Often, struggling homeowners shy away from a short sale because of the potential credit harm that will result from the sale. However, a mortgage modification is not without equivalent or more substantial credit penalties.
The main issue with a mortgage modification is that your servicer or your investor may require that you are delinquent on your payments prior to allowing enrollment into the modification program. This wouldn’t be a problem with a normal loan but a mortgage has an acceleration clause built in. The acceleration clause requires that all of your past due payments must be made in full before the loan is back to being paid as agreed. That means that if you are 3 payments past due, you must make all 3 payments at once in order for your loan resume good standing. A mortgage modification, as a modification of your original mortgage agreement, never allows your loan to resume good standing – even after you have received a permanent modification.
As a result, many borrowers discover after receiving their mortgage modification that the credit is ravaged by all of the prior and continued modified payments as it typically leads to “paid as agreed for less than full balance.”
So what about the instance where the lender does not require the payments are delinquent before offering assistance. Unless agreed upon otherwise, your loan will report “paid as agreed for less than full balance” for the duration of the modification. Imaging remaining in your home for five years after receiving a permanent modification. Conceivably, you could have 60 months of partially paid mortgage payments ruining your credit. Not even a short sale or even bankruptcy would have that affect on you.
For borrowers facing a temporary hardship, a forbearance may be the best options. A forbearance allows you to place the mortgage on hold, essentially freezing it in time, for an agreed upon time period. The goal is that once the hardship has passed, payments can resume. The terms of the loan doesn’t change so the credit impact is minimal compared to the loan modification, short sale, or bankruptcy.
So for homeowners struggling to make their mortgage payments and a temporary hardship, a forbearance may be the best solution. For a more permanent solution, the short sale, deed-in-lieu or bankruptcy may be the way to go.