Considerations Before Walking Away From a Mortgage.
The Denver Post recently published an op-ed piece entitled “The Wisdom of Walking Away from Your Mortgage,” which encourages homeowners who owe more on their property than it is worth to consider simply walking away from their mortgage(s). This article, and others like it that suggest walking away from home loans without fully considering the financial and related ramifications, are irresponsible at best because they fail to even mention the negative implications of the decision.
When a homeowner walks away from their property, the property will eventually be foreclosed on. If the property sells at the foreclosure sale for less than the debt against it, the borrower will be responsible for that deficiency balance. Deficiencies are especially likely where the property has more than one loan against it.
While not every borrower is pursued by their lender to recover the deficiency immediately after a foreclosure sale, some certainly are. And just because lenders aren’t coming after deficiency balances immediately doesn’t mean they won’t in the future – the statute of limitations for these types of actions is six years in Colorado.
Some borrowers may indeed decide that letting their home go to foreclosure is their best option to rid themselves of the property. But the decision to walk away should only be made after homeowners understand the answers to the following questions:
1. How much will I owe after the foreclosure sale?
In simple terms, the borrower will be liable for the difference between what the property sells for and what’s owed against it. When a property sells at foreclosure, the foreclosing lender will add on missed payments, late charges, attorney and Public Trustee fees, and a host of other expenses when calculating the amount owed. The foreclosing lender is required by statute to bid a reasonable estimate of the fair market value of the property, net of transaction costs. But in today’s real estate market, with so many properties underwater, the ultimate sales price at the foreclosure sale has a very good chance of being less than the total amount owed – particularly if there are multiple loans against the property.
2. Will I be sued?
When a post-foreclosure deficiency exists, the lender’s legal remedy is to sue the borrower. And yes, borrowers are being sued. But just because a lender doesn’t pursue a deficiency lawsuit immediately doesn’t mean they won’t – with a six year statute of limitations, lenders that don’t act immediately may be lying in wait for borrowers who lost their homes to foreclosure to get back on firmer financial footing. In fact, a recent Wall Street Journal article entitled House Is Gone but Debt Lives On confirms that investors in mortgage debt are considering exactly that strategy.
Oftentimes before a lender makes the decision to sue, they will let the borrower know that collection efforts are being stepped up, either by turning the file over to an internal recovery department or outside collection agency. Recovery departments and collection agencies will typically be looking to settle the obligation for less than the full amount owed. From a business perspective, the certainty of receiving some dollars today is likely viewed as a better result than the chance at collecting tomorrow through a post-foreclosure deficiency judgment. However, if what the lender perceives to be a reasonable settlement isn’t able to be reached, or they believe they can collect more by suing than settling, the legal remedy is to sue the borrower.
3. How Much Will I Have to Pay?
If the lender pushes collection actions, then something will have to be paid in order to stave off litigation. Our firm routinely guides clients through the settlement process before matters escalate to litigation. But there has to be a financial incentive for lenders to settle, especially because the option exists to sell the right to pursue a deficiency judgment to smaller, more litigiously-inclined investors. While some lenders will consider negotiated repayment plans over time, lender preference certainly tilts towards lump sum settlements to be paid within a matter of weeks of approval.
4. Are My Assets Exposed?
It depends what type of assets and the progress of the collection efforts. Assets are generally broken down into two categories: exempt and non-exempt. Creditors cannot collect from exempt assets (retirement accounts, pensions, protected homestead equity, etc…), whereas non-exempt assets (checking or savings accounts, investment accounts, some portion of wages) are exposed to collection efforts. However, in the context of settlement discussions, many creditors will ask for sworn financial affidavits from borrowers to see what sort of settlement is possible. Even though a borrower may hold many of their assets as exempt, it’s not uncommon for lenders to demand that borrowers tap into retirement accounts, for instance, to come up with funds to settle an account, or else will follow through with filing suit.
5. How Will My Credit Be Impacted?
Borrowers who walk away from their home will suffer negative credit consequences. The most apparent is a decreased credit score, which will drop with each missed payment. The more payments that are missed, the lower the score will drop. The total decrease to a borrower’s credit score varies based on where the score starts and how long it takes for the foreclosure sale to take place. Other negative credit consequences include the account showing as foreclosed on the borrower’s credit report for seven years after the account is closed, and based on current Fannie Mae guidelines, the borrower will not qualify for another federally-backed mortgage for five to seven years.
Many borrowers who are underwater on their homes may be better served by pursuing alternatives other than simply walking away from their property. If the borrower wishes to stay in the property, they could explore the option of loan modification, even if they wouldn’t qualify for a traditional refinance as a result of the value of the property relative to the amount of loans against it. If the owner does not want to remain in the property, they may be better served by pursuing a short sale and seeking to resolve any shortfalls on their loan(s) in conjunction with the sale. Articles that advise homeowners to walk away from their property without even mentioning the possible negative implications are irresponsible because they fail to educate borrowers about the negative fallout of the decision. Before making the decision to stop paying on mortgage loans, homeowners should consult with an attorney to fully understand the ramifications of the decision and to consider other possible alternatives that could be less devastating to their financial well-being.