"Why Won't My Lender Give Me A Principal Reduction For My Underwater House?"

May 11, 2012

imagesCAS7XN4N.jpgAt the Law Office of Linda C. Garrett, an virtual online law office, providing full-scope and limited-scope legal services in the practice areas of consumer law, mortages (HAMP), bankruptcy and family law (to include unbundled legal services), I receive many calls from frustrated homeowners sharing with me that their "lender" refused to extend a principal reduction to them at the time their lender approved their loan modification. No doubt, this is frustrating, especially for California homeowners, since a majority of California homeowner's homes are severely underwater. So what is a California homeowner to do when their lender has denied them a principal reduction?

Before I go further, let me discuss some basics about the Principal Reduction Alternative Program ("PRA"):

The Creation of the HAMP PRA

The Principal Reduction Alternative Program is one of the alternatives of the Making Home Affordable Program (MHA) made available in October 2010 through the Home Affordability Modification Program (HAMP). It's an alternative made available to lenders when evaluating a homeowner for a loan modification. For example, to make a modified loan payment affordable to the distressed home, besides extending the terms of the contract, and reducing the interest rate, the lender can also reduce the principal.

So, What Is a Principal Reduction?

A principal reduction is when lender agrees to reduce the principal amount owed on a mortgage-secured loan. With a principal reduction, the lender agrees to forgive a portion of the principal amount owed. In some cases, the lender will agree to forgive the principal amount in excess of the current market value. Up until recently, principle reductions were rarely seen outside of bankruptcy or civil litigation. While HAMP added the PRA to its list of programs, a lender is free to disregard a HAMP PRA and offer an in-house principal reduction to its homeowner.

The Benefits of a HAMP PRA

The HAMP PRA was designed to help homeowners with their underwater homes--by encouraging lenders to reduce the amount the homeowner owed on their home. Encouragement came in the form of financial incentives. It is important for homeowners to understand that the PRA is a voluntary program only! This is important, because many homeowners erroneously believe that their lender is required to extend a PRA to them at the time their mortgage is modified.

Eligibility for a HAMP PRA

Before a lender will consider a homeowner for a PRA, the lender must first determine whether the homeowner is eligible for a principal reduction at the time the lender is evaluating the homeowner for a loan modification. Eligibility includes the following requirements:

Homeowner's mortgage is not owned or guaranteed by Fannie Mae or Freddie Mac.
Homeowner owes more than their home is worth.
Homeowner lives in the distressed property
Homeowner obtained mortgage on or before January 1, 2009
Homeowner's current payment is more than 31% of their gross (pretax) monthly income. Homeowner owes up to $729,750 on their first mortgage
Homeowner has a financial hardship and is either delinquent on their mortgage or in imminent danger of falling behind.
Homeowner has sufficient documented income to support a modified payment.
Homeowner has not been convicted, within the last 10 years, of the crimes of felony, larceny, theft, fraud or forgery, money laundering or tax evasion in connection with a mortgage or real-estate transaction.

HAMP PRA Availability

More than 100 HAMP participating servicers are required to "evaluate" homeowners for principal reductions; however, they are not required to extend principal reductions. Of course, this makes no sense to the distressed homeowner, as it creates a false hope that their lender will extend a principal reduction if the qualify.

Application of the HAMP Principal Reduction Program

The HAMP PRA has not been as successful as initially hoped--even in California--where most homes are severely underwater. The Making Home Affordable programs are incentive-based government programs--not mandatory laws against lenders.

Most lenders are very reluctant to reduce mortgages to current values due to their strong belief that home values will inevitably return to pre-2006 recession values. For the lender, reducing homeowner's principal means permanent lost revenue for its investors.

HAMP Creates Additional Incentives for Lenders to Offer Principal Reductions

In February 2012, as added incentive for lenders to extend principal reductions to homeowners, HAMP increased its financial incentives to lenders. Only time will tell whether the added financial incentives will stimulate and motivate lenders to extend principal reductions to homeowners. In the meantime, other programs are gaining momentum in the fight against distressed properties. For example, the HAMP Home Affordability Foreclosure Alternative (HAFA) is gaining momentum, as it provides financial incentive and safeguards for both the lender and homeowner in connection with foreclosures and short-sales. Also, banks, such as JP Morgan Chase, are offering in-house programs for short-sales. And starting in 2012, JP Morgan Chase started extending, to qualified homeowners, deed-in-lieu of foreclosure options with a cash payment of up to $35,000! (Yes, 5 figures!)

With the passage of every month, new programs continue become available to the homeowner. Therefore, if a homeowner was declined for a principal reduction last year, it does not mean they will be declined this year. I always encourage my clients to always follow up with their lenders every several months to determine if new programs have become available to them.

Need Help?

If you or someone you know owns a California distressed property, I am able to provide to assess their situation to determine all their options, based on the current laws and programs (state and federal) that are available today--and, possibly, in the future. No doubt, navigating the world-wide web can be a confusing and arduous process; and, it is especially important that a California homeowner understand the various laws and programs as they relate to California homeowners.

Helpful Links


Contact the Law Office of Linda C. Garrett--to set up a 30-minute free consultation or paid consultation

Services--to learn the types of services the Law Office of Linda C. Garrett provides

Practice Areas--to determine the other areas of law the Law Office of Linda C. Garrett can provide consumers.

Attorney Profile--to learn more about Ms. Garrett, Ms. Garrett's goals, Ms. Garrett's philosophy and how she "Gives Back".

California Family Law and Divorce Blog

Other Foreclosure Blog Posts

Denied a MHA HAMP Loan Because of the NPV Test? The"Fat Lady" Hasn't Finished Singing!

The California Short-Sale--A Better Alternative to Foreclosure, or a Percolating Nightmare?!

At Risk or Facing Foreclosure?

Beware! Scammers Pretending to be Homeowners and Getting Away With It--A New Scam