Cutting Mortgage Principal Decreases Defaults
Borrowers whose loan modifications reduced their loan balances – not just their interest rates – are most likely to avoid re-defaulting on their mortgages, according to a new study by the Federal Reserve Bank of New York.
These findings contradict the government’s recommendation, which focuses on reducing monthly payments by lowering interest rates and extending the loan terms.
The New York Fed concludes that a borrower’s probability of defaulting within one year when interest rates are lowered is reduced by 11 percent. But when the loan balance is reduced by 25 percent and the interest stays the same or is reduced slightly, the borrower’s probability of default within one year is reduced by 26.5 percent.
The New York Fed also found that borrowers who owe 15 percent or more than their homes’ values have a 51 percent greater risk of defaulting in any given month.
Source: The Wall Street Journal, Nick Timiraos (01/04/2010)
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