When To Walk Away From A Bad Mortgage
Published on - January 25th, 2011 (Modified on - March 8th, 2012) (by Sierra Black) This post is from staff writer Sierra Black. Sierra writes about frugality, sustainable living, and getting her kids to eat kale at Childwild.com.
Since the housing bubble burst, many Americans have found their finances underwater. They’re paying on homes that are worth much less than the mortgages against them. More than a few have chosen to walk away from these debts.
Called a “walkaway” or a “strategic default”, deliberately defaulting on your mortgage is becoming more common as the real-estate market continues to struggle. Some experts believe that as many as 20% of homes currently in foreclosure are the result of walkaways: people who had the means to pay their mortgage but chose not to when their life circumstances changed and they found their homes unsellable.
Businesses walk away from bad investments and debts like this all the time, but for an individual to do it takes guts. There’s a huge stigma associated with walking out on your mortgage. Americans feel that there’s something morally wrong with not paying your debts, even when those debts are astronomical or unfair.
As Matt Taibbi puts it in his new book Griftopia:
When you meet people who are losing their homes in this foreclosure crisis, they almost all have the same look of deep shame and anguish. Nowhere else on the planet is it such a crime to be down on your luck, even if you were put there by some of the world’s richest banks, which continue to rake in record profits purely because they got a big fat handout from the government.
That’s why one banker CEO after another keeps going on TV to explain that despite their own deceptive loans and fraudulent paperwork, the real problem is these deadbeat homeowners who won’t pay their…bills. And that’s why most people in this country are so ready to buy that explanation. Because in America, it’s far more shameful to owe money than it is to steal it.
Whether or not you agree with Taibbi’s take on the mortgage crisis, you’ve surely seen that look of shame on the face of anyone you know who’s lost a home to foreclosure. Despite of the social pressure to keep making payments, though, thousands of borrowers are defaulting. The rate of walkaways went from virtually nothing in 2007 to nearly a fifth of foreclosures today. That’s a huge increase.
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What Happens When You Walk Away From a Mortgage?
Given how many homes are underwater these days, it’s probably not surprising that I have a friend who is considering walking out on his mortgage. I get asked for financial help or advice a lot since I started this gig at GRS, but I was clueless on this one. Some quick math revealed that continuing to pay his mortgage makes no financial sense for my friend: The house is worth much less than he owes. He can’t sell it. He no longer lives there; it’s just an albatross around his financial neck.
Still, I thought my friend must have other options, so I called up mortgage expert Keith Gumbinger at HSH.com. Gumbinger had some great suggestions for what to do when you’re facing overwhelming mortgage debt.
Gumbinger agreed that bailing out of a mortgage sometimes makes good financial sense — but the consequences for doing so are steep. “You can certainly walk away and let it go to involuntary foreclosure,” Gumbinger said. “That’s your ultimate hammer. But there are consequences in the rest of your life.” Walking away from a mortgage should be the absolute last resort.
Walkaways face some serious issues:
- Your credit will plummet, making it tougher to get anything from a rental apartment to car insurance.
- You’ll be stonewalled by the mortgage industry for seven years.
- The mortgage company can come after you for the money they lose on your property when they’re forced to sell it below market value as a foreclosure. That’s the bad debt you were trying to walk away from, coming back to haunt you.
Before walking out on a mortgage, Gumbinger says you should call your mortgage company. Lenders don’t want you to default on your loan — and stick them with an unwanted house — any more than you want to destroy your credit. They’ll talk to you.
“You should be able to get a reasonable response,” Gumbinger said. This far into the mortgage crisis, most lenders have experienced staff people who do nothing but negotiate loan modifications, short sales, and planned foreclosures with their borrowers. They have clear processes to handle this type of situation. It won’t be fun, but if you stay engaged, you stand to get out of your mortgage with your credit in better shape than a foreclosure would leave it.
Gumbinger warns to carefully document the entire process. Keep notes of who you talked to, and get agreements in writing.
Loan Modifications and Short Sales
Before you call your lender, decide what outcome you’re after. If you’re looking to keep the property but can’t keep up with the payments, call and talk to your bank about a loan modification. There are federal and private programs to help troubled borrowers get their mortgages adjusted. You may qualify to have your mortgage interest rate reduced as low as 2%, or to have some measure of your debt forgiven so that your monthly payments don’t exceed 31% of your income.
If you’re ready to walk away from the mortgage entirely and don’t want to keep the house, talk to your lender about a short sale. In a short sale, you agree to retain possession of the property, keep it in good shape, and sell it on the bank’s behalf. With the bank, you agree on a sale price that reflects the current fair market value of the property, even if that’s much less than what you owe on it.
Usually, a short sale agreement will have a two- to three-month time limit. After that, you and the bank can negotiate a “planned foreclosure” or “deed in lieu”. Instead of simply walking away and forcing the bank to take costly legal steps to repossess your home, you can give it to them. In exchange for saving them the hassle of taking it, they’ll go easy on you with the legal and financial consequences. Again, use an attorney to negotiate this on your behalf.
Any of these options should bring you a happier ending than simply mailing the bank your keys without a word.
“Because you’ve tried to do the right thing, it does preserve to a greater degree your opportunity to participate in the housing market in the near future,” Gumbinger said. Your credit will still take a hit, but if you do a short sale or planned foreclosure, you may be able to buy another house in two to four years. If you even want to. After being burned by the housing market, many people are happy to become permanent renters.
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I gave up on paying my mortgage over a year ago and it was absolutely the right decision.
Here’s a concept for your moral high-horse folks chiming in: the bank made a loan based on what they thought the house was worth…so guess what? They can have the house back now. There is no morality involved in this transaction.
I live in a no-recourse state. I’m not legally obligated to pay this bad loan so why would I? Did I break a law in the process? None that I can see, other than making some Saints of the Internet Morality Task Force cry.
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JD – I’m with Beth (comment #49). I took issue with the article not because it it explaining the pros and cons of walking away, but because it started off by painting people who are in underwater homes as having debts that are somehow unfair.
My house was purchased for $180,000 6 years ago and it’s currently valued at around $130,000. Thankfully, we made a very large down payment so, even with a $50k depreciation, we’re still not underwater. I’m frustrated that my house isn’t worth as much, but that’s not my mortgagor’s fault. We both agreed to terms – if I was going to call them “unfair,” I should have done so before I signed.
THAT’s what didn’t sit well with me about the article. It’s fine to take a business-like approach to the situation and default if that’s a risk you’re willing to take. But don’t try to make the rest of us feel badly for you by saying the terms, to which you agreed, are unfair.
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“The debts are not ‘unfair’: you knew the terms and agreed to them.” Knowing and agreeing to the terms does not mean that the terms were fair. Soemtimes people got taken for a ride. Sometimes people got cheated. Sometimes people were lied to. Sometimes people made mistakes.
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I put over $150K into my mortgage for five years. For this I was rewarded with negative equity of around $50K compared to my mortgage balance. If I spent an additional $150K for the next five years, I might be able to sell for what I owe. $300K for what will basically amount to rent. That works out to $2500 rent per month, which will get you extreme luxury in this area. Instead we chose to bail and move into an apartment in town where our total shelter costs dropped to $1000 per month.
The readers of this blog would evidently tell me that it is sound financial advice for me to continue throwing good money after bad. Evidently a mortgage payment that equates to paying rent at double the going rate is a sound investment. Ten years of home ownership with ZERO equity is a good investment.
Wow.
If that is the collective wisdom of this site’s readership, then count me out!
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I’m very happy to see the number of people here that disagree with this article.
Walking away from debt is wrong. Not only will it hurt you in financial ways, it allows people to believe that they are not ultimately responsible for their own actions.
If I’ve learned anything in business, finance and life, its that your word counts. You should hold your word at an extremely high value, because you never get rich or successful (however you measure it) all by yourself. You need support…friends, family, partners, professionals, all of whom have a vested stake, either emotional or financial, in you keeping your word.
None of us are perfect, we all make mistakes. Don’t just walk away from them, fix them. Bankruptcy is a free ride in too many ways, and this contributes to our economic downfall. Property loans are not always going to be ‘above water’, so what? If you bought the home to live in, live in it and its value will recover over time. If you bought the home as an investment, its your responsibility to manage that investment and if it looks like the numbers won’t work anymore, you sell.
Thank you people for restoring my faith here. For those of you that have suffered a strategic default, bankruptcy or similar, I feel for you and I know it wasn’t a painless decision. I encourage you now to rebuild the value of your word, and think very carefully before giving your word in the future, for a debt or anything else.
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I disagree with the suggestion that this is all the bank’s fault. For one thing, banks have been around for centuries. Do you really, honestly think that it just occurred to them a few years ago that they could make more money by extending questionable loans?
Is it possible that banks were employing responsible lending practices, until a particular government administration, having promised to work on “Affordable Housing” as one of his election mandates, prodded the banks to relax lending standards a little, so more people could qualify to buy homes?
Because more people buying homes was a good thing. At the time, houses were appreciating rapidly in value, but only the middle and upper class were able to take advantage of it. Consequently, their wealth was growing, while the lower economic class’s was not. “The rich get richer, while the poor get poorer!” were the headlines.
This was seen as “unfair” to the poorer people, to whom banks didn’t want to lend. They were being frozen out of the market, unable to use home ownership to grow their wealth, like the middle class was. So the government pushed the banks to let those folks in on the action, too.
And we all know how that turned out.
But it sure is a lot easier to just say, “Banks are evil,” isn’t it.
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It’s very hard to view this issue objectively unless you’re able to separate emotions from reality/logic. While I never chastised those who chose to strategically default, I also never thought it was something I would consider. That doesn’t imply that those people are wrong but rather I was lacking knowledge and was being mentally blocked by societal taboos.
My wife and I purchased our condo almost 6 years ago for the sole reason of making it our primary residence and starting a family. We had loose plans to sell the home 5 years after purchase in hopes of gaining more space to grow our family. After doing a lot of research, talking to friends, experts and our mortgage companies we made the decision to attempt a strategic short sale.
It’s really hurtful that so many ill-informed people would cast shame upon me for this decision. I don’t think you realize that there are repercussions and that this is simply a different way to fulfill the contract. It’s not like I’m attempting to keep the house and not pay, nor did I buy the condo with the intentions of doing this. It simply doesn’t make sense for me to penalize my family by staying in the house for a long enough time to recoup the loss.
Instead, I have chosen to take the penalty as a mark on my credit and go through the uncomfortable process of short sale. Instead of moving to a larger home with a mortgage we’ll be moving into a rental home in March. The short sale process is nearly complete and I can’t say I regret the decision.
However this doesn’t mean I now enter into new agreements/loans assuming I can just bail whenever I want. This isn’t the type of thing you plan to do as the negative results will snowball faster than that positive ones.
I’d love to see how the people who are so adamant about the immoral aspect of walking away would handle the situation once the are actually in it. It’s very easy to point the finger when it’s not your life.
How does drastic economic down turn result in me being a failure? That type of thinking basically takes hard work and strategy out of the equation and leaves you with luck, which doesn’t seem like a good way to live.
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I’m actually a little surprised how late GRS is doing a piece on this. I’ve seen a lot of other posts on lots of other blogs and discussion boards on strategic default and they always result in huge numbers of postings arguing back and forth about the “morality” of the situation. I don’t think anyone has ever changed anyone else’s mind with these.
I just wanted to add a couple points. Real estate is really local and I really think attitudes may depend on the situation where you are. However, here in AZ, the realities are:
1. Houses are 50-80% down in value from their peak. When people owe twice what their house is worth and all projections have them taking 10+ years to get back up in value, it is hard for them to psychologically keep doing this. Don’t they have to pay to live somewhere and they might as well stay there? Sure, but for whatever reason, this is difficult for people.
2. Short sales are insanely difficult to get accomplished. I think the article presents a little too rosy of a picture of this. Those people who are “dedicated” to the process at the banks are undertrained and overwhelmed. The stories of incompetence (losing documents over and over) are inconsistency (different responses from different people every time) are legion. They take so long to get answers that foreclosure happens anyway, their pricing is all over the map, and the stats on the number of short sales that actually go through to closing tell the story. I know very well-educated, concientious people who couldn’t get through the process. Even for those that have good reasons to try to get out, the options here aren’t all they’re cracked up to be.
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Wow, it must be nice to be so perfect, to never have had anything in your life go wrong, a major illness, a divorce, a job loss. Where can I get one of the lucky charms you folks have? Or a crystal ball? Look, when you get a mortgage, all the numbers might work really well, and then the bottom might fall out of your life a few years later. Are you saying that my family should do without everything, sell all the furniture, do without electricity/phone/health care/groceries/a car, all to fulfill the mortgage? You never know what life will hand you. Should we sit shivering in a dark empty box, cold and hungry, with nothing, sick, or realize that circumstances have changed? It must be great to live such a charmed life. I hope you judgmental people don’t have to find out how life can turn on a dime someday.
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“For one thing, banks have been around for centuries. Do you really, honestly think that it just occurred to them a few years ago that they could make more money by extending questionable loans?”
You do realize that the federal government deregulated a lot of banking practices and standards, such as interest rates, right?
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If this was a moral issue on the bank’s side of things, they would be doing all they could to help people close short sales and mitigate their damages. Don’t think for a second that the banks attach any moral value to the mortgage contract (until they are on the news trying to guilt people into staying in the contract).
For all those people who think there is something morally wrong with terminating a contract early, I hope you never have to deal with the “shame” of ending your cell phone or cable contract to switch to a cheaper plan elsewhere. That just is not fair to the poor phone company who did nothing wrong.
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I have a couple of things to say about this article. One, I completely disagree that a short sale is better than a foreclosure, at least in my home state. To begin, short sales stay on your credit report almost as long as a foreclosure. My understanding a foreclosure stays on 7 years and a short sale 6-7, so the difference in impact on your credit rating is pretty negligable. Secondly, if you have a second mortgage, the mortgage company may 1099 you for the 2nd, which is a huge tax consequence. Also, at least in Minnesota, there is a six month redemption period for a foreclosure. During that time frame, you can live in your home rent free and try and save up some money to at least be able to rent somewhere decent.
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When i but a fund on vangaurd that turns out to be a bad investment, do i go to the broker and ask for my money back? can i walk away from my portfolio losses of 2008? i mean, i felt swindled too – all these funds i bought were waaaay overvalued.
People want the upside appriciation of a house, but don’t want the downside. It shouldn’t matter how “underwater” the house is. If the value of the house had doubled, people wouldn’t be giving the bank (or the previous owner) a cut. Investments work both ways.
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While I naturally lean towards the side of it is wrong to walk away from a debt. But something Sierra wrote does have me thinking, because something similar happened to my wife.
“deceptive loans”
What I would like to know is the extent that this actually happened as opposed people willingly turning a blind-eye to the structure of the loan, or assuming that they would be able to pay increases as they come.
A few years ago, before we got married, my wife bought a used pickup from a local dealership. I was still across the country and unable to help. The salesperson qualified her for a car loan, and sold her a vehicle with an “estimated” payment of $250/month. When she got the first bill, it was $800! Over 50% of her monthly take-home, and way more than she could afford. Of course, the problems didn’t end with the repo and she was forced to file for bankruptcy shortly after we got married. But if the salesman hadn’t lied about the payment, she would have never bought it in the first place.
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Excellent article. People seriously underwater should consider the pros and cons of defaulting as well as bankruptcy. If you have a $250,000 loan for a property that is now worth $80,000 (this is happening in parts of Arizona, Florida, and Nevada), it does not make much financial sense to keep making your payments even if you can afford them. People who can’t make their payments should consider default and bankruptcy options even if they are only moderately underwater. At some point these things become a business decision.
The banks make ALL of their decisions from a purely business standpoint — there is no morality involved. Have you ever heard of a bank giving a struggling widow with three kids a pass on the last year of her mortgage payments and cancelling the loan so she could stay in a house with her kids. Or have you ever heard of a bank giving someone with a serious medical condition the chance to stop six months of payments so they can stay on their feet while ill and then get back on track with the payments when the illness passes. PLEASE. The banks and corporations make these decisions based upon the relevant laws (taking full financial advantage of every government tax credit, legal regulation, and bailout). It is time regular people starting playing by the same rules.
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A bit off topic, I have friends who deliberately leave the country to evade paying back their student loans after they received not 1 but 2 useless degrees with no job prospects. I have less respect for those people than I did before. Financial irresponsibility is a part of personal responsibility. I have no sympathy for those people who put little to no money down on a home and gambled their financial credibility by ‘HOPING’ the value of their homes increase. DH and I do not believe in paying more than what is worth, by taking in a mortgage, these “homeowners” are nothing more than ‘homeborrowers’. If you did not buy your home in cash 100% then you shouldn’t be a homeowner. I have lived in other countries (Asia and S America) and barely anyone has a mortgage. They save and save by renting or living with parents until they can afford their own home in 100% cash. That to me, is a form of financial discipline Americans can NEVER adopt due to the relentless desire to ‘gamble’ their money for temporary or lofty ‘homeborrowership’ in hopes of gaining equity which leads to willingness to pay HIGHER property taxes. Moral of the story to those walking away from underwater mortgages: rent until you can afford a home in full.
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So sad to see this article and to see it HERE. I consider it a bit of a cop out to post it and then back aways saying that you may not agree with the theme. Your readers expect you to post content that upholds a certain level of standards and ethics. It’s why they come here.
So very sad. The whole thing.
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Here’s what it comes down to.
Jim: “Hey Tom, nice house!”
Tom: “Thanks, we just bought it. Got it for $250,000. Worth every penny, in my opinion.”
Jim: “Really? Ouch… I wouldn’t have paid more than $180,000.”
Tom: “Seriously? That darn bank scammed me! I’m mailing them the keys!”
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I’m still stuck on how people can find themselves in this problem to begin with. You know how much you make each month. You know how far you can “stretch” your money each month. It seems that many were fooling themselves. When we went to purchase a home, we set a dollar amount to spend which we felt comfortable with. The mortgage broker and agents told us a number of times we could “afford” to spend over $100,000.00 more. We didn’t understand how they got that figure. I didn’t make sense when we looked at our paychecks. Most people seem to be easily swayed. We do not have a grand, huge home and three car garage, but we have a nice sized lot, spacious home for our family and now it is paid off. We also never took out any equity lines of credit – I think, too, that this is one area that can really sink people and help to put them in the upside down situations. You have to be independent thinkers and not allow other people (or yourself through denial) to get into these types of situations to begin with.
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We talked to a local broker about selling and short sales. First problem, even in the rosiest scenario we would still end up bringing $30K to the table just to escape our mortgage. Second problem, our broker said that if a buyer’s broker called about the house and heard “Bank of America” that they would just hang up. Yes, it’s that bad. So we exercised our side of the contract. We stop paying, you get the house back. See? Wasn’t that simple?
P.S. You people on your high horses of morality…..unlike others here, I truly *DO* wish for you to end up in financial distress! Yes, I just said that. The difference is that when you do, I’ll gladly come to your aid and comfort without judgment or condescension.
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To those who think the banks did nothing wrong, I suggest you read “Too Big to Fail” by Andrew Ross Sorkin and “The Big Short” by Michael Lewis.
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@Kevin – you are being way too simplistic and narrow minded.
John is a homeowner, married with two children. They bought a home for $250,000 and put 20% down. They paid their mortgage on time. The wife was in a car accident, had huge medical bills and also lost her job since she wasnt able to work. The husband picked up a second job trying to cover the mortgage. The home is now valued at $80,000. The family owes $175,000.
At some point, the monthly mortgage is quite simply a bad business decision. No one wants to give up on the dream of home ownership. They’ve got children to feed and to raise. They’ve got bills and expenses beyond the mortgage.
The bank gets to keep the down payment and all of the money that has been paid into the mortgage. Plus, the bank owns the property.
The person walking away from the loan gets nothing. They’ve blown $75,000 with nothing to show for it.
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Wow, seems like all the amateur financial gurus are also amateur spiritual advisers.
regardless of all the moral posturing, there are some things in this post that struck me as incorrect:
first off, lenders will NOT give loan modifications to 99% of people who are in a position to be considering a strategic default. In order to qualify for a modification, you have to be paying over 31% of your monthly income toward the mortgage, and you have to be suffering from a demonstrable financial hardship (reduction of income, divorce, medical, etc). Simply being underwater on the mortgage will get you NO sympathy from the lenders.
Additionally, if you are going to work on applying for a loan modification, there is NO reason to hire an attorney. Attorneys have literally no qualifications that put them at an advantage to negotiate with lenders, and they will charge you a cool $150-200 per hour to fax papers to the lender.
The only person who can help you negotiate a loan modification is a HUD-certified housing counselor, who are trained on how to prevent foreclosure. you can find one in your area at hud.gov, and their services are ALWAYS free; there is absolutely no reason to pay anyone anything to help you fix your foreclosure problems, and it is illegal in many states to charge money to do so.
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I don’t have a problem with people mailing the bank the keys to their house, even if they can technically afford it. It’s built into the contract that they can do this. What I do, however, have a big problem with is living the house during the foreclosure process mortgage-free until you are evicted. How nice that you default on the mortgage AND get to save a bunch of money for yourself in the process! I wish I could do that, but I can’t, because I’m actually paying my mortgage. If you are living mortgage free for months and even years in some cases, you sure as hell better have a good emergency fund at the end of it to keep you out of financial trouble in the future.
Note: This criticism is directed at people this article addresses, i.e. those who technically can afford to make payments but choose not to. It’s an entirely different matter if you are unemployed or with huge medical expenses. I have more compassion in this case for mortgage and rent free living in a soon to be foreclosure.
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1. Nothing is “just a business decision”. One cannot separate their faith from their walk. The very idea of contract law is built around making sure the terms are very clear for both parties so that they do not enter into a binding agreement blindly. The moral responsibility is for both parties to read the contract closely – or hire a representative to do so. All of this big, bad bank talk is just nonsense. They provide a product, and it is up to the consumer to understand what they are buying. In the case of “fraud”, fraud in the inducement is a legitimate reason for a court to declare a contract null and void in which case a consumer would not be obligated to make payment. However, things such as adjustable rate mortgages are not fraudulent. The terms of the contract state how long the rate is fixed, when it starts to adjust, by how much it can increase in a given year, and what the lifetime interest rate cap is. If you did not read or consider the implications of that arrangement, that is your fault – not the bank’s.
2. Handing over a house simply because it has declined in value is morally wrong. If you are perfectly capable of paying the loan, but are unwilling, because the house is now worth less than when you bought it, tough. The mortgage contract has no stipulation in it regarding the value of the house. That is a risk you take in buying a house. It is certainly a bummer, but bummers don’t warrant you walking away from a contract – it makes you a liar.
3. Not all circumstances are created equal. There are people who plan well, save a down payment, have an emergency fund, buy a modest house, and the world falls apart – they lose their job, or health or both – the economy tanks – they work two jobs to pay the bills, but ultimately, the emergency fund disappears, and they are unable to pay the mortgage. At that point, the general welfare of your family is of greater importance than meeting your contractual obligation. First Timothy 5:8 tells us that if anyone does not provide for the members of his household he has “denied the faith and is worse than an unbeliever”. No one should judge a person in this situation as immoral, and we should be careful not to make blanket statements as to the morality of a decision like that.
4. There is certainly gray area in all of this discussion, but some things are clear:
a) Not paying your mortgage can be sinful (immoral)
b) Not paying your mortgage may be the lesser of two evils if you are paying the mortgage company and neglecting the care of your family.
c) There are legitimate, desperate cases where a family has no choice but default. In those cases, it could hardly be considered immoral. However, in those cases, the debtor should do everything possible to help meet as much of the obligation as possible – keep the house clean (curb appeal), pay as much as possible, maintain good communication with the lender, etc. I have zero sympathy for people who trash the place and walk away with no contact with the lender.
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The responses here are quite interesting. My reaction to the concept of the strategic default is, I think, colored by a story that ran in one of the major daily newspapers on the subject, I can’t remember which one. The couple profiled had purchased a home at the height of the bubble. The house was in a good area, they have a child, both have good, high-paying jobs. They were considering a strategic default on their mortgage for no reason other than the house had lost value. That’s it. They weren’t getting divorced, it wasn’t that they couldn’t afford it.
To me, this is sort of like selling your stocks because the market is in the tank–the idea to “cut your losses.” Yes, it might be painful to make payments knowing that your house is underwater–but honestly, is that why the house was purchased? No, it was purchased to live in.
It’s one thing to default due to tragic and unforeseen life circumstances. It’s another to go this route because you expected a house to keep appreciating and when it doesn’t, you walk away. I suppose my question is, if everyone did this, wouldn’t the housing mess be far greater than it is now? How would you feel if your neighbors to the left and right strategically defaulted, taking the rest of the street’s property values along with it? (I understand there are some states like this right now, and it’s not pretty.) But multiply that by all 50 states instead of the three or four most heavily impacted right now, and it would make things far worse.
I think as a society we are fortunate that so many equate paying debt as a moral obligation.
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Walking can seem like the logical solution, but the consequences are harsh. Thanks for the insight!
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@Chris.
Good for you. You are smart and engaged. You probably went to college and you probably spoke with your family to get their advice before making your decisions and your parents probably had a lot of good advice for you.
I’m in the same boat and I feel blessed and exremely lucky.
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I’m shocked by all of the people insisting that this article endorses some kind of massive moral failing.
Mortgages are contracts. They spell out what the contracting parties’ obligations are to each other under a variety of circumstances. They include provisions for the borrower’s ceasing to pay the loan. This possibility is a reason that mortgage rates are (and should be) greater than inflation. It’s also why there are serious financial consequences to default, so that people have strong incentives not to do it unless necessary. Banks don’t lend money assuming that no one will ever default. If banks miscalculated the risk of default, then they will deal with the consequences–as will borrowers.
I am not a homeowner. Should I ever buy, I will certainly do my best to avoid getting into a situation that would make default an attractive option. But if that were to happen, I would have no moral qualms at all about defaulting for the good of my family’s long-term finances.
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You need to give more info on the modifications. They are a joke! They hit your credit score badly when you are just in temporary modification. They kept me in a temporary modification for 10 months! Then denied me, with no cause. Because they dont have to tell you. Then they want all their money up front from the reduced payment difference. so then I know a few people who lost their house because of this. Because you have to pay within a month all the months difference or they start to foreclose. What a joke! So I had to battle them to correct my credit report and was lucky enough to have just enough equity in the house to refinance with another bank. Bank of America is the devil! I was lucky. But I know many who desperately tried and lost their house anyways.
Also the tax implications of a short sale need to be mentioned. Also, in 7 years the house we all foolishly bought could come back and break even without destroying your credit. Or maybe wait for it to come up a little more so the short sale tax implications dont hit you so hard.
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I second everybody who says that the banks don’t use ‘moral’ as their guidelines when they decide on their course of action and neither should individuals when it comes to a decision.
And it’s clearly not the same thing as theft. I could go into an extended comment on contracts, penalties, what the bank receives, etc but really – if it was theft, people would be in jail for walking away from their mortgages.
Some commentors want to return to an era of debtor’s prisons. Victorian age was indeed extremely ‘moral’.
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“The mortgage contract has no stipulation in it regarding the value of the house. That is a risk you take in buying a house.”
I would argue that this is a risk that the bank takes by approving the mortgage.
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A bit off topic, but as someone who lives in a “recourse” area – I find it astounding that companies would lend large amounts of money to people who can just walk from the obligation without having to pay the mortgage balance, even if they could.
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“All of this big, bad bank talk is just nonsense. They provide a product, and it is up to the consumer to understand what they are buying.”
Wouldn’t that same line of thinking also absolve drug dealers from any moral problems? What about companies who make defective toys? What about an automobile manufacturer whose cars have safety defects?
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Why *shouldn’t* people opt for the second option when it becomes financially more prudent for them? That option *is* open. It’s in your contract. It’s essentially the entire point of having a loan with collateral. If you default, the lender gets the collateral. That’s their protection and it’s built-in.
Maybe it’s historically unprecedented for defaulting on a mortgage to be advantageous to the borrower instead of the lender in such large numbers, but why shouldn’t they take advantage in that situation? Banks would do the same if they had the option.
Health insurance companies have been doing this for decades — they cancel your policy when they decide you’re more expensive than it’s worth. People are currently lining up across the country to defend this system in the US. The big difference here is that when your health insurance is cancelled you can literally die, and when your house if foreclosed on, everyone at the bank pretty much just goes about their lives.
There are plenty of other ways businesses take their own advantage in the system all the time. UPS has a contract with the city of San Francisco to pay all their parking tickets monthly, because it’s cheaper for them than trying to find legal parking while they do their deliveries. Where’s the moral outrage over the abuse of the system?
What about businesses that incorporate themselves in Delaware to avoid paying taxes? Where’s the moral outrage over that injustice?
Or how about companies that routinely give their employees 31 hours a week, because if they get 32 or more they count as “full-time” and would need to be given health insurance?
Where’s all the outrage over everyone else using loopholes in the system to their own advantage? Why is it only outrageous when it’s an individual who’s probably really struggling, and will see a marked improvement in his life who does this sort of thing?
Besides, even the “morals” that people use to justify this outrage are ridiculously ethnocentric. Islam prohibits the charging of interest on loans as immoral. Why don’t we all adopt *that* moral and take a second look at the banks who are financing these things?
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@MoneySmartBlog: I suspect my perspective is coloured by that as well. I live in a full recourse province, and there’s no way it would ever be to your advantage to walk. They’d come after you for all you’re worth and more.
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To say “it’s far more shameful to owe money than it is to steal it” is pure bullshit. I wouldn’t believe anything else the author of “Griftopia” had to say.
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The people that have commented so far that call this a moral issue (including myself) are upset about the people that are truly talking about strategic defaults – they can pay the mortgage as agreed but because they are severely underwater now they don’t want to for a variety of reasons.
Others are in turn accusing us of being on a high horse and clearly having no sympathy or understanding for people who signed in good faith but have had something go wrong (an illness, job loss etc.). However, THOSE ARE TWO DIFFERENT SITUATIONS.
A strategic default because you are underwater vs. a foreclosure because situations have changed are not the same thing. I have all kinds of sympathy and understanding for people who are in situations where it is feed your family or pay the mortgage. I absolutely do not have sympathy for people who are underwater but are still able to make their payments as always. That just means you made a bad investment. Happens everyday. Unfortunate that it was with your house but still just a bad investment.
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“Because in America, it’s far more shameful to owe money than it is to steal it.”
What???? We borrow to buy cars, houses, and use credit cards all the time. When did owing money become shameful? Matt – If I walked into a bank and stole money, is that a business decision? I obviously need the money pretty badly, so that makes it justified? Give me a break! How is that different than taking out a mortgage, or any loan, and then deciding later not to pay it back? It is my responsibility as a buyer/borrower to do my due diligence and sign those papers with eyes wide open. And pay back the money borrowed. Otherwise, yes it is immoral because it is stealing. For years we were in a housing bubble and everyone knew it. It couldn’t last, but like lemmings, folks bought real estate that was over-valued because the prices kept increasing. It was hard not to get caught up in the frenzy, but no one held guns to peoples heads to make them purchase. Home ownership is a profit risk, a gamble, just like owning stock. It’s also a long-term investment. If it is still worth less in 15 to 30 years from now, then you truly do have my sympathy. Still there is never any guarantee that investments will appreciate.
I thought this blog was about learning to make sensible decisions about how to spend money. Maybe the next few posts should be on how to know if you qualify for a mortgage (not just the bank’s responsibility) and debunking myths about home-ownership and the financial ramifications. Americans are so caught up in the dream of home-ownership we don’t even question whether it is the right decision for them at this point in their lives. Unfortunately some folks learned the hard way, and I truly do feel for them, but walking away from a mortgage and filing for bankrupcy are forms of stealing money from other people. In my book , it’s a white collar crime. 7 years of bad credit is still better than prison, which is what the guy wearing the ski mask robbing a bank would get if caught.
(Yes, you forfeit the collateral, but then you didn’t really own that collateral in the first place until you pay back the loan – the bank does. You made an agreement. What is that worth? If you prove that it is worthless, then yes, there should be ramifications. If somebody else’s money must make up the shortfall, whether it is a bank or our government, it is ultimately somebody else’s money. That is stealing.)
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I read through all the comments and I agree the most with the person who commented above me, Tyler. A mortgage is a contract. It is insane that people are made to feel they’re committing a moral mistake by exercising an option in the contract – ie, to give the bank back its collateral for the loan.
One thing I can add to the discussion that I didn’t see mentioned is that the risk to one’s credit score is very overblown. I know several people who went into strategic default, ALL of their credit scores rebounded (some over 700) within a year of the foreclosure.
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@tyler
“What about businesses that incorporate themselves in Delaware to avoid paying taxes? Where’s the moral outrage over that injustice?”
Because incorporating yourself in Delaware doesn’t avoid you paying taxes, that’s a myth. There are other advantages, but you still have to pay taxes to the states you operate in as well
Whats your take on credit card debt then? You’ve usually consumed everything you’ve charged, so where’s the value
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Why is it a moral issue for individuals to default, but not a moral issue for corporations to do it? It’s seen as just a cost of doing business. Why do we require that individuals act in a morally upright fashion but let corporations so wholly off the hook?
I, for one, am glad that GRS would publish an article like this. I think a lot of the comments are just people elating in feeling morally superior over others on the basis of a morality that not all might share. What’s the point?
Save the upset for the rotten corporations who are really screwing us over.
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“walking away from a mortgage and filing for bankrupcy are forms of stealing money from other people.”
except that they are legal options available to american citizens whereas stealing is illegal.
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“walking away from a mortgage and filing for bankrupcy are forms of stealing money from other people.”
except that stealing money is illegal and walking away from a mortgage or filing for bankruptcy are both legal.
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Why is it a moral issue for individuals to default, but not a moral issue for corporations to do it? It’s seen as just a cost of doing business. Why do we require that individuals act in a morally upright fashion but let corporations so wholly off the hook?
Especially when those same corporations hire well-educated experts to get them into the situations that they later have to default from, and also well-educated experts to obfuscate the terms of agreement that lay individuals are then morally bound by (according to the commentariat here). Talk about imbalanced.
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To take out a mortgage, both parties (the bank and the homeowner) agree to the value of the home. Why does the homeowner the only one who needs to abide by that assessed home value if it was priced incorrectly? If the house was overvalued, and the homeowner walks away, the bank keeps the downpayment plus any money that has been paid towards the mortgage plus the property. And yet some posters compare walking away from a mortgage to stealing? I’ve had possessions of mine stolen from me, and never, ever when someone stole from me did they also give me anything of any value in return.
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Sorry, I don’t agree that walking away from a mortgage is a “business deal” where you are just taking a loss.
If you purchased shares in a stock and the stock market plummetted, you take a loss, yes. But you do so by selling the stock at it’s current price, and **losing the money you paid** for the stock in the first place. You take the hit, not the company or the brokerage house who sold you the stock.
Buying a house is like buying a stock certificate: you are hoping the value of the home increases beyond what you are paying in interest on your mortgage. The analogous situation with a mortgage is: you “purchased” that mortgage (stock) from the bank, and now (boo hoo) it’s not worth anything–that’s your problem, not the bank’s. You owe them for what you borrowed–the bank doesn’t owe you. If you made money on your house, would you owe the bank out of your “profit”? No of course not. Why then does anyone think the bank should owe you for your loss?
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@chris #69
Amen! Who cares about predatory lending? Use some common sense people. If you knew that your take-home pay was $3000/month and your mortgage payment (not including taxes and insurance) was $2000/month or more, why would you ever have signed up for the loan? That’s just outright foolishness.
However, there are many scenarios where people have done everything correctly and find themselves completely underwater because the econonmy has tanked. It’s easy to sit in judgement and say what you would or wouldn’t do when you aren’t facing the exact situation that other people are facing. Somebody else commented that there a million shades of gray and I think that was a very accurate assessment.
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I know I’m resurrecting an old thread, but I am pondering this whole thing this morning.
The argument here from most on the moral ground seems to be that I buy a house as an investment and if the value of the house goes down I’m stuck with the consequence of my choice. Fair enough, but lets look at it from the other side.
I didn’t really buy the house, the bank bought it. They agree to let me live there as long as I make payments to them for the next 30 years, then they will give me ownership of the house. The bank made the investment, not me. Shouldn’t the bank be willing to accept the loss on their investment? How’s that for a moral twist? Lets not forget too that many mortgages include PMI which in theory insures the bank against default. I paid to insure the bank against the likelihood that I would one day walk away. Really the only true moral consequence I see is this: when I default on my loan, I impact the property value of my neighbors. My neighbors didn’t enter into a contract with me. They did however accept the risks of the market when they bought their house, and so even that gets a little gray.
Enough theory though, here is my real predicament. I bought my house in 2006 for $340,000. Today it is worth $200,000. I want to move in 5 years to a house with another bedroom. I’m able to make the payments. I just called the bank today to try to refi to a lower rate. They have no interest in refinancing my $260k loan, and why would they really? There is no advantage to them. Note:I’ve already refi’d once under home affordable.
So what do I do for the next 5 years? How do I maximize the value of the money I have in the bank, and in commitments to house payments for the next 5 years? Make giant payments on the house? I could do that, I have the cashflow surplus. Remodel the house to bring up the value? I would use cash, I’m not chasing bad debt with worse debt). Added benefit is that I get to live in the remodeled house bringing some level of pleasure. Do nothing, and bring cash to the closing to avoid debt? Hope things rebound in 5 years (I have no faith in this option). Add a bedroom to my existing house? An option but less than ideal cost wise. Walk away from my mortgage? Maybe, but has financial consequences that might hurt me more than I want long term.
For those who have been through a short sale, what happens? Does the bank look at your assets and decide you could afford it, and thus play hardball?
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We discussed this topic at length on Seattle Bubble back in November. It was quite an interesting conversation.
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A mortgage is a legal contract, into which both sides entered voluntarily. I do not see how it’s okay to “voluntarily walk away” from such a commitment. And to do it because one is “upside down?” Really? If one borrows for a new car, then, is it okay for her/him to walk away from the loan? New car loans are ALWAYS upside down the minute one drives the car off the lot.
Don’t get me wrong – I don’t blame the author for investigating, and reporting on, the consequences of such a decision. She merely answered a question. I believe that badmouthing her (or JD) is out of line.
What’s not out of line is the comment that just because one was not a good consumer (bought too much house or car, used too much credit – e.g., borrowed more money than s/he could afford) should not become others’ problem except in the direst of circumstances. Because you, John/Jane Doe, default on your mortgage, I get to pay more for mine.
Finally, a comment I can’t resist: I personally know two people who walked away from their mortgages. First was quite well-to-do, walked away because they couldn’t sell for what it was worth (upside-down before that was a term), the second was not well-to-do, but kept buying things they couldn’t afford. I am not happy with either of the two passing their debts on to me (directly or indirectly doesn’t matter – big business always gets paid).
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