Loan Modifications on Steroids: BofA Principle Forgiveness Analyzed.

Loan Modifications finally got a boost of media coverage last week when Bank of America unveiled their new loan modification scheme. This scheme promises to forgive up to $3 billion to eligible homeowners with underwater mortgages. Underwater mortgages are loans that have a principal balance larger than the current value of their home.

It seems that overnight Bank of America has gone from villain to hero. From one of the most inefficient loan modification servicers to an innovative leader in the field. Does Bank of America deserve this positive media? Is it all as good as it sounds? This article will expand on our previous post and provide some more details on how the plan will work.

1)      The scheme plans to help around 45,000 underwater borrowers with up to $3 billion in principal balance reduction. Principal balance reductions are the big daddy of loan modifications. The Holy Grail of modifications for borrowers. Up to now most servicers have limited their help to reducing interest rates and extending the term of the loan. However, this is not the whole truth, Wells Fargo reduced up to $2 billion in principal balance reductions for their customers. This  was done with much less fanfare than BofA latest program.

2)      To qualify you must have a LTV ratio (loan to value ratio) of 120% or more. What does this mean? Take this example, if you own a house that is currently worth $100,000, but you still owe $120,000 on it, you have a 120% LTV ratio and qualify for BofA latest modification program. There is no limit to your LTV ratio, although BofA has limited principal reductions up to 30%. Having said that 30% of your loan is a sweet chunk of your mortgage.

3)      This program aims to help those that were worse hit by the financial crisis. It focuses on troubled homeowners that have subprime loans (loans with very high interest rates), payment option mortgages, these are mortgages where the borrower can decide how much to pay every month, which can be even less than the month’s interest fee, and teaser 2 to 1 ARM mortgages that sold cheap interest rates for the first two years, but then switched to adjustable rate mortgages.

4)      The difference with this program is that BofA is claiming to look at principal reductions as the primary method of reducing monthly payments for eligible borrowers. This is a drastic change from the current situation, where principal reduction is the last option banks and servicers will look into to avoid a foreclosure.

5)      This program will reduce principal balance on a staggered 5 year scheme. The bank will take away the principal balance, place it in a 5 years forbearance account ,and calculate monthly payments on the new, modified loan balance. This reduces monthly payments considerably and helps borrowers keep up with their payments. If borrowers keep up with their payments their forbearance account will be reduced after every year. After five years the entire principal balance reduction is permanently forgiven.

David Reed