As the recession has deepened and lengthened, many people who are fully able to afford the payments on their real estate loans on over-encumbered property have decided to walk-away and let the property go to foreclosure. For these people, the long time it would take to reach break-even simply doesn’t make financial sense. This practice has come to be called “Strategic Default”.   While the rights of the affected lenders will still be solely governed by the loan documents, as expected the lending industry is pushing for stronger penalties to curtail Strategic Defaults.

As reported widely on the web, Fannie Mae (”FNMA”), the government-sponsored enterprise that creates the “secondary market” by buying up mortgages, has stated that: “Defaulting borrowers who walk away and had the capacity to pay or did not complete a workout alternative in good faith will be ineligible for a new Fannie Mae-backed mortgage loan for a period of seven years from the date of foreclosure”.  We had previously reported that both FHA and FNMA were talking 5 years for this practice so we are not surprised at this announcement.

More worrisome is the FHA Reform Act (HR 5072) which was passed by the House of Representatives with nearly unanimous consent and is now being debated in the Senate. The proposed Act contains a provision that would bar strategic defaulters from getting an FHA loan any time in the future!  This Bill was supported of course by the lending lobby, but also by the National Association of Realtors and even by that  champion of the common man, Barney Frank.  Will it pass through the Senate? Almost certainly although it’s final form remains to be seen. While the overall objective of the Act is to save the financially-damaged FHA through raising the costs of mortgage insurance, this provision is obviously targeted at stopping the practice of strategic default. 

What remains unclear despite all the hype is how to define who exactly is a Strategic Defaulter.  While obviously a person with plenty of assets and financial capacity who defaults as a business decision would seem to fit the description, that may be more the exception than the norm. More common is the person, as reported in the Washington Independent http://washingtonindependent.com/88445/strategic-default-penalties-threaten-struggling-homeowners, that suddenly realizes that they have been sinking steadily and if they don’t stop now they’ll lose everything.  Should that person be barred forever?  Of course not. What will most likely come out of this is a recommended process that upside down owners should always follow: First seek modification; then seek short sale; and only last let it go to foreclosure. For the borrower with financial capacity, the outcome may be the same but the process may infuence future borrowing ability.  Of course, if there is actual deficiency liability on the loan, the financially solvent borrower may not want to disclose their assets to the lender through a modification or short sale since this would certainly invite a demand for contribution or even for a judicial foreclosure (in California).

Lastly, there is the very real question of whether targeting strategic defaulters is fair and equitable. The loan being defaulted is a contract between the borrower and the lender that already provides remedies that the lender can take if a borrower defaults.  Both borrower and lender take on the known risks of what will happen on default. Why should government intervene in this contract to give the lenders even more remedies by effectively increasing the borrower’s risks?  Certainly the government has refused to effectively intervene to protect borrowers from the extraordinary risks in the sub-prime loans promoted by the lenders through 2007.  Meanwhile, the HAMP modification program hyped to help homeowners limps along with only 4.5% getting permanent modifications and virtually no-one getting principal reductions. 

Millions have lost their homes with no realistic assistance from the government and now this Act will not only further hurt future borrowers but will once again send a very clear message that as far as Congress is concerned, what’s good for the lenders is good for the country.  If you believe that this provision of the proposed Act should be dropped or changed, be sure to write your State Senator and make your concerns known.

The information presented in this Article is not to be taken as legal advice. Every person’s situation is different. If you are considering default on your loans, get competent legal advise in your State immediately so that you can determine your best options. 

If you have specific questions about your liability in California or about short sales, foreclosure, or any legal issues, feel free to contact us at sjbeede@bpelaw.com.  We offer a $200 flat fee consultation to evaluate your liabilities and strategize a resolution. This can be done in person or by phone. If interested, please call us at 916-966-2260.

The feared tidal wave of post-foreclosure lawsuits has begun across the United States as lenders or their collection agencies try to collect unpaid loan balances. This Article will help you understand how to respond if you become subject to such a lawsuit.

1.  What to Expect - a lawsuit is simply a claim by one party (the Plaintiff) against another (the Defendant), which is filed in a court, asking a Judge to Order the Defendant to do something. For example, the lender sues the debtor seeking a Judgment ordering the debtor to pay the remaining debt. In many cases, the Plaintiff will not be the actual lender who made the loan. Collection companies are buying loans from lenders for pennies on the dollar then suing the borrowers for the full amount.  One company, Cohen & Slamowitz in New York, has actually automated the process and is filing 80,000 lawsuits a year!  The lawsuit has two parts: the Summons and the Complaint.  The Complaint states the facts as to why the Plaintiff claims they are entitled to a Judgment against the Defendant. The Summons is the Order for the Defendant to respond to the Complaint within a certain amount of time which varies from State to State. In California it is 30 days.

2.  How to Respond - Plaintiffs hope that Defendants will ignore the Summons and fail to file a response, usually an Answer, within the allowed time. If so, the Plaintiff will quickly get a Default Judgment and can start pursuing the collection by attaching the Defendant’s property and garnishing their wages. This is the worst possible result for a Defendant because it is giving up without a fight.  Instead, upon being served with a Summons and Complaint, the debtor should get together with an Attorney and determine how best to respond.  Often, the first response is attacking the Complaint through a legal process called a Demurrer. There are many grounds for this such as:  (a)  the Plaintiff doesn’t own the loan and therefore has no right to file the lawsuit;  (b) the lawsuit is barred by various laws of the State (in California we have several related “anti-deficiency” laws);  and (c) the Complaint is defective.  At the same time, the attorney will start the Discovery process of compelling the Plaintiff to produce copies of every document they are relying on in filing the lawsuit. While the Demurrer could actually make the lawsuit go away, it generally won’t. What it will do is force the Plaintiff to spend time and money responding which is the last thing they really want to do. So it starts the negotiation for Settlement.  

3.  Settlement Negotiations - At the start of a lawsuit, the Plaintiff wants to collect everything and the Defendant wants to pay nothing. While both sides want to win at trial, only one side will. Settlement eliminates that risk and avoids the heavy financial and emotional costs of lengthy litigation, usually well over a year.  In Sacramento, CA where we are based, 98% of lawsuits will settle before trial. The hard part is reaching an agreement. Inevitably the Plaintiff will feel they got too little and the Defendant will feel they paid too much, but both will agree that the settlement is better than the alternative of continuing in litigation. There is no standard percentage that determines settlement. Rather, it is a complex evaluation of the Plaintiff’s evidence, the Defendant’s defenses and financial capacity, and the likely outcomes. For example, earlier this year a lender sued our client for $280,000 owed on an equity loan after a foreclosure. The Lender settled for $16,000. In several others, Plaintiffs have dismissed the lawsuits when faced with our defenses. And still others go forward.

4.  Going to Trial - If Settlement fails, then at some point the Complaint will go to trial at which time the Judge and/or jury will hear all the testimony and see all the evidence and then determine who wins and who loses. The winner gets a Judgment and can try to collect from the loser.  In lawsuits relating to loans, the biggest risk is the award of attorney fees. Most loan documents allow the winner to be awarded what they spent on attorney fees and legal costs. This can be bigger than the loan amount and it generally is far more than an upside-down debtor could ever afford to pay.

5.  The Role of Bankruptcy - The Bankruptcy laws of the United States are designed to give an insolvent debtor a “fresh start” if there is no way they can pay their debts. While some attorneys would recommend filing Bankruptcy if faced with a lender lawsuit, this is not necessarily the best solution for everyone. For example: First, other than this bad debt, the defendant may have other assets they want to keep; Second, by responding to the lawsuit, the defendant may be able to settle the debt  or avoid it entirely; Third, Bankruptcy will stay on the debtor’s credit for 7-10 years; and Fourth, the defendant may not even qualify for Bankruptcy. So, while it is one solution, Bankruptcy is not always the best solution.

The information presented in this Article is not to be taken as legal advice. Every person’s situation is different.  If you are facing a lender lawsuit, do not ignore it. Get competent legal advise in your State immediately so that you can determine your best options. 

If you have specific questions about your liability in California or about short sales, foreclosure, or any legal issues, feel free to contact us at sjbeede@bpelaw.com.  We offer a $200 flat fee consultation to evaluate your liabilities and strategize a resolution. This can be done in person or by phone. If interested, please call us at 916-966-2260.