Loan Modification Should Include a Principal Balance Reduction

Dale Carnegie once said that “the only way to get the best of an argument is to avoid it.”  This is easier said than done if you’re currently attempting to get a loan modification from your bank.  Whether you are going it alone or paying for a loan modification no doubt you will experience some frustration.

 This may be because lenders don’t really want to modify your loan.  In an article from the Boston Globe yesterday titled ‘Lenders avoid redoing loans, Fed concludes’ economist Paul S. Willen said “loan modification is not profitable for lenders, if it were profitable they would go out and hire staff.”

 Now this isn’t entirely accurate.  The lenders are hiring staff and they are modifying loans.  How do I know this?  I recently interviewed for a position in the loan workout department of a very large lender that accepted billions in TARP money.  During my interview I was told that they are reducing interest rates AND principal balances. 

 My theory is that the banks are slowly starting to recognize that a loan modification should include a principal balance reduction.  Without one the borrower will inevitably fail.  A few weeks ago I was asked to speak at my church about loan modification.  I met a woman there who was able to successfully negotiate a loan modification on her own with Wachovia Bank.  This loan modification included a change in interest rate from 6.6% to 5.87%.  That’s obviously not enough to make her payment significantly more affordable.  The real help came with the $60,818 principal balance reduction she received.

 The reason the statistics on modified loan failures are high is because they don’t include a principal balance reduction.   Borrowers eventually realize that while their payment is more affordable the mortgage they have could take a decade or more to pay off.  Once this reality sets in they just walk away.  For example, it would take 8 years for a homeowner with a mortgage of $150,000 and a home value of $100,000 to be at break even.  And that’s at a 6% annual appreciation rate.

 My advice to colleagues, clients, friends and you is to fight hard for a loan modification which includes a principal balance reduction that is more in line with the market value of your home.  Without one you are likely to become another statistic.

The Key to Real Estate Recovery: Affordability

I’m no economist, although as a real estate investor and loan modification consultant I do study trends like unemployment and consumer confidence.  These trends have less to do with what is actually going on in the real estate market and more to do with public perception.  After all, unemployment may be up and consumer confidence down but people still need a place to live. 

Forget about price per square foot.  Forget about tax incentives.  Forget about absorption rates and inventory levels.  Forget about median prices.  And, forget about unemployment rates and consumer confidence.  The key to real estate recovery is affordability.

Maricopa Seeing Signs of New Beginning, an article in last Sunday’s edition of the Arizona Republic, told the story of a community 30 miles south of Phoenix hit hard by the real estate market downturn.  Maricopa is on the road to recovery because homes there are affordable again.

The median price for a home in this community is $100,000.  A first-time homebuyer can get an FHA/VA/USDA home loan at 6.5% and with a monthly payment of $777.  A family with a combined household income of $40,000 can easily afford this payment.  Likewise, an investor looking for cash flow, a tax deduction and hedge against inflation can do well here.  If the investor pays all cash and nets $750 a month in rent their annual cash on cash return is 9%.

The California Association of Realtors publishes a Housing Affordability Index on their website.  According to their site “the C.A.R.’s First-time Buyer Housing Affordability Index (FTB-HAI) measures the percentage of households that can afford to purchase an entry-level home in California.”

In the first quarter of 2008, 46% of Californians could afford to purchase a home…the first quarter of this year, 69%.  There are a number of areas in California that are experiencing the same type of recovery as Maricopa, Arizona. 

While this index, like most indices, don’t explain the whole story it is clear that as homes become more affordable again people will buy.

Big Bad Banks and the Government that Enabled Them

“They need to do a much better job on the basic management and operational side of their firms,” Mr. Barr said. “What we’ve been pushing the servicers to do is improve their infrastructure to make sure their call centers are doing a better job. The level of training is not there yet.”

-          Michael S. Barr, the assistant Treasury secretary for financial institutions, as quoted from the New York Times article, ‘Paper Avalanche Buries Plan to Stem Foreclosures’ on 6/28/09, discussing the banks’ loan modification efforts.

Most of us have a family member or friend that has experienced hard times.  You help them find a job, buy them a few meals, let them crash at your place for a while, and may even lend them some money.  But, at some point you realize two things:  (1) Perhaps it was their poor attitude and lack of organization that got them into this situation in the first place; (2) If I keep bailing them out what incentive do they have to clean up their act?  Then it dawns on you…you are an enabler.

That is the situation we find ourselves in today with banks like Wells Fargo, Bank of America (formerly Countrywide), and Citigroup.  By now you’re probably familiar with the bailout figures, published on Pro Publica’s website, ‘Eye on The Bailout’:

• Bank of America        $52 Billion
• Citigroup                      $50 Billion
• Wells Fargo                 $25 Billion

Staggering numbers indeed…but, the enabling began long before the bailout took place.  This is an excerpt from a HUD urban policy brief written in 1995:

“At the request of President Clinton, the U.S. Department of Housing and Urban Development (HUD) is working with dozens of national leaders in government and the housing industry to implement the National Homeownership Strategy, an unprecedented public-private partnership to increase homeownership to a record-high level over the next 6 years.”

This National Homeownership Strategy initiative gave banks their green light to start lending to anyone with a pulse.  And, the incomprehensible part is the amount of greed and corruption that took place in the years that followed.

“Wells Fargo mortgage had an emerging-markets unit that specifically targeted black churches, because it figured church leaders had a lot of influence and could convince congregants to take out subprime loans.”

-          Beth Jacobson, former loan officer at Wells Fargo Bank discussing marketing practices in ‘Bank Accused of Pushing Mortgage Deals on Blacks’ from the New York Times on 6/6/09

Wells Fargo is now being sued by the city of Baltimore and the N.A.A.C.P.  However, they’re not alone.  Last month, the SEC filed a lawsuit against the former CEO of Countrywide for civil fraud.

So the notion that the banks and government working together, or against each other, will save us is seriously flawed.  They should both be held equally accountable for creating this mess, for sure.  But, it’s time to cut ties.  Let the banks sink or swim.  No more free rides.  It’s time to stop the enabling.

And come to think of it…it’s time to kick my brother off the couch.

The Millionaire Real Estate Investor Next Door

Warren Buffett wrote last year in a New York Times op-ed piece called ‘Buy American.  I Am.’ that “A simple rule dictates my buying:  Be fearful when others are greedy, and be greedy when others are fearful.”  Of course, he was referring to stocks.  However, I believe the same is true for investing in real estate.

 It’s easy to find the fear.  Just pick up your local newspaper.  My daily reported last week that ‘45,000-plus Valley Properties Remain in Foreclosure’.  If Warren Buffett is right then I guess now is the time to start building your real estate empire.  But, before you go out and pay big bucks for a real estate seminar to learn how to wholesale, short sale, buy at the courthouse steps, or lease/option remember this:  real estate is a local business.

 In June of 2002, I flew to Atlanta and paid $2,700 to learn how to get banks fighting to lend me money.  This was the second seminar I attended that year.  The other was a workshop in Denver where I spent $1,200 on a lease-option course.  Unfortunately, all of this real estate education was getting me nowhere.  The banks I talked to weren’t fighting to give me money.  Actually, I think they were laughing at me.  The lease-option strategy netted me a little cash but certainly not enough to quit my day job. 

 Then I called a local real estate attorney named Bill Kozub for some advice.   Bill had a great sense of humor.  He told me that he used to be a real estate broker and later became a real estate attorney to kill his own deals.  That was funny.  Bill set me straight right away.  He told me to stop wasting time and money traveling all over the country.  I needed to find a real estate investor in my home town that could teach me the business.

 Through a little networking and detective work I met one of the most prominent, and discreet, real estate investors in the state.  He made me a simple deal:  I get a contract with a homeowner in foreclosure and he provides the leads, money, title company and buyer to close the transaction – we split the profit.  Because I was ambitious and willing to serve he shared many of his investing secrets with me.  I spent a year as his apprentice and he never once asked for anything in return.

 Don’t get me wrong.  I believe there are many quality real estate education programs out there that will help you reach your goals.  Next month I’m enrolling in several, including a class on using self-directed IRAs for real estate investing and a business financial management class.  My point is that much of what you need to know in real estate isn’t taught in the classroom.

 Attend a local real estate investment class.  Talk to a realtor, title company representative, your church pastor, anyone who might know the millionaire real estate investor next door.  And when you find the millionaire real estate investor next door, be ready to serve.  It’s like Jim Rohn once said, “Whoever renders service to many puts himself in line for greatness – great wealth, great return, great satisfaction, great reputation, and great joy.”

Why the Mainstream Media Hates Loan Modification Companies

‘Your lenders are prepared to negotiate’, a column today in the Arizona Republic penned by Rick DeBruhl, a consumer reporter for 12 News, the NBC affiliate in Phoenix, advises you to “Avoid loan-modification companies. While there might be a few good ones, I hear from too many people who have lost money with no result. Better yet, find a certified counselor for free. You can even try it on your own. Just don’t give up.”

 Virtually every story I have read about loan modification companies, written or broadcast, by the mainstream media comes with the same disclaimer, which usually goes like this, “there might be a few good ones…”, or “legitimate loan modification companies do exist, but…”  In the very next sentence they then proceed to blast an entire industry.  Whatever happened to objective news reporting? 

 If these legitimate companies exist then why don’t the mainstream media interview the company’s principals?  Better yet, how about actually interviewing the people these for-profit loan modification companies have helped?  The mainstream media has no trouble researching, finding and publicly humiliating the bad guys (this is deserved most of the time).  Why don’t they put the same time and effort into profiling the good guys? 

 This is why…because every story needs a villain and right now for-profit loan modification companies fit the bill perfectly.  Admittedly, the industry as a whole has done little to boost its public image.  The illegal roadside signs and the poorly produced radio and TV commercials by personal injury law firms now doing loan modifications paint a very sleazy picture of the loan modification industry.  Couple that with the fact that the industry does not have a unified voice and you get a perfect target for the mainstream media.  After all, if the good guys don’t collectively yell and scream every time a column like Mr. DeBruhl’s is published or broadcast then they must be corrupt, right?

 It is a fact that far more consumers have been scammed or ripped off by financial advisors, accountants, attorneys, realtors and doctors than have by loan modification companies.  Don’t believe me?  Research your local bar association, real estate licensing division, or board of medicine website and read through the laundry list of complaints that exist against their members. 

 The mainstream media shies away from reporting these individual complaints because they recognize, as the general public does, that one bad apple doesn’t spoil the whole bunch.  More importantly, the mainstream media refrains from unilaterally dismissing any of these industries as a scam because they will feel the wrath of powerful organizations like the American Medical Association or the National Board of Realtors. 

 Until there is regulation and a unified voice for loan modification companies these attacks will continue.  And the loser in all of this, as always, is the homeowner.  Contrary to what Mr. DeBruhl wrote in his column today, most lenders are not ready to negotiate.  Most of my clients have done exactly what he suggests and have gotten absolutely nowhere.  The certified, “free” counselors are inexperienced and overworked.  And going it alone?  I just spoke with a prospective client on Friday who has sent his loan modification package to his lender three times and they still can’t find it.

 The bottom line is if you pay an attorney to write a will and trust for you, an accountant to do your taxes, a realtor to buy your home and a mortgage broker to secure a loan for that home, wouldn’t you also want a professional to modify your home loan?  Use the same criteria you did to select your attorney, CPA, accountant, realtor and mortgage broker to choose a loan modification company.

Putting the Credit Score Puzzle Together

In the 1960’s, the Fair Isaac Corporation started working on a system designed to help lenders analyze the probability that they would be repaid on a loan. Fair Isaac sought to develop a system that could dependably predict one’s statistical likelihood of creditworthiness, thus the FICO score was born. The evolution of Fair Isaac’s research became the standard of credit scoring by the 1980’s.

Credit scoring has a tremendous impact on one’s ability to purchase high dollar items such as a home. One’s credit score can determine whether the consumer receives a good interest rate to whether or not one can even qualify for a home. For this reason, consumers should understand how credit scoring works and how it impacts their personal ability to borrow funds.

What the credit scoring model quantifies is how likely the consumer is to repay their obligations without being more than 90 days late. Credit scores can range from 350, which is considered a very low credit score, all the way up to 850, the highest possible credit score achieved. Only 1 in 1,300 consumers will achieve a credit score over 800. Consumers with 800+ credit scores are the most likely to obtain the best interest rates available on the market, effectively saving thousands of dollars in interest. On the other hand, 1 in 8 consumers with credit scores between 500 and 600 face the possibility that they won’t qualify for financing. This is why it’s so important to understand how credit scoring works and how it impacts your financial future. 

So how is your credit score derived? Here is a simple guide to help you understand what factors contribute to the composition of your credit scores.

• Payment History:                              35% Impact.
• Outstanding Balances Carried:     30% Impact.
• Credit History:                                    15% Impact.
• Mix of Your Accounts:                    10% Impact.
• Inquires:                                                10% Impact.

Payment History: Paying your debt on time and in full has a major impact on your credit score. Charge off’s, late payments and judgments will negatively impact your credit scores. Missing a higher payment has a more severe impact than missing a lower payment. Delinquencies that have occurred within the last two years carry more weight than older delinquencies.

Outstanding Balances Carried: This factor marks the ratio between outstanding balance and available credit. Ideally consumers should try to keep balances as close to zero as possible. The general rule of thumb is that consumers should keep their balances at or below 30% of their available credit limits.

Credit History: This factor marks the length of time a consumer has had credit. The longer the duration of time a consumer has had credit, typically the stronger the consumers credit scores will be.

Mix of Your Accounts: A mix of auto, credit cards, and mortgages are typically more beneficial to obtaining higher credit scores than solely having credit in just one segment such as credit cards.

Inquires: This represents the number of inquires made on a consumer’s credit history within the last six months. Each hard inquire can potentially cost the consumer from 2 to 50 points to their credit score. The consumer’s credit score can be impacted by the first 10 credit inquires in a six month period however at the 11^th inquire; the consumers credit will no longer be impacted.

Having a complete understanding of how your credit scores are derived is essential to making positive decisions regarding the management of your credit. In next week’s article, we will help explain how people with credit challenges can make simple changes that can positively increase their credit scores as much as 100 points in 40 days.

By Eric Fowlston of Desert Hills Bank, Phoenix Arizona – efowlston@deserthillsbank.com, 602-324-6725

Foreclosure 2.0: Mortgage Running

There’s a disturbing trend developing in the real estate market today.  I have no scientific data to support this trend.  I didn’t hire a consulting firm to do market analysis for me to come to this conclusion.  It’s more than just a hunch.  I sense an avalanche, or perhaps a tsunami coming.  All types of people I meet in the online and offline world are grumbling about it.  Here it is:

Honest, hard-working Americans with integrity and significant cash reserves, including many with deep religious faith and beliefs, are giving up on the dream of homeownership.

I’m not the first to notice this trend.  In an article written on February 8^th, 2008 in the Wall Street Journal called ‘The Rise of the Mortgage Walkers’, it was reported that “The apparent willingness of borrowers to ‘walk away’ from mortgage debt has contributed to extraordinary high levels of early default on loans issued during the 18 months before the mortgage bubble burst.”

But many industry experts expected mortgage walking to cease when the $750 billion TARP plan was rolled out last fall.  The banks, presumably flush with cash and performing assets on their books, would be more agreeable to modifying loans and helping distressed homeowners stay in their homes.  Instead they stuffed the money under their mattresses to improve their balance sheets and kept rolling along with record foreclosure filings nationwide.

As a result, property values have continued to spiral downward and even the most responsible homeowners find themselves stuck in homes worth half of what they paid for them.  Among these homeowners, what is most stunning is the emotional transition that has taken place over the past six months.  They no longer have any attachment to the home.  Therefore, the decision to run, not walk away from the home is business, not personal.  Forget about the fact that they signed a promise to repay the lender.  Forget about the fact that their credit will be negatively affected and forget about the fact that everyone they know will find out that they lost their home in foreclosure.  All of this pales in comparison to losing hundreds of thousands of dollars on a place to live.

In fact, outside of a tarnished credit report, for primary homeowners there is very little at stake in walking away from a mortgage.  In Arizona, for example, banks are forbidden from getting a deficiency judgment against a borrower if the loan was used to purchase the property (refinancing and home equity lines of credit don’t count) as long as the dwelling is four units or less and sits on 2.5 acres or less.  It doesn’t matter if the home was an investment property or not.  And, in January of 2007 the IRS changed their guidelines and no longer count forgiven debt (from a short sale or foreclosure) on a principal residence as a taxable gain.  This means that if you walk away from your primary residence your only concern is about a 100 point loss to your credit score.

Armed with this information most homeowners are packing up and moving on.  They aren’t walking anymore, they’re running.  Until the banks begin to voluntarily reduce principal balances on all mortgages to within 10% of market value, regardless of whether or not the homeowner is current, this mortgage running problem will not cease anytime soon (see The Missing Piece of the Foreclosure Solution by Jim Randel, 6/6/09).

Everything but the Kitchen Sink

I read a story in the Arizona Republic last week with a headline that read, Foreclosure Home Strippers Can Face Arrest.  And they should face arrest!  After all, it’s bad enough that neighborhoods around the country are full of dilapidated homes with waist high weeds growing in front of them.  Prices will be driven down even further with people taking their clothes off and dancing in front of these homes to loud, pulsating music.

 That was a bad joke, but honestly that was the image that came to mind when I read the headline.  All kidding aside, foreclosure stripping is a serious problem that hurts the homeowner, lender, investor and neighborhood.  In most cases, the foreclosure stripper is the original homeowner.  The homeowner, being understandably frustrated by the foreclosure, decides to take everything in the house, including ceiling fans, light fixtures, cabinet doors and drawers, door hardware, appliances, window coverings, garage door openers and faucets. 

 I’ve yet to hear about any kitchen sinks stolen.  However, I toured a house yesterday that an investor partner of mine bought at the trustee’s sale.  The former homeowner was so angry he even took the 9-volt batteries out of the smoke detectors!  Of course, there are other types of foreclosure strippers (common thieves).  They scope out vacant homes and return to steal copper wire and pipes, air conditioning units and cabinets.

 The problem is that local law enforcement can’t really solve this problem.  In the case of my investor friend, we called the police but there was nothing they could do.  There was no way we could prove that those items were in the home at the time of the trustee’s sale when ownership legally changed.  Nor could we prove that the original homeowner was the one who stole them.  My friend is left to file a civil complaint against the former homeowner and hope for a favorable judgment.  But, realistically he’ll never get a dime.

 Once again, the lenders continue to shoot themselves in the foot.  IF they would be more responsive to their borrowers, IF they would be more agreeable to a short sale or loan modification, IF they would start loaning money again, then maybe we’d have fewer vacant homes and frustrated homeowners.

When to Pay for a Loan Modification

The experts say you shouldn’t pay for a loan modification because you can do it yourself.  That got me thinking about all of the things that I can do myself.  I can change the oil in my car, do my own taxes and buy or sell my own house.  But, I chose not to because I would rather have a professional mechanic, CPA or real estate agent handle the job for me.

Before you decide to pay for a loan modification here’s a checklist of what you should do first:

1. Contact your lender at least three times.  Have you ever called the customer service department at a major corporation?  I recently called DirecTV for help setting up a new receiver.  It wasn’t getting a signal so I called for support.  The first person I talked to told me I would have to schedule a service call for $50.  I didn’t like that answer so I called back the next day.  This time I was told I needed a special adaptor and that they would mail it to me for free.  The adaptor fixed the problem.  The lesson learned here is not to expect the person on the other end of the phone to be fully trained or aware of all of the loan modification options available to you.
2. Contact a mortgage broker or lender about refinancing.  You may qualify for a refinance that will lower your payment.
3. Visit the Making Home Affordable website to see if you qualify for a government incentivized loan modification program.
4. Consider selling your home.  If you don’t want to move because you have kids in school, family in the area or a job close by then this isn’t an option.  But, if you have no strong emotional ties to the neighborhood, put the home on the market even if you owe more than your home is worth.  Your lender will be open to a short sale even if you are current on the mortgage payment.

 If you’re like me and tried all of these options without success it’s time to start shopping for a loan modification company.  I chose my loan modification company the same way I chose my daughter’s preschool:

1. I got a referral from a family friend.
2. I reviewed proof of performance information.
3. I checked for complaints.
4. I toured their place of business.

 This worked for me and I’m very satisfied with the results so far.  Admittedly, my loan modification is not complete.  It usually takes 3-4 months to get a file completed and I’m only about 2 months into the process.  However, they have kept me up to date and are moving forward as promised.

Keep in mind that it can take up to 100 hours to complete a loan modification yourself.  If you have 2-3 hours per day for the next 3-4 months then the odds are in your favor.  If you don’t believe that this is true then check out this story from ABC News, called ‘The Runaround’, that aired last month.

Give Nothing Away for Free

I heard someone once say that people rarely value anything they get for free.  In order to truly appreciate something you must have some skin in the game.  However, the rules of the game are changing.  A mentor of mine once told me that wealth can be created competitively or cooperatively.  The competitive individual believes the pie is so big and the only way to get more is to take a bigger slice.  The cooperative person will just make the pie bigger.

 A surefire way to fail in any business is to give nothing away for free.  If you worry about losing a buyer, seller, client, partner or colleague because of the information you give them, or decide to withhold from them, then chances are you are already headed in the wrong direction.

 The fastest way to build trust and rapport with people is to share valuable, no strings attached, information with them.  If you are a real estate investor and are dealing directly with a homeowner in foreclosure do you explain all of their options?  Before I get a contract signed by a homeowner in foreclosure I make sure to educate them first.  They need to know that a short sale can adversely affect their credit, that they could be eligible for a federally sponsored loan modification, and that there other investors out there like me that could offer them a better deal.  Of course, these disclosures provide me some legal protection.  But, that’s not my primary reason for this line of questioning.

 By the time I get through with this educational session the homeowner in foreclosure is practically begging me to buy the house.  I have successfully made the transition from a greedy real estate investor to a sensitive consultant because I gave them all of the information without being asked.

Will I lose a deal from time to time?  Yes.  But, acts of goodwill have a tendency to be rewarded in the future.  Coincidentally, I learned just about everything I know about pre-foreclosure, buying at the courthouse steps, subject to deals, lease options, seller carry backs, promissory notes, hard money, title insurance, wholesaling and rehabbing, FOR FREE, from a local real estate investor who believed in paying it forward.