I am occasionally asked by debtor counsel and/or trustees why loss mitigation is not an option in bankruptcy, and why mortgage lenders, investors and insurers are not more actively engaging in loss mitigation. This question is somewhat puzzling as chapter 13 plans are often home retention plans; therefore lenders are and have been engaged in home retention in chapter 13 cases since the advent of chapter 13. However, because chapter 13 might not always be a viable option for a borrower seeking to save their home and, even if viable, is generally expensive and inefficient from the creditor’s perspective, incentives do exit for lenders to consider more effective options to help borrowers retain their homes.
Historically, loss mitigation was not considered an option in bankruptcy. However, several years ago mortgage creditors and their corresponding loan investors began actively discussing how they could reach more consumers before a bankruptcy is even filed to resolve the mortgage delinquency and thus avoid bankruptcy. One significant hurdle was actually reaching the borrowers. The outreach by mortgage creditors to a delinquent borrower is extensive. Whereas in the past the lender might have just telephoned or written letters, some now send informational videos, personal representatives to their borrower’s homes, and even cell phones with the lenders number programmed into the telephone. Many lenders have far more resources dedicated to loss mitigation and payment solutions than are dedicated to default. However, in perhaps a normal reaction to debt collection, telephones are not answered, calls to the creditor are not made, and mail is not opened. Further, once the borrower consulted a bankruptcy attorney a foreclosure sale was frequently only minutes or hours away, or the loan was so delinquent that the traditional repayment agreement was less viable and attractive than the various re-payment options that bankruptcy would afford. Alas, there was arguably minimal additional success in avoiding new bankruptcy filings.
Moving on in time and experience, the problems and the stakes have increased significantly. Not only is unemployment rising, gas prices and the cost of other necessities are at record highs, housing prices have dropped and a record number of adjustable rate mortgages are resetting. These mortgages may be on the principal residence, which the debtor felt was maintainable during the good times, or on that speculative investment house that would provide a great retirement foundation when it was flipped in 6 or 12 months. Either way, dreams have hit reality head on. While this may be an excellent time to take stock of what type of mortgage products are financially sound for the average individual, as well as how much house is really needed for the typical American family, the answers to these questions will not solve the current dilemma for the consumer or the lending community. Solving the current problems will require creativity, compromise and a refocusing of resources.
As a mortgage creditor representative I know that my clients are serious about loss mitigation in bankruptcy and are making significant progress in that regard. However, there has to be acceptance that every mortgage cannot be modified and every home cannot be saved. There should be an equal realization that while foreclosure is not a desired result, mortgage lenders are not charitable organizations and must return value for the monies advanced. Further, contracts between consumers, lenders, and investors must still be considered to be serious legal contracts that cannot be set aside simply because one party has lost the benefit of the bargain. Not all products are abusive and not all debtors are spendthrifts.
In implementing loss mitigation initiatives mortgage creditors are concerned about violating the automatic stay and understanding where they may need court and/or trustee approval. The level of court and trustee involvement can vary from state to state thus making it difficult to implement national programs. One suggestion is to institute model plan language that would allow loss mitigation discussions immediately after filing. Additionally, not all loans can be handled in the same fashion by the mortgage servicer. I know that it is frustrating to some of my colleagues that XYZ Mortgage Company cannot modify both loans that it is servicing on a given debtors property(s). In simplest terms, this is because in many cases the servicer is not setting the rules. Loan investors from Wall Street, government sponsored entities, and governmental loan insurers as well as private mortgage insurers all have established loss mitigation procedures, guidelines or loan parameters which may not be able to be varied. The loan servicer would be exposing itself to significant litigation and/or financial harm by failing to follow the directives established by the loan insurer or investor.
Some ask when a debtor should seek loss mitigation in a chapter 13 case. The answer is there is never a bad time. Different companies have different perspectives on when loss mitigation is a superior alternative to a feasible chapter 13 plan. Some believe that if a feasible plan can be proposed and maintained then the plan is the best form of home retention and thus might only consider working with a borrower after a default under the terms of the plan. Others will consider loss mitigation immediately after (and before!) the bankruptcy filing. The latter viewpoint holds that where the facts support the adjustment, it is better to service a current loan rather than a delinquent loan and be subject to the bankruptcy. Both perspectives have merit.
Once it is determined a creditor will consider a loss mitigation proposal, the next question is what will the creditor want to see in that proposal. While answers vary, mortgage creditors generally have 4 or 5 basic informational requirements: 1. A hardship letter from the borrower/debtor outlining the reason for the current default and the prospects for the future; 2. Two recent pay stubs; 3. Current financial documentation that may be similar in nature to that which is provided on debtor schedules. In many cases the creditor will accept the original or amended schedules if they are less than 6 months old; 4. Information on what other debts are going to be paid via the chapter 13 plan and in what percentage. 5. If there are any other loans or assessments on the property. This information will allow the creditor to assess what option(s) within the guidelines the debtor can best meet and which have the lowest associated risk. Once the parties agree on the terms, the formal legal work begins. Loan modifications, plan modifications, and stay termination or modifications may be necessary. Some can be achieved by counsel for the mortgage creditor but generally debtor’s counsel must be an active participant.
In addition to the supporting documentation, it is helpful to the loss mitigation process to know what option the debtor desires. Thus, debtor’s attorney will need to be at least minimally familiar with the various loss mitigation options to share with clients. While the mortgage creditor may determine that a particular option is either not financially viable or appropriate for the loan type, knowing where the debtor wants to begin, and end, is helpful to the process. To that end, below is a non-exhaustive list of the various loss mitigation options:
1. Forbearance Agreement. Where the loan payments are partially or fully suspended for a limited period of time. The accumulated delinquency will generally be cured over some specified period of time or in a lump sum at a given time.
2. Repayment plan. Traditional repayment plans outside of bankruptcy do not exceed 6 months. This limitation has offered little incentive to borrowers who can obtain 36 to 60 months to cure a default via a chapter 13 plan. This may still be true for significant defaults. However, for smaller defaults it may be better to arrange a direct repayment with the creditor. Some creditors are now willing to extend the repayment period up to 12 or18 months.
3. Loan Modification. A loan modification is a formal agreement which may require more extensive work for the debtor, the creditor and with the courts. A loan modification can be done for many reasons: to capitalize arrears, reduce an interest rate, extend a maturity date, or change a DSI (daily simple interest) loan to a traditional mortgage type. While loan modifications have the dramatic effect of bringing the mortgage current immediately, depending on the state a loan modification may require substantial documentation and a review of title and title endorsements. Additionally, a formal loan modification may need to be recorded in addition to seeking court approval. For the rehabilitated debtor with a strong future income stream the loan modification can give immediate relief while still allowing the debtor to maintain the case in order to discharge other debts. Mortgage creditors will however want to be assured that they are not funding the plan to the benefit of other creditors.
4. Short sales and Deeds-in-Lieu (DIL). These two options are clearly not home retention options. However, they are still loss mitigation options that may allow the mortgage creditor to minimize losses while still allowing the debtor to exit the relationship in a positive fashion. Both options may require that the borrower attempt to sell the property for a period of time on their own. Additionally, both may have tax ramifications for the debtor if a portion of the debt is forgiven. Short sales and DILs will also likely require court approval if occurring within the context of a chapter 13 case.
Loss mitigation is not a new concept in the mortgage servicing. However, its use in the chapter 13 bankruptcy setting is relatively new and has its challenges. However, in many cases it can be a viable option for debtors who want to maintain home ownership and have the financial ability to do so. More and more mortgage creditors are establishing loss mitigation specialists within their bankruptcy servicing departments which should help with the process of identifying qualified borrowers and providing prompt implementation of approved loss mitigation proposals.
