Mortgage Forbearance and the CARES Act: What It Means for Lenders and Borrowers
By: Will Anderson and Chelsea Anderson
The Coronavirus Aid, Relief, and Economic Security Act (“CARES Act” or “Act”) approved a historic level of relief for Americans. One of the provisions of the Act (§ 4022) provides for mortgage loan forbearance for those “experiencing a financial hardship during the COVID-19 Emergency.” This forbearance period “shall” be granted for up to 180 days, regardless of delinquency status.
As most residential real estate loans are federally backed, § 4022 allows for a large pool of borrowers to take advantage of this program. In this article we will discuss to whom § 4022 applies, what is required of borrowers and lenders when forbearance is requested, what is required of borrowers and lenders when forbearance is entered, and potential long-term consequences of this program for lenders.
Who is Eligible for the Forbearance?
First, this forbearance only applies to federally backed mortgage loans, which are defined as as “a first or subordinate lien on residential real property that is”:
Insured by the Federal Housing Administration (“FHA”);
Purchased or securitized by the Federal Home Loan Mortgage Corporation (“Freddie Mac”) or the Federal National Mortgage Association (“Fannie Mae”);
Insured by the National Housing Act;
Insured or guaranteed by the Housing and Community Development Act (“HUD”);
Insured or guaranteed by the Department of Veterans Affairs; or
Insured, guaranteed, or made by the Department of Agriculture.
Second, the borrower must be experiencing “a financial hardship due, directly or indirectly, to the COVID-19 emergency.” § 4022(b)(1). In order to take advantage of the program, the borrower must request the forbearance and provide an affirmation that they are experiencing hardship. The lender or mortgage servicer is prohibited from requesting any additional documentation from the borrower that would demonstrate the hardship (pay stubs, bills, etc.) This lack of documentation should provide for more immediate relief for borrowers. However, the prohibition on requesting additional documentation creates an incentive for borrowers who may be able to pay their loan, to cease paying on their loan as any borrower can likely claim that they experienced “indirect” financial hardship.
What is Covered by the Act?
Under § 4022, qualified borrowers are eligible for “forbearance of the Federally backed mortgage loan.” Forbearance is not forgiveness of the loan; it is a deferral of payments to a later date. At the end of the forbearance period, the lender can collect the deferred amounts.
As discussed in our prior blog post, a “mortgage loan” consists of two documents, the note and the mortgage. For purposes of this article, we are using the Fannie Mae/Freddie Mac Uniform Mortgage, and the Fannie Mae/Freddie Mac Florida Fixed Rate Note, (collectively, the “Loan Documents”) to analyze what amounts qualify for forbearance.
Under the terms of the Loan Documents, the “mortgage loan” consists of the following line items:
Principal;
Interest (along with principal, “P&I”);
Escrow Items:
Taxes and assessments which a can attain priority over the mortgage (local property taxes);
Premiums for property insurance;
Premiums for mortgage insurance
Community Association Dues required to be escrowed by the lender; and,
Late charges.
During the forbearance period, the borrower is relieved of paying the amounts due under the Loan Documents.
What Should Borrowers Do If They Participate in Forbearance?
Borrowers Should Assess Need to Participate In Forbearance.
If borrowers elect into the forbearance program, they may opt out of the program prior to the expiration of the 180 day period. If borrowers decide to take advantage of the program, then the borrower would be wise to keep and store all documentation of their discussions with their lender or servicer. By keeping this information accessible, the borrower can quickly deal with any issues that arise during the administration of the forbearance.
Other than the initial request for forbearance, the borrower is not required to supply updated information to the lender. If borrowers take advantage of the program, then borrowers should, as a best practice, assess on a monthly basis if they can exit the forbearance program.
By way of example, if the total monthly payment for loan is $1,000.00, and the borrower deferred payments for six months, at the end of the six month period, the borrower will owe the lender $6,000.00 + $1,000.00 for their regular payment. A dramatic increase in the monthly payment could lead to a spike in defaults under the Loan Documents and have the unintended effect of spurring a foreclosure crisis, similar to the flood of foreclosures that began in the later 2000s and early 2010s after the 2008 recession.
Fannie Mae, in their Lender Letter LL-2020-02, set forth policies to deal with the back-end of the forbearance period. In an effort to get in front of any potential issues, Fannie Mae is recommending that borrowers and lenders communicate with each other no later than 30 days prior to the expiration of the forbearance period. If a borrower is unable to pay all the amounts due, Fannie Mae is ordering that borrowers be evaluated for the Fannie Mae Extend Modification for Disaster Relief or the Fannie Mae Flex Modification (collectively “Modifications” or, singularly “Modification.”). The Modifications, if approved, will extend the life of the loan. However, the borrower will need to qualify for these Modifications, and may not necessarily get them, depending on their financial circumstances.
Borrowers Should Monitor Their Credit Score.
Additionally, borrowers should monitor their credit score before and after they enter into forbearance. Under the Act, § 4021 “Credit Protection During COVID-19,” lenders and servicers may not report the loan as delinquent and therefore a qualifying borrower who elects into the program pursuant to the Act should not have their credit score negatively affected by electing into the forbearance program. Should a lender or servicer report the status of the account incorrectly, then the borrower will need to lodge a credit dispute with the credit reporting agencies (“CRAs”). The CRAs are companies like TransUnion, Equifax, and Experian that collect and maintain consumer credit scores. These scores are based in part on the credit-related information received from lenders who regularly report whether the borrower is making mortgage payments on time. Once the dispute is received by the CRA, the CRA will contact the lender or servicer to resolve the dispute.
Borrowers Should Only Use Forbearance If Needed.
The forbearance program is a boon for homeowners, but there are a number of disadvantages to the program, such as the uncertainty of whether a particular borrower will qualify for a Modification. The bottom line for borrowers is do not participate in the program if you can afford to pay your mortgage, as there could be negative long term consequences (intended or otherwise).
What Should Lenders and Servicers Do If Borrowers Participate in the Program?
Lenders and servicers need to create policies and procedures for storing the substance of discussions with borrowers related to the request to forbear. Lenders and servicers should also confirm how their systems and processes are reporting the payments in forbearance to the CRAs, as § 4021 of the Act requires that the loan be reported as current (in the case of no late payments at the time of forbearance). If a loan was delinquent at the time of the election of forbearance, then the status may be reported as delinquent, provided that the borrower did not bring the loan current during the forbearance. The need to implement these systems and processes now is crucial to avoid protracted and costly litigation later.
Creating a Paper Trail Now Avoids Unnecessary Litigation Later.
For lenders and servicers, the communications will be essential to demonstrate that they administered the program properly. In the last foreclosure crisis, borrowers’ attorneys created counterclaims and affirmative defenses based on perceived non-compliance with the Home Affordable Modification Program (“HAMP”). See, generally Miller v. Chase Home Finance, LLC, 677 F.3d 1113 (11th Cir. 2012) (discussing the lack of a private right of action under HAMP). Borrowers may also attempt to claim that the application for the Modifications was improperly administered as well.
Like HAMP, there is not a private cause of action under the CARES Act for failing to comply with the Act. Nonetheless, many borrowers’ attorneys will seek to protract the foreclosure process in order to keep their clients in their respective homes for as long as possible. Raising dubious defenses is a tool in the borrowers’ attorneys tool-kit to accomplish this goal. By ensuring that there is a clear process in place and sufficient documentation of the forbearance process and modification process, lenders will be better able to address these defenses and expedite the foreclosure process, if and when a foreclosure occurs.
Monitor How Accounts are Reported to the CRAs.
Checking the reporting status is essential, as failure to maintain proper reporting could result in an increase of investigations performed under the Fair Credit Reporting Act (“FCRA”). If lenders and servicers do not fix the reporting errors after being notified of a credit report dispute, then they may be liable to the borrower for damages and attorney’s fees under the FCRA. Further, in the event of a foreclosure, if the credit report was incorrect, the borrower may attempt to protract litigation by a counterclaim against the lender under the FCRA. Such counterclaims could lead to an increased cost for the lender to foreclose on a non-performing loan.
Monitor Loan Servicing Platforms.
Further, lenders and servicers should audit their servicing platforms when the forbearance is in effect and catch any problems early on (and fix them before they become a bigger problem). During the forbearance period, no “fees, penalties, or interest beyond the amounts scheduled or calculated as if the borrower made all contractual payments on time and in full . . . shall accrue on the borrower’s account.” Lenders and servicers should ensure that their systems are not improperly assessing late fees during the forbearance period or capitalizing P&I that would have been paid had the borrower not elected to forbear and the loan had been paid on time. Such servicing errors can lead to litigation, including counterclaims against the lender in a foreclosure lawsuit.
Determine How Forbeared Payments Will Be Paid and Communicate With Borrower.
Next, lenders and servicers need to create a process to recoup the amounts in forbearance, and staff and train the individuals who may be needed to process Modifications. As indicated by the Fannie Mae Lender Letter, the best solution for lenders and borrowers may be to extend the maturity date of the loan to allow the borrowers to continue to work towards paying off the mortgage. In executing a Modification, a lender or servicer will need a Mortgage Modification Endorsement to their Lenders Title Insurance Policy. Mangrove Title & Legal, PLLC offers this service and our attorneys have experience in handling the title work for a loan modification.
Whatever the ultimate process may be for a particular lender or borrower, lenders and servicers would be wise to communicate early and often to their borrowers the expectation for the repayment of forbeared amounts (as stated in the Fannie Mae Lender Letter). This communication could have the effect of having borrowers assess their need to stay in the program, or save their money for when the deferred payments become due. The biggest thing to do is ensure that the borrower is not surprised by how much they owe after the forbearance period.
Unintended Consequence
Where is the Money for Escrow Items Coming From?
In addition to the potential for spurring a foreclosure crisis by placing borrowers in a position where they cannot afford to pay their mortgage loan, the Act also has the potential to endanger lenders and local governments. This unintended consequence comes from the lenders’ collection of escrow items, such as local taxes, homeowners insurance, and community association fees (such as Community Development District Fees a/k/a CDD fees). If a borrower forbears from paying under the Loan Documents and the borrower’s monthly mortgage payments typically include payments into their escrow account, then the lender or servicer will not be collecting the amounts they normally would for escrow items during the forbearance period.
Generally, a lender or servicer will collect monies for the escrow items from the borrower on a monthly basis and then disburse the funds at the appropriate time. If the escrow account is deficient at the time of disbursement, the lender will need to advance the funds to the appropriate entities in order to avoid lapsing of homeowners’ insurance, avoid tax certificates from issuing (which if unchecked could lead to tax deeds that could take priority over the mortgage), among other issues.
Under Section 3 of the mortgage and Real Estate Settlement Procedures Act (“RESPA”), the lender can recoup the advancements made for escrow items over the course of twelve months, if the Borrower did not qualify for the Modifications. However, as discussed earlier, an increase of the borrower’s monthly payments could have the unintended effect of making the borrower unable to pay the lender and triggering a default (although this risk should be mitigated if the borrower applies for a Modification.)
Although the Modifications allow the lender to recoup the escrow items due from the borrower over a 60 month period (and if the borrower did not qualify for a Modification over a 12 month period), the escrow items will still be due to local governments either during or shortly after the forbearance period ends. When the payments become due, the lender or servicer could be facing a cash-shortage since they have not collected the escrow amounts, or may not have yet executed the needed Modifications to guarantee payment from the borrower. If lenders or servicers are unable to pay the escrow items then the revenues of local governments and community associations could be imperiled. Lenders and servicers may be well advised to assess any potential shortage of capital to pay the escrow items and develop a strategy to ensure the money is on hand when due.
Potential Solutions to Mitigate Escrow Related Issues for Borrowers That Do Not Qualify for a Modification.
A potential solution to overcome issues created by non-collection of escrow may be to shift the burden for escrow items to the borrower in the short term. Section 3 of the mortgage allows for the lender to waive the requirement for the borrower to pay the escrow items to the lender, and allows the lender to revoke this waiver at a later time. However, loans held by investors or securitized trusts may prohibit this waiver by the servicer, and make the modification a more attractive option. Further, waiver of escrow would likely be a bad idea as borrowers may not have the sophistication to understand the imperative to pay these items and provide documentation to the servicer, or may be too cash-strapped to pay the escrow items.
Should a borrower not qualify for a Modification for some reason, and if the escrow increase would be too high (creating a default risk) a potential work-around may be for the lender to supply a subordinate mortgage loan (with a term of longer than a year) to cover the cost of the escrow items and disburse the cash to the borrower. The borrower may be then able to pay the lender for the escrow shortage without seeing a dramatic increase in their monthly mortgage payment and the lender is protected from setting off a potential foreclosure. If this path was pursued, the lender will likely need to obtain a new title insurance policy to ensure the subordinate mortgage has priority over other liens and pay any necessary document stamps. Mangrove Title & Legal, PLLC offers this service and our attorneys have experience in handling the title work for such secondary mortgages.
Conclusion
The CARES Act provides some needed relief, but borrowers should be cautious about their use of the program and only forebear if they are unable to pay. Lenders should evaluate their systems and processes that will be affected by the forbearance program and ensure that they are in compliance with the Act, as an ounce of prevention now can prevent the need for a pound of medicine later. Further, lenders and servicers should formulate strategies to ensure loans are in performance once the forbearance period ends and that there is sufficient capital to cover anticipated escrow items.