Mortgage Forbearance and Unintended Consequences

In March, homeowners impacted by COVID-19 were offered a mortgage forbearance lifeline, the equivalent of a financial pause button on mortgage payments for up to 12 months. This very well-intentioned option was made available to homeowners whose mortgage are held with Fannie Mae or Freddie Mac. The Fed also encouraged other lenders to follow suit. As of May 13, more than 4 million homeowners have taken advantage of this support.

As reported in Forbes, “On March 27, 2020, President Donald Trump signed the Coronavirus Aid, Relief, and Economic Security Act (also known as the CARES Act) into law. Along with the stimulus checks currently being sent to many American citizens, help for small-business owners and other relief measures, a provision of the CARES Act also allows borrowers with federally backed mortgages to request temporary loan forbearance for up to 180 days. Borrowers also have the right to apply for an extension of another 180 days of forbearance.”

So what is the difference between forbearance and deferment? Experian discussed this here on April 15. “Under a forbearance agreement, the lender agrees to accept reduced payments or no payments at all for up to 12 months. At the end of the forbearance period, the borrower must resume regular payments and repay the amount they were excused from paying during the forbearance period, with interest and possible fees. Repayment can be made as a lump sum, or in up to 12 installments, which are added to regular monthly payments.

In a loan deferment, payments are simply put on hold for a certain number of months; when the deferment period ends, loan payments resume as before, without accruing any additional interest or fees, and no repayment is required.”

One of the key selling points to homeowners was that their mortgage payments would continue to be reported to credit bureaus as “current.” That promise has been kept. However, they failed to mention the comments section where lenders can fill out additional notes – notes that are now being used to report forbearance. This notation has led to surprises for many homeowners.

This little forbearance surprise isn’t the first gotcha from the Fed, but it is the first to catch homeowners off guard. Mortgage lenders are now taking note of this on credit reports. As a result, some lenders are refusing to refinance until the borrower’s existing mortgage has been out of forbearance and the foreborn amount is paid back. As RISMedia has reported, “The chances of refinancing during a forbearance are slim. Lender will likely not be able to re-securitize your loan during forbearance.” We’ve also heard a rumor that lenders aren’t approving new mortgages while a borrower’s existing mortgage is in forbearance. This may be a direct concern or circumstantial due to the borrower either being out-of-work or under financial duress in general. We will update this post as we learn more.

This unintended consequence reminds me of a story my late grandfather, John used share. Prior to the Great Depression my grandfather was raised on a farm in Nelson County, Kentucky. One day my grandfather (age 8) and his older brother Tom (age 9) were left at home while my great-grandfather ran into town.

Tom had a legendary ability to find and/or cause trouble while entertaining himself at the same time. Not long after their dad left, Tom located a quarter-stick of dynamite and a blasting caps in the barn. It wasn’t long before both Tom and John had climbed into the hayloft and opened the door. Directly below the hayloft door outside was a hog lot. With little warning, Tom lit the dynamite, tossed it out the window amongst the hogs and closed the door. BOOM!!

They held on for dear life until the barn finally stopped shaking. Gathering their sense about them they eased open the hayloft door to inspect the damage. All of the hogs had somehow miraculously survived the blast. They were running around squealing and starting into the sky, but they were all alive. Thinking they had left no evidence behind; Tom and John promptly left the barn and swore they’d never breathe a word of this to their father.

When my great-grandfather arrived home, he immediately called out for the boys to come down to the barn. Their hearts sunk. When they arrived to the barn, they found their father standing outside scratching his head. He was trying to figure out why the pigs seemed nervous and how the entire face of the barn had become coated in a thick layer of mud all the way to the roof. Both boys honored their promise to one another and claimed they had no knowledge of what occurred. In the days and weeks that followed both boys remember seeing their dad periodically standing outside the barn scratching his head and trying to figure out how such an event could have occurred. They never told him the truth until decades later.

In the end, if you’re out-of-work due to COVID-19 and found yourself in need of forbearance, this additional inconvenience may not be a major concern. Having the flexibility with your mortgage payment likely takes precedence over borrowing constraints later down the road, but this additional note is catching many homeowners by surprise while they’re holding on for dear life. Will there be additional unintended consequences and additional mud on the barn for homeowners in the weeks and months ahead? We hope not, but we’ll soon find out.