Every week, I consult with property owners who are grappling with over-encumbered properties and running out of money to pay their loans. The key question is “what should we do?”  But the best answer depends on their situation. For an upside-down owner, there are really five choices:

1.  Wait It Out - real estate values move in cycles and already demand is pushing prices up in some markets. Most investors think we’ll see upward movement in the next 2 years, although a return to 2006 prices could take a lot longer.

2.  Modify Your Loan - Most of the recent real estate news concerns efforts to get lenders to “modify” their loans to make them affordable to the borrowers. So far, this is voluntary for lenders and the results have been to reduce payments but not the debt. And these have generally been limited to owner-occupied properties. The key is to connect with the person at your lender that has authority to make a decision. There are Loan Modification companies that can assist you with this process but check their success rates before paying them any money.

3.  Sell the Property - Selling an over-encumbered property requires getting the lenders to take the loss between what is owed and what it will sell for. This is called a “Short Sale”. The key to success is convincing the lender that it is in their best interest to cooperate. This involves a combination of: a)  your “Hardship Package” showing that you can’t pay; b) “Comparables” showing the true current property value; and c) knowing what recourse the lenders would have if the property doesn’t sell. What sinks most short sales is the lender demanding that the borrower sign a “Promissory Note” for any deficiency, although agreeing to pay something may be in the borrower’s interest. Be sure to use a knowledgeable, experienced Realtor to lead you through this process.

4.  Give the Property Back - Sometimes the Lender will be willing to take the property back through a “Deed in Lieu of Foreclosure”. This generally will not work if there are any junior liens plus it requires more investigative work for the lender.  Simply sending the keys back to the lender, ie: “Jingle Mail”, does nothing except give possession back to the lender.

5.  Foreclosure - Every state has laws that may allow the lender to take the property if the loan is not paid. This is called “foreclosure”.  The real issue is whether the lender can get a Judgment against you if they don’t get paid in full. While in most states this is possible, it is not the norm. In California for example, if the lender uses a “Trustee’s Sale” to foreclose (in approx. 4 months), they are barred from getting a judgment against you. In contrast, the “Judicial Foreclosure” required to get a judgment could take 2.5 years. So, step #1 is to check your state’s foreclosure laws. For most borrowers, the real risk of a Judgment comes from those junior 2^nd or 3^rd loans that get “wiped out” by a senior lender’s foreclosure. Depending on when the junior lien was created, the foreclosure might only wipe out their security, not the debt leaving the junior able to sue you for the unpaid loan. So, it is critical to know what loans are on your property and when they were obtained.

No general review can determine what’s best for you. Getting competent legal and tax advice is critical as is your education.