Step 4 is to determine realistically whether your financial reversal is temporary or permanent. A temporary reversal is one where, if you are provided payment relief for up to six months, you will be able to resume regular payments at the end of the period, and repay all the payments you missed within the following 12 months. You must document the case for the reversal being temporary. If you cannot make a persuasive case that the change in your financial condition is temporary, the lender will assume it is permanent.

Your game plan should take account of whether or not you have substantial equity in the house, and on whether the change in your financial status is temporary or permanent.

If you have substantial equity in your house, the least costly action to the lender may be foreclosure. While foreclosure is costly, the lender is entitled to be reimbursed from the sales proceeds for all foreclosure costs plus all unpaid interest and principal.

While foreclosure makes the lender whole, it is a disaster for you. Your equity is depleted, you incur the costs of moving and your credit is ruined. Hence, you must avoid foreclosure, if necessary, by selling your house.

If your financial reversal is temporary,and you can persuade the lender of this, the lender may be willing to forbear -- suspend payments for a period, followed by a repayment plan. The lender will probably prefer to keep your loan, rather than foreclose on it, but only if convinced it is a good loan. The burden of proof is on you in this situation to demonstrate that the temporary payment relief will really work.

If your financial reversal is permanent, sell the house before you begin accumulating delinquencies. This way, you at least retain your equity and your credit rating.

Obtaining full value for your home may take some time -- you don’t want to be forced into a fire sale. If delinquency is looming, take out a home equity line of credit to keep your payments current.

If you have little or no equity, your bargaining position is actually stronger because foreclosure is a sure loser for the lender.

If your financial reversal is temporary, and assuming you want to remain in your house, it will be easier to persuade the lender to offer payment relief than if you have equity.

If your financial reversal is permanent, but not major, the lender may be favorably disposed to a contract modification that will permanently reduce the payments.

If your financial reversal is permanent and major,the lenderprobably will be willing to accept either a "short sale" or a "deed in lieu of foreclosure". In the first, you sell the house and pay the lender the sales proceeds while in the second the lender takes title to the house. In both cases your debt obligation usually is fully discharged. They do appear on your credit report, but are not as bad a mark as a foreclosure.

The lender will turn a wary eye on borrowers with negative equity who have the means to continue making payments but would like to rid themselves of their negative equity through short sale or deed-in-lieu. While these options are less costly to the lender than foreclosure, lenders view borrowers as responsible for their debts, regardless of the depletion of their equity. How they respond depends on how convinced they are that the borrower's problems are truly involuntary and on the likelihood of success in collecting more if they go after the borrower for the deficiency.

The writer is Professor of Finance Emeritus at the Wharton School of the University of Pennsylvania. Comments and questions can be left at www.mtgprofessor.com.

Copyright 2003 Jack Guttentag