The bailout had it all wrong. It attempted to fix problems in the system by letting the very people that got us in trouble apply the fix, THE BANKS. Don’t get me wrong, I think everyone who has over extended themselves, put themselves in a fully leveraged position and made poor debt decisions have a part to own up to. It was however the banks that put people in a position to make poor choices, in the name of their own greed.
I have talked to several people around town and hear a common scenario. Buyers are under water. Not because they bought a $300,000 home when they could only afford $240,000, but because they bought a $300,000 home they could afford that is now simply worth $180,000. The $60,000 they put down as good borrowers (20%) is completely lost. On top of that they are in the hole an additional $60,000 of equity. They can make the monthly payment no problem as they had always intended to.
So what is the problem? The problem is that their current house payment is $1600/mo, but they can rent the identical house in their same neighborhood for $800/mo. That is a difference of $800/mo or $9600/year in cash flow. The chances that in the next 7 years the equity of the house will rise by $60,000 to get them above water is virtually none. So why on earth is the borrower staying in this home? To save their credit score is a likely answer. You have to ask if someone said they would pay you $67,200 in cash and relieve $120,000 in unsurmountable debt to ruin your credit score for 7 years would you take it?
The above person might qualify for the Obama 125% refinance plan, but at best that might only make their payment $1300/mo. Not to mention that the banks are not just making the refinances happen. They refuse to live up to their side of the bailout. If instead a plan was in place to force lenders to readjust principle balances (not interest rates) to a point where the home owner was not completely underwater then perhaps the home owner might full well consider staying in their home. At this point, I think someone in the above situation has NO SENSIBLE reason to stay in the home. They have far more to gain crushing their credit and walking away. Taking the positive cash flow and investing in their future. If the bank were in the home owners situation they would certainly walk away. It’s a business decision. Sounds cold, but the current bailout isn’t helping much of anyone. If we are going to throw money at the problem at least lets be pragmatic about it.
What are your thoughts?
More from Derek Neighbors
- Gangplank in Downtown Phoenix
- What Do You Spend Your Time On?
- Is Your Moleskin Keeping You From Getting Things Done?
- Make a Mark on Your Customers
- Does Phoenix Need To Change?
You Might Also Be Interested In
- What Can You Do With Craigslist? (Chad Nicely)
- So What’s The Scoop With The Warrior Forum. (Chad Nicely)
- An Open Letter to my Two Mortgage Companies (Stealthmode)
I’ve had much of this discussion in my head for the last several months but I think the #1 thing that is keeping most people in their houses in the light of this situations is the social stigma that goes along with foreclosing. As it becomes more common this stigma may go away some, but the past generations’ value of paying your debts and having “good credit” will slow this down.
I’m not saying that we should all walk away and butcher our debts, but there are times when it would make sense on an individual level to do so. If it were to happen on a large scale however it would destroy the banks.
It’s infuriating how the banks have put the stimulus money to work. They could have injected it back into the small biz community in the form of loans (which was the intent of the program). Instead, they did the opposite- they used it to clean up their balance sheets and then they go and yank lines of credit they had previously extended to businesses to cover their ass going forward. AND THEN they have the gall to be spending money running primetime TV commercials to advertise how they’re helping rebuild America. It’s effing criminal and it’s just shocking how little media attention has been given to this abuse.
sean
You’re right. For a lot of people it makes more sense to foreclose and rent. You can probably rent a house across the street for half of your current mortgage payment. It’s still your fault for buying an overpriced “investment” at the height of a bubble, no way around that.
I disagree with this part however “It was however the banks that put people in a position to make poor choices, in the name of their own greed.” I don’t think you can say that it was the banks anymore than it was the politicians anymore than it was the people who were trying to keep up with the joneses etc. etc. There’s a lot of blame to go around. If anything, I think the banks and the borrows were responding to the incentives and market environment sustained by the government.
Finally, letting judges rewrite loans to absolve borrowers of principle balances would be a terrible idea. I think it gets the government too involved with contracts between banks and individuals and it would just transfer the cost of the written off balance to future borrowers and existing customers.
I think they’d be better off bulldozing all of the excess supply than trying to bail these people out. Probably cheaper in the long run. :/
“It’s still your fault for buying an overpriced “investment” at the height of a bubble, no way around that.”
I mentioned that the borrowers still had a part in the equation. The intent was not to remove accountability.
“There’s a lot of blame to go around.”
There certainly is, but I think the banks can shoulder a good deal of the blame. They lobbied for the ability to do more risky deals. Shame on the politicians for giving in to them. They also executed those deals knowing that if things fell apart the government would likely save them.
“I think it gets the government too involved with contracts between banks and individuals and it would just transfer the cost of the written off balance to future borrowers and existing customers.”
I tend to agree, but don’t complain when you see 50% foreclosure rates and 9 out of 10 banks in America folding. In many ways this would be the best thing, as it allows for a complete reset the “growth economy” mentality.
My argument is mostly one of, if we are going to be in the business of bailing shit out, let’s do it in ways that are slightly more effective.
Are you just writing about my life or what? =)
I bought near the height in 2006 cause I was making stupid cash and wanted to me close to work. 2 weeks after moving in I was fired and for three years I have fought to make $1800 a month on 1300 sq ft in chandler. The home is $120k under water and I hate every moment I breath in it. I figure I can drudge along for 10 more years and maybe get my cash back, or I can short/foreclose on it and move on with my life.
If I short it’s 2 years. If I foreclose it’s 5 years before I can buy again.
It’s a shot to the gut and everyday I live with the choice I feel like and quitter or loser. Welcome to generation bankrupt.
“There certainly is, but I think the banks can shoulder a good deal of the blame. They lobbied for the ability to do more risky deals. Shame on the politicians for giving in to them. They also executed those deals knowing that if things fell apart the government would likely save them.”
Honestly, I don’t think anyone in the financial industry would have expected to see the government bailing out these banks in the way that they did. The whole “too big to fail” thing didn’t come up until well into fall of 08.
“I tend to agree, but don’t complain when you see 50% foreclosure rates and 9 out of 10 banks in America folding. In many ways this would be the best thing, as it allows for a complete reset the “growth economy” mentality.”
This is essentially what needs to happen. All of the people who are paying a $3000 mortgage on some jacked up loan should declare bankruptcy and then the banks who wrote their shit paper should fold. The only way we’re going to get out of this is to remove the excess debt from the system. It would be painful and take a long time, but probably the best long term solution.
I think the biggest issue, as I’ve seen it first hand, is that “walking away” creates a domino effect just like buying “cheap” houses did. If you walk away from a house that is $120k underwater, then I should have the choice to walk away if I’m $10k underwater. Essentially, everyone gets a free pass to ditch their house, overwhelm the whole meaning of bankruptcy and then where are we? The next thing people are going to be asking for is… tada… subprime lines of credit because everyone is subprime because they all ruined their credit walking away from their houses. What happens when the people you’re renting your $800/month house walk away and then you’re left on your ass (happened to my neighbor).
Furthermore, I don’t get this whole concept of “this is what my house is worth”. If you’re not selling your house today and you’re still paying what you agreed to pay, what’s the problem? Why are you worrying about what your neighbors are doing? If you have/want to get out of your house, do a short sale or something a little more classy than walking away.
Just for the record, I do own my house, I live next to a foreclosure and my house is “underwater”. At the same time, I am paying exactly what I was paying when I bought the house. I focus more on the fact that I like my house than all the reasons I should bail on it. My wife and I moved out here from San Diego, it was a tough call but we simply couldn’t afford to buy in SD and didn’t want to overextend ourselves. We were very careful about what and where we bought and made sure that if we stayed here 10-15 years it wouldn’t be the end of the world.
Either way, I do agree that something needs to give with all of this, but walking away isn’t the answer.
“Just for the record, I do own my house, I live next to a foreclosure and my house is “underwater”. At the same time, I am paying exactly what I was paying when I bought the house.”
In the interest of full disclosure, I am current on my mortgage, but underwater. When I say “walk away”, I mean all forms of that. Whether it be foreclosure or short sale. In my eyes they are just variations on the same theme. Obviously, I haven’t chosen this path yet, but I feel like a moron everyday I stay. The problem with staying is that it is bad math to do so.
But the questions remain, are you paying what you agreed to pay and are you selling your house today? What was the point of buying your house? A short term investment with high yields or a house to make a home for your family? If you got out of your house, where would you go from there?
And, realistically, foreclosure and short sale are very different. Short sale can leave you owing a significant amount of money since the difference of your purchase price and the short sale price is considered income that you have to pay income tax on (as I understand it). Seems like once people hear that, they just stop making payments. And why not? So many people are doing it so who’s going to know if you really couldn’t afford your house or you’re just mad that your house is worth less than you bought it for.
You talk a lot about making Phoenix a greater place, but this seems to contradict that mindset. As a small business owner, I think that making poor personal choices speaks volumes about my business acumen. Why would someone want to work with me/hire me if I am going to make decisions based 100% on what is best for *me* as opposed to seeing the situation from all angles. None of this is personal, by the way, just throwing it out there for arguments sake.
I’m also dosed up on cold meds so apologies if this doesn’t make sense!
By the way, I just watched the trailer for this, you might like it:
http://www.apple.com/trailers/independent/americancasino/
“If you got out of your house, where would you go from there? ”
Most people would move into a rental within a mile of their current home that provides everything their current home provides only they would an extra $800/mo to run their household and invest for their future. You have to realize most people are underwater by over $100,000. This isn’t something that’s going to bounce back in the next ten years.
“And, realistically, foreclosure and short sale are very different. Short sale can leave you owing a significant amount of money since the difference of your purchase price and the short sale price is considered income that you have to pay income tax on (as I understand it).”
I believe that Obama has extended the grace period and that in fact you dont have to pay any tax on that difference. This is one reason short sales have been fairly popular and why I consider them same as walking away.
“You talk a lot about making Phoenix a greater place, but this seems to contradict that mindset. ”
I’m not sure I completely agree. That said, the entire post is posing a question. One that I think a lot of good people are asking themselves. I don’t think anyone that is current on their mortgage when they are underwater wants to walk away or they would have already done so.
A very important part you’re forgetting – if, as you mentioned, you have the ability to keep paying your mortgage as it was written, you /can’t/ just walk away. Your short sale would never be approved as there’s no “hardship” situation, and if you just stop paying it’s pretty easy for the banks to get a judgement in their favor if the income is still there (essentially call your whole loan balance immediately due), and likewise you can’t skip out on the note via bankruptcy if you still have positive cashflow.
Good points, Mike D.
A short might not get approved, but you can easily stop paying and just allow the place to foreclose. It depends on the state, but CA is non-recourse and probably has the most overall negative equity of any state. If you walk away in CA the bank has to write it off even if you have a million dollars in the bank. You also don’t get taxed because it is treated as a sale… If you have lived there at least 2 years you won’t have any taxes. I personally think walking away if you are only $60,000 in the hole is probably not the best practice, especially if you put $60,000 into it . I am $250,000 down on the home I bought in 2006(put $0 into it). I haven’t paid my mortgage since December of last year and they still have not foreclosed. I expect to be booted in the next few months, and when I am my net worth will go from -$240,000 to about +$10,000. It will be real nice to be debt free. Living a cash only lifestyle is actually quite liberating. Debt is the current form of slavery.
DG – your scenario is the exact scenario that irritates me. You didn’t put any money down, you haven’t paid your mortgage in a year, but you’re still living there. If you’re going to walk away, walk away. You have *zero* right to be in that house and I’m sure you know it. It’s that kind of entitlement that got us into this mess in the first place.
The day I stopped paying was the day they threw the book at me. It would be nice to have a choice whether or not to “walk away” or stay. However, I look at the bright side of my short sale and unemployment – I’ll gladly choose couch surfing over being “underwater” in a vapid and unsustainable sprawl.
The only reason I don’t walk away from my house in Half Moon Bay is that I can’t afford to have my credit score go down or my lines closed. There’s no question that to walk is the right business decision from a pure cash on cash position. I’ve been talking about it to Ed and my family for a year. I feel stupid staying in my house and throwing money down the toilet. And yes, I’m current. And yes, I’ve tried to modify. And no, they won’t. Because I’m current.
Anyone significantly underwater in a non-recourse state like Arizona should probably just go ahead and walk away. After the largest housing bubble in American history, bubble price highs will not return nominally for a long time, and adjusted for inflation, will probably never return.
If you had asked me what to do in 2005-2006, I would have said sell any bubbly RE and rent a modest house in the same area (what I did). Now, same advice, except the side benefit is a damaged credit score instead of a large savings account balance. With Arizona’s anti-deficiency laws, no legal judgments will haunt you and the social judgments have largely evaporated.
Some might ask why. Because walking away/shredding your credit is the only way to fix the mistake of overpaying for/over-borrowing on a house. A life event is likely going to occur that requires a sale of the underwater house long before it gains six figures in value. Might as start the credit healing now.
This is a conversation I’ve had with my wife multiple times. We bought a beautiful home at the peak of the market. Like many fiscal responsible family’s we bought a house we could a afford and locked in a decent rate (6.5%). Currently we’re about $100K upside down based on the latest comps from the neighborhood.
In April when rates dropped to 4.5% I tried to refinance but was declined because I’m so severely upside down in my house. So I attempted to modify my loan. After 5+ months of Chase ignoring me they final responded by declining my request because we exceed the income threshold.
So to recap. I’m screwed because I’ve made fiscally responsible decisions while my tax dollars are rewarding families who’ve made less responsible decisions.
F*ck the banks for pumping so much money into the market and jacking up prices and then screwing those of us that they should be thanking for paying our mortgages in full and on-time.
Thanks for taking the time to write this — I have already referred people to it a handful of times and will continue to do so.
I love that a “non mortgage guy” can articulate this issue so when people ask me what they should do I can just shrug and point them here.
I’m in that situation. Owe $160k on my house and it’s only worth $110k these days. Monthly payment is fine but we’re starting to grow out of our house and want something bigger. I don’t want to F up my credit but what the hell am I suppose to do?