Do not do it !! Don’t you dare do it! “Good advice from a passionate financial expert. Barry Habib was discussing tolerance plans on a recent podcast aimed at real estate investors. I’ve followed Barry for a while, mainly because of his focus on lending and his extreme knowledge on what. economics is concerned. Usually his advice is aimed at lenders, but this was very strong advice to real estate investors. There is a lot of hype about forbearance agreements, and rightly so, as they can be attractive and very helpful. Some of the rumors make these sound too good to be true, so I searched hard for the truth. Can ordinary investors, like you and me, take advantage of this even if we don’t need it financially? The short answer is yes, but it has a price.
A forbearance agreement in its simplest form is an agreement between a lender or loan servicer and a borrower not to make scheduled payments as originally agreed. If we focus on real estate loans, a forbearance agreement would prevent a loan servicer from initiating a foreclosure on the property for the life of the agreement. Until now, if you entered into a forbearance agreement on a home loan, it would stop a foreclosure, but it would still be reported as late payments on your credit.
So why all the hype? The CARES Act has made some dynamic changes around these agreements. First, loan servicers for government-backed or government-owned loans must issue forbearance agreements to anyone who wants them. Yes, that’s correct, anyone who wants them. In the past, these settlements were difficult to come by and a borrower had to rate and document financial hardship. Now, if the loan is owned or backed by the government, each borrower will have 180 days no questions asked, which they can extend for a second period of 180 if they choose. There are no fees or penalties to take advantage of this. An important point that generated confusion is that this money is not free. There may be no fees, but anyone who participates in this deal will have to make up late payments. An initial misunderstanding was that borrowers would have to make a one-time payment for all missed payments. That would have created massive foreclosures, which created fear. It was because of this belief that many investors believed that we would see another housing bubble burst. The truth is, each loan servicer will have the flexibility to develop a repayment plan for each individual borrower. While it is true that a lump sum payment is one of the five repayment options, it is not necessarily required. An affordable plan is much more likely to be put in place that will prevent a massive spike in foreclosures. Aside from the lump sum option, here are the four payment options that a loan servicer could implement with each borrower.
- Borrowers can repay the amount owed within 12 months after the end of the forbearance.
- Extend the term of the mortgage by the exact number of months of forbearance.
- Add the overdue amounts to the loan balance and extend the term of the loan by the number of months it takes for the monthly payment to equal the previous payment.
- Add the past due amounts to the loan balance and extend the term of the loan by 40 years (480 months).
Basically, the borrower will be able to extend the term of the loan to make up these payments. These are specific to Fannie Mae and Freddie Mac. Other lenders or servicers of other types of loans may have slightly different options.
So if you qualify automatically and there are no fees, why wouldn’t you do this? Here are three deadly traps, which is why I think you should avoid making forbearance agreements on your mortgages if you can:
- Depending on your payment option, the interest on these payments could increase. Since most of your payment is probably interest, the interest on the interest will increase, which becomes very expensive in the long run. It will limit your borrowing power. Let me explain, while it is true that the CARES Act will prevent loan servicers from reporting late payments, the fact that you entered into this agreement will inform you. Not reporting the late payment will keep your credit scores intact, but any lender who looks at your payment history will see the forbearance agreement. I couldn’t find clarity on this, but most experts believe that it will actually say “forbearance agreement” on the credit report of every agreement you enter into. I know this to be true because three of the largest lenders in this country have already stated that they will create underwriting guidelines around COVID-caused forbearance deals and will not extend credit for two to four years after the forbearance deal. . That means just trying to get the system working and not making payments, you could be out of the game for two to four years! I’m not sure we will, but if this pandemic creates buying opportunities, it will certainly be before you can borrow again.
- By not making loan payments, you are hurting the broader housing market. Taking the ethics out of this decision, the more people who take advantage of the forbearance agreement, the less liquidity lenders will have, which means the guidelines will be stricter. This, of course, reduces the demand for housing.
What’s interesting about all of this is that loan servicers don’t understand the ramifications of putting you in a forbearance agreement. It is the lender who owns the loan and the lenders who will originate new loans that understand this, but unfortunately it is not who you are talking to when you call your mortgage company to ask about this. I want to make it very clear that indulgence is a great option if you need it. Help people in need and help maintain home values as we overcome COVID crises. I only recommend not doing so if you can afford to continue with payments. I also want to mention that these rules and privileges are for government loans only. Outside lenders such as banks, credit unions, and private lenders are not subject to these guidelines.
