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4 ways to protect your mortgage from a job layoff

Layoff-proof your mortgage The current economy has cost many Americans their jobs. Many others have suffered pay cuts because their employers reduced their working hours. Some people worry that more layoffs and pay cuts are on the way.

This all adds up to a lot of homeowners who are worried about making their mortgage payments. The quicker they act, the more options they have. Among the options are:

  • Buying less house than you can afford so you'll be able to make payments when money gets tight;
  • Getting a home equity loan or home equity line of credit to create a rainy-day fund;
  • Refinancing the house for more than is currently owed and pocketing the difference (known as a "cash-out refi");
  • Working out a deal with your mortgage lender to make partial payments or even suspend payments for a short time.

The first three options are for people who still have jobs. The last option is for people who are unemployed or who have suffered a big, indefinite pay cut -- someone who works at a tourist destination and depends on tips, for example.

Borrowing below your means
"Let me tell you what I'd do," says Stuart Gans, president of Lend USA, a mortgage brokerage in Bedford, Texas. "I got a 30-year mortgage but I could have had a 15-year. But I gave myself the option of a lower payment."

Gans doesn't expect to be unemployed anytime soon. But he works in a business that has its boom and bust cycles, and he has protected himself somewhat from the busts by giving himself room to make higher-than-required payments on his mortgage during good times. Then, if his income drops, he makes the required payments.

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Here's an example of how it works. These aren't Gans's numbers, but hypothetical amounts that roughly correspond to what Americans could expect to pay:

Someone with good credit and ability to pay 20 percent down on a $180,000 house might be able to get a 15-year mortgage at 6.1 percent or a 30-year mortgage at 6.6 percent on a $150,000 loan. Monthly principal and interest on the 15-year loan would be $1,274. Monthly principal and interest on the 30-year loan would be $909.

A home buyer who makes good money might be able to make the $1,274 monthly payments to qualify for a 15-year mortgage. But if the buyer worries about income security, he or she could get a 30-year mortgage and make payments as if it were a 15-year mortgage -- in other words, pay $1,274 a month instead of the required $909. Paying more than the required amount builds up equity and effectively shortens the length of the loan. Every extra payment chops time off the 30-year term of the mortgage.

A homeowner who follows this plan could lower his or her payments by $365 a month, to $909, when money gets tight.

Using your house as a bank
If you have a lot of equity in your house, you could get a home equity loan or a home equity line of credit and use the money as a rainy-day fund.

This tactic has a big drawback: You can lose your house if you can't make the payments on a home equity loan or line of credit. On the other hand, if you were unemployed and paying your bills with an unsecured credit card, you would risk losing the card if you couldn't pay, and your credit report would take a severe hit, but you would still have a house.

If you take out a home equity loan to create a rainy-day fund, or get a home equity line of credit to tide you over in event of job loss, you don't have to spend the money. You can just keep it in reserve in case you need it.

Another way to liberate money from the house is to do a "cash-out refi," refinancing the mortgage for more than you currently owe, and pocketing the difference. For example, if you owe $75,000 on a house worth $150,000, you could refinance the mortgage for $100,000 and get a check for $25,000.

"That's what we're thinking of doing," says a Fort Worth, Texas, homeowner who is married to an executive with American Airlines. Her husband survived a round of layoffs in the aftermath of Sept. 11. They had applied for cash-out refinancing before the terrorist attacks, and were set to close later in the month.

But after the round of layoffs, they decided to delay their closing for two reasons. Most importantly, they wanted to take advantage of falling interest rates. They also wanted to take some time to assess job security and rethink their financial goals. Should they pay off other debt with the cash they get back (as they originally planned), or save it in case of a layoff?

It's a lot easier to refinance a mortgage or to get a home equity loan or home equity line of credit when you have a job. If you're out of work, lenders are going to wonder how you intend to repay your loan. Married couples who both work have an advantage here over singles -- if one spouse is laid off and the other still has a job, they still can try to refinance.

"They could get a stated-income loan where you don't verify income," Gans says. He adds that if you time a refinancing just right, you could end up skipping a month's payment. If that's what you want to do, let the lender know, because the timing has to be impeccable: "You've got to be savvy and know what you're doing."

Talk to your lender
Don't wait until your checking balance has dwindled before contacting your lender. Call immediately.

"Our goal is to help them stay in their home," says John Lawrence, head of borrower counseling services for Wells Fargo Home Mortgage. "The sooner they call the better. If you ignore the situation or hope it's going to correct itself, it's only going to get worse for you."

How do things get worse? Consider this: If you're 30 days late with your payment, or if you send a partial payment without notifying the lender first, you'll get socked with a penalty fee and your late payment will be reported to credit bureaus.

On the other hand, if you work out an altered payment schedule with your lender, it might waive any late fees and it won't report your problems to credit bureaus.

The point about credit bureaus is important for job hunters. When you apply for a job, the employer probably will check your credit report to find out what kind of person you are: whether you have been sued, have filed for bankruptcy or have trouble paying bills. You don't want any recent blemishes on your credit report.

In addition to waiving late fees, mortgage lenders might accept partial payments for a few months. If your case is especially woeful, you might be permitted to skip a payment or two or three.

Wells Fargo calls these options "loan modifications." After your financial situation improves, the bank will restructure your loan to get you back on schedule.

Other lenders offer similar programs. Washington Mutual even allows homeowners who lost loved ones in the Sept. 11 attacks to suspend mortgage payments for up to a year.

Lenders are willing to help jobless borrowers because they don't want to foreclose on houses. "It's a financial loss for everyone involved -- for the investor, the customer and the servicer," Lawrence says, adding that borrowers' problems are factored in as a cost of doing business.

"Situations happen where people run into difficulties," Lawrence says. "You lose your job, your child gets sick -- we know that happens and we deal with it every day."

Where to call
OK, let's say you applied for your loan at a mortgage broker, which found a good deal with a credit union, which then bundled your mortgage with others and sold the package to investors. On top of that, the servicing rights were sold to yet another company, which accepts your payments and handles your escrow account. Who do you call?

Simple. Look for the customer service phone number in your coupon book or on your monthly statement.

Before you call, take a look at your finances and figure out how much you'll be able to pay every month. You don't want to commit yourself to paying 75 percent of your usual payment when you can afford to pay only 50 percent.

And remember: Lots of people have been laid off and many others have had their work hours reduced. You're not the only one.

-- Updated: July 18, 2003
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See Also
8 must-ask mortgage and refi questions
Beating the pink-slip blues
Calculator: How much house can you afford?
Understanding cash-out refinancing

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