Nearly half of homeowners getting help through the Obama administration's premier housing rescue program have dropped out through July as many failed to document their eligibility, the U.S. Treasury said on Friday.

In its monthly report on the Home Affordable Modification Program, or HAMP, the Treasury said 48.1 percent of 1.3 million homeowners who started a mortgage modification through July have been dropped from the program.

That was up from a 41.2 percent dropout rate through June and underlined the continuing distress felt by homeowners who face falling prices and rising foreclosure rates.

It is also likely to provide fodder for critics of the Obama administration's efforts to soften the pain for homeowners, many of whom now are under water with mortgage loans that exceed their home's value.

The Treasury launched the mortgage modification program in April 2009 to cut mortgage payments for struggling homeowners who were at risk of foreclosure. HAMP gives taxpayer-funded incentives to mortgage servicing firms to reduce payments to 31 percent of a qualifying homeowner's income.

But the modification trials offered in the program prior to June 1 did not require up-front documentation of income or eligibility, and many trials are now being canceled. Treasury cited job loss as a significant problem for participants.

As a result, 100,114 participants were cut from the program in July -- more than four times the 24,577 new modification trials started.

The number of new cancellations is expected to exceed the number of permanent modifications for the next few months as servicers clear their backlog of aged trials, the Treasury said in a statement.

Herbert Allison, the Treasury's assistant secretary for financial stability, said decisions should be made on these undocumented trials within the next two months. New modifications require documentation of income and other measures upfront.

Allison defended HAMP, which aims to assist 3 million to 4 million homeowners by the end of 2012, saying it provided the impetus for mortgage servicers to cut payments on their own. Many of the homeowners rejected by HAMP are receiving private-sector help from these firms, he said.

HAMP has became the standard for the industry's own proprietary mods, Allison added.

The Obama administration housing rescue efforts have taken criticism as being too limited in scope to turn the tide of foreclosures brought on by high unemployment and not a permanent solution for many buyers.

Asked whether the Treasury would consider a proposal championed by Pacific Investment Management Co co-founder and co-chief investment officer Bill Gross to launch a massive refinancing of mortgages by Fannie Mae and Freddie Mac, Allison deferred to their regulator, the Federal Housing Finance Administration, saying it would have to determine whether that was feasible.

The Treasury has pumped nearly $150 billion into the two government-controlled mortgage financiers to keep them solvent. A wholesale refinance program would likely require them to relax standards for loan-to-value ratios, credit scores and income, increasing their risk of loss.

Overall, the Treasury said HAMP has lowered payments for a total of 1.3 million homeowners that received trial modifications since the program was launched. Through July, 421,804 of these had received permanent modifications, up 36,695 since the end of June.

There are currently 255,934 homeowners still with trial modifications hoping to convert them to permanent status. This compares with 364,077 at the end of June.

(Reporting by David Lawder; Editing by Andrea Ricci)

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