Loan Modification Vs. Refinance: Which Is Best For You?
You might want to refinance your loan if you’re having trouble making your mortgage payments or to take advantage of a lower interest rate. However, you may also want to apply for a loan modification from your lender. Refinances and loan modifications both have their own benefits and drawbacks. It’s important to do your research before you decide.
Let’s go over some of the differences between refinances and loan modifications. We’ll show you when a modification is better than a refinance – and vice versa. Finally, we’ll tell you how to apply for both.
What Is A Loan Modification?
A loan modification is a change to the original terms of your mortgage loan. Unlike a refinance, a loan modification doesn’t pay off your current mortgage and replace it with a new one. Instead, it directly changes the conditions of your loan.
It’s also important to know that modification programs may negatively impact your credit score. If you're current on your mortgage, it would be better to review your options and see if you can apply to refinance.
You can only get a loan modification through your current lender because they must approve the terms. Some of the things a modification may adjust include:
Loan term changes: If you’re having trouble making your monthly payments, you may be able to modify your loan and extend your term. This gives you more time to repay your loan and reduces the amount you must pay every month.
Interest rate reduction: If interest rates are lower now than when you locked into your mortgage loan, you might be able to modify your loan and get a lower rate. This usually lowers your monthly payment.
Loan structure changes: You may be able to modify your loan from an adjustable interest structure to a fixed-rate loan. This can be beneficial if you now live on a fixed income and you need a more predictable monthly payment.
Principal forbearance: Your lender may agree to set some of your principal balance aside to be paid back later. This can help reduce payments and/or make your mortgage more manageable. However, these modifications are rare. You can usually only get a principal forbearance if no other possible solution will help you avoid foreclosure. You usually also have to subscribe to a repayment plan to qualify for a principal forbearance. A repayment plan allows your lender to see if you can stay on top of your new payments. Your lender may agree to settle some of your principal after you complete the repayment plan trial period.
Lenders have no obligation to accept your request for a modification or to renegotiate your principal. This means that getting a modification is usually more difficult than refinancing. You'll need to show evidence of hardship. Every lender and investor in the loan (such as Fannie Mae, Freddie Mac, FHA, etc.) has their own standards when it comes to who qualifies for a modification and what types of modifications they offer.
You may receive offers from settlement companies to help you get a loan modification if you’re behind on your mortgage. These companies negotiate with your lender on your behalf and can make getting a loan modification easier. However, it's important to note that these companies often serve as middlemen, charging you for a service that your loan servicer will provide for free.
If you do decide to work with one of these companies, do your research on the provider before you agree to any contract. The last thing you need is a high-fee contract with a settlement company if you’re already behind on your mortgage payments. If what's being offered seems too good to be true, chances are it probably is.