The Dangers of Walking Away From Your Underwater Home
NEW YORK (MainStreet) -- Sending the keys to the lender and walking away from a mortgage may look like the way to get your troubles behind you, especially today when it seems unlikely home prices will recover anytime soon. But it’s a little more complicated than that.
A walkaway may seem to make sense, despite the credit damage. Though the resulting foreclosure will hurt your credit for years, if you’re saddled with a home you cannot sell, you won’t be borrowing to buy a new one, anyway. If you can’t borrow for a car, you can keep the old one going or pay cash for a used one. Life without credit cards is inconvenient, but a debit card would serve just as well.
If financial troubles are inescapable, why not get them behind you as quickly as possible? Pay your bills on time afterward and in a few years your credit will be good again.
But before you accept this reasoning, be sure to assess other risks. A low credit rating can hurt your job prospects, and even make it hard to rent a home.
Also, depending on where you live you could face a “deficiency judgment,” where the lender goes after your other assets like cars, investments and bank accounts.
In some cases, lenders have lain in wait for years, watching credit reports and pouncing when it appears the borrower has regained a sound financial footing. Borrowers who thought the foreclosure ended their troubles are suddenly saddled with a new debt.
A deficiency judgment can cover the difference between what you owe and what your foreclosed home fetched on resale.
Experts say deficiency judgments have been rare in the past, mainly because they weren’t worth the trouble, since people who lost their homes had usually depleted their other assets. But that’s changing with the rise in strategic defaults, where financially healthy borrowers walk away from mortgages simply because they owe more than their homes are worth.
The laws are maddeningly complex. “Non-recourse” states forbid deficiency judgments, holding that the foreclosure satisfies the debt, regardless of what the property is worth. “Recourse” states allow deficiency judgments, though rules vary and some states allow deficiency judgments in some cases but not others.
So the first step for anyone facing foreclosure, thinking of walking away or negotiating a short sale or deed in lieu of foreclosure, is to learn the state’s rules. Though money is usually tight in these situations, it could pay to consult a real estate lawyer, who may also know whether lenders are actually exercising any rights to deficiency judgments.
Paperwork for a foreclosure, short sale or other settlement with the lender should specifically state that the lender is not allowed to pursue other assets.
The bottom line is that defaulting on debt is never painless. For some borrowers, it may not be the worst option but it’s rarely a good one.
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