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Surprising Trend In Mortgage Defaults
| February 1, 2011 | Posted by Roshawn Watson under Uncategorized |
By: Roshawn Watson
Even more foreclosures are expected to occur in 2011 than 2010, according to Realty Trac. Interestingly, there’s a new crop of homeowners that are defaulting on their mortgages, and it is not who you would initially expect. Homes without million dollar mortgages default at a rate of 1 in 12 whereas homes with mortgages in excess of a million default at 1 in 7. All of this raises questions as to the underlying contributors to this counter-intuitive observation.
Are They Really Rich?
First, it is important to realize that “all that glitters is not gold.” In his book Stop Acting Rich, Thomas Stanley pointed out that typically luxury homes are a better reflection of one’s credit burden rather than one’s accumulative wealth. The entire premise is that there are many people content with looking rich than actually being rich. Thus, they will over-leverage themselves and get into financial trouble. One of the challenges with these larger mortgages going into default is figuring out who is truly financially overextended versus who has strategically chosen not to pay their mortgages just because the values of the homes have gone south.
Remember, Teresa Guidice, from the Real Housewives of New Jersey, and her husband were able to borrow $11 million all on a reported income of only $79,000 (CBS News). They ended up filing bankruptcy, citing the collapse of a speculative “investment” as the precipitating factor (rather than borrowing to live an extravagant lifestyle that they couldn’t afford). Consider the $60,000 she spent on furniture and luxury goods just days after filing bankruptcy (NY Daily News). Her lawyer said new money had arrived. However, you have to wonder whether they were being truthful about their income being so low relative to their debt (essentially admitting they are financial phonies) or if they were simply getting their debt’s discharged despite their ability to pay.
A strange reality is that people will go broke trying to look prosperous to impress people they don’t really know and who really don’t care. It’s sometimes difficult to tell the real deal.
Just a Business Transaction
Clearly, not all of these million dollar mortgage defaults are due to true financial hardship though. There are people who just don’t want to pony up but have resources to meet their financial obligations. They are known as strategic defaulters. They willingly take the credit hit by failing to honor their commitments in order to mitigate their financial losses.
There are several reasons these jumbo mortgages are less likely to go into foreclosure. For example, the magnitude of money loss by “throwing good money after bad” is very large when considering luxury homes, despite the rate of decline being 3 times less than the non-luxury counterparts. Additionally, there are financial disincentives for all parties to foreclose on these homes. Not only are these homes harder to move on the market and more expensive to maintain, but foreclosures dramatically depress home values in a given area, which may adversely affects everyone’s bottom line.
Thus, in these expensive areas, you get people living in phenomenal homes worth substantially less than what they initially agreed to pay, and the owners get fed up, stop paying entirely (either by choice or necessity), and are living in the home mortgage-free.
When it comes to real estate, these income-affluent are different. They can be just as ruthless as the bankers.
Honor
The fact that some of these homeowners view unfavorable mortgages as just a business transaction gone bad that they can simply walk away from raises serious ethical issues. Obviously, capitalism operates on trust between parties, so as trust eroded, it makes it harder for people of moral integrity to make legitimate deals. Clearly, there is also well-deserved outrage with big banks receiving tax-payer subsidization through bailouts; thus, some feel entitled to make the banks pay. This is a weak justification, as two wrongs don’t make a right, yet it does add some texture to the issue. Nonetheless, there is real honor in meeting your financial obligations, as it indicates that maintaining your good name by respecting your commitments transcends all the other things that you could be spending your money on. Making strides towards to do so, especially in adverse situations, reflects maturity of character, which goes well-beyond the financial sphere.
I’m sure anyone who thinks of a poor family being evicted while those with the ability to pay are decidedly abrogating their responsibilities while living in luxury would rightfully be upset. In a 2009 conference, a Kellogg Business School professor discussed how his 26 year old daughter was in the process of purchasing 200 homes in the Chicago Southside at $3000 each, which had previously been occupied by poorer people with mortgages over $100,000. People made similar investments in Detroit around that time. The unfairness of this entire situation, including the erosion of values, is tragic beyond words. It’s one thing to be forced into foreclosure, and it’s something different entirely to choose to go into foreclosure because you no longer like the terms of your agreement.
God help us all if honor becomes only synonymous with poverty!
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great article Watson, I wonder what can be done to put a lid on strategic defaults!
How will the housing market improve when you have this kind of social trash?
I like the line "…people will go broke trying to look prosperous to impress people they don't really know and who really don't care…".
That's the root of the recent foreclosures. People are afraid they are missing out on something so they piled in to McMansions. Like you I have a hard time understanding how they can walk away from a deal and live with themselves.
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That's a great point. People will prioritize other reasonable expenses, given their income disregarding the fact that they have already promised that income to the bank. It is quite sad that there are leeches: people who refuse to do the right thing because it is uncomfortable. It reveals their true character, and it is not pretty.
Great point: how do you stop strategic defaults when it is hard to distinguish between those borrowers who are truly overextended versus those who choose not to meet their obligation.
I suppose if banks start to get and exercise judgments against those with high income and could reasonably support their loans, then the financial incentives to default would be diminished: bad credit plus garnished wages and accounts do not a happy camper make.
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The depth of this problem is of a serious magnitude. Though the banks share a big part of the blame, the folks who took these loans knowing very well they can't even afford the annual taxes on these leave alone the mortgage, they deserve what they got.
I was brought up by depression era parents who drilled into me that showing your wealth was ostentatious and inappropriate. It was frowned upon then and still in some circles. Character is another area that seems to gone the way of dinosaurs. Integrity and character is one of the few things no one can take from you. You willingly give it up.
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Those strategic defaulters are making it worse that's for sure! Almost makes you think they want the market to stay down…
People who deliberately (and sometimes fraudulently) signed up for mortgages that they cannot afford are not without blame.. That's certainly agreed. I think I am even more annoyed and saddened by people who can afford their mortgages but are choosing not to pay though
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There was a nice Time article about this very thing. People who practice strategic default were essentially using their home to speculate in the real estate market with banks and ultimately us subsidizing their mistakes and poor judgments. It's infuriating form this perspective, and I agree it should not be allowed!
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Conspicuous consumption, especially when primarily for the purpose of impressing others, can be quite unflattering. It's not that there's a problem with enjoying some nice things, but so many people are trying to impress others and making stupid money decisions. Their true character shows when they truly realize what a mess they made and get out in a manner that screws over other people.
Great comment on character.
My recent post Surprising Trend In Mortgage Defaults
Those who practice strategic default seem to be very selfish. They are concerned about their bottomline above all else. It is quite sad and unfair.
My recent post Surprising Trend In Mortgage Defaults
How about following time honored, solid approaches such as:
– Treat others how you want to be treated
– Actions have consequences
– Honor your commitments
– If you can't afford it, don't buy it
It seem as though the pride and "doing the right thing" attitude many of us like and respect is not as universally applied as we would like it to be. These actions hurt quite a few people, as you mentioned.
I suppose it is a little bit naive to expect honoring your commitments to be a priority, although I still think it is reasonable, as I do the other things that you mentioned: the golden rule, owning the consequences of your action, and living within your means.
This appears to be a major step backwards, and this kind of poor moral character is the very foundation for how we got into the subprime mess to begin with.
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You're all wrong on this issue.
The "honor your obligation" argument is ridiculous.
Did banks and mortgage lenders honor their obligation to verify that they were making loans to people who could afford the mortgage payments?
Did the house flippers honor the mortgage documents they signed that said they planned to honor THEIR obligations?
In your scenario the only people who get screwed or suffer consequences for their actions are not the people who try to live and look like they're rich. Those people already got bailed out.
Instead, people like me who DID NOT lie on a mortgage application, DID NOT take money out on a HELOC and use their home like a debit card and who pay ALL their bills on time are the ONLY people who have to honor their obligations.
I've been working with my bank for a year on a workout and after leading me on for 12 months they pulled the rug out.
Before you make judgements about people you should go to a mortgage debt "town hall" and hear the stories of people who are going through this.
For YesIamCheap – a former mortgage lender and one of the industry experts who sureley made a lot of money peddling this crap – to say "sure, there was some fraud in the mortgage industry," is like a fish saying, "sure there is some water in the Ocean."
Guess what, turnabout is fair play and payback is a b****.
In no way do I think that banks that irresponsibly made loans are in the the right, and I even brought that up in the post. In my scenario, the system gets screwed over, and we all participate in that system.
It is incumbent upon us to act responsibly and ethically regarding our commitments, and I do not believe that's unreasonable. That said, if you are unable to meet your commitments, that's a lot different than choosing not to meet them.
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Unfortunately, it is people like you, people who are trying to do the right thing, that cause me to become even more upset about people who are trying to get over on the system.
In other words, you are trying to work with your lender to come up with a satisfactory resolution given what I assume to be new financial limitations that prevent you from maintaining the mortgage in its current state. In my opinion, that's honoring your obligations. The people who who perhaps need to be admonished are strategic defaulters – those who decided that they don't like the terms of their deal but have the ability to pay; since they can't modify the terms, they simply stop paying. That's a very ethically challenged way to look at the scenario.
In no way does this diminish the responsibility on the lender's side.
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I understand, as a mortgage professional and an investor, I think you bring a very unique perspective to this issue.
I do believe it was a shared responsibility, but somehow that's gets loss and doesn't quite incite populist range as the big bad banks. Well, the banks weren't the only participants. Some people were clearly deceived, and that's very unfortunate. Others were speculating in real estate, got burned, and don't want to pay up. Still others had unforeseeable circumstances. It is quite unfortunately that we rarely hear the other sides of the story represented.
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Passionate comments on this one. Great post!
It is difficult to be moral, ethical and treat other as you like to be treated if the other party is a corporation. It's just a business decision for the corporation, why shouldn't homeowner treat it the same way?
The corporations have minimal ethic and treat customers like a chess piece. I think you're cheating yourself if you won't consider all options. It's like playing poker with one card down on the table. Why handicap yourself when the other party is looking to win.
We are still paying mortgage although Zillow said our place is underwater. I'm not going to limit my choices though. If the value drops 50% further and the bank wouldn't play ball, then it would be time to reevaluate.
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It's frustrating to see so many people just walk away from their homes, when we have put a lot of blood, sweat, and tears (well maybe not blood, but money!) into keeping our house that is currently underwater.
On one hand I feel like we made a dumb financial move keeping the house instead of short-selling it or foreclosing.
But on the other hand, our credit is still solid, we still own our home, and we feel good about keeping our promises.
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You have so much cynicism towards business that it is quite sad. Business is moral and honorable. Are all the participants this elevated? No, but to come into a transaction or develop an attitude that all parties are only looking out for their own best interest, and "you are cheating yourself" to honor your commitments is a warped and destructive way to look at doing business IMHO.
You are not just playing poker because this is more than a game. I also think that it is not a handicap to be honorable in your business transactions. Sometimes things may take longer, but in no way do I believe you come out behind. Moreover, even if I did come out behind doing the right thing is really immaterial to me, yet this has not been my experience.
In the end though, we just have different ways of looking at the issue, but I respect your opinion though.
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"But on the other hand, our credit is still solid, we still own our home, and we feel good about keeping our promises."
Not only is that something that no one can take away from you, but I think it is so undervalued in our current society, which is quite sad and threatens the integrity of the very economic system that we participate in.
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Okay Roshawn, but the problem is that we're all getting lumped together.
People are starting to associate those of us considering a "strategic default" in the same breath as people who – in my opinion – caused this problem in the first place; the banks and the house flippers.
If a person just walks away without trying to get a loan mod or a short sale, that's just irresponsible. That guy gets called a strategic defaulter.
I've been working with my lender for a year. After a year they told me they would not work with me because I make too much money. That took a year. We listed the house, we did open houses, we got offers.
If I choose now to walk away because the bank refuses to work with me, I will also be called a strategic defaulter.
I went to a seminar on this in 2008… 2008. At the time I was concerned. They expected 500 to 1,000 people to show up and they got 3,000 at the seminar (it was at the Orange County Convention Center).
This was in 2008 and at that time people there were saying they had been trying to work with their bank for a year. At the time we heard the banks were "overloaded."
I started this process in January of 2010 – almost two full years later – and I get the same excuses. If the banks really wanted to solve this problem they would hire more people and do more deals.
If they really wanted to fix the problem they would do everything they could to help people like me (good income, good credit) maintain my credit and stay in the housing market – let me short-sale and buy a bigger house in the same neighborhood – so that the glut of invetory doesn't get worse.
Instead the banks are now pushing this "strategic defaulter" story on Fox News and other places. Not saying your a Fox News guy (and it's fine if you are) but what I am saying is that simply repeating the stories you see elsewhere and making blanket statements like, "you don't honor your commitments" is niave and somewhat ignorant.
I like your blog, but you really touched a nerve.
Bottom line is that the banks that caused this problem are NOT DOING ENOUGH to fix it. Period.
For the life of me, I can't understand why anyone would use the banks as their yardstick for morality and character. As in, "The banks are immoral crooks, so why shouldn't I be?" Is that *really* who you want to model yourself after — the jerks who got us into this mess in the first place?
FWIW, in 2006 our bank offered us a MILLION dollar pre-approved mortgage. !!! We politely declined and used only a third of that amount when we bought our house. No defaulting required when you use even the most basic common sense.
I get your point. There is not a distinction (or enough of one) between those who are trying to work with a dysfunctional system and those who are simply walking away. Unfortunately, I am sure you are aware that there are legitimately many people who are in situations similar to you, and you are right that this story doesn't get told, or told enough. That criticism is valid and well-deserved!
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I do think some banks are overwhelmed and have so much in toxic assets on their balance sheets that many are trying hard to stay a float. The story that doesn't get told about many banks is that this year, more banks are expected to close than last year (last time I checked) and that since they are no longer required to call bad debts "bad," many are doing a lot worst than they initially appear. I'm not talking about Morgan Stanley and Goldman, but many aren't doing so hot. When I hear profits, I sometimes want to know what funny accounting measure contribute to said profit!
I'm not saying to feel sorry for them at all (while I do feel sorry for many of the people who will be out of a job), but I wonder if you are dealing with a bank that is legitimately overwhelmed or one that is just giving you a "stock" answer. IDK, but I agree your situation sounds way more than frustrating!
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Sorry, sometimes my writings are on the edge because I editorialized even though I know that makes me vulnerable for criticism. As long as such criticism isn't mean-spirited, I actually receive the feedback gladly (sometimes with glee).
That said, I do not get my talking points from any political commentator, show, or station. I don't like any news commentators. Their biases are so inherent, and their tones are destructive. I'm no more a Fox News person than a NPR, MSNBC etc. person
I know sometimes it is hard to tell, but I really just am trying to get at the truth, and sometimes my opinions are not as fully-developed as I lay them out. I'm comfortable with shades of gray, so please in no way take my general commentary personally. It is more a critique on the philosophy than an attack on individuals. I can appreciate the complexity of the issue.
Notwithstanding the complexity, I still am a huge proponent of personal responsibility. Quite simply, it is the paradigm from where I operate. Thus, honoring commitments is important to me. Do I believe that banks are innocent in this? There's not a chance! I heard and read too much to believe that. For the last two years, I have always raised criticism against banks participating in predatory lending and even in this post, I raise the issue that they are selling homes that would retail at over $100,000 for $3000 each. Apparently, it is easier to work with a single investor to get rid of all of those homes at once than to work individual deals with the original homeowners. That's tragic, and I do not think that's the best way to do business.
Ray, I hope you don't think me too un-evolved though. Sometimes it is very difficult to thorough address an issue or even my opinions about an issue in a reasonably digestible post. I promise you again, this was not a personal attack against anyone, especially those who have been trying to work out something to no avail.
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This is a very interesting point because while I do believe in the morality and integrity of business, I clearly recognized that corporate conglomerates sometimes lose their souls!!!! Thus, using them as justification for unethical behavior is flawed from the start.
Melody, you wouldn't be surprised to know that some of my friends are still being offered mortgages more than twice what they are willing to spend on a home. Some industries just don't learn!
I'm so happy you didn't get caught up into this mess! Cheers to you for exercising restraint, common sense, and not being in a ridiculously overvalued market!
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Yeah, I'm getting more and more anti-corporate these days. Maybe I just need a little time away from the corporate world. I really think corporations are just money squeezing machines and we can't treat them like human beings.
At least I have an opinion. 🙂
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I think the bad corporations give all the good ones a bad name! I recognize that I am coming off as somewhat sanctimonious and idealistic. Part of that stems from the recent conferences I have attended and books that I have been reading, but I'm overall a positive person anyway. I love the innovation that we see with companies and that fact that corporations employ many people.
I think the world is a lot better with corporations than without them. I know my family's quality of life is better with such organizations than without. This doesn't make everything perfect, far from it, nor does it negate the instances of wrongdoing.
However, I am not convinced that all corporations are bad and exist only to extract our money. I think most corporations exist because they provide a service that someone finds valuable.
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Sorry, I'm with Ray on this one…
A catastrophic loss of income in 2009 and over a year of subsequent unemployment for my DH lead to our attempt at loan modification (3 times!) two years ago. Similar story, same outcome with the bank- failed loan mod; failure to negotiate short-sale (lost the buyer in the process); bank filed FC so we hired an attorney to mitigate the lawsuit and further help negotiate SOMETHING. No dice.
We now are both back to work (at reduced income) but could probably afford our home. Unfortunately, we are also far into the FC process at this point and unless I drain my 401k (uh, no!) to stop it- will proceed forward.
It is interesting however that only NOW Citi is approaching ME offering possible* assistance -if of course, I will first surrender all my financial records and assets…Really?! I should just hand-over this info to a party that's suing me in FC in a recourse state? I'm not thinking that's my best option.
So what label would all of you put on me? Strategic, or just fed-up and choosing to take care of my family rather than enslave myself to an entity that doesn't give a damn about me?
In general, the primary good reasons to prematurely withdraw from a 401K is to avoid FC or bankruptcy. That's likely what I would do (wouldn't want to though) although very begrudgingly I might add. However, that said, that's just how I operate personally. It sounds like avoiding FC is practically going to bankrupt you because the only way you can avoid it is by raiding your 401K. That's a strategic decision, but I certainly don't think most people would blame you given that both options (default or broke) are bad.
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First, Thanks so much for the comment!
You bring up a interesting point: why even play with the banks for too long. The debt is the problem because it's doesn't do you any favors. It keeps you in bondage and prolongs financial weakness.
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Bernie Madoff is in jail.
Angelo Mizzulo is retired.
That's all you need to know about America.
Steal from the middle class, you get a slap on the wrist and can run for office as a Democrat.
Steal from the rich, you go to jail.