Over the past few months, it’s become clear that a lot of homeowners are strategically defaulting on their homes. In other words, they’re intentionally walking away from their mortgage obligations because they owe significantly more than their home is worth, even if they can afford to keep making the mortgage payment.
But what then? Once you’ve defaulted, you won’t be able to get a new mortgage for a long, long time. Well… According to a recent Bloomberg article, some homeowners are starting to “buy and bail.” In other words, they’ll acquire a new house before they walk away from the old one.
While “buy and bail” constitutes fraud if the borrower lies on their loan application, this strategy is most often employed by those with a big paycheck and relatively little debt, as they’re more likely to legitimately qualify for financing on a second home. Lenders are then left holding the bag.
What do you think?
Are there any circumstances under which you’d consider a strategic default?
16 Responses to “Strategic Defaults: Buy Now, Default Later”
Banks have been sticking it to consumers for years and banks are the evil ones. A mortgage is a contract and that’s it. If you don’t pay then the bank gets the house.
A strategic default is a default nonetheless. Doesn’t the bank you have your defaulted mtge with have every right to come after you for damages and force you to sell the new residence you just purchased? I am under the impression defaulting on your mtge doesn’t cut one’s ties to the orginal mtge they signed. Can somebody please explain. Are NJ and NY non-recourse states? Also, if you sold a property for less than it was worth will the bank you have the mtge with expect full payment of note upon closing?
My sister in-law is planning to do this, although I think they’ll get a rude awakening when they try it because their credit isn’t nearly as good as it should be and the lending rules have tightened up so much. Frankly, I kind of hope they can’t pull it off.
Derek- sounds like lots of justification because you made a bad choice. How many people are in jail who feel that they should have been permitted to …steal, lie, cheat, kill someone else? Where is the line?
This concept makes me ill.
How about me? Why should you get to bail- when I paid cash and cannot recoup 2/3 of what I put in? Why should you get the better deal?
Our economy works on trust. Obviously, things are going to get much worse before they get better with people like this around.
My BF and I have considered doing this (his house). A year or 2 ago if someone would have mentioned it I would have said “NO WAY” because I think the idea is morally wrong and the idea of doing something wrong just because you can is a slippery slope.
But after seeing how many “wrong” things the administration has done and the mortgage companies and banks have done I’ve started to think it’s not so “wrong”…it’s just a business decision some people have to make in a dog eat dog world. Now do two wrongs make a right, no. But I don’t think mortgage companies gave a flying eff when they got naive people into bad loans.
Theft. Pure and simple. I wouldn’t do it.
Some people may never have to borrow again, but you also have to think about the impact that big ‘ol ding on your credit will have in other areas of your life. For example, many insurance companies use your credit score as a rating factor. Let your credit go to hell, and you’ll be paying lots more on insurance for your home, car, etc. Many employers also run a credit report before hiring. How can they expect someone with crappy credit to be responsible with company assets & reputation?
But then again, I really don’t feel sorry for the banks in most of these situations. The banks, in conjunction with the government, got the country into the mess by lowering the standards to make homes “affordable” to people who really could not afford them, or had no business buying a home. It’s like offering a 4 year old all the candy he can eat, and then blaming the 4 year old when he has a tummy ache and starts vomiting. Stupid!
Some relatives did this and I was very disappointed. But I also thought – if I were them, what would I have done? And although it is morally objectionable (after all, they contributed to the bursting of the US real estate bubble, the effect of which rippled around the world – and is still rippling), what they did was actually financially wise. They were in a sinking ship and they had to get out or drown. I think the bigger picture should be considered – why the banks approved so many loans on so little information. But it’s the chicken or the egg question once again.
I am in a position where I could strategically default on one of my mortgages. I own multiple properties and am just closing on a new primary residence. I have one house that was going to be turned into our â€œdream homeâ€ before the real estate drop in CA. We are now renting it out at a substantial loss.
CA is a non-recourse state, so I could let that one house go and be in good shape on my other properties (including my new house – so we won’t need the credit to buy in the future).
Morally, I’ve always been opposed to this type of behavior, but in seeing how banks are operating lately, I no longer feel that way. My particular experiences are:
1) I own a construction firm and we’ve been screwed out of well over a million dollars the past 5 years. In many cases. we are stuck with custom materials, the bank takes over the property (usually commercial, such as hotels in our case). The bank needs to complete the construction work to sell the property and instead of even contacting the contractors who are owed lots of money and who are stuck holding all these custom (read, unsellable to anyone else) items, they go and contract with someone else who goes and buys the exact same items, installs them, and then gets paid by the bank. We end up with a warehouse full of merchandize.
2) On the house I’m considering letting go, every year the bank charges me for insurance even though we already have a policy which meets their requirements through Allstate. It takes 3-4 faxes of the same documents each year to get these charges removed from our account. Allstate automatically sends the renewal policy info to the bank, but they are too dense to input it into their computers. This year, I am now getting late payment notices even though my bank originates the loan payment automatically out of my checking account. Same problem, they misplaced the insurance paperwork. I feel like by not defaulting, I’m helping to encourage their stupidity. When you have a property that’s way under water and the owner makes every payment automatically, on time every month, you should at least treat them a little bit better than this.
3) Alot of talk about the Obama loan programs are in relation to principal modification. However, if you are current on your (underwater) loan and only want your existing bank to refi with current interest rates (no principal reduction, no cash out, etc.) this should be an automatic, even required step that banks need to take. But, that hasn’t been my experience. If the homeowner is willing to continue paying for their underwater property the least their bank should do is to give them a fixed rate loan with the current terms (and fees) that are available for any other re-fi.
When you enter into a contract your moral obligation is to honor the terms of the contract. If the contract states that you pay the mortgage OR the lender forecloses on the house, either option fulfills the contract. My understanding is that refi contracts are written differently (at least in Cali) and not paying your mortgage might be a breach of contract, and thus morally wrong.
Tricky topic though!
I personally think it is wrong to strategically default on a mortgage just because the market value of the property has diminished greatly. The agreement that a borrower made with the mortgage issuer was to repay money borrowed; not, only if the property retains or gains value. No where in the mortgage contract does it state that the borrower isn’t obligated to repay the loan if the housing market takes a down-turn.
But I do understand the logic behind a strategic default plan. For example, here in California many homes are now valued at half the price from 5 or 6 years ago. I can see how a family who are paying over $5,000 a month in PITI (let’s not forgot the additional money for renovation and maintenance) may decide to default on their house and rent a house in their same neighborhood for less than half of their current payment, and no responsibility for its upkeep.
Although their credit will be trashed for some years, they will have had the opportunity to save up a significant down-payment if they decide to purchase a home in the future, or be debt-free by paying off other loans and credit cards. Where the negative credit report may hurt them the most is when looking for another job or a new place to live, and getting new insurance. In fact, depending upon what type of jobs they have they may put their current jobs at risk with a foreclosure on their credit report.
Morally, I think it teaches your children the wrong message about honoring obligations and taking full responsibility for the decisions you make. What I think should happen to those people who decide to strategically default is that their new landlord does the same thing, and keeps taking their rent money, but doesn’t say anything until the sheriff appears to put the tenants out.
The “Buy Now – Default Later” scenario is a deceitful practice and that inherently makes it wrong. I’m not sure how anyone could make a positive argument for doing something like that.
With that being said, what if it was just a strategic default? One where there was no other purchase involved – just a scenario where someone realized they are in a horrible deal financially and decide to walk away. I wouldn’t do it personally, but I could def. understand why someone else would. This topic always gets so heated b/c people want to inject morality into something that is really nothing more than a business contract and when people choose to strategic default, they are doing nothing more than opting out of that contract. The lender gets the collateral and the borrower spends the next several years fighting off judgments. That was door #2. That was the built in out-clause. A default is nothing more than choosing to exercise that option. It’s just business. Do any of you think that companies stay locked into deals that are bad for the bottom line out of a sense of moral obligation? No way – Not if they plan on staying in business anyways. It isn’t considered wrong when those deals are broken either – it’s considered good business and is something that is expected. So why should any of this be different for Joe and Jane Consumer? Why is it only “wrong” when they are the ones choosing to get out of a bad deal?
Funny, we could do this as our current mortgage is only 9% of our monthly pre-tax income. We have more ethics than that though.
Well, the lender wouldn’t know in advance that the person intends to default. The problem is that lots of people own multiple properties (for investment, 2nd home, etc) so how do you distinguish the legit 2nd home purchase from a scammer?
Interesting idea. Its fraud though and completely illegal. I don’t understand why a lender would lend someone more money when they already are in person is already in a lot of debt and going to default. Plus that would destroy someones credit.