The real estate melt-down

Originally Posted by Merrida

What about the couple who could pay for their mortgage for the first 10 years, and now, perhaps something catastrophic happened, perhaps a pregnancy found the couple with quadruplets, something they couldn't have foreseen, or pay changes, a loss of income, a sickness in the family,....what if NOW they can no longer afford the payments.

Is it "okay" to walk then?

They're not intentionally defrauding the bank, or to put it another way, they never intended for any of these situations to happen, but after a period of showing they're above board, low risk, timely payers,.....suddenly something happens,....is it wrong to walk away? What are they to do if they find themselves in an unforeseen situation where they just can't pay their mortgage?

It isn't a moral issue where they just don't feel like paying anymore,....it becomes a matter of their very livelihood, and the very reality of their new situation.

From pierini's perspective, I'd like to know: What would you advise your customers to do in this regard, if they still display moral integrity because they've been trying hard to pay back what suddenly became impossible. Genuine question: What is the correct way to handle this? What if the house doesn't sell because of the market (so that isn't an option)? Is there a way to resolve this situation that does not come across as if the owners are trying to put one over on the bank?

Remember, everything started very upfront, and was even maintained for years.... What should be done?

Well in California, if the loan that they are considering walking from was the loan they took out to purchase the home, it is called a "purchase money mortgage" and, as I pointed out in my initial post, the lender can only look to the property in complete satisfaction of the debt. The lender cannot sue the borrower for any deficiency (property value is less than the loan - not likely if the loan is 10 years old). But if the borrower had refinanced the property (very popular these days), then they don't get the protection of the law and the lender could sue them for the deficiency, get a judgment and enforce collection.

So in that case Merrida, your hypothetical couple would have to pursue bankruptcy to protect them if they are insolvent.

I have no trouble advising an insolvent client to consider bankruptcy if their financial facts support that action. In my 28 years of doing what I do, I have never had the "opportunity" to advise a client to consider bankruptcy, although I have clients who have done that.

[Merrida]

Pierini, thank you for engaging me in this discussion, and for apparently understanding that my queries are genuine, and that my curiosity is sincere.

So in your experience, the only situation that you would (personally? professionally?) consider it a viable solution to walk away from a mortgage would be if the couple walked away from all debts due to their financial problems and their ability to show their new circumstances prohibit them from repaying not only their home mortgage, but every other debt they have accrued,....am I correct in how I interpreted that?

What if they did not refinance, but in fact were still trying to pay off just their original mortgage,....then what?

What I never understood is how people have been told that if they file bankruptcy that they can re-establish their credit within 1-2 years, get fresh loans, and start rebuilding their credit. From what I've seen, besides the fact that a bankruptcy stays on your credit report for ten years (not 7 as it used to be), it's virtually impossible to get any kind of credit,....a loan for a car is near impossible without a co-signer despite cash put down at signing,...nevermind a home, that's way out of the question. Where do these people get this information that it's "easy" to re-establish credit after filing?

I think it's also important for people who don't know this to understand that filing bankruptcy, at least in this state, does not mean walking away,...it is not like all debts are forgiven,....you still have financial responsibilities that are not wiped off, and it is not an easy thing to do (to qualify for bankruptcy). What I never figured out is that in this state, the cost of filing a bankruptcy can run the debtor anywhere between $3,000.00 and $6,000.00. How is a person supposed to come up with that kind of money when the whole point of their defaulting is,.....they don't have the money, and if they had $6,000.00 lying around, many people would not be in the position of having to file, they could probably do with some lessons in money management.

Originally Posted by Merrida

So in your experience, the only situation that you would (personally? professionally?) consider it a viable solution to walk away from a mortgage would be if the couple walked away from all debts due to their financial problems and their ability to show their new circumstances prohibit them from repaying not only their home mortgage, but every other debt they have accrued,....am I correct in how I interpreted that? yup

What if they did not refinance, but in fact were still trying to pay off just their original mortgage,....then what? I would have to interview and assess their position to give proper counsel, but if walking from the loan would eliminate insolvency so that they didn't have to declare bankruptcy, then I might be inclined to advise that action. But they would need to understand that they would be damaging their credit history.

My replies in red above.

[LiftGirl]

Originally Posted by Firehawk

Merrida has a good point. So it's considered stealing if you walk away before you take a loss on your house (if you forsee it coming), but it's not considered stealing if you lose your job, can't pay the bills, and default then? Sounds like that is what people who think it's wrong to walk away from a note are saying here.


I agree with alot of what arbit said. It is unrealistic to expect people to pay cash for every big purchase. If everyone waited to own a house outright, the property value and resale just wouldn't be there. With vehicles, everyone needs one (or 99% of us), and regardless of what you might like to think, most people can't afford to buy cars outright either, especially when there's something called "having to eat" on a daily basis, feed your family, keep the electricity, gas, and water on, etc. Sure, buy a beater for a grand or two, then spend 5 grand over the next year fixing it.

Not paying because something catastrophic happened and you couldn't afford to is different than walking away when you could pay but just don't want to because you no longer think it's a prudent investment. On the other hand, people should have a rainy day fund of at least 3 months pay. Of course, in the event of a catastrophe, that would get burned through pretty quickly. Not being able to pay is, IMO, different from not wanting to pay.

The car analogy is an interesting one. New cars depreciate by 1/3 as soon as you drive them off the lot. Therefore, the loan will always be for more than the value of the car. So is it ok to default on any new car loan because the loan is for more than the car is worth?

If you take out a loan, you do so willingly, and you shouldn't complain that the bank somehow robbed you.

[Merrida]

I don't think anyone is arguing or debating the difference between someone walking away from a financial obligation because they don't feel like paying, versus an inability to pay. If your financial situation changes drastically, but you can still afford things like rent (but not a mortgage, property taxes, etc.), and to feed your family (I'm running this scenario with the 2-parent household and 2 kids per family), and basic utilities.

But what IF this new financial situation (let's say you've gone from a 2-income family to only one person bringing in an income) causes money problems. You're not broke to the point of zero income, but the way you've conducted your business affairs for so many years has been cut in half, or maybe more so, you had no way to anticipate this,... but you still have a family to care for, which you can care for but you can only provide to a much lesser degree....including no longer being able to afford your house.

What then? What is the "right" way to handle this?

The truth is that you can live and pay bills (but at a substantially lower quality of living, but you could do it responsibly),....but at the expense of losing the home you've invested in for all these years.

So you could scrap by on this new, lower income (bearing in mind you're still trying to be responsible for your family, put a roof over their heads and food on the table, etc.)....

With all sincerity, if any of us found ourselves in this situation, what is the "morally correct answer" as to how to move forward?

True story.

I remember about 20 years ago waking up to a telephone call in a hotel while away on a business trip. It was my cousin who called me to talk because he was without work and having trouble making his house payment. He was considering walking away from his home loan. He was a union heavy-equipment operator accustomed to a very high hourly wage with plenty of overtime but due to a depressed economy, he hadn't worked much that year and his unemployment benefits were about to expire. He asked me what I thought.

Drawing from my Mexican ancestry heritage, I told him that he was not without work and that he could always go pick tomatoes and that is what he should do rather than default on his loan and lose his house. I think he was looking for a different answer, one that would validate what he wanted to do. He didn't get that answer from me.

Well he never went to pick tomatoes, but he didn't default on his loan, times got better, he went back to work, kept his good credit history, and now lives in a much nicer home, and I'm sure he is glad he chose the financial path he did.

Financial stuff happens but normally in the bigger scheme of things, it is nothing more than a hiccup. And hiccups always go away.

[MAURER]

i personally believe that if you are making the decision to take out a loan for a home, you should not tell yourself you can afford to take that loan unless you are completely sure of this first: you will be able to pay the loan back unless you become unemployed long term or encounter some other major financial setback. if its possible that you may be making half the amount of money in 2 years, or all your stocks could lose value, only plan on being able to that much back of the loan. otherwise, you can't really afford it.

[arbit]

Originally Posted by LiftGirl

The car analogy is an interesting one. New cars depreciate by 1/3 as soon as you drive them off the lot. Therefore, the loan will always be for more than the value of the car. So is it ok to default on any new car loan because the loan is for more than the car is worth?

If you take out a loan, you do so willingly, and you shouldn't complain that the bank somehow robbed you.

The car anology is flawed.
1. Cars depreciate in value, houses are not supposed to.
2. Everyone knows beforehand cars depreciate in value.
3. Hence, the legal agreement when you take out a loan to buy a car is that you're gonna pay it, unlike house mortgages.

[LiftGirl]

Originally Posted by arbit

The car anology is flawed.
1. Cars depreciate in value, houses are not supposed to.
2. Everyone knows beforehand cars depreciate in value.
3. Hence, the legal agreement when you take out a loan to buy a car is that you're gonna pay it, unlike house mortgages.

There's no guarantee that a house will not depreciate. Many things could cause house depreciation. That's a risk you take when you purchase one.

[arbit]

An interesting page on the current mortgage crisis:
2007 Subprime mortgage financial crisis - Wikipedia, the free encyclopedia

I have been wondering lately on why banks would let this happen. The following paragraph from the wikipedia artucle provides a partial answer:

As early as the 2003 Annual Report issued by Fairfax Financial Holdings Limited, Prem Watsa was raising concerns about securitized products:
"We have been concerned for some time about the risks in asset-backed bonds, particularly bonds that are backed by home equity loans, automobile loans or credit card debt (we own no asset-backed bonds). It seems to us that securitization (or the creation of these asset-backed bonds) eliminates the incentive for the originator of the loan to be credit sensitive... With securitization, the dealer (almost) does not care as these loans can be laid off through securitization. Thus, the loss experienced on these loans after securitization will no longer be comparable to that experienced prior to securitization (called a ‘‘moral’’ hazard)... This is not a small problem. There is $1.0 trillion in asset-backed bonds outstanding as of December 31, 2003 in the U.S.... Who is buying these bonds? Insurance companies, money managers and banks – in the main – all reaching for yield given the excellent ratings for these bonds. What happens if we hit an air pocket?