I read an article this week that really got my attention. The story revealed that select banks are randomly contacting mortgage customers and offering them loan modifications. The modifications in some cases include forgiveness of a substantial portion of the outstanding mortgage balance. One of the individuals featured in the story had a principal reduction of $150,000 on her mortgage. What is really surprising about all of this is that these individuals have not asked for a loan modification and were not behind on their payments!
At Christian Money.com we are inundated with e mails from individuals who have not only applied once but multiple times for loan modifications and have been repeatedly denied. This raises an interesting question; why would a bank contact a customer and make such an offer when no mortgage modification request has been made? Why would they take a six figure loss when the individual is current on their mortgage payments?
I have a few theories on why banks are doing this:
1. We Can’t Pass Recent Bank Stress Tests
The FDIC has been recently conducting so-called stress tests on major banks to determine how financially sound they are. I have been pointing out for the last three years that most banks are likely insolvent if a true valuation is used for the real estate they are relying on as the collateral on their books.
One common element with the loan forgiveness discussed in the New York Times story is that the loans were all option ARMs and all involved properties with balances owed far in excess of the underlying property value (aka being underwater). Still, there are a lot of people with adjustable rate loans that are in similar situations and not able to get help.
2. We Need To Show Compliance With Government Programs Encouraging Loan Modifications
While banks have not been legally forced to offer loan modifications, they have been granted a variety of financial incentives to do so, In recent weeks, the government has ‘fined’ several banks that have been taking the incentive money but not modifying enough loans.
Mortgage lenders may have good reason for not wanting to grant mortgage modifications. We know that statistically most people that actually do receive a mortgage modification end up being behind on their payments again in less than one year. By ‘cherry picking’ customers that are on time with their loans but have negative equity, banks may believe that they can enjoy the best of both worlds. They can demonstrate they are modifying loans and that the loan modifications are performing.
This really adds a new twist to the entire process. What we have been told for at least three years is that to be considered for a loan modification you must be able to demonstrate a financial hardship and in most cases actually be running late on your payments. This has caused many in the financial media, such as Dave Ramsey, to encourage individuals to miss 2 to 3 mortgage payments so that they can become eligible for a modification (no knock intended on Dave here, he is only responding to the reality of the circumstances) . Under this new approach, it appears that banks are looking for customers that are on time and not those suffering a financial hardship.
3. We Made Some Serious Errors In Your Loan Documents
There are countless stories of banks not having on file proper loan documentation. In some cases, the actual mortgage note has even been lost. If your loan falls into a situation like this, your bank may find it a win-win to have you do all new paperwork and offer you a new deal.
4. We Want To Sell Your Loan
Banks are increasingly trying to clean up their balance sheets by selling problem loans. In the world of buying and selling these mortgages it is conceivable that forgiving negative equity and striking a new deal with a mortgage holder can make the loan more valuable in the secondary market.
I am not sure why these unsolicited loan modifications are taking place, but it is not likely a random act of kindness by the banking industry. It does seem to represent yet another confusing development for those trying to crack the code of what it takes to get approved for a loan modification. For now, I guess to be selected to get one of these special deals appears to be as random as finding a Willie Wonka golden ticket inside a candy bar wrapper.
Helping you make the most of God’s money!