If you’re pursuing a modification on your mortgage payments, you’re likely experiencing some financial difficulty. While a loan modification can make your payments more affordable, restructuring your debt can impact your credit in good and bad ways.
Here’s what you should know.
How a Loan Modification Can Hurt Your Credit
A loan modification often involves extending loan repayment terms, reducing your interest rate or balance, or putting your loan in forbearance. Lenders offer loan modifications to make payments more affordable and help stave off the possibility of foreclosure, which hurts you and the lender.
Technically, a loan modification should not negatively impact your credit score. That’s because you and the lender have agreed to new terms for paying off your loan, so if you continue to meet those terms, there shouldn’t be anything negative to report.
In many cases, modifications are only available to borrowers who have missed at least one payment or are nearing default on their mortgage. If you’re still current, your credit could take a big hit when you miss just one payment.
However, depending on how the lender reports the modification to your original agreement and what is required before you qualify for modification, it could negatively impact your credit scores. Most loan modifications are reported by your servicer as a ‘restructured’ or ‘re-aged’ mortgage, which preserves your payment history and does not carry the same penalty as a settlement. However, if a servicer lacks the proper status code, they may mistakenly report the modification as ‘paid in full for less than full balance’—the same designation used for a debt settlement or partial charge-off.
Because a settled account remains on your credit report for up to seven years from the first missed payment, this miscoding can significantly lower your scores. Before you sign, ask your lender exactly which reporting code they will use to avoid any unintended damage to your credit.
Loan Modification vs. Refinance
Refinancing your mortgage replaces your old loan with a brand-new one. As long as you continue making on-time payments and the lender reports the changes accurately, a refinance will only affect your credit briefly: once for the hard credit inquiry and again as the new account’s average age adjusts.
Most lenders also require a minimum FICO score of 620 or higher to qualify, so you’ll already need a solid payment history.
In contrast, a loan modification restructures your existing mortgage, typically after you’ve fallen behind on payments. When reported correctly (as a “re-aged” or “restructured” loan), a modification preserves your payment history. But if you’ve already missed payments, or if the servicer mistakenly codes the change as a “settlement” or partial charge-off, the credit hit can be larger and linger far longer than with a refinance. Before agreeing to a modification, always ask your servicer exactly how they will report it to the three bureaus.
Account Closure vs. Account Update
One key nuance is how your servicer reports the modification:
- Re-aging the existing loan:
The servicer keeps your original account open, simply updating the payment terms. Your mortgage’s age and payment history carry forward intact. - Closing and opening a new account:
Some servicers—lacking a dedicated “modification” status—close your old loan and report the modified loan as a new account. This mirrors a refinance from a credit-reporting standpoint and can shorten your average account age.
Because the length of your credit history makes up about 15% of your FICO score, replacing an older mortgage with a newer one might shave a few points off your score. However, unless your mortgage was the oldest account on your report, this impact is usually modest and temporary—far less severe than a charge-off or settlement.
Account Closure vs. Account Update
One key nuance is how your servicer reports the modification:
- Re-aging the existing loan:
The servicer keeps your original account open, simply updating the payment terms. Your mortgage’s age and payment history carry forward intact. - Closing and opening a new account:
Some servicers—lacking a dedicated “modification” status—close your old loan and report the modified loan as a new account. This mirrors a refinance from a credit-reporting standpoint and can shorten your average account age.
Because the length of your credit history makes up about 15% of your FICO score, replacing an older mortgage with a newer one might shave a few points off your score. However, unless your mortgage was the oldest account on your report, this impact is usually modest and much less severe than a charge-off or settlement.
How a Loan Modification Can Help Your Credit
If you’ve missed one or more mortgage loan payments, your credit score has probably already been impacted. While a reported settlement can make things worse in the short term, that blemish will fall off your report seven years after the first missed payment.
While that’s less than ideal, it still beats foreclosure, bankruptcy, or several late payments before you attempt a modification.
Foreclosure means you’ve defaulted on your loan agreement. In addition to a huge impact on your credit score, you’ll be sidelined from buying another home for anywhere from two to seven years, depending on the type of loan you want.
A modification will take a while to fall off your credit reports, but this impact diminishes over time, especially if you take steps to rebuild your financial situation by paying bills on time. A loan modification can also make it easier for you to keep current with your other debt obligations, which also contributes to easing the impacts of bad credit on your record.
Some lenders may not report a change as a settlement, so your credit is unaffected. In fact, your credit score could improve because your monthly payment would be reported as decreased.
When negotiating a loan modification, ask your lender how they report it. They may even agree not to report it as an adjustment, particularly if you’ve been a good customer.
Check Your Credit Report Often
A smart move is to check your credit report frequently. Ensure your lender reports your mortgage payments correctly, either as a forbearance or paying as agreed. You don’t want to see late payments if the lender has agreed not to do that.
If the information on your credit report needs to be corrected, you can dispute it with the credit bureau. Under the Fair Credit Reporting Act, the bureaus generally have 30-45 days to investigate a dispute and delete the information from your file unless it’s confirmed.
