Loss Mitigation
Few homeowners sign a mortgage loan agreement expecting to struggle with repayments down the line. However, this happens more commonly than you would think.
When a homeowner encounters financial hardship and falls behind on their mortgage payments, the goal for both the homeowner and the mortgage lender is to get the borrower back on their feet for future payments. This process is known as loss mitigation – when a homeowner and mortgage servicer collaborate to create a plan that avoids foreclosure through forbearance options, repayment plans or potentially the sale of the home.
There are several options and pathways for loss mitigation. Your servicer will offer you different options based on whether your financial difficulties are short- or long-term, or if they see you realistically being able to repay what you owe. By actively engaging in these financial processes, you can potentially salvage investments that might otherwise be lost to foreclosure.
Ultimately, embracing loss mitigation in real estate is a crucial aspect of maintaining financial stability in the market, even when things go wrong. We’ll cover the basics of how loss mitigation works below.
What is Loss Mitigation?
As mentioned above, the loss mitigation process occurs when borrowers work together with their mortgage servicers to create a plan that will hopefully allow the borrower to avoid foreclosure.
For example, if you miss several payments on your mortgage, you can call your servicer to discuss your concerns about repayment. The servicer can help you develop a plan to catch up on payments, delay them until later, or, in worst-case scenarios, sell the home in a short sale to avoid foreclosure.
Federal laws mandate that servicers offer loss mitigation help, providing borrowers with the right to appeal if their application is denied. Your servicer may or may not be the same as your lender. Before signing a loan contract, be sure to find out whether the lender services the loans it closes and how to contact the servicer if not.
What Does Loss Mitigation Mean for Investors?
As an investor in the real estate industry, your involvement in loss mitigation processes can directly impact your financial outcomes and asset protection. You may have more than one property to pay off and manage, and disruptions in your repayment of one mortgage could impact the financial balance you’ve built and cause problems maintaining your other properties.
By actively engaging in loss mitigation strategies when unexpected difficulties arise, you can safeguard your entire portfolio from potential losses associated with foreclosures.
Implementing preventive measures like loan modifications, forbearance, FHA Payment Supplements, or repayment plans can help you maintain a steady stream of income from your real estate assets. Additionally, exploring tailored solutions such as short sales or deeds in lieu of foreclosure can provide you with alternative exit strategies in challenging situations.
Loss Mitigation Strategies and Options
If you are analyzing your finances and realize you may fall behind on mortgage payments, the first step is always to communicate with your mortgage servicer. Your servicer will have the most accurate and up-to-date information about what kinds of mitigation strategies are available to you based on your financial situation.
There are many strategies that fall under the umbrella of loss mitigation. In this section, we’ll describe several of these.
Forbearance
The most common strategy used to mitigate repayment difficulties is forbearance:
Forbearance definition: A temporary pause in your upcoming mortgage payments, the length of which depends on your situation and the terms you agree to with your servicer.
While your forbearance options vary depending on your mortgage investor, this strategy is typically the first one utilized when a homeowner expresses difficulty paying their mortgage. Keep in mind that any missed payments will have to eventually be made up, but forbearance is a great way to give homeowners time to recover from a temporary financial setback without having to worry about mortgage payments during that period.
After forbearance ends, the homeowner will need to use one of the strategies below to resume making monthly mortgage payments and catch up on missed ones.
Repayment Plan
One way to make up for missed mortgage payments is to see if you qualify for a repayment plan. You do not have to choose forbearance if you’d like to engage in a repayment plan, but if you did temporarily pause your mortgage payments, your repayment plan would begin after forbearance ends.
Repayment plans are made with your mortgage servicer. They add back payments onto your monthly payments for however many months necessary to pay back what you owe. Although your monthly payment will be significantly higher than normal, you will have a plan to catch up on missed payments and pay your remaining mortgage balance.
Loan Modification
It’s important to remember that loan servicers do not want to foreclose on your home. They might be willing to explore a complete overhaul of your original loan to avoid foreclosure.
For this reason, you can also work with your mortgage servicer to pay your missed mortgage installments by modifying the terms of your original loan. Some loan modifications could include a change in the interest rate or loan term, but that is not always the case. The goal of loan modification is to merge your past due payments into your loan to catch up.
You could be eligible for a combination of a lower rate, a reduction on your monthly payment, or a loan term extension.
Reinstatement
Reinstatement is the simplest and quickest method of repayment. Reinstatement occurs when the homeowner makes all their past-due payments immediately (often after the forbearance period ends). If you’re able, reinstatement is the best option to repay your missed mortgage payments since you will be immediately caught up and the hit to your credit can be minimized.
Selling Your Home
Unfortunately, some homeowners fall on hard times and deem it necessary to sell their home to pay off the mortgage. In some cases, selling your home is the only way to avoid a negative impact on your credit while having the chance to possibly profit from the sale. There are a couple of different options for selling your home, depending on your financial situation.
Short Sale
If you are not able to sell your home and pay off the mortgage traditionally, you can communicate with your lender to potentially engage in a short sale.
Short sales allow the homeowner to sell the property for less than what is remaining on the mortgage. Foreclosures are expensive and time-consuming, so although you will take a credit hit and lose the opportunity to profit from the sale, it may be worth it (if your lender agrees).
Short losses come with their own set of eligibility requirements and regulations, so be sure to speak extensively with your mortgage lender to see if this is a good option for you.
Deed-in-Lieu of Foreclosure
A deed-in-lieu of foreclosure is less taxing than a full foreclosure, though you are handing the rights of your property back to the lender. The lender must approve this option and consider the value of your home and how much you still owe. You also will take a hit to your credit, and you could be liable to pay the difference between what they sell the house for and your remaining balance on it.
However, when you go through a full foreclosure, you are required to wait seven years before qualifying for a conventional loan again. In a deed-in-lieu of foreclosure, you can qualify in just four years. You also could be offered a “cash for keys” option if your lender approves it and you meet certain moving out requirements.
FHA Payment Supplement Offering
In February of 2024, the Federal Housing Administration (FHA) introduced an option for FHA-insured single-family mortgage owners who need some help completing their payments. This option is referred to as a Payment Supplement and decreases the borrower’s monthly mortgage payment by up to 25 percent.
One of the most important and helpful aspects of the Payment Supplement Offering is that the current interest rate of the mortgage will not change. This is an advantage to borrowers whose interest rate is lower than the prevailing rates.
These offerings will expire April 30, 2025.
Does Loss Mitigation Impact Your Credit?
With any of the above options, you will almost certainly see a negative impact on your credit score. Until you’re caught up on payments, your credit will be reduced. However, remember that the alternative, a foreclosure, typically causes far more long-term damage than a temporary credit hit. Additionally, the impact on credit from loan modifications depends on how the lender reports it.
Conclusion
As a real estate investor, understanding loss mitigation is crucial for navigating financial challenges and avoiding foreclosures. By taking timely action and exploring various mitigation strategies, you can protect your investment, preserve your credit score, and potentially halt the foreclosure process.
