The topic of a strategic default is a hot one, no doubt about it. What happens when a strategic default takes on a form of a short sale? I do not intend to make this an in-depth discussion of all aspects of strategic defaults. Neither do I wish to debate the moral issues surrounding a home owner voluntarily walking away from their mortgage while they can still afford to make the payment. For all who are interested in the detail please read Understanding Strategic Defaults by Alan Glass of Los Angeles based ASG Real Estate. For a more general overview check out the wikipedia entry here.
Strategic defaults are typically described in black and white: either you pay your mortgage or you foreclose on the property. Now with a short sale thrown in the mix things get a bit more complicated, particularly when it comes to proving hardship. This issue separates the ones who default strategically in an absolute sense, a borrower who has ample assets, yet makes a business decision to default on the mortgage because it is no longer a good investment and it is time to cut their losses. On the other hand, there are borrowers whose income is barely sufficient to cover the mortgage of an underwater property and with no significant assets. This is the most common type of borrower facing this decision. Phoenix realtor Bob Stahl weighs the moral and economic aspects in this blog post “Strategic Mortgage Defaults: Is It a Financial Issue? Is It a Moral Issue? Or Is It Both?”.
So at what point does a home owner decide to walk away from their home and their mortgage payment? In other words just how much negative equity can a home owner live with? While the numbers vary, the range in between 10% and 25%. The Wall Street Journal article “Debtor’s Dilemma: Pay the Mortgage or Walk Away” is full of stats that answer these questions for us.
Turning Leaf Advisors position today is that we do not negotiate strategic default files. That is if the clients sole reason for doing a short sale is to avoid having to utilize current assets to make a mortgage payment on a property that is currently under water. We decided not to jeopardize the integrity of all of our short sale negotiations by refusing to negotiate strategic default files. What typically occurs in these situations is that the seller tries to hide assets and our company as a whole does not want associate with fraudulent activities that would jeopardize our ability to help millions of homeowners that really need our services. Although strategic defaults seem to be a very hot topic these days; there is only a small fraction (less than 1.00%) of our current $60,000,000 of short sales in our pipeline, even attempt to do this. I am sure that there have been some sophisticated sellers who have disguised their assets prior to sending us a short sale package; but if we get any suspicion of this behavior we immediately bring it up with the seller.
I would not represent a seller who was attempting an actual strategic default. One of the key components to the short sale package is the hardship letter that explains why the borrower is no longer able to maintain payments on the loan. Being underwater is not a hardship in itself and eventually, unless something tremendous happened to the property, the value of the property will return to the amount borrowed. This will occur faster as equity is built by making payments.
Now if a borrower was underwater but able to make payments, but for some reason had to relocate, that would create a genuine hardship situation that would justify submitting a short sale package.
Exactly, we stay away from negotiating strategic defaults for many reasons. We have a blog post in the works that outlines hardship circumstances.
Ah! This is great! Thanks for dispelling many
misunderstandings I have seen about this as of late.
First, thank you for taking the time to read my post and share it with your readers. I’m always glad to share ideas and views with real estate professionals who take the time to continue learning and I’ve heard very positive things about your organization…
Second, I applaud your decision to take a hard stance on fraud and to apply an active screening process to eliminate those files from your system.
We have collectively found ourselves in a very awkward position where even the best of intentions have left millions of homeowners in difficult financial situations. The hardest part for me, as an advisor and broker is to tell one homeowner it’s ok to walk away, but another it’s not simply because their financial situation is not as dire as the first.
There is no room for fraud, and each business should take a stand for what they believe in. However what do you tell a borrower who was denied a short sale application because he is still financially able only to find himself further underwater six months later, without a job, with dwindled savings, and now with fewer options going forward? That’s still a tough one for me…
Allan, glad to see you found our blog post. This will remain a sore subject for some time. All we can do is try our best to do the right thing.
Thank you for your blog post. We would like to short sell our house but I am afraid we are not going to be able to find someone to represent us as we do not have a traditional (financial) hardship. It pains me to say this but after years of “waiting it out,” if the bank won’t work with us on a short sale then our only choice is to allow foreclosure. We need to move. At this point it’s non-negotiable. We owe about 300% of what our home is worth–we live in a “transitional” (read: high crime and drugs, saturated with foreclosure) neighborhood and we are no longer able to stay here. “Hardship” is relative.
Hi there. I am pretty uch in the same boat. Have you found a solution? I as well need to move but cannot prove financial hardship.
Who gets stuck when strategic defaults and short sales affect mortgages that are part of a “collatoralized debt obligation” that has been purchased by a hedge fund or a pension fund? That is, who takes the loss when the bank receives less for the mortgage than another entity has already paid for it?