An FHA mortgage modification can help you
In July 2009, the Federal Housing Administration (FHA) launched the FHA Home Affordable Modification Program (FHA-HAMP) to provide assistance to borrowers with FHA-insured loans who are unable to meet their mortgages payments.
FHA borrowers are not eligible for mortgage modifications under the standard version of HAMP. FHA's version of the program is significantly different from the standard version, and since its inception, FHA-HAMP has been updated.
Here's a brief overview of FHA-HAMP and how it may help financially-distressed borrowers with FHA-insured home loans.
FHA-HAMP and conventional HAMP are different
If you are classified as being at risk for imminent default or are in default (defined as at least 31 days past due on your mortgage), you may be eligible for FHA-HAMP.
Conventional HAMP alleviates pressure on borrowers by granting interest rate reductions. In contrast, FHA-HAMP involves principal deferment. By federal law, FHA cannot permanently reduce the principal balance on its mortgages, but borrowers can get the dollar amount subject to interest changes temporarily reduced until the property is sold.
Another difference: FHA-HAMP does not implement a net present value (NPV) test. This is a calculation lenders use on conventional mortgages to determine if it's more profitable for them not to modify your loan. If it is, you don't get a loan modification. The absence of the NPV test in FHA-HAMP is a huge boon to FHA borrowers.
FHA mortgage modification: An example
Through FHA-HAMP, a borrower's mortgage payment is lowered by reducing the loan balance. The principal balance is reduced (up to a maximum of 30 percent) using a partial claim against FHA mortgage insurance, then re-amortizing the loan over a new 30-year term. The objective is to lower your housing expense (principal, interest, property taxes, hazard insurance, and/or homeowners' association dues if applicable) to no more than 31 percent of your gross (before-tax) income.
Here's how it would work for a couple with $300,000 mortgage balance:
- At a rate of 6 percent, the monthly principal and interest payment is $1,799. With their taxes and insurance, their housing payment is $2,000 per month.
- Together, their monthly gross income is $6,500. Their $2,000-per-month housing payment is just under 31 percent of their gross income.
- One of them has to take a job at a lower salary, so that the couple's combined gross income drops to $5,000 per month. Now, their housing expense is 40 percent of their pay, and they end up at imminent risk of default.
- They need to get their total housing payment down to 31 percent of their new $5,000 monthly income, which is $1,550. This means lowering their principal and interest payment to $1,349 (assuming the $201 payment for taxes and insurance stays the same).
- An FHA-HAMP loan modification leaves their 6 percent interest rate alone but drops the mortgage balance to $225,000 and starts a new 30-year term, which lowers their principal and interest payment to $1,349.
- However, when the couple sells their property, the partial claim ($75,000) must be repaid. So FHA-HAMP really amounts to an interest-free loan, not a true principal reduction.
New: Borrower pay-for-performance compensation
If your monthly mortgage payment is reduced through FHA-HAMP by 6 percent or more, you're eligible for annual "pay for performance" bonuses that are applied to your principal balance. They are equal to the lesser of $1,000 ($83.33 per month), or half of the annual reduction of your payments. It's pro-rated and earned monthly every time you pay your mortgage on time for up to five years. So, for the couple in the above example, principal and interest was reduced to $1,349 a month from $1,799 a month, which is $5,400 a year. Half of that is $2,700, so they'd be eligible for bonuses of $1,000 per year. This $5,000 in principal reduction would not have to be repaid when they sell their home. In addition, if they kept their home for five years, they'd have paid $27,000 less than they would have without the loan modification.
FHA-HAMP requires that a borrower's total debt-to-income ratio not exceed 55 percent. That means if your housing expense is brought down to 31 percent of your gross income, but the total of housing plus all of your other expenses exceed 55 percent, you will not be granted FHA-HAMP help. You'd have to reduce those payments first, and HUD strongly encourages you to get financial counseling and learn how to manage your debt more effectively. If you reduce your payments through debt management or bankruptcy, you would then be eligible. However, if you become more than 12 months in arrears on your mortgage, you lose your eligibility.
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