Stuck in a Negative Amortiztion Loan? How to Convert to a Fixed Rate Mortgage

Over 2 Million American families have found themselves to be an unlikely statistic as foreclosure rates continue to skyrocket, even causing some lenders to fail. Fannie Mae and Freddie Mac needed a "bail-out" of themselves from the government. It's getting bad with yet another wave of foreclosures set to begin in 2009.

Many of these will be Pay Option Arm borrowers. This is the Negative Amortization loan that was very popular the last 5 years. Don't be surprised if congress passes a bill to prevent these loans from being sold to unsuspecting borrowers in the near future.

The Pay Option Arm comes with 4 payment options each month. The "minimum" (Neg AM) payment, interest only, 30-year (principal and interest) and 15-year (principal and interest). The minimum monthly payment is negative amortization and was based on a teaser rate anywhere between 1% - 4.25%.

Most borrowers obtained this loan and could only afford the minimum negative amortization monthly payment. The interest only, 30-year fixed and 15-year fixed payments are based on whatever index the loan was based on, such as LIBOR, COFI, CODI, MTA, etc., plus the margin giving you the fully indexed rate. Usually the fully indexed rate (index + margin) meant an interest rate anywhere from 7% - 9%, with most being closer to the higher 8%-9%.

Most borrowers therefore paid the minimum negative amortization payment of 1% which gave them a substantially smaller payment - but increased their mortgage balance with each payment.

A lot of people aren't aware of the term "recast" and therefore may not be aware that they may be facing foreclosure because of this "recast" feature built into their Pay Option Arm loan. This is very important information.

Different lenders have different recasting percentages. Most recast at 110%-115%. What this means to the borrower is this: If you have paid only the negative amortization minimum monthly payment for 3+ years or are getting close to it - your loan will recast sooner than you may have expected. When the loan recasts, the teaser 1% minimum negative amortization and interest only payment options disappear.

The borrower is left with only two payment options, the 30-year and 15-year fixed payment options at the fully indexed rate of 8% plus. Not only that, all of the negative amortization or as the lenders call it, "deferred interest" has increased your original loan balance at the same time their property values are falling in value. Result, most borrowers in Pay Option Arms find themselves upside down with no options other than to walk away or attempt a short sale.

Either way they either severely damage their credit or walk away with no money and sometimes have to pay taxes on the loss from the short sale.

Depending on when your loan is set to recast - you can find this information on the "Note" with your original loan documents. It may say "Adjustable Note," etc. The key word is note. If your loan is set to recast at 110% of the "original" loan balance, if you do the math you can expect to recast in about 3 years.

If the terms on the note call for a 115% recast, then you will recast before 5 years. Either way, borrower's will then find themselves with a payment they cannot afford and they won't be able to refinance because they will most likely either be upside down or have very little to no equity. Essentially leaving them stuck in their Pay Option Arm with no way of converting into a fixed rate mortgage.

When given the option or selling their home or being able to renegotiate their current loan, keep the payments affordable and convert to a fixed rate mortgage - statistics indicate most borrowers would ultimately choose to keep their home.

One of the best options to accomplish this is with a Loan Modification. A loan modification is when the lender modifies your current mortgage in order to work with you because of a hardship. The purpose is to help make your loan more affordable. Usually it is in the form of a rate reduction and conversion of an ARM, typically a 30 year fixed.

In the past this was only used when a borrower was delinquent and suffered a hardship such as a job loss, divorce, illness etc. Now, borrowers can obtain mortgage help from their lender for unaffordable rate adjustments on adjustable rate mortgages.

Loan Modification services should include the initial consultation, compiling the full application, the processing of the application, legal department's (comprised of attorneys, paralegals, and brokers) communication for negotiation of the proposed modification, final resolution of the proposal and the final step which is executing the new contract and modifying the loan to meet your needs.

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