Affordable Housing Institute : US

[Continued from yesterday's part 1.]

 

By:David A. Smith

 

Sealed with a curse as sharp as a knife. Doomed is your soul and damned is your life.

– Lord John Whorfin, Buckaroo Banzai Across the Eighth Dimension

 

Yesterday we saw, via a Wall Street Journal article reporting a continuing reality as if it were newly invented, that in 41 out of 50 states foreclosure does not end one’s financial exposure to the lender. 

 

Prepare for my return!

 

Instead, the lender can easily go to court and obtain a deficiency judgment for the shortfall – a judgment that can be attached to or liened against any other real property one owns.

 

The economics of today’s battered housing market mean that lenders are doing so more and more.

 

Because the lenders can do this, they probably have a duty to do it, which means that in increasing numbers, they will do it:

 

Foreclosed homes seldom fetch enough to cover the outstanding loan amount, both [a] because buyers financed so much of the purchase price—up to 100% of it during the housing boom—and [b] because today’s foreclosures take place following a four-year decline in values.

 

The Journal’s reporter here displays either ignorance or naivete – both alleged reasons are irrelevant.  If the home were worth more than its debt, then it wouldn’t have been foreclosed, would it?  The owner would have found a way to sell it, or to hang on and make the payments.  Today is different only due to the frequency of foreclosure, and the scale (in numbers of homes).  The amounts add up:

 

“Now there are foreclosures that leave banks holding the bag on more than $100,000 in debt,” says Michael Cramer, president and chief executive of Dyck O’Neal Inc., an Arlington, Texas, firm that invests in debt. “Before, it didn’t make sense [for banks] to expend the resources to go after borrowers; now it doesn’t make sense not to.”

 

Or, as with Dyck O’Neal, to buy the debt from someone else, and make a business out of specializing in these collections.

 

Indeed, $100,000 was roughly the average amount by which foreclosure sales fell short of loan balances in hundreds of foreclosures in seven states reviewed by The Wall Street Journal. And 64% of the 4.5 million foreclosures since the start of 2007 have taken place in states that allow deficiency judgments.

 

The statistic is actually negatively surprising – with 82% of the states allowing deficiency judgments, one would expect them to command a higher percentage of the foreclosures. 

 

[Maybe the anti-judgment statutes in Arizona and California (to name the two we mentioned yesterday) have increased borrowers' willingness to walk away from their property, or even earlier, to overpay in the first place? – Ed.]

 

Foreclosures in 2008

 

Sharon Bock, clerk and comptroller of Palm Beach County, Fla., expects “a massive wave of these cases as banks start selling the judgments to debt collectors.”

 

Bock expects a massive wave …

 

In a paradox of the battered housing industry, [1] trying to squeeze more money out of distressed borrowers’ contrasts with [2] other initiatives that aim instead to help struggling homeowners, including by reducing what they owe.

 

Sorry, Wall Street Journal, if you were more intelligent you’d realize it’s nothing of the sort.  Group 2 borrowers are people trying to make their payments, trying to stay in their homes.  Group 1 borrowers threw in the towel and are seeking to forget the whole sorry misadventure. 

 

That wasn’t supposed to happen

 

The observant government wants to aid Group 2, and part of that aid is making it unpleasant to be in Group 1.

 

Mr. Foxall [Debtors' attorney met yesterday – Ed.] says five deficiency suits were filed against his clients this year, and he couldn’t poke any holes in any of them.

 

I would have been surprised if he had.  Like a coroner, Mr. Foxall tends to be called only when it’s already too late.

 

Yes, he used these tendons to sign the notes

 

The debtors have pleaded no contest; the lenders are owed their money.  And they now have both the time and the resources to pursue collecting it:

 

Lenders typically have five years following a foreclosure sale to sue for remaining mortgage debt.

 

Additionally, once the property has been foreclosed, there is a huge difference litigating the deficiency, because time is no longer against the lender. 

 

The biggest banks appear to have stayed largely on the sidelines as they deal with the foreclosure-paperwork mess.

 

The patient (the owner in the home) is no longer on life support, it’s dead, and delay no longer hurts the lender’s position.  In fact, it hurts the defendant, because the judgment mounts up.  The lender can take its time in filing for the deficiency judgment, and then pursuing collection after it is obtained. 

 

One big bank, J.P. Morgan Chase & Co., “may obtain a deficiency” judgment in foreclosure cases but will “often waive” the leftover debt when a homeowner agrees to a so-called short sale of a house for less than is owed on it, a bank spokesman says.

 

Not just our name, our philosophy with delinquent debtors

 

If the homeowner was upright, and did not obstruct the sale, then it makes sense to waive the deficiency judgment.  And it makes great sense for the borrower, if in trouble, to settle the debt out, offering (say) a deed in lieu in exchange for a release.  As I wrote a year and a half ago:

 

That applies to banks and loan servicers every bit as much as it applies to subprime borrowers facing spikes in their interest rates.  Lenders will work with a borrower who defaults out of necessity and who owns up to it from inception; encounter a payment boycotter and they’re very likely to turn it over to the collection attorneys, with a note saying, Expedite this foreclosure, and publicize it widely. 

 

Indeed, a foreclosing bank can simply accumulate the deficiencies, and hand the resulting portfolio to a specialist:

 

The increase in deficiency judgments has sparked a growing secondary market.  Says Jeffrey Shachat, a managing director at Arca Capital Partners LLC, a Palo Alto, Calif., firm that finances distressed-debt deals –

 

Their logo looks so sweet, but …

 

They’re your worst nightmare

 

– sophisticated investors are “ravenous for this debt and ramping up their purchases.”

 

Perhaps there’s another phrase you could have used than ravenous.

 

 

 

Want a slice of this action?

 

He says deficiency judgments will eventually be bundled into packages that resemble mortgage-backed securities.

 

Naturally.  As in other efficient markets, the collection responsibility will migrate away from those who care about their public image or are subject to political coercion, and to those who are simply interested in maximizing the legal assets which they have bought as ‘holders in due course’:

 

Investors know that most states allow up to 20 years to try to collect the debts, ample time for the borrowers to get back on their feet. Meanwhile, the debts grow at about an 8% interest rate, depending on the state.

 

That brings out the investors, some of whom don’t wait, they act to accelerate their position:

 

Why wait?

 

Silverleaf Advisors LLC, a Miami private-equity firm, is one investor in battered mortgage debt.

 

Instead of buying ready-made deficiency judgments, it buys banks’ soured mortgages and goes to court itself to get judgments for debt that remains after foreclosure sales.

 

Silverleaf says its collection efforts are limited [for now … Ed.].

 

Out of sympathy?  Not quite:

 

“We are waiting for the economy to somewhat heal so that it’s a better time to go after people,” says Douglas Hannah, managing director of Silverleaf.

 

Hannah wants you more prosperous so he can get more from you

 

Charming thought; the better your situation, the more they will recover.

 

Mr. Hannah expects the market to expand as banks “aggressively unload” their distressed mortgages in the next year, driving up the number of deficiency judgments being sought.

 

We’re aggressively unloading our problems

 

That’s what will happen – what should happen?

 

[Concluded tomorrow in Part 3.]