There are two main reasons. Firstly, the banks have two main tests used to determine if the homeowner qualifies. The first is called “Front-End DTI (debt-to-income ratio). You may remember I mentioned this earlier in the report. This is a formula the bank uses to calculate the payment that would be necessary to reduce the payment to 31% of the borrower’s gross income. The 3 main tools that banks use to modify are:
- The actual interest rate
- The term of the loan
- The principal balance reduction.
This is the first test that it used. If the homeowner doesn’t qualify with the first test, then they are done. However, even if the homeowner passes the first test, there is a second test known as the Net Present Value test. This is a mathematical formula that basically tells the bank whether they will be better off to do one of these 3 things:
- Modify and keep the loan on the books
- Foreclose on the note
- Recoup their money and go out and lend it again through a short sale
The variable in this scenario is the borrower and what they can afford. Remember, when the banks modify it is something they will do in their own best interest and not always the best interest of the homeowner. Although it may seem like a lengthy process, in reality these tests do not take that long to complete. Then again, with half of the homeowners in the country trying to do loan modifications all at once, right now the banks are a little backed up.
A loan modification is not as easy or often as successful as it is portrayed on TV or by what is stated in the media. When it comes to the Front End DTI test and the Net Present Value test, a skilled negotiator can make the difference between a yes or no answer. More often than not, a loan modification will simply not be granted and you will be forced to look at other options.
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