These days reading the news can be like drinking from a fire hose. With the passing of the CARES Act, Congress set out to provide a multi-faceted shot in the arm to Americans which includes but is not limited to: stimulus checks, small business loans, and incentives for employers to keep employees on board. But one of the biggest headliners of the bill is the ability to request a mortgage forbearance on government-backed loans.

Below, I outline some things to keep in mind when looking into this option.



Mortgage Forbearance is not Mortgage Forgiveness

The CARES Act allows you to temporarily suspend payments for up to 180 days if you are experiencing financial difficulty due to the impact of COVID-19. This does not automatically mean that the servicer will extend the length of your loan by 180 days.

Watch this short video before calling your loan servicer to request a forbearance. 

MBS Highway, a leading industry resource led by founder Barry Habib, outlined the potential consequences:

The Government has created the CARES Act to assist homeowners whose income may have been adversely impacted by the COVID-19 virus. This includes the possibility of mortgage forbearance.

However, mortgage forbearance and mortgage forgiveness are not the same thing. Forbearance means that the payments will be suspended for a short period of time, initially up to six months, and then payments will need to be caught up when the forbearance period is over.

Think of it this way. When you buy something at a furniture store, for example, that offers “no payments” for three months, you still must pay for the furniture - the payments are just deferred.

Mortgage forbearance can have dangerous consequences if borrowers fail to catch up on their payments. Lenders can enforce their right to be paid, which ultimately could lead to foreclosure, and borrowers could lose all the equity in their home in the process. That's why forbearance is designed to help those as a measure of last resort.

The Broken Chain in the Secondary Mortgage Market

I'm going to use a very basic example here to illustrate what's currently happening on the secondary mortgage market.

Let's say Jim Buyer goes to Local Small Bank to get a mortgage to buy his first home. When he closes on that home, Local Small Bank sells the servicing rights to Wells Fargo and the mortgage to a Government Sponsored Enteriprise such as Fannie Mae. This allows Local Small Bank to free up cash and help more buyers close on homes. Wells Fargo is now the loan servicer, they are in charge of collecting payments of principal, interest, and escrow payments. They are compensated for doing so.

Fannie Mae packages Jim Buyer's mortgage with thousands of other similar mortgages to make a mortgage-backed security (MBS). This mortgage-backed security can be invested in, just like a stock can be, by investors. When Jim Buyer makes his payment, it is collected by the loan servicer--which is still Wells Fargo--and the principal and interest is passed on to the MBS.

Here's the problem.

The investors need their money. The servicer is required to keep paying the investors who invested in the MBS. But with so many loans defaulting (or entering forbearance) at once, Wells Fargo in this situation is light on cash. What are they supposed to do? This is the issue at hand. Servicing departments in banks do not have the liquid cash to keep making payments for months on end when there is all of a sudden a huge reduction in cash coming in.

This is yet another problem the federal government will need to solve, as the CARES Act did not set aside capital for loan servicers who will feel the sting from the increase in forbearances. According to the Mortgage Bankers Association, servicers have already seen a 2,000% increase in requests to delay mortgage payments.



The Impact

Some banks and lenders are no longer lending on government-subsidized loans like FHA, VA, or USDA. Others are still lending on them but have added overlays, or additional restrictions on borrowers, to mitigate risks on the servicing side and to the investor of MBS.

One popular overlay is increasing credit score requirements for an FHA/USDA/VA loan. It's important to remember that this is likely temporary. Many expect the federal government to assist servicers with liquidity at some point--hopefully soon. On Saturday, April 4, a coalition of mortgage and finance industry leaders sent a plea to the federal government, asking for assistance in liquidity to keep the mortgage industry running. 

Hopefully this has given you some powerful takeaways as to the potential consequences of mortgage forbearance and the effects that are taking place behind the scenes on the secondary market. If you have any questions about buying or selling in this ever-changing market, set a 15-minute virtual appointment with me.

We WILL get through this. Stay safe!