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Mortgage forbearance can lead to foreclosures

Sometimes when something looks too good to be true, it is, and this may be one of those times for mortgage forbearance. Just to be clear, the definition of forbearance is a pause, not a termination, not a deferral, just a pause, and in this case, it’s a pause on mortgage payments.

As part of the bill passed by Congress in March called the Cares Act, homeowners whose mortgage loans are backed by Fannie Mae, Freddie Mac, the Federal Housing Administration (FHA) or the Veterans Administration (VA) are permitted to suspend payments for up to a year. As of the end of May, 4.75 million people took advantage of this “pause” which they were allowed to do without giving proof of any actual hardship.

There are several unintended consequences of depleting the mortgage market of over $1 trillion in unpaid principal to date, without providing any way for homeowners to pay back the money, leaving it to lenders to figure out. This is in addition to homeowners who may not really need the pause because they are still employed, taking the extra funds to use for other reasons or no reason at all.

Also, with low interest rates, about 3.3% for a fixed-rate conventional mortgage – the lowest level on record – you would think it’s a great time for buyers looking for a new home and mortgage. But not so fast, mortgage availability has tightened as lenders impose tougher income, credit score and down payment conditions and fewer mortgage options. Minimum of 20% down payments and credit scores of 700 are back in vogue with big lenders upping their requirements. Part of this is the economic devastation caused by the pandemic, but much of it is an interruption of the normal cash flow into the mortgage market. This could easily threaten the mortgage market’s recovery and housing in general.

Complicating things even further is the pre-pandemic policy of Fannie Mae and Freddie Mac to not guarantee new loans for individuals who had a forbearance on their record. Fannie and Freddie now have to take a look at modifying those policies in order to keep the mortgage market flowing.

The criteria for jumbo loans have contracted the most. Jumbo loans have no government backing and are for mortgage loans above the confirming limit of $510,400 typically insured by the federal government. There are higher conforming limits in certain high-cost areas of the country. Forbearance for jumbo loans was not addressed in the Cares Act, however, certain lenders are extending forbearance to their jumbo loan customers.

All this said, mortgage applications rose 6% in mid-May nationally, indicating buyers are coming back at some level. There is pent-up demand left over from before the national shutdown and now with states starting to slowly reopen, viewing available properties and conducting business will be somewhat easier. In addition, as I’ve previously stated, there is what appears to be a desire to leave over-populated urban areas trending in the country.

It’s too soon to tell whether the forbearance flexibility will achieve the intended purpose of avoiding a wave of defaults down the road. Probably safe to assume there will be mortgage defaults leading to foreclosures when all of this is over. Sadly, some homeowners will never be able to catch up. Stay safe.

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