Homeowners struggling with underwater mortgages can find some help in the form of mortgage debt relief and forgiveness programs. If you are struggling with financial challenges, these programs can help.

Although underwater mortgages may not be at the level they were during the Great Recession, they do exist. Even with the spike in interest rates, delinquency levels fell to 3.3% in Q2 2023.

Luckily, there are many mortgage debt relief options available, including debt cancellation and property tax relief. If you are struggling to make mortgage payments, there are other ways to resolve the situation before you consider foreclosure.

What Is Mortgage Debt Relief?

Mortgage debt relief is a set of strategies that can help you reduce your debt, restructure your loan, or reduce your monthly payments so you can salvage the situation and work things out.

As borrowers, not being able to pay the mortgage is a nightmare. Whether you are struggling because you are out of work or dealing with other challenges, falling behind on payments is stressful. Mortgages, student loans, and credit cards are the leading sources of debt.

Consider mortgage debt relief if you have already tried to cut down your expenses and adjust your budget. Several programs can help you manage your debt and find relief. Many options are available, from forbearance agreements to refinancing your mortgage and mortgage forgiveness programs.

8 Mortgage Debt Relief Solutions To Get You Out of Debt

There are many ways to manage your debt if you are facing financial hardship or job loss. Depending on your situation, your mortgage lender may be able to offer payment options or a reduced interest rate. Here are some of the best mortgage debt relief programs you can consider.

1. Mortgage Forgiveness

In certain situations, your mortgage lender may be able to forgive all or some of the debt you owe. Typically, mortgage forgiveness is the last option a lender will consider, and only if they are convinced you are insolvent.  

If your home has significant equity, you can also consider refinancing to avoid paying a large tax bill on the amount of forgiven mortgage debt on your primary residence, were it to be foreclosed on and subsequently sold by your lender. 

In most situations, a forgiven debt is considered identical (in terms of net financial benefit) to receiving that same amount in the form of ordinary income in the eyes of the IRS and U.S. Treasury. 

However, as part of the various COVID-19 pandemic-related economic stimulus programs, the Consolidated Appropriations Act was passed in 2020 to provide tax exclusion of a maximum of $750,000 on the forgiven debt until 2025. Eligible taxpayers can exclude canceled debt from their taxable income.

The Mortgage Forgiveness Debt Relief Act of 2007 also allows you to exclude forgiven mortgage debt from your income tax return with a maximum limit of $2 million if your debt was forgiven from 2007 to 2020. Primary residences, not second homes, are eligible for these programs.

Whether you sought relief through mortgage modification, short sale, or foreclosure, you may be eligible for this debt relief program. 

“Mortgage forgiveness often involves some sort of tax consequences.  If a creditor forgives $600 or more of debt, they’ll send you a 1099-C form reporting the amount to the IRS.  Depending on your income tax situation, you may owe taxes on the forgiven debt in the year in which your debt is forgiven.  However, not all forgiven debt is taxable, as there are certainly exceptions, including debt forgiven on your primary residence, under one of the federal mortgage debt relief programs.” –Brad Reichert

2. Mortgage Refinance

Refinancing your mortgage is another debt relief option you may want to consider. Many borrowers that opt for an adjustable-rate mortgage because of the alluring low interest rates and monthly payments later struggle when the loan converts to the adjustable rate after the initial fixed rate term.

Check your contract to see if there is a cap on how much your mortgage payments can rise during a set period. This sudden increase in monthly payments can cause uncertainty and add to your financial woes. Contact your mortgage lender to see if you can refinance to a fixed-rate mortgage. Ensure that the new payment terms are feasible for your budget.

It is important to shop around and negotiate with your lender when refinancing your mortgage. Sometimes, your contract may include prepayment penalties if you refinance your mortgage during the first few years. However, this is becoming a rare provision found in most new mortgage loans that are issued, and they are now usually only found on adjustable-rate mortgages (ARMs) nowadays.   

3. Forbearance

For some people, temporary help is all they need. You may have fallen behind on your payments because you lost a job or experienced another temporary setback.

You can work out a mortgage forbearance arrangement with your lender. This will allow you to stop your payments for a short amount of time while having no negative impact on your credit reports or FICO scores. After the end of that period, you can start making partial payments to cover the months you missed to keep your mortgage account up to date.

This easy and effective solution will help you get back on your feet, but keep in mind it is only suitable for the short term.  

4. Loan Modification

Another mortgage debt relief option to discuss with your lender is loan modification. Your lender may modify your loan terms to help make payments affordable. Many mortgages are backed by government enterprises like the Federal Home Loan Mortgage Corporation (FHLMC, aka “Freddie Mac”) or the Federal National Mortgage Association (FNMA, aka “Fannie Mae”).

Loans by qualified lenders are purchased and guaranteed by these organizations. A lender can modify your loan terms to help you avoid foreclosure. The Flex Modification Program can lower the monthly mortgage payments by 20% if you are eligible.

This program will first capitalize outstanding or delinquent payments, reduce your interest rate, and then extend the repayment period for your principal balance from the modification date.

5. Short Sale

With a short sale, your lender will agree to accept the price at which your home sells as the full payment on your mortgage. Even if your house sells for less than what you currently owe, your mortgage debt will be erased and marked as satisfied. Talk to a tax professional before considering this option to determine your tax liability to the IRS in case of capital gains or deficits. 

Be aware that a short sale will damage your credit and your FICO credit score by an average of 100-200 points, depending on where it started from when you began the short sale process. Also, the short sale process is not always “short,” with most of these transactions taking 90 days or more.  

Even after putting money into the home to make any necessary repairs your lender may require, you still may not get approval on your short sale offer, and you may have to start negotiations all over again.

6. Deed-In-Lieu of Foreclosure

If your account is already on the way to foreclosure, one way to avoid it is by handing over the keys to your lender and walking away. A deed-in-lieu of foreclosure allows your lender to avoid the time-consuming and expensive foreclosure process if you are willing to leave voluntarily and hand over the deed to your home to the lender.

This will allow you to clean your slate and wipe off your debt. Even if there is a deficit between your original purchase price and the price at which the lender sells your home, you will be eligible for discharge of indebtedness. For tax purposes, double-check with a professional to see if you may get a tax break in case of a deficit.

7. Nonjudicial Foreclosure

A nonjudicial foreclosure is different from a foreclosure ordered by a court. With this option, your home will be auctioned at fair market value. The money raised will be used to pay off the mortgage, and any deficits will be forgiven.

For this option to work, your lender will first have to approve this option. If your property is in a relatively good condition and if you are cooperative, there are higher chances that your lender may opt for a nonjudicial foreclosure.  

8. Downsizing

Another effective way to pay off your mortgage debt is by downsizing. This is particularly effective if you are struggling with debt because of a large mortgage that comes with a larger house.

Sell the larger house and move into a smaller, less expensive place to reduce the amount of debt. Use the difference to pay off your lender. Sometimes, the solution can be as simple as this.

When To Look For Mortgage Debt Relief

Mortgage debt relief may be a good option for you if:

  • You are incurring late fees and penalties on your mortgage.
  • Overdue payments are impacting your credit score.
  • You are unable to make mortgage payments after 30 days.
  • You do not have an alternative option available to make payments.
  • Your home is close to foreclosure.

One late payment can quickly turn into a loan default. It is important to explore all your options to resolve your debt before the situation becomes unmanageable and leads to a foreclosed home.

How Your Credit Score Is Affected by Mortgage Debt Relief

Your credit may be affected depending on which option you choose to manage your debt. For example, a loan modification program, loan payment forbearance, or refinancing may not significantly impact your credit report. Foreclosure or a short sale, on the other hand, can have a considerable negative impact.

Your mortgage lender may offer you a grace period, typically 15 days, to make your monthly payments. Failure to make your payments even after 30 days will cause your account to go into default. After 120 days, the foreclosure process will start, negatively impacting your credit score.

If your account goes into foreclosure, it can have an even bigger impact on your credit score. Before things escalate to that level, exploring all possible avenues to pay off your mortgage debt is crucial.

Buying a House After Debt Relief

Brad Reichert, debt expert and founder and managing director of Reichert Asset Management, explains the process of shopping for a mortgage after your credit takes a hit from using debt settlement as an option.

 “If you’ve gone through debt settlement, buying a house may seem like a dream that has passed you by. Most times, debt settlement can really do a number on your credit reports and scores,” says Reichert.  “But there’s good news because, with a little patience and a lot of work, you can buy a house after debt settlement,” he adds. 

Reichert says taking on another mortgage requires a plan to get your credit back on track. “While there’s no perfect amount of time before you can buy a house after debt settlement, most experts recommend waiting at least two years after finishing debt settlement before applying for a new mortgage,” he shares.  

“Primarily, it depends on your unique financial situation,” Reichert says. During this time, he recommends working to improve your credit, saving for a down payment, increasing your income wherever you can, and paying down other debts.

Mortgage Debt Relief Can Alleviate Your Financial Stress

Regardless of the reason, if you are struggling to keep up with your mortgage payments, help is available. Reach out to your lender or talk to a debt specialist. A professional can provide you with objective advice and help you find the best mortgage debt relief options.  

Compare the mortgage debt relief solutions we’ve listed above and see if you may qualify for any of them.