We have been in this position several times. It is considered a new transaction so we do all new disclosures. We go ahead and do the end loan, even if they wouldn't otherwise qualify. Our argument has been that they wouldn't qualify for a new loan, but that we either have to foreclose or refinance it to the best possible scenario.
The examiners haven't criticized us, but it would be pretty difficult for them to do so since we're doing the best we can under the circumstances to keep the borrowers in their home.
Since they don't qualify, however, and we really do want them to be able to make their payments, we sometimes stretch their loan out to 25 years (we normally stop at 20) and keep the rate as low as we can.