The phrase ‘Strategic Foreclosure’ is today’s buzz in real estate circles, and with many homeowners. Recently this topic was showcased on Money Watch and on 60 Minutes. Jill Schlesinger, editor-at-large for Money Watch, stated that 4 1/2 million Americans are ‘underwater’.
The rising trend of ‘Strategic Foreclosure’, allowing your home to foreclose even though you can afford the payment, is a force to be reckoned with. Recently, a colleague, Amanda Wernick, shared her view of this trend on her blog. She has found that when a homeowner tries to go through the loan modification channels they often “have contacted their banks to work on loan modifications, only to be run around by what seems to be inept phone answerers who only follow scripts and have no authority what-so-ever to make these kinds of decisions”. This is the kind of run-around that leaves homeowners at a loss and without options.
Schlesinger shares a rule of thumb – if you are underwater by 20% or more, this may be a strategy to consider. The example given was a $240,000 mortgage and a $200,000 home value. I cringe slightly when I hear these national numbers because I know the values in Orange County are extreme versions of the national numbers.
Example: $1,050,000 purchase price, 10% down, loan amounts $945,000 – Today’s Value is $720,000. That’s nearly 24% and rather than a $40,000 discrepancy you are looking at a $245,000 discrepancy! Additionally, in Orange County our taxes are assessed based on purchase price. The original buyer paid $10,500 annually plus his mello roos bond. Today’s buyer of the same home has a $7,200 annual tax liability plus his mello roos bond. To manage the tax consequence, a buyer would have to apply every year to the County Tax Assessor for a reduction in those property taxes.
Some of the industry folks bantered this topic around online and a good friend, Rob Hahn, asked me if I ‘supported’ strategic foreclosure. ‘Support’ implies that I encourage it, which isn’t necessarily the case, and yet I understand it. I don’t think it’s a black and white answer. It’s deeply personal for every set of circumstances and in Orange County with property values and unemployment rates high, rent becomes an attractive option for those struggling with ways to justify paying for a home deeply underwater. Are there better uses of their funds long term?
Frankly, I don’t believe that anyone who carefully considers their options and chooses foreclosures does so lightly. There is no real win here. For 7 years there is terrible damage to one’s credit. The ability to secure credit, buy a car, acquire a student loan, easily find a rental, will all be impacted by this decision for 7 years. In fact, those types of purchases will likely be more expensive in light of the lower credit scores. Strategic Foreclosure is not an easy out, but it is undeniably an option.
The greater impact on our economy cannot be ignored. And while homeowners struggle with ways to weather the storm, the real solution, in my opinion, lies in how the banking systems response to their borrowers. Simply leaving this sizable problem in the hands of low cost, undereducated call handlers, turns a massive blind eye to this industry reality.
