The Growing Phenomenon of The Strategic Default
May 10, 2010 by admin · Leave a Comment
60 minutes ran a story tonight about the growing phenomenon of “strategic defaults” – people who are walking away from their homes and letting them go to foreclosure, not because they cannot afford them, but because it makes the most business sense in light of how upside down they are on their homes.
The story was based in Arizona, where state law prohibits banks from pursuing a deficiency against a seller after a foreclosure.
In California however, state law does not prohibit banks from pursuing deficiencies against sellers, unless the loans are original purchase money loans. If a seller has refinanced their loans at any point, regardless of whether they have pulled out cash or not, their loans are considered “recourse” loans in California, which means their lender can pursue the seller for the deficiency after a foreclosure.
California is also a “one action state”, which means the lender can only pursue one action to recoup their losses. If the first lien holder forecloses in the typical way it is done in California (a Trustee Sale Auction), that counts as their one action, and they cannot pursue the seller for any losses. The second lien however, which gets nothing in a foreclosure, can and will pursue the seller for 100% of the balance owed on the second loan.
It is for this reason that a short sale represents a much better business decision than a “strategic default” or foreclosure. I have written several blog posts about the fact that, in my opinion, a “strategic default” is a business decision, plain and simple, not a moral or ethical one. Yes, you signed on the dotted line, but the contract on which that dotted line was printed stated that the home was the collateral for the loan and that if the seller defaulted on their payments, the bank could foreclose.
The point is that a short sale makes infinitely more sense than a “strategic” foreclosure primarily because it settles the debt on the first and second liens so the seller walks away without any debt. It also dramatically lessens the impact on the seller’s credit.
For more information on this topic, see my related posts on this blog or visit the short sale page of www.Battiata.com.
