Strategic Foreclosure
Considerations of Strategic Foreclosure with Real Estate
“Strategic foreclosure” is an expression you will hearing often in upcoming months. If rumors are correct about further declining property values, countless homeowners might decide to walk away from their upside down mortgage even though they are financially capable of making payments.
Not long ago, strategic foreclosure was mostly used by real estate investors and homeowners with outstanding credit history and the financial means to pay their loan installments. In lieu of paying for property that has severely declined in value, homeowners cease making payments in attempt to coerce the bank into negotiation.
Banks generally don’t work with homeowners who are current with their loan or not experiencing financial hardship. Banks don’t care that property values have dropped causing borrowers to have an underwater mortgage. The only way to get their attention is to stop making payments.
Some of the investors I know are entering into strategic default to pressure their lender into granting short sale approval, deed in lieu of foreclosure, or reduce the principal amount. This can be a high-risk move, so anyone that chooses this option should give careful consideration.
Even though it seems reasonable to enter into voluntary default on an upside down mortgage, take a moment to consider the consequences. The best case scenario would be when the bank agrees. The worst scenario is when the bank calls the bluff and moves forward with repossession through foreclosure.
Foreclosure has severe impact on credit scores that can be difficult for people with medium or poor ratings to overcome. Anyone that has participated in credit repair will attest the process of improving FICO scores is painfully slow. Low credit scores make it challenging to qualify for any type of credit and usually prohibit people from qualifying for a home loan for at least 2 to 3 years.
Creditors determine interest rates based on FICO scores. People with lower scores pay higher interest rates than people with high scores. When foreclosure it reported to credit bureaus, FICO scores can be reduced by as much as 100 points.
Many factors can be affected by declining credit scores. Credit card companies can increase interest rates or reduce available credit. Home and auto insurance premiums can increase. It can be difficult to locate a landlord eager to rent to foreclosed homeowners. Most require first and last month rent, along with a security deposit.
Most banks hold mortgagors responsible for deficiency amounts incurred through foreclosure. For example, a homeowner strategically defaults on a home with a mortgage balance of $150,000. The bank sells the home for $110,000 and holds the mortgagor responsible for the $40,000 deficiency.
Most people don’t have $40,000 lying around. Instead, the bank obtains a court-ordered judgment and can collect the balance through wage garnishments. At minimum, deficiency judgments are revealed on credit reports for as long as 10 years after the judgment is paid in full. Any type of credit judgment reduces credit scores that can’t rebound until the judgment is no longer reflected.
One important consideration of voluntary default is that of morals. While it can make logical sense to engage in this strategy, a lot of people feel a moral obligation to stand by their promise to make good on the debt. They realized that investing in real estate carried risk and are prepared to ride out the storm.
Every person must decide on their own if strategic foreclosure is in their best interest. It could very well offer the mortgage relief needed, but is not without financial repercussions. If you can afford loan installments, you’ll need to consult your moral compass to determine if you can walk away without guilt.
About the Author
Simon Volkov is a California real estate investor who specializes in buying and selling distressed properties. He shares an extensive real estate article library covering current events within the market. Topics include: strategic foreclosure, real estate short sales, foreclosure prevention, and legislative changes that affect homeowners and investors. Subscribe to Simon’s mailing list to receive weekly updates at www.SimonVolkov.com.
Strategic Foreclosure–What you Need to Know.
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