Economic hardship doesn’t necessarily mean you will lose your house. Programs such as the Principal Reduction Alternative (PRA), in conjunction with the Home Affordable Modification Program (HAMP), were designed to lower mortgage payments in certain situations.
What was a Principal Reduction Alternative?
The HAMP-PRA was offered in a collaboration between the Department of the Treasury and the Department of Housing and Urban Development in February 2009. Under these provisions, the principal of a mortgage was reduced by a predetermined amount called the PRA Forbearance Amount, provided all conditions are satisfied during the three years.
The government provided incentives under the PRA program not only to you, the homeowner, but to the company that held the mortgage as well as the servicer to which you made payments. Therefore, most mortgage companies were happy to help homeowners through the process. There was no cost to apply for this type of housing assistance.
HAMP-PRA was designed to stop the enormous number of foreclosures during the 2008-2009 recession. Before the recession, banks and mortgage companies allowed homebuyers to take out mortgages more substantial than their incomes could cover with the rationale that the homes could be sold as the real estate prices continued to rise.
These mortgages were classified as subprime, meaning they were unlikely to be repaid. The lenders sold the mortgages to financial institutions that sold them as debt investments. Because the homebuyers could not repay the loan during the recession, they began to default on their payments.
There were more than 100 loan servicers that participated in this federal program. Unfortunately, the Principal Reduction Alternative program ended on December 31, 2016, although while it was in effect, more than 1.8 million families were aided through this program.
If you have a Fannie Mae or Freddie Mac home loan, you may still qualify for similar provisions to the Principal Reduction Alternative but under the general category of the Home Affordable Modification Program rather than a separate PRA program.
The following criteria needed to be met to qualify for the Principal Reduction Alternative (PRA):
- Home’s value greater than 115 percent of the outstanding mortgage balance
- A mortgage that began before January 1, 2009
- Owed up to $729,750 on the first mortgage
- Paid more than 31 percent of your gross monthly household income towards a mortgage
- Became delinquent on mortgage payments
- Had sufficient documented income to meet the new payments
- Did have a Fannie Mae or Freddie Mac home loan
- Lived in the house
- Had not been convicted of certain crimes related to finances, taxes, and real estate fraud in the ten years before the application
If your home’s value was less than your outstanding mortgage balance and you met the other qualifications, then when you completed the Initial Application Package for Home Affordable Modification Program, the mortgage company also evaluated your situation to see if you qualified for the Principal Reduction Alternative.
How the PRA Worked
If your mortgage was modified and included a PRA principal reduction, the government made additional PRA investor incentive payments to the company that held your mortgage on your behalf for three years. The size of those payments depended on the amount of the principal that was reduced through the HAMP modification. Your payment history and the loan-to-value ratio were also considerations. They could have been anywhere from 6 to 21 percent of the principal reduction amount.
When principal reductions were used in the HAMP PRA mortgage modification program, the reduction was considered a non-interest-bearing principal balance. If the mortgage was in good standing after three years, which means you hadn’t missed a payment during that period, then ⅓ of the principal reduction amount was forgiven at the first, second, and third anniversary of the modified mortgage. If you were not able to keep up, the amount that was not forgiven became a non-interest-bearing balloon payment paid at the end of the loan term.
The PRA investor incentive payments were considered mortgage payments by the U.S. government on behalf of the homeowner. They were deemed to be non-taxable under the general welfare doctrine. If the payments made it so that the principal amount of the loan was reduced more than the total amount of the PRA investor incentive payments, then the homeowner may have been required to record the excess amount as income on his or her taxes.
Overall, the Principal Reduction Alternative was a success. Homeowners had a chance to keep their homes while banks received partial payment for homes that were in danger of foreclosure. Looking at the results showed that homeowners who received PRA in addition to HAMP modification performed better than those who only received HAMP modification and that this performance persists over time.
Since the Principal Reduction Alternative is now defunct, offers such as this made to borrowers in danger of foreclosure are much less common. Mortgage criteria have also become stricter to avoid a repeat of the housing crash that occurred during the 2008-2009 recession. The Making Home Affordable Program still exists, however, and offers various services for homeowners in avoiding foreclosure.