Just about everyone deserves a second chance when it comes to challenges faced in life.
Regarding managing modified loans, lenders and investors can do many things to increase their odds of having successful experiences with borrowers who have had a second chance after defaulting on their original home mortgage.
The stakes are high for both alternative investors and banking institutions when dealing with re-performers. The difference between locking in an attractive long-term yield and taking the pain of a swift 30 percent drop in market value after a missed payment depends on how well a re-performing borrower is managed.
Given the number of modifications that have been done since 2008 and the lack of yield across the credit spectrum today, the opportunities and risks associated with the re-performing loan market deserve some attention.
First let’s be clear on what a re-performer actually is to frame this issue.
Definitions vary a bit, but re-performers are generally considered loans in which the borrower missed at least one payment and has since gotten back to “current” status either to the original contract or to a new and permanent loan modification. Modifications are more common, which is the type of re-performer that needs a special approach.
To begin assessing how to maximize the value of a re-performer, it is important to understand certain key characteristics of the loan (essentially the quality of the modification itself), the property and of course, the borrower.
Before making the first call to a re-performer, study the modification itself to identify critical items. Is it a HAMP loan? If so, how much will the payment increase and when? Changes in interest rates can have meaningful effects on payment amounts. These changes can be even more dangerous if a borrower’s employment or income situation is worsening or if local home prices in the same area are decreasing.
Next, it is crucial to understand how the loan, the borrower and the property all relate to each other. It is the inescapable loan-level uniqueness and complexity that makes it difficult to use one formula to manage all re-performers. Recognizing this, the servicer should be able to customize how it positions its people, process and model for re-performers in order to improve performance.
For example, a servicer that uses experienced professionals with both mortgage backgrounds and sales skills will be well-equipped to think about potential issues and proactively solve borrowers’ problems.
Additionally, administering an in-depth Personal Budget Analysis can help identify realistic loan affordability while also servicing the purpose of illuminating the borrower’s true desire to be in the home.
Lastly, maintaining a single point of contact for the borrower even when it is re-performing can pay dividends (literally).
Another vital aspect of managing re-performers is ensuring that there is perfect alignment of interests between the note owner and the servicer so that any potential conflicts are minimized or eliminated.
Different kinds of note owners can have very different strategies and goals for their re-performing portfolios, and their servicers should not only understand those differences, but ideally their compensation should reflect their clients’ goals.
Certain investors and lenders accept a lower yield in exchange for longer duration of the asset, and the servicer should incorporate those values into its process. Alternatively, if the note owner’s intention is to ultimately put re-performing loans into a new private label securitization, they may want to consider choosing a servicer that has the ability work with borrowers to manage their finances and lift credit scores. This will help achieve premium pricing when the security is sold.
Further, do the servicing fees and revenue opportunities improve for the servicer if loans become non-performing? In what situations could the servicer face advancing risks that would motivate activity that was not in the best interest of the client? These are questions that should be fleshed out between the note owner and the servicer upfront to ensure a productive relationship.
As with any emerging asset class like the residential re-performers, embracing the nuances is a critical step towards maximizing value.
Tucker McDermott is a co-founder and executive vice president at Fay Servicing, a special servicer that manages distressed and at-risk loans for mortgage bankers and alternative real estate investors. For more information, please visit www.fayservicing.com.