Documents

BY PATRICK HRUBY, ESQ.
BROCK & SCOTT, PLLC^∗   
USFN Member (CT, NC, RI, AL, FL, GA, KY, ME, MD, MA, MI, NH, NJ, OH, PA, SC, TN, VT, VA) 

As published in the Summer 2024 USFN Report

FHA Continues the Partial Claim Trend with its New Payment Supplement Program

Over the past several years, lenders and servicers have increasingly offered Partial Claim mortgages as a loss mitigation tool. A Partial Claim mortgage allows a borrower to cure a default by signing a mortgage and note in favor of the Department of Housing and Urban Development (HUD) for the default amount, which would generally be due upon sale or refinancing of the property or upon the maturity date of the primary loan.

Recently, the Federal Housing Administration (FHA) introduced a new Partial Claim loss mitigation option to help borrowers retain their homes. On February 21, 2024, HUD published Mortgagee Letter 2024-02, announcing the Payment Supplement loss mitigation option, which allows servicers to temporarily adjust the terms of an existing loan to reduce the monthly principal and interest payments by up to 25 percent without modifying the loan’s current terms, including, most importantly, the current interest rate.

Like prior Partial Claim programs, the Payment Supplement helps delinquent borrowers cure arrearages but also provides for a Monthly Principal Reduction (MoPR), temporarily reducing the borrower’s monthly principal and interest payments for up to three years. The amounts advanced to cure the arrearages and the amount of the MoPR over the three-year period are paid back via a Partial Claim junior mortgage that is due when the homeowner sells or refinances the property, or the mortgage otherwise terminates. In addition to the junior mortgage, a borrower is required to execute a non-interest-bearing Note and a Payment Supplement Agreement, which is incorporated into the Note, in favor of HUD.

The Payment Supplement is available to borrowers that have not previously used their Partial Claim allowance, which can be up to 30 percent of the outstanding balance of the FHA-insured loan. To qualify for the Payment Supplement, in addition to other requirements, a borrower must be eligible to receive available Partial Claim funds, be delinquent for at least three full monthly payments, have a fixed-rate mortgage, and affirm they will be able to make the reduced portion of the monthly payment after the MoPR is applied.

The Payment Supplement program imposes certain requirements on servicers. Servicers must make the monthly MoPR disbursements from a Payment Supplement Account, which is a separate custodial account that holds the balance of the FHA funds for distribution and must be segregated from funds associated with the primary FHA-insured mortgage, including escrow funds. Additionally, once the Payment Supplement is finalized, the servicer must provide the written disclosures annually to the borrower, as well as 60 to 90 days prior to the end of the Payment Supplement period. Servicers also face certain requirements upon the default of a borrower participating in the Payment Supplement program.

Servicers were able to offer the Payment Supplement as of May 1, 2024. By January 1, 2025, servicers must implement the Payment Supplement for all eligible borrowers.

In the current interest-rate environment, where existing loss mitigation alternatives artificially restrain borrowers that cannot afford to modify a loan to a new and higher interest rate than their current loan, the Payment Supplement appears to be a valuable loss mitigation tool. It remains to be seen whether it will primarily be a short-term solution, as HUD’S Mortgagee Letter acknowledges that the Payment Supplement could create “payment shock” at the end of the Payment Supplement Period. Though HUD intends to assess this issue on an ongoing basis, its authority to assist further would be very limited, especially for borrowers who have exhausted the Partial Claim allowance. However, for the meantime, servicers should be ready to implement this new solution.

Full details of the Payment Supplement can be found in HUD’s Mortgagee Letter 2024-02, available at: https://www.hud.gov/sites/dfiles/OCHCO/documents/2024-02hsgml.pdf.