Hi, I bought my current home in August, 2001. I have made each and every payment on-time the entire time I have owned the home. I have exceptional credit (850 FICO). I have tried to sell the home 3 times. At present, it is listed for sale. I have it listed $7,000 below what I owe on the mortgage and I have no takers. Sadly, it backs to a busy road and has a small backyard. However, it is well taken care of -- almost new -- and considerably upgraded. I just can't seem to sell it. I don't even think I could get someone to buy it even at $200K. And now, it looks like Romney is going to win the election and repeal the mortgage interest deduction. I currently take $35,000 in deductions just in mortgage interest alone. Even with his so-called cuts, it will be a huge tax increase for me. I can't afford it. I'm already supporting my parents and my brother who is currently out of work.
I would like to strategically default on the property, but I don't know if that is the best option. What would be your advice? I think I am too far off the mark for a short sale since I don't think it would sell even at $200K. It is sad because the home is in a very nice affluent community where the average incomes are over $100,000 annually. And, I don't think the bank is going to work with me at all in taking back a property that is clearly worth much less than I owe on it. I feel I got the short end of the stick and that it isn't going to get any better unless I do something. Even trying to sell it at a loss, I'd be clearing my 401K to do so and no one will step up and buy it.
What do you think? Is strategic default the right option for me?
Thank you for your question.
Let’s think this through by first reviewing all of your available options. After we review your available options we will list key principles for you to consider as part of your strategical default.
Short Sale: First things first, do not assume that your lender will reject a short sale offer. Moreover, you may not need to default in order to qualify for a short sale. Please contact your lender to determine if the lender will allow you to move forward with a short sale without a default. The lender will determine if your current hardship qualifies for a short sale without default. If your lender requires your mortgage to be in default in order to qualify for a short sale then you must default in order to start the process. A short sale takes time. It can take as long as twelve (12) months. You must list your property for sale with a qualified real estate broker who truly understands the short sale process and who has experience negotiating short sales. We recommend that you work with a broker that has successfully completed three (3) short sale transactions in the past two (2) years. If your lender agrees to accept less than what is owed via a short sale then a deficiency debt will arise. This is the difference between the total amount due and the short sale amount. A lender can choose to forgive the deficiency debt or can choose, if allowed by law, to sue you for the deficiency debt. If the lender agrees to forgive the deficiency debt then the IRS and/or your state taxing authority may consider the forgiveness of the deficiency debt as taxable income. Currently, the Mortgage Debt Forgiveness Relief Act (“MDFRA”) offers federal tax relief for the forgiveness of debt. If you qualify for under the terms of the MDRFA then you will not have any federal tax obligation for the forgiven debt. The MDRFA is set to expire on December 31, 2012 unless extended by congress. If your lender does not agree to forgive the deficiency debt then you may be personally liable for the deficiency debt. Certain states have anti-deficiency laws. An anti-deficiency law prevents a lender from collecting a deficiency debt from a homeowner. You need to review your state laws to determine if your lender has the legal right to hold you personally liable for a deficiency debt. Please read our article about the difference between non-recourse and recourse states to learn more about anti-deficiency states.
Deed in Lieu: A deed-in-lieu of foreclosure is a written agreement with the lender to voluntarily give the property to your lender in exchange for a full release and total satisfaction of the note and mortgage obligation. Once again, do not assume that your lender will not agree to take back your property without a default and without a foreclosure. The key principle for properly negotiating a deed in lieu is to get all terms in writing and to ensure that in exchange for your deed the entire note and mortgage obligation is completely satisfied.
Foreclosure Sale: You can decide to stop making payments and let the property go into foreclosure. The foreclosure process begins when your lender “serves” you with a legally required notice and/or complaint. Once the foreclosure process begins it will take the lender some time to sell your property at a foreclosure auction. Each state has specific laws regarding the foreclosure process. There are states that allow for a judicial process or a non-judicial foreclosure process. Normally the judicial foreclosure process takes more time than a non-judicial foreclosure process. Please read our article about the difference between a judicial and non-judicial foreclosure.
In some states it can take six (6) months to compete a foreclosure. In other states it can take as long as thirty six (36) months. If your home is sold at a foreclosure auction for less than what is owed to the bank then there will be a deficiency debt. As discussed earlier, a lender can forgive the deficiency debt or seek to collect (if allowed by law) the deficiency debt. Please read our article What everyone should know about debt forgiveness, obligation, and deficiency.
Keep in mind that you must always exercise your right to defend yourself during a foreclosure case. Bottom line: You must always respond with a written defense after you have been served with foreclosure papers. It is a fact that a proper written defense to a foreclosure action can extend the time of the foreclosure action and/or can lead to a resolution with the lender. There are various defenses to a foreclosure action. It is possible your lender did not provide the proper paperwork to start a foreclosure action. Your mindset about defending yourself must be unwavering. There are certain states that require mandatory loan settlement conferences during a foreclosure action. The legal system can be your ally if properly utilized. There are some people who are comfortable defending themselves and there are others who require the assistance of an attorney. At the minimum you should contact your local court for free foreclosure resources and/or consult with an attorney.
Loan Modification: You can seek a loan modification that not only reduces your interest rate but also reduces your principle balance. There are homeowners currently receiving "spontaneous" principle reductions without asking due to the $25 billion dollar National Mortgage Settlement. Do not assume you do not qualify. You need to contact your lender to see if you are eligible for a principle reduction. By the way, it’s not enough that the lender is willing to offer you an interest rate and principle reduction. You must obtain an interest rate reduction and principle reduction that is in your best financial interest. Therefore you must put pen to paper and determine what works best for you.
Sell Property At A Loss and Make Up The Difference: You can decide to sell your property at a loss and use your retirement account and/or savings to make up the difference. What are the benefits? You will protect your credit score. You will not be liable for any debt deficiency or for any tax on forgiven debt. In one sense you will have peace of mind since the stress of holding on to the property will be eliminated. The key question: Can you recover your savings and/or rebuild your retirement account in the short term or even in the long term? In other words, is it in your best financial interest to use your savings to make up the difference?
Bankruptcy: Bankruptcy is a process in which you can eliminate or repay some or all of their debts under the protection of the federal bankruptcy court. Bankruptcy can be an effective tool to protect your finances and assets. We are not recommending that you file for bankruptcy however it is important for you to know what it can or cannot do for you. Please visit this link to understand the basics of bankruptcy. Our view is that while bankruptcy can be an effective strategy it should be utilized when all other options have been explored and exhausted. You can consult with a bankruptcy attorney to learn more about its effectiveness.
Key principles for you to consider:
- You need to put pen to paper to outline the various scenarios and to calculate the financial gains and costs. You will need to create a written action plan. A well thought out action plan will help you better allocate time and resources towards a strategic default. It requires discipline, patience, research, and competent advice. It requires a thorough understanding of the risks and rewards. It requires a team of trusted and experienced professionals with expert knowledge. In our Strategic Default Guidebook we discuss the various parts of an action plan and the steps to successfully initiate your action plan.
- “Knowledge is Power” when it comes to executing a strategic default. Strategic Default is Strictly Business, so approach this as a business endeavor. Your ultimate goal is to protect your cash flow and savings and to preserve your wealth. Thus you must protect your 401k at all costs.
- You must contact your lender to determine if a short sale, deed in lieu, or loan modification is acceptable. Be prepared to confidently explain that your mortgage loan is draining you of much needed financial resources. Your financial resources are needed to support and protect your parents, your brother, and the rest of your family. If your lender agrees to let you apply for a short sale, deed in lieu, or loan modification then you must ask the lender to send you the requirements in writing by email or letter. Your lender will require the disclosure of various financial documents including current pay stubs, tax returns, bank statements, and financial questionnaires. You should only provide the documents requested by your lender, nothing more. You should keep a log of all calls with the lender. You should write down the name of any representative you speak with. The lender may want to review your financial documents to determine if you have a financial hardship. However the liquidation of your 401k is non-negotiable. If you decide to disclose your 401k statement to your lender then you must tell your lender that under no circumstance will it be liquidated. Let the lender know that your 401k money is necessary for you and your families’ future financial survival.
- Your goal is to reduce the risk of any personal liability for any unpaid mortgage amounts. Thus it is extremely important to minimize your exposure to any potential deficiency judgment. You need to understand the principles of asset protection. Please visit these links to learn more about debt defense and asset protection.
- Your credit score will drop if you decide to complete a short sale or deed in lieu even if you do not default in the payment of your monthly mortgage loan. Any type of loan workout, including a short sale and deed-in-lieu, are considered negatively by the credit reporting bureaus. In any event you need to ask yourself “why is my credit score important at this point of time? Is there a short term or long term benefit?”
- You must seek the advice of an attorney so you are educated about your legal options. You should ask the attorney to provide evidence of their experience by pointing to cases that he or she has successfully completed. Simply ask for cases that are currently in court so you can review the publically available files. You want to see how these cases have been resolved.
- You must seek the advice of an accountant to determine if you will have any potential tax liabilities. Please read our article about the tax implications of a strategic default.
- An experienced real estate broker should explain to you how he or she will negotiate the forgiveness of any debt deficiency that arises from a short sale. In fact, if the real estate broker does not explain to you that the forgiveness of any debt deficiency must be in writing then you should look for another broker.
- While living in your home make sure to maintain property and liability insurance. You must make sure that all real estate taxes and water bills are kept current. In some cases, the lender will pay the real estate taxes and water bills. Remember, unpaid real estate taxes and/or water bills can lead to a lien and an eventual foreclosure by the municipality or city. Under no circumstance should you allow your lender to provide insurance coverage for your home. This is called “forced placed insurance”. Forced placed insurance only protects the lender for the value of the home in case of a fire. It does not protect your for injury on your property or theft of personal property. In fact, forced placed insurance does not provide you with any protection at all.
- In addition to the other risks outlined in this article Fannie Mae implemented a rule that bans a person from obtaining a Fannie Mae mortgage if that person strategically defaults. Recently it was reported that the Federal Housing Finance Agency ("FHFA") intends to aggressively go after individuals who strategically default on a government insured home loans. However, a FHFA official released a statement claiming that it will not be the policy to seek out people who strategically default. The bottom line: The government has its eye out on strategic defaulters.
- You can become personally liability for unpaid balances owed to local or city municipalities for electric, water, gas, housing violations, and/or sewer and unpaid balances owed for real estate taxes. You need to be aware of any and all liabilities.
A. A. Diji