. A mortgage modification will lower monthly payments, but will also likely mean greater total costs to you over the lifetime of the loan.
Not all mortgage lenders offer mortgage modifications, and those that do typically have steep requirements, including that you demonstrate a significant financial hardship.
How Does a Mortgage Modification Work?
If you qualify for a mortgage modification, your lender will likely consider your credit history, income, debt and financial resources before offering to reframe your mortgage loan terms in one or more of the following ways:
- Extend your repayment period. Adding months or years of additional payments onto your loan can reduce your monthly payments and increase the amount of interest you pay over the life of the loan. If your situation changes and you're able to afford a higher payment, you can consider making extra payments to pay the loan off early, or refinancing if a loan with a better rate becomes available.
- Convert to a fixed-rate mortgage from an adjustable-rate mortgage (ARM). Rate resets associated with ARMs can mean steep monthly payments. Lenders may offer to convert you to a more affordable, more predictable fixed-rate loan as part of a loan modification.
- Reduce principal. In rare cases, a lender may lower the principal portion of your loan. Reducing the amount you owe lowers monthly payments and also effectively hands you a greater equity share of your house. The IRS views equity received through loan modification as taxable income, though, so be mindful of any potential changes to your tax return.
- Refinance the loan. While some lenders may offer this option in response to a modification request, a mortgage refinance isn't really a mortgage modification. Rather than adjust an existing loan, a refinance generates a brand new loan. Lenders may suggest refinancing to borrowers with significant assets they can sell to cover the loan (and that the lender can use as collateral or place a lien against in case of default).
- Reduce your interest rate. Lowering your interest rate by a point or more can reduce your monthly payment significantly. Lenders are likely to be wary of this approach in a climate of rising rates but, if they offer it, the repayment schedule may include "stepping up" the interest rate and monthly payment amount at regular intervals (typically every five years) until the loan is paid off.
How to Qualify for a Mortgage Modification
Lenders differ in their mortgage modification requirements, but typically they require you to show that:
- You're at least one regular mortgage payment behind, or a missed payment is imminent.
- You've incurred significant financial hardship, for reasons including:
- Long-term illness or disability
- Death of a family member (and loss of their income)
- Sudden housing cost increases, such as hikes in property taxes or homeowner association fees
- Natural or declared disaster
- Uninsured property loss
- The home you're seeking the modification for is your primary residence, not an investment property, rental home or vacation property.
If your mortgage is backed by any number of federal agencies or programs, check with your lender (not the relevant agency) to see if you qualify for a government mortgage modification:
- Fannie Mae and Freddie Mac, the federally backed agencies that hold most U.S. single-family mortgages, share a program called Flex Modification. It's available on mortgages at least a year old to applicants who are behind on mortgage payments or facing foreclosure.
- If you have an FHA loan—a mortgage backed by the Federal Housing Administration—you may be eligible for a variety of relief programs, including mortgage modification.
- Active and retired service members and surviving spouses with VA Loans—mortgages backed by the U.S. Department of Veterans Affairs—can apply for loan modification and several other foreclosure-avoidance options. The VA recommends borrowers ask their lenders about foreclosure-avoidance options as well as consult federal housing counselors for assistance.
How to Get a Mortgage Modification
Ideally before you miss any payments, take these steps to learn your mortgage modification options.
1. Gather Initial Paperwork
You'll need to document your hardship as part of a formal application for loan modification, so prepare to talk with your lender by pulling together basic records of your income before and after the hardship. The goal is to get a handle on and be prepared to discuss:
- The nature of your hardship
- The extent to which hardship has decreased your income or otherwise affected your ability to make payments
- Your ability to commit to making your new, lower payments reliably for the rest of your loan term
2. Get in Touch With Your Loan Servicer
This is the company that collects your payments, which may or may not be the original lender. Use the phone number or other contact information found on their website, smartphone app or in documents they've mailed to you. You may need to schedule a conversation, but be prepared to discuss your circumstances when you make your initial contact.
3. Complete and Submit a Formal Application
Mortgage modification application forms may be available for download from your lender or provided through email or postal mail. You may be able to submit an application electronically, along with scanned copies of supporting documentation; otherwise, you can submit your application by postal mail or in person, if your loan servicer is local.
Document requirements may vary by lender, but you will likely need to provide:
- Explanation and evidence of your financial hardship (such as loss of income, increase in expenses, death of a co-borrower or divorce)
- Current income documentation (pay stubs or federal tax returns) for yourself, any surviving co-borrowers listed on the loan and, possibly, other residents you expect to contribute to future mortgage payments
- Authorization to perform credit checks on all borrowers (and additional payment contributors, if any)
- Current balances in bank accounts and investment portfolios
- Real estate or other assets you own in addition to the house in question
4. Complete Trial Payments
After processing your application, which can take 90 days or longer, your lender may ask you to make a series of three trial payments. These payments are likely to be lower than your current payment amount, but may or may not reflect the payments proposed in a final mortgage modification offer. If asked to do so, it's obviously very important that you make these payments in full and on time.
5. Await a Final Mortgage Modification Decision
If your application is approved, you'll be notified by mail and provided an updated loan agreement and payment schedule.
How Does a Mortgage Modification Affect Your Credit?
The appearance of a loan modification on your credit report can adversely affect your credit scores, but its impact typically will be less severe and long-lasting than the damage done by foreclosure.
- Mortgage payments you miss prior to applying for a mortgage modification or while your application is being processed will hurt your credit scores.
- In fact, if you had a relatively high credit score before missing your first payment, that initial delinquency could lower your score by a larger number of points than a subsequent mortgage modification.
- If you keep up with your lower payments under a mortgage modification plan, you may be able to rebuild your credit scores within a few years.
By contrast, a foreclosure will remain on your credit report—and damage your credit scores—for seven years from the date of your first missed mortgage payment. (The score impact of a foreclosure diminishes over time, but doesn't end until it "falls off" your credit report after seven years.)
Alternatives to Mortgage Modification
If mortgage modification isn't right for you, but you still need to navigate your mortgage during a time of hardship, there are some alternatives.
- Repayment plan: If you're able to resume regular mortgage payments after missing a few, a repayment plan can temporarily increase your monthly payments until you've repaid the amount you missed (plus interest), after which your payments will return to normal.
- Mortgage forbearance: A mortgage forbearance plan is meant for borrowers with temporary financial challenges. It suspends or reduces your payments for up to 12 months, after which you must resume regular payments and repay excused payments.
- Refinancing: If you have good credit and interest rates are more favorable than when you got your original mortgage, you may be able to refinance your mortgage with a loan that's more affordable.
- Short sale: If the amount you owe on your house exceeds its market value, your lender may consent to a short sale, under which it accepts the proceeds from the sale of your home to settle the mortgage. This can be a better option than foreclosure, but may have significant tax consequences.
- Deed in lieu of foreclosure: In a deed in lieu procedure, you voluntarily transfer ownership of the house to the mortgage lender in exchange for release from the loan and payments. If the property is worth less than the balance on the mortgage, you may be required to pay the difference.
The Bottom Line
If you're facing financial hardship, mortgage modification can help you keep your home by lowering your monthly payments. While mortgage modification may increase your long-term borrowing costs and cause a temporary ding to your credit, staying in your home can ease a major source of stress. If you're worried about losing your home to foreclosure, reach out to your lender to see how they can help.
It may be difficult to avoid bruising your credit scores in the course of seeking a mortgage modification, so it's wise to keep an eye on your credit reports and credit score to monitor the situation, and to track your recovery once you get regular payments back on track.