When you're in financial distress and you own a home, it can be a scary time. Will you lose it all? Will your home get repossessed by the bank? At a time like this, you may sit down to review your options but get bogged down in the choices you have. How is home loan modification different than mortgage refinancing? Which is right for you?
First off, relax. There are lots of qualified financial counselors, information from your bank, and free online resources like this website to help you get informed. Nobody expects you to know everything right away, and it's not really as complicated as you might think.
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Home Loan Modification vs. Mortgage Refinancing, Are They The Same Thing?
While they are not the same thing, modification and refinancing are both methods for reshuffling your mortgage payments and handling them in a new way. Homeowners turn to each of them, but usually in different times and under different circumstances.
Most homeowners are more familiar with loan refinancing. In a refinance, you take out a new mortgage loan (with more favorable terms) and use it to pay off your old one. People generally refinance when they've built up some equity in their homes and they want to take advantage of better terms, like a lower interest rate.
When you get a modification, you're not taking out a new loan. A modification adjusts the terms of your original mortgage in a variety of ways. The most common loan mods include:
1. extending the loan term
2. decreasing the interest rate
3. forgiving principal (in rare cases)
The goal is to end up with a lower monthly payment that you can afford. Your bank sees regular monthly payments coming in again, and you get to keep your house.
Is Refinancing or Modification Right for You?
A number of factors determine whether you should refinance or apply for a modification, and your professional financial counselor is best equipped to help you decide which is right for you.
If you have substantial equity in your home and it hasn't depreciated more than 10% since you first bought it, you may be a good candidate for refinancing. Lenders usually require an upfront payment of "points," where each point equals 1% of the loan and the more points, the lower the new interest rate. 20% equity is usually a good number for refinancing.
Unfortunately, many lenders won't let you refinance if your home isn't worth at least 90% of your current loan's vale. Plummeting house prices have caused many people to go underwater on their mortgages, making refinancing unrealistic for many homeowners.
If you've had some catastrophic event in your family (such as an unemployment, death, divorce, or medical disaster) that has made it impossible to meet your monthly mortgage payment, you might be a good candidate for loan modification. If your monthly payment (including principal, interest, taxes, and insurance) totals more than 35% to 45% of your gross monthly income, you could also be a good candidate for loan modification.
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