Upside Down, Under Water, or Worse?

What are your options if your mortgage exceeds the fair market value of your home and you have negative equity?

a) Do nothing
If you can afford the payments, like your present home and want to do the right thing, tough it out for the next two to four years until inflation kicks in to help.

b) Loan modification
You want to redo the loan numbers so that the loan makes sense. You work with the bank, and they will work with the investor who actually owns the loan. The bank/investor may agree to reduce the loan amount if you can qualify for a replacement loan, i.e. they take the new loan in payment for the old. Though you don't have to be in default, this is most likely to work if you have some missed payments and a believeable story of personal misfortune. 98% of first time loan mods get rejected, and eventual success rate is less than 25%, so it takes patience and perseverence. Amazingly, 60% of loan mods result in the same or HIGHER payments!

c) Short Sale
Here you hope the bank will accept a lower pay-off amount if you can come up with a buyer. You list the house, receive a reasonable offer against the appraised value, and take it to the bank (who will communicate with the actual investor who owns the loan). The idea is that the bank/investor does not want the house, so will consider taking a loss on the loan balance. Few such deals go through because the buyer get sick of waiting for months while the bank/investor makes the decision. IT pays to work with a REALTOR specializing in short sales. If there are two lenders involved, forget it.

d) File a lawsuit
Sad to say, filing a lawsuit claiming your rights have been trampled by the bank may succeed in delaying the foreclosure and might result in some movement from the bank. The Truth in Lending Act applies to refinanced mortgages and home equity lines of credit on your primary residence. If the lender failed to make certain disclosures required by the law, it might allow the borrower to claim the right to cancel the loan, and encourage the lender to negociate. However, it is a myth that the lender cannot foreclose without the original note - they can get around this with only a 30 day delay.

e) Foreclosure
If you want out and have stopped making the payments, you are facing foreclosure. This is not a good option as you don't want the foreclosure on your credit record, though through credit repair, you can go from foreclosure back to home ownership in as little as 18 months using a lease-option or rent-to-own method. You may also receive a tax hit. Although the federal government allows tax relief on the 'forgiven' debt, it is only for your primary residence and the debt must have been from buying or improving the home. California doesn't forgive anything and will count the forgiven mortgage debt as income. A HELOC becomes an unsecured debt, and the lender has ten years over whcih to collect. On the plus side, you might be offered 'Cash for Keys' to leave quickly and give the bank possession.

f) Bankruptcy
Bankruptcy became more difficult in 2005. Chapter 7 Liquidation bankruptcy is subject to a means test, which is very difficult to meet here in California. Chapter 13 Reorganization bankruptcy is where you pay a portion of your debts over a period of up to five years. Consult a bankruptcy attorney early in the process to see what can be saved before you start draining your retirement accounts to keep up with the payments.

What are your options if you are not yet underwater but have other issues?

a) Refinance
If you still have equity, a strong enough credit rating and enough income, refinancing may reduce your payment. The 'Home Affordable Refinance' program for Fannie and Freddie loans allows you to take advantage of lower rate fixed loans for up to 105% of the appraised value of the home. The property must be owner occupied, and the current mortgage payment must be more than 31% of your gross montly income due to a significant reduction in income or increase in expenses to the point you cannot afford the current payment.

b) Negociate a Forbareance agreement
If you are behind, you may be able to negociate with the lender to add those payments to the back end of the loan. In an appreciating market, this can work, since it buys time for the house to go up in value. This isn't the case today.

c) Sell
Get out while you still have some equity and good credit.

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