Foreclosures & Bank Fraud
You Could Just Walk Away-or Not
Is your home mortgage "under water?" If you owe more in payments than you could get by selling, you're under water. A lot of people in the U.S. are underwater right now, and many of them are choosing an option most would not have considered a few years ago: they're walking away. They're saying to the bank, in effect, "You want it? It's yours." Should you?
Before we tackle that question head on, let's step back and ask, how did so many people come to be underwater on their home loans? Isn't that bad banking? And the answer to that question is that without a doubt, it was bad banking that led us here. And bad government. See, banks can borrow for almost no interest from the United States national bank, known as the Federal Reserve, or just "The Fed.". All they had to do was find a home for that money and the banks could make a big profit, so money poured into real estate and the idea developed over many years that "real estate never goes down." If houses "always went up," then banks could lend increasingly large parts of their price to the buyers. If the buyers could hold for a couple of years, the houses would gain enough in value to become good loans.
Maybe that's when you bought your house, or when you refinanced it and took some money out. Let's say the original purchase price in 1995 on your house was $100,000. You paid ten or fifteen percent down and took on payments for the rest. By 2002 your house was appraised for $200,000, and you could borrow that, take out $50,000 to spend, and still reduce your payments. Many people did just this. Some did that with the additional "kicker" of adjustable rates. Everybody knew that rates would go up someday, and everybody planned to get fixed rate mortgages before that happened. Then the housing bubble burst, and the $200,000 house went back to an appraised or realistic value of, say $130,000. The homeowner was saddled with a $200,000 loan on a $130,000 house. If that's you, should you pay it? Or could you walk away?
There are two more pieces of the puzzle you need to consider. If you bought during the heyday of the bubble period, your loan may be "non-recourse." That's something the banks threw in there to encourage homeowners to be more reckless, and what it means is that the lender agreed that its only remedy if you stopped paying on the loan was to repossess the house. If you have a non-recourse loan, the lender can foreclose on the house and take it away from you, but it can't sue you personally. The opposite of a "non-recourse" loan is a "guaranteed" loan, or a loan made, in other words, with recourse against you personally. And if this is the kind of loan you have, the bank can sue you for whatever the sale on foreclosure doesn't generate. You could walk away from the house but still be saddled with the house payment.
The simplest question arises where you are underwater on a non-recourse loan. Realizing that the event may go onto your credit report and mess you up that way (although in my view it shouldn't), and realizing that there's still a question of where you're going to live, if you can work those things out there's no pressing economic reason to continue to make payments. And in my view no moral reasons not to "walk away" at all.
Should You Walk Away From A Non-Recourse Loan?
Businesses walk away from bad deals all the time, and in fact the contract law was specifically designed to encourage walking away from uneconomic deals. Why? Because locking a person into a deal that didn't make economic sense is wasteful and foolish. Contract law is designed to facilitate people leaving the deal, which allows both parties to seek out more economically sensible actions.
What do I mean? Consider a physical assault. The law is designed to prevent that, first by applying criminal penalties, and second by allowing punitive damages. Punitive damages is an amount of money a jury is entitled to award to a plaintiff against a defendant and is supposed to discourage the person who committed the assault from ever doing it again and "send a message" to others who might be thinking about doing it that "crime doesn't pay." These are the big judgments you hear about, and they're designed so that you will hear about them and not do what the defendant did.
Now consider contracts. In most cases, if you break a contract you have to give the other guy the profit he expected to make out of the deal. And that's it. Then you're free to go your merry way looking for better things to do. You made a deal to buy 1,000 gallons of milk for $5.00 per gallon, but you found someone who would sell it for $4.00 per gallon. If the guy you made the deal with originally can show he'd have made 50 cents of profit per gallon, you're going to owe him 1,000 gallons time 50 cents, or $500.00. He's making all the profit he ever expected, you're only spending $4,000 on the milk plus the $500, so you save $500, and the guy who sold you the milk may also make a profit if he can produce it for less than the original vendor. Everybody wins, and the most efficient producer sells the most milk. That's what the contract law was actually designed to do.
I'm telling you that you shouldn't feel bad about walking away from a non-recourse loan. The bank decided what it would take if the deal went sour: it wanted your house. You certainly didn't force it to make that deal, it had more bargaining power than you did. You should ignore anybody who suggests that you have a moral duty to "bail out" the bank from its mistake at your expense. The banks were the bad guys here—they lured you into making an uneconomic loan. They deserve the loss (if you must think of it in moral terms). In legal terms, the bank weighed its options, decided how much protection it needed to enter the deal, and made a contract with you. A very significant part of the deal for you was the right to walk away if it went bad.
Since that was a part of the deal, I would argue that there should be no negative credit report information for exercising a negotiated contract right. But I'm not sure the rest of the world sees eye to eye with me on that.
Should You Walk Away From A Recourse Loan?
Remember that a recourse loan means that the bank reserves the right to sue you for any payments not covered by sale at foreclosure. Again we can discard any moral questions. This was a deal made between a large bank and you, so any coercion certainly came from the bank. They looked at the house and thought they'd get their money back out of it if you stopped paying, and they looked at you and decided they could go after you if they couldn't get their money from the house. Therefore, if you stop paying, they know what they can do with the house! And they may sue you and try to get you to pay a judgment. And they will almost certainly trash your credit report for seven years.
Should you still walk away, though? Well, sometimes you just can't stay. If you can't make the payments, you can't make the payments, and selling your children into slavery to put off the day of reckoning doesn't make sense. Remember this: in bankruptcy, the mortgage is "secured" by the house, but anything left to pay after foreclosure is "unsecured." If you go into bankruptcy, you can wipe off the extra debt and walk away from it. Although as a practical matter, of course, this may still leave you with very big problems. Obviously you shouldn't do it lightly. But again you should not be burdened with moral considerations.
There Are A Couple Of Wild-Cards
There are two wild cards in this deck which suggest that "walk away" is not really the best way to put it. Perhaps I should have said, "stop paying." And the wild-cards are that it may be that the bank holding your loan cannot foreclose, or it may not be willing to foreclose whether your loan is recourse or non-recourse.
Remember mortgage-backed-securities? Those are bonds (loans, basically, that investors make to the bank in exchange for payments over time) supposedly secured by many mortgage payments. The Wall Street Banking Gang may have taken your mortgage and sliced and diced your prospective payments so much that nobody really knows who is supposed to get what or where the original mortgage even is. A few courts have decided that the banks cannot foreclose unless they can provide the mortgage documents and proof that they have the right to collect. And a lot of foreclosures have been stopped because the banks cannot do it! Imagine: you could stop paying, and the bank could never make you leave!
As sweet a deal as that sounds, and however poetic the justice, I don't suggest that you do it just for fun. It would be very risky. But would I pack up and leave just because I couldn't pay the mortgage without even making them prove they could kick me out? I think I'd want to take my chances and see if they could kick me out. And if my financial condition was such that I was considering bankruptcy I would be doubly so-inclined. Because in that situation there is very little potential down-side. There's a chance you can keep the house, but little risk of a penalty if you can't.
If your loan was with Fannie Mae or Freddie Mac, there's a good chance your mortgage was put into a mortgage backed security.
The other wild card in the deck has to do with a "fraud" the banking industry is perpetrating on the public. It's legal, but it's reprehensible. And it may give you an opportunity you need. Again, it's high-risk if you can afford to pay, but an argument against walking away if you can't. Wait and see if they really will foreclose.
Here's the story. The banks, as everyone knows, made loans for ridiculous amounts based on wildly inflated real estate "appraisals." They turned around and sold the mortgage payments as part of the "mortgage backed securities" (mbses). Like most con artists, they sold as many as they could to the elderly and the infirm, but they kept some of them, too. So many, in fact, that when the mortgages stopped paying, the banks' books started reflecting big losses for the very good reason that the mbses turned out to be basically worthless and unsalable. That put basically all the banks into bankruptcy and triggered the insane burst of bail outs for the super- rich.
Here's the scam. Because the banks were having to show on their books the actual value of the mbses (called, "mark to market"), they were having to show the world that they were bankrupt. Instead of actually dealing with the problem, the bankers persuaded the group setting accounting standards to stop forcing them to mark the mbses to market. Instead, they "mark them to make-believe." It's a giant fraud that allows the bankers to pretend they're making money and give themselves huge bonuses while hiding the fact that most of the banks are still broke.
The only problem with the scam, from the bankers' point of view, is that they are allowed to mark to make believe only as long as they don't start foreclosure! To foreclose is to admit that the mortgage isn't paying and any mbs associated with it is not worth as much as they want to pretend it is. In order to keep people from realizing they are broke, the banks can't foreclose on mortgages that aren't paying! And so there are huge numbers of mortgages that are delinquent but not being foreclosed.
Now you know why.
So would I walk away from my house if I couldn't make the payment? Again this depends largely on how much you have to lose. But it may very well be that if you can't afford to pay, and if you stop paying, the bank can't afford to foreclose on you and try to take the house away from you. If you have nothing left to lose, why would you walk away until the bank proves it is actually willing to make you go?
