In 2009, millions of United States homeowners learned that modifying their existing home loans served only to expedite foreclosure rather than prevent it. A U.S. Treasury report released in early December of 2009 revealed that only 4% of applicants under the federal government’s Home Affordable Modification Program (HAMP) have been able to successfully modify their loans on a permanent basis. Further, of those 4% that were able to modify their loans, an amazing 40% went into default within the following 6 months. The unfortunately reality exposed by this report is that while many homeowners allowed their homes to go into default to initiate a time consuming modification process, they effectively disregarded their most viable option for debt relief: a short-sale.

As many homeowners across the country became enticed with the prospect of reducing their monthly payments and loan balances via the HAMP loan modification process touted by government officials, borrowers began contacting their lenders in droves. Banks often instructed borrowers that they must discontinue making their mortgage payments in order to qualify for a modification. Homeowners also found that allowing their home to go into default provided them increased leverage to expedite modification negotiations with their lenders. It is at this point in the modification process that an agonizingly slow train wreck was initiated as seemingly endless unreturned phone calls, requests for more documentation, and transfers to various bank representatives were experienced across the country. All the while the normal 6 to 8 month window between default and the foreclosure sale was closing steadily.

The vast majority of homeowners ultimately learned that the bank would not reduce their principal loan balances and that their monthly mortgage payments would only be reduced nominally or temporarily. Often times this realization didn’t come until after the notice of trustee’s sale was received by the homeowners ? when the debt relief window was only still barely open a crack. The unsubstantiated hope that the HAMP modification program created in millions of financially distraught borrowers served only to prevent them from taking advantage of what has become the most reliable and effective way to avoid foreclosure.

The short-sale process initially started out on rocky ground before banks had time to set up adequate systems and procedures to accommodate large numbers of applicants. However, the year 2009 saw the short-sale process grow increasingly more expedient as the average bank processing period for a completed application rapidly dropped from 4 to 6 months down to 2 to 3 months by year’s end. Further, most borrowers are no longer required to default on their monthly payments prior to attempting to sell their homes for amounts less than what is owed. Apparently realizing that short-sales represent the most effective method to stave off mass foreclosures, the federal government has also acted to eliminate income tax penalties for short-sales until 2012. Not surprisingly, all of these events have led to an increasingly large amount of successful short sales in 2010.

Many will contend that loan modifications are more appealing since they permit borrowers to remain in their homes while short-sales only serve to sell their homes to others. However, it is essential to remember the large percentage of borrowers that are foreclosed upon even after they have successfully modified their loans. Not to mention the incredibly small number of applicants who are actually able to modify their loans to agreeable terms. Furthermore, is it unreasonable to assume that financially troubled borrowers would be better served selling their properties short and moving into more reasonable accommodations until better suited to take on increased debt?

Short-sales represent the conservative option for borrowers looking to get out of increasing debt and into a position where they can begin saving for the future again. Alternatively, loan modifications have become a long-shot gamble on the part of the borrower with only a limited amount of time between default and foreclosure. If the goal is to reduce debt and monthly payments while avoiding foreclosure, there is no doubt that a short-sale is the most reliable and effective course of action.

A Mortgages were designed for borrowers with high credit scores that could not document enough income to qualify for the mortgages required for the homes they desired. Also known as liar’s loans, Alt-A’s got around issues like insufficient income, too much consumer debt, and/or alimony/child support. The mortgages relied on stated income most of the time but mortgages were also done based on verifiable assets with no income statement at all. The loans were often structured so that the initial payments would be manageable but would increase beyond the reach of the borrowers at some time in the future.

The logic behind the loans was that high credit scores were there for a reason. With higher real estate prices a given, it was assumed that the borrowers would be able to keep up with payments but, if not, they would refinance, or sell the home at a higher price. Due to the inflated real estate prices many of the Alt-A’s were done near the peak of the market, just as the bubble was about to deflate. As the market began to trend lower the necessary exit strategies began to disappear. Without refi’s or the sale of property as usable options, Alt-A mortgages started seeing defaults, foreclosures, and bankruptcy filings. Even when loan modifications were available homeowners walked away from properties because they were under water by hundreds of thousands of dollars.

Because these mortgages were larger than average, if the borrower ran into trouble such as an interruption in income due to a job loss or cutbacks in available work hours, making up the shortfall was much more difficult.

In many situations picking up moonlighting hours would not come close to covering what was necessary to make a monthly payment. After all, these were mortgages drawn on property at or near the peak of the market so monthly payments were high and going higher.

These mortgages are now defaulting at a rate of 24% of the total mortgages in the category. The rate is close to double that of the subprimes due to the fact that sub-primes still required verification of income and standard ratios still applied. Despite the low credit ratings of many of the applicants, subprime mortgages were designed and accepted based on the borrower’s ability to pay their mortgage payments both at initiation and after the payments had increased if the loans were adjustables. The reasons for the acceleration of defaults in the Alt-A mortgages goes right back to the logic behind the mortgages in the first place. A high percentage of Alt-A’s were never meant to fit into the budgets of the borrowers that sought them out in the first place.

These loans were designed to get people into homes whether they could afford them or not. The only way the loans could be considered a success was if they could be replaced on short order by refinancing or selling the home but once those options were removed, the homeowners were stuck with mortgages they could no longer afford, if they were ever affordable at all.

The one hope left for Alt-A borrowers trying to stay in their homes is to get loan modifications on their existing mortgages. Principle and interest reductions negotiated in a these modifications have put payments back in reach for many borrowers, allowing them to avoid to pain of a foreclosure or bankruptcy.

Legal Disclaimer

The information contained herein is provided for general information and advertising purposes only and is not intended to convey a legal option nor legal advice for any particular case or situation. Nothing in this article shall create an attorney-client relationship. Nothing sent to this law office via e-mail shall constitute an attorney-client relationship. Nothing contained in this article shall be construed to be a guarantee or prediction of result. Prior results are provided for general information purposes only and do not guaranty, warranty or predict a similar outcome with respect to any future matter. Results achieved depend on individual circumstances and not everyone will qualify or be successful in restructuring their mortgage loan.