A new wrinkle in New York State law gives underwater homeowners there a new option for avoiding foreclosure.
The new regulation, adopted with little fanfare last month, provides an additional incentive for lenders to forgive a portion of the loan as part of a mortgage loan modification. In return, through a process called shared appreciation, the lender will be entitled to a portion of any increase in the property value that may occur by the time the property is eventually sold.
Allows lenders to recover writedowns
The rule removes a potentially thorny obstacle to loan modifications. When a homeowner is underwater on their mortgage, it's nearly always because their home has fallen in value. In such a situation, lenders will sometime write off part of the loan principal to make the mortgage more affordable for an at-risk borrower and to reflect the home's true value - after all, if the property goes into foreclosure, the lender won't recover more than the current value anyway.
However, if the property subsequently increases in value, that's a windfall for the borrower - and an effective loss for the lender. So the new rule allows the lender to recover some of the forgiven debt in the event the home rebounds in value.
The lender's recover is limited to 50 percent of the increased value of the home, up to a maximum of the full amount of the writeoff.
Restricted to loans in foreclosure
To qualify under the rule, the mortgage must have an unpaid balance that exceeds the appraised value of the home and the borrower must be at least 60 days late on their payments and be the subject of an "active foreclosure action."
""Shared appreciation agreements provide lenders with an additional incentive to allow borrowers to stay in their homes," said Daniel Burstein, an official with the New York Department of Financial Services. "At the same time, (the new rules) impose disclosure requirements, and limitations on the amount of appreciation that lenders can share, which serve to guard against abuse of vulnerable New Yorkers.
"The intended result of the law and regulation is that more homeowners will keep their homes and avoid the costly and protracted foreclosure process, lenders will recoup their investment, and local communities will become more stable," he added.
The new rule took effect July 9.