Why Does a Lender Offer an Interest Rate Reduction?

How Does a Loan Interest Rate Reduction Work?

A temporary or permanent interest rate reduction can make your monthly mortgage payments more affordable. The lender will re-underwrite the loan to determine a better rate in light of your debt to income ratio. Depending upon the nature of your financial hardship, the lender may only temporarily lower your interest rates (for five or ten years) and then increase them to the market rate. Some borrowers may be eligible, however, for a permanent interest rate reduction. This cuts the interest rate on a loan for the lifetime of the loan and can be very helpful for borrowers who are stressed by high monthly payments.

The goal of loan modifications generally is to create a new payment structure that the borrower can afford, while still collecting as much of the debt as possible. Typically lenders are unlikely to write off any part of the principal, even when a house has declined in value. Moreover, they may owe contractual duties to investors that own securities backed by mortgages. A reduction in the interest rates is a good compromise between a borrower and a lender’s interests and duties for purposes of avoiding bankruptcy or foreclosure.

How to Obtain an Interest Rate Reduction

If you experience a hardship that makes it necessary to request a temporary or permanent interest rate reduction, you will need to find out how your lender accepts requests for loan modifications. Some accept these requests via email while others prefer telephone calls. You should be aware that banks are more inclined to grant a loan modification such as an interest rate reduction if you have been timely with past payments; lenders are more inclined to grant a modification if you are perceived as a good risk.

Before requesting the modification, you should gather your paycheck stubs, bank statements and any documentation of significant debts that impact your ability to repay the loan (such as hospital bills). The lender will be looking to see whether you are able to make mortgage payments if your interest rate is reduced as requested, or another modification is made. Some lenders have a streamlined process, while others may have loss mitigation departments that are swamped with loan modification requests.

In 2009, the federal government formed the Home Affordable Modification Program (HAMP) in order to help prevent foreclosures and encourage renegotiations of loans. Fannie Mae and Freddie Mac are required to participate, while other lenders have elected to participate. Those who participate must modify every eligible loan so that a borrower’s monthly payment equals no more than 31% of his or her gross monthly income. This means that the lender reduces the interest rate dramatically, sometimes to as low as 2%. They may also extend the term of the loan. Certain requirements must be met to be eligible for a HAMP loan modification.