Question: What is a principal forbearance? Is it the same as principal forgiveness?
Answer: No. A homeowner applying for a loan modification often owes a great deal on his or her home. As such, a loan modification attempts to make the payments affordable by restructuring the loan. This usually starts with a term extension and interest rate reduction, but the final (and often most important) part of the process is what to do about the unpaid debt. Often, the total, unpaid debt is too much to create an affordable payment, requiring the lender to forgive or forbear the debt. Any homeowner in need of foreclosure defense needs to understood both of these loss mitigation options.
With principal forgiveness, the lender agrees to forgo a portion of the unpaid debt. That part of the debt is gone, lowering the amount that the borrower owes. The borrower, however, may still owe tax on this forgiven debt.
With principal forbearance, the lender agrees to take a portion of the unpaid debt and add it to the end of the loan, as a “balloon” payment. This debt doesn’t go away, but it does remain due at the loan’s payoff. This forbeared amount is almost always interest free. Principal forbearance is one of the steps of the federal government’s Home Affordable Modification Program (“HAMP”). HAMP, notably, does not require lenders to forgive unpaid debt.
Obviously, principal forgiveness is the better option of the two, as the owed debt is gone. Principal forbearance, however, is not a terrible option for many homeowners committed to staying in their homes. Homeowners should speak to a financial advisor for help in making this financial decision.