The idea of skipping a scheduled monthly loan payment has always fostered criticism and negative feelings. A large percentage of Americans apparently believe that it may be immoral to choose not to make a payment if one is able to make that payment. Yet deciding not to make a payment has a certain strategic value for some homeowners today. This is unheard of in our lifetimes, but today it might be the best thing for certain home owners to do. It might also be the best thing for their mortgage lender, although you will never hear the lender broadcasting that some of their borrower customers should skip a payment. The focus of this blog post is a specific category of homeowners within the larger segment that owe a mortgage balance greater than the home is worth. And not every homeowner that owes more than their home is worth (known as being “underwater”) should or could benefit from this strategy. I know of an example where the mortgage debt is over $160,000 and the present value is about $50,000. There are many examples out there. What is your current situation?
A certain segment might seriously consider this plan, in order to begin the process of restarting their lives and reorganizing their financial expenditures so they can actually progress toward financial health and eventual retirement. Let this be clear; skipping a payment is not the answer for most homeowners that are underwater. But for some, it might be the “right” thing to do.
It is important that you know your state’s laws regarding deficiency balances on mortgage debt settled for less than the full payoff. Short sales and foreclosures are also pertinent to this discussion. Some states do not allow a lender to pursue a deficiency from a homeowner that is legally foreclosed out of a property that cannot be resold for enough to payoff the mortgage balance. In other words, a lender might take ownership and may or may not be able to try to collect the unpaid amount of the mortgage balance from the homeowner after the lender resells the property. My understanding of New Mexico law is that deficiencies can be determined and collected. Arizona is a different story, I have heard. There are many details and much fine print a homeowner should look closely at, both in state statute language and actual mortgage/deed of trust documents. Legal advice ( I am not an attorney and cannot offer legal advice) should be obtained before such a major decision is acted upon.
So who are the best candidates for a strategic choice to go into default on a mortgage? A primary consideration is; how far underwater is the home and the homeowner? And closely related to that question; approximately how many years might elapse until the home value could increase enough to become equal to the mortgage balance (which should shrink every year)? A homeowner that is on the extreme edge of these questions might be the most logical candidate. A fairly common example: a home is worth about $250,000 today, but has an outstanding mortgage balance of nearly $400,000. Even if there was consistent appreciation of home values, how many years would it take to have the mortgage balance and the home value come together and match? Mathematics allows you to project a certain time line both for hoped-for appreciation and also principal reduction through continued regular payments. But the way a typical 30 year mortgage is amortized, the principal balance goes down quite slowly at first and the interest exceeds the principal each month until approximately year 15. And should anyone count on annual appreciation of even 3% for an extended period? Some markets will come back faster than others, but care is essential when making predictions. $250,000 growing at 3% compounded will take some 9 years to get to where the home is worth around $325,000. That is assuming there is any such measurable appreciation, which is wishful thinking right now, due to the excess inventory of homes for sale and the threat of additional foreclosures on the horizon. A better bet might be 2% annual appreciation. Some 13 years will pass before the value would reach $325,000.
Should a homeowner feel morally obligated to continue to make principal and interest payments on a debt that might still exceed the value of the home 9 or 12 or 15 years from now? You could say that person signed a promissory note and has the moral and legal obligation to pay – or else their credit will suffer and they might be forced into bankruptcy. Maybe the bad credit and even bankruptcy would be preferable to continuing to make those payments forever. Proceed with a strategic default now, to start the foreclosure process and move on from the unbalanced mortgage/value situation? But bankruptcy, a possible result, is an admission of failure, a profession of guilt and proof of the inability to manage one’s own finances. That is extremely embarrassing and lowers one’s social standing. Does an individual or a family ever fully recover from bankruptcy? Common belief is that one’s credit report does not reflect negative information more than 7 years after the default or delinquency that occurred. Compare that to the 9 to 15 years of making prompt regular payments only to end up with a 100% mortgage on your primary residence after hundreds of those monthly payments. This is not a simple scenario and cannot be an easy decision for anyone. But the right decision just might be the one you were always taught was the wrong decision.
If you, or someone you know, is in a situation where you might want to explore your options and research the best course of action, I urge you ( or them) to contact a real estate professional, a consultant, an attorney, a debt counselor… someone that can help you organize the facts and keep an objective outlook on all of the puzzle pieces. DO NOT write a check to someone that promises to fix the problem! Most of those are scams and will not help you. Get all relevant information together and call someone that will help you because they are able to, because they have experience dealing with these things. A good Realtor, as I strive to be, can be of great help to you. If you reach someone that will only talk to you if they can make money from you, keep looking and keep calling. Someone else is out there that will invest the time with you to help you sort out all the issues. If asked, I know what my answer would be; ” Sure, I can help”