You're struggling to keep up your mortgage payments, and you wonder if one of those loan modification programs would help by reducing your monthly bill. Yet you don't want to damage your credit score, which would hurt your ability to trade cars or buy other things on credit. You need to check out the implications of asking for a loan modification before you actually go through the process. Understanding the potential effects will help you make a good long-term decision.
Depending on how a loan modification request is added to your credit report, you may have several possible entries -- the credit inquiry, a loan balance change and any loan alterations.
Check Your Credit Score
Check your current credit score through MyFico.com or by using a free source such as AnnualCreditReport.com or CreditKarma.com. If it's above 720, you are in good standing. If it's below 700, almost any change will hurt you. See if you have been charged for any late payments on your mortgage or other bills; late payments affect your rating the most, lowering your score substantially.
Shop for Loan Modification Programs
Visit the U.S. Department of Housing and Urban Development (HUD) online at HUD.gov and search for "avoiding foreclosure." When the search results load, click the top link, which will take you to a site that gives you information about programs that can help you with a loan modification.
This site also offers a free downloadable brochure, published in English, Spanish, Chinese and Vietnamese. The brochure offers mortgage loan modification tips (and other remedies) that let you know what to expect from your lender as well as red flags that indicate mortgage scams.
See How Modification is Reported
Ask your lender how a loan modification will be reported to the credit bureaus. If it is reported as the same loan but with some changes, three items can affect your score: the credit inquiry itself, any change in the loan balance and alterations in the term of the loan. That should have minimal effect on your score.
'New' Loan Has More Effect
If your modification is reported as a new loan, it could have a greater impact. The inquiry, new balance and terms will have about the same impact as reporting an existing loan, but it will show as a new credit obligation. This can have more effect on your credit score as it could raise your total debt ratio.
'Settled' Loan Hurts Most
A modification that produces a reduced principal on your original loan may have greater impact. The lender may report the old loan as "settled" or "charged off." That will damage your credit score and it will take stay on your credit report for seven years. On the other hand, a settled or charged-off debt will have less impact than a foreclosure, so a modification still might be wise.
Try to get your lender to report the modification as a new loan rather than indicating you "settled."
Get a Trial Modification
You also can do a trial modification, in which you get a reduced payment for three months. If that works, it is made permanent. This sometimes can be reported as a late or missed payment, however, which will damage your score. If you opt for a trial, make sure your lender follows government guidelines and reports payments as "current" during the trial period.
Try Refinancing as an Option
Refinancing rather than modifying your mortgage will affect your credit score less. In fact, a straight refinancing, even if you extend the term to reduce monthly payments, will have minimal adverse effect on your credit score unless you increase the total owed. Refinancing, however, will not reduce your loan principal.