You may have heard that some lenders are actually paying borrowers to short sale their homes.  Today, we’ll look at what that is all about and, as is expected, it’s all about the money.

As reported in DSNews.com, a Massachusetts real estate company, McGeough LaMachia Realtors, conducted a nationwide study  which indicated that short sales bring a 24% greater return to lenders than foreclosures. This study by compared sale prices of short sales vs REOs in multiple states including California.?The average difference was $43,000!  And that likely did not take into consideration the cost of foreclosure including many months more of non-payment plus carrying costs as an REO.  It therefore is no surprise that some lenders have actively sought to promote short sales by offering incentives to upside down owners to not just walk away.  Chase has been offering incentives of up to $35,000; BofA: up to $25,000; and Wells Fargo: up to $20,000; and Citibank: up to $12,000.  With many more foreclosures likely coming in 2012, these programs may very well expand especially in states like Florida where foreclosures require a legal action in the courts.  According to a Chase spokesman: “When a modification is not possible, a short sale produces a better and faster result for the homeowner, the investor and the community than a foreclosure.”

According to market analyst Realty Trac, a mountain of pending repossessions is holding back a recovery in the housing market, where prices have fallen for six straight years, and damping economic growth. Owners of more than 14 million homes are in foreclosure, behind on their mortgages or owe more than their properties are worth. Short sales represented only 9% of all residential transactions last year with many owners holding out for a Loan Modification or otherwise staying in their property payment free for over a year while their home moves to foreclosure. Lenders are realizing that they can dramatically cut their losses by paying owners to sell the property now. 

Unfortunately, the government agencies which hold at least 60% of the delinquent loans have not gotten the message. FHA offers only $1,500 in incentives. Fannie Mae and Freddie Mac offer incentives up to $3,000 but only through the HAFA program.  Perhaps this government resistance to economic logic explains why lenders are returning to profitability while the government languishes in a Budget mess. 

For some commentators however, any such payment is viewed as a reward for defaulting on obligations and sets a precident which might encourage others to also default. While indeed there is a “moral hazard” involved in any perceived bailout – whether it be government helping the banks or anyone helping the homeowners – the reality is that our economic recovery requires that we resolve the housing crisis as soon as possible regardless of whom is to blame. 

From my vantage point, having now advised over 4,000 upside down property owners over the past 3 years, this is not about deadbeat borrowers trying to avoid their debts. Many people still fail to appreciate the impact that this housing crisis has had on upside-down owners. For most, it is not a choice whether to pay or lose their home. Job losses and escalating loan costs have made many loans unaffordable for the average person. Almost all Loan Modification programs including the government’s HAMP program start with a threshhold that people should not be paying more than 31% of their income on their loan. However, a recent study by the Center for Housing Policy  indicates that nearly 1/4 of all homeowners are paying over 50% of their income for housing costs. The Report indicates a similar payment ratio for renters.

With high unemployment and increasing costs for everything from gas to groceries, it is likely that more and more struggling homeowners will lose the battle to keep their homes leaving short sale or foreclosure as their only alternatives.  Look for even more Lenders to offer incentives to move these properties faster and reduce their losses.  Whether the government agencies will get on board will remain questionable especially in an election year when the granting of any payment to a defaulted borrower will be considered by some to be a waste of taxpayer dollars.

Meanwhile, if you or someone you know is struggling with an upside-down property in California and don’t know what to do, our $200 flat fee Consultation Program can offer knowledge of what to expect and form strategies to either keep the property or move on with as little financial risk as possible. To schedule a Consultation, please contact our office at 916 966-2260.

The information presented in this Article is not to be taken as legal advice. Every person’s situation is different. If you are upside-down on your loan, especially if youre facing a lender lawsuit, get competent legal advice in your State immediately so that you can determine your best options.

By BPE Attorneys with special thanks to Keith Dunnagan

Lenders Settle with Government in Foreclosure Abuse Investigation

Nearly two years ago the State’s Attorneys General across the country along with Federal Officials collectively began to investigate the largest lenders regarding the foreclosure practices of the banks. As you may recall, this investigation got a huge boost in late 2010 when it was discovered that many lenders were just ramming foreclosures through process with no oversight to insure that the process was being carried out in conformance with the law. This led to among other things – the robo-signing scandal – where lenders had processors continually signing various foreclosure documents with falsified and fraudulent verifications that was being attested to was indeed correct. This scandal led to short suspension of foreclosures in late 2010 but by early 2011 the lenders foreclosure mills were up and running again at full speed with not much change in the process or oversight.

In response, the Attorneys General of many States filed lawsuits against the largest banks and, since then, have been negotiating a Settlement.  Many of these abuses continue today with no real help coming from the lenders. Yet this potential settlement between the Government and the largest lenders is billed as a watershed moment for homeowners. The details of the agreement are still coming out but here is what we know so far.

It appears based on the information that has been released to the public that the total settlement package is valued at about $25 billion. Based on the information the plan appears to earmark at least $10 billion dollars for modifications and principal reductions for about 1 million homeowners.  $450 million of this is being given to California.  With 2 million upside down owners, that equals about $213 per homeowner. Others estimate the potential savings per homeowner at $20,000, but with the average being $50,000 upside-down, this won’t make a huge dent.  Another, $3 billion is earmarked for refinancing of mortgages, some which may be underwater mortgages. And another $1.5 billion will pay up to $2,000 to about 750,000 homeowners that were improperly foreclosed upon. The remaining money – $10.5 billion – will be distributed to the States and Federal Governments to compensate the participating governmental entities for loss of public funds as it relates to the servicer misconduct. At this point, only Oklahoma has opted out.

While this has initially been heralded as a good deal for the homeowner, the reality is that it is not at all likely to make any signficant difference. $2,000 will not reasonably compensate the people who have wrongfully lost their homes; a $20,000 principal reduction will not enable most upside-down owners to afford their loans.  Nearly 50% of the settlement monies are headed directly to the government coffers bot to affected homeowners.  We have seen this happen before. In December of 2008, after 11 states filed a class action against Countrywide for violations of lending practices, the government settled the matter, directed Countrywide to modify the subprime loans that they had sold during the bubble, but built an escape clause based on the net present value (NPV) of the loan.  By including such a component, the programs were essentially designed to fail… and there was no enforcement ability when they did fail.

This settlement may be much more of a gift to lenders.  Five banks will share liability for $25 billion.  Yet the banks had income of $317 billion last year alone.  The banks have 3 years to perform, and notification of the Program to affected homeowners may not occur for up to 9 months.  Worst of all, this Settlement will have no affect on FNMA and Freddie Mac loans which account for 80% of the subprime loans out there.  Finally, by the Settlement, lenders will gain immunity from any further Attorney General suits concerning the robo-signer scam.  This sounds very much more like a lender win than any real hope for homeowners.

Questions remain as to what the specifics of the settlement are and what will actually be required by the lender and how effective are the penalties to deter the banks future intransigence in processing and working with borrowers on loan modifications and principal reductions.  The reality is homeowners do not need assistance in 3 years, they need it now.

While it remains to be seen as to what the actual settlement will say and what it will require – one thing is for sure, if the settlement agreement limits enforcement rights to only the participating governmental entities and does not contain a right of private enforcement, ie. if the homeowners are not allowed to use the settlement as a basis for litigating and protecting their rights in a Court of Law, the settlement will more than likely be as impotent and ineffective as the Countrywide settlement, HAMP, HAFA, TARP, Hope for Homeowners and every other mortgage relief program that has been put in place in the last four years to help.

We are often asked the question: can a loan be modified after a Chapter 7 Bankruptcy Discharge?  While we are not Bankruptcy attorneys, after much research and inquiry wih BK attorneys, the simple answer appears to be “Yes” … if both the lender and borrower agree to do so. However, the more important questions that need to be answered are: 1) whether modifying an otherwise discharged loan would make you liable again for the debt; and 2) whether any such modification would be legally enforceable. In this Article, we’ll address those questions.

Nature of Real Estate Secured Debt

A real property loan has two parts: 1) The Promissory Note which establishes your personal liability to repay the debt; and 2) the Security Instrument (Deed of Trust or Mortgage) which gives the lender a security interest in the real property. If the borrower defaults in payment under the Note, the Security agreement gives the lender a power to foreclose and sell the property. In most States, including California, this foreclosure action must be taken before a lender could seek to get a money judgment against the borrower.

The Role of Bankruptcy

Sometimes a person may be so in debt that they cannot pay everything. A Bankruptcy is a legal proceeding designed to give the debtor a “fresh start” either by extinguishing personal liability for their debts (Chapter 7) or creating a reorganization plan to pay some and extinguish the rest (Chapter 13). While Bankruptcy can eliminate liability, it does not transfer real estate that may be securing those debts. In a Chapter 7 Bankruptcy Petition, Exhibit B-8 is the Debtor’s Statement of Intention wherein they state what they intend to do with the property. One of those choices is to Reaffirm the Debt. If the borrower elects “Reaffirm”, the debt is not discharged in the Bankruptcy and the personal liability remains. However, concerning real estate secured debt, this usually is not advised.

When the loan is not reaffirmed, the Bankruptcy discharge extinguishes the personal liability under the Note. However, the Bankruptcy does not extinguish the lender’s Security against the property. Thus, after discharge the borrower could keep on paying the loan and keep the property even though they have no personal liability. If they later default in payment, the only thing the lender could do is foreclose on the Security but they cannot get a deficiency judgment against the borrower. …. unless the borrower has somehow later “reaffirmed” the debt. And that is the worry about post-Bankruptcy loan modification.

Impact of Post-Bankruptcy Loan Modification

Since the Bankruptcy discharge eliminated the borrowers “obligations” under the Note, there is no obligation left to modify. If, however, the borrower and lender enter a Modification Agreement, the terms would likely express either a reaffirmation of the debt or, alternatively, a new promise to pay. On paper at least, this post-Bankruptcy agreement would create a new enforceable “obligation” and thus impose personal liability against the borrower for the modified debt. In short, the Modification could arguably reaffirm the previously discharged debt. Whether this would be actually enforceable is another issue.

Post-Bankruptcy Loan Modification Might Not Be Enforceable

Bankruptcy Courts are very reluctant to allow Reaffirmation Agreements within a Bankruptcy since that eliminates the “fresh start” that the Bankruptcy was intended to provide. In essence, such agreements are the antithesis of the purpose of bankruptcy; a reaffirmation gives up the very thing the debtor sought by the filing. Accordingly, judges go out of their way to find reaffirmation agreements improper. Unless reaffirmed, not only is the loan liability extinguished, but any further action to collect upon the discharged debt is prohibited. So, after the Chapter 7 discharge, the focus changes from entering into improper reaffirmation agreements to acts in violation of this discharge injunction. The discharge order makes clear that lenders cannot take any action to collect a debt as a personal obligation of the borrower. However, they can run afoul of this prohibition in a variety of ways.

All loss mitigation efforts (e.g., loan modifications, forbearance and repayment plans, short sales, etc) involve communications with the debtor which could reasonably be construed as debt collection actions even if the lenders include language that states that they are only acting against the property. That may not be enough. If the loan is secured by real property where the value of the property is less than the amount owed on the loan, any requirement that payments be made essentially could be construed as a requirement that the borrower remain personally liable.  Accordingly, a payment plan, loan modification or short sale where there is no equity in the property could be found to be a violation of the discharge injunction.

Courts are concerned about the attempt of creditors to avoid the Chapter 7 discharge and are increasingly likely to find that attempted reaffirmations are invalid. In addition, courts are increasingly likely to find that any action that might be construed as a threat of personal liability against the debtor is violative of the discharge injunction. Finally, courts are very willing to assess significant damages against lenders who violate the discharge injunction including allowing recoveries in class action law suits.  Section 524 of the Bankruptcy Code provides that an order discharging a debt in a bankruptcy case “operates as an injunction against the commencement or continuation of an action, the employment of process, or an act, to collect, recover or offset any such debt as a personal liability of the debtor . . . .” 11 U.S.C. § 524(a)(2). The discharge injunction is broad and prohibits any act taken to collect a discharged debt as a personal liability of the debtor.

If any party knowingly violates the discharge injunction, the court may properly hold that party in civil contempt. For example, in a recent case out of Texas, Bank of America had hired collection agencies to pursue debtors even though they knew that the debt had been fully discharged in Bankruptcy. In that case, the Court awarded the debtors: 1) $2,500 in actual damages; 2) $79,839 in attorneys fees; and 3) imposed sanctions against BofA and its collection agency totaling $150,000. (McClure v. Bank of America, Adv. No. 08-4000 (Bankr. N.D. Tex. 11/23/09).

Summary

Based upon the foregoing, these conclusions appear accurate:

1. A borrower and a lender can enter into a post-Bankruptcy Loan Modification Agreement. This may be desirable if the borrower is trying to keep the property;

2. The Loan Modification Agreement may create a reaffirmation of the debt that had been extinguished by the Bankruptcy making the borrower once again personally liable for the debt; and,

3. Any such Loan Modification Agreement may be deemed by the Bankruptcy Court as an illegal violation of the Bankruptcy discharge which could result in voiding the Modification and raising damage claims against the lenders.?

The information presented in this Article is not to be taken as legal advice. Every person’s situation is different. If your real estate is upside-down and if you are negotiating a Loan Modification – especially if you have filed and been discharged in Bankruptcy – get competent legal advice in your State immediately so that you can determine your best options.