"Strategic Defaults," A Growing Scourge

Provided By North American Title Company
Source Economic Focus

There are many circumstances that could lead to an unavoidable default, job loss and illness head the list. One might categorize these as involuntary defaults. In years past these defaults were infrequent and lenders were prepared to absorb the losses.

Today, lenders are having to grappling with an on slot of "strategic defaults" in addition to involuntary foreclosures and REO inventory

The "strategic default" is a voluntary action taken by borrowers who do not wish to continue paying their mortgages and the lender will not take a "deed-in-lieu of foreclosure."*

Scenario 1

Wing it and hope the lender lets property go through foreclosure without repercussions, except for the credit dings.

Scenario 2

Borrowers who have placed seconds on their properties may find themselves in a real fix. Many, seconds contain options for deficiencies judgments should the borrowers elect to default on their first and second. The borrower may be liable for the shortfall between the amount of the original loan(s) plus cost and the proceeds from the foreclosure or REO sale, likely sold at a fire sale price. In some jurisdiction this is perfected by the lender through a "deficiency judgment."

Scenario 3

In recent years many well intended borrowers obtained financing with a "stated income" loan application. This type of loan did not require verification of income or assets. The borrower's representation was taken at face value. If one needed a little more income to qualify the temptation was great to fudge the figures.

The catch is, if a borrower fudged on the facts the lender may have the option to claim misrepresentation of material facts (fraud) and take the borrower to court. While this is time protracted and expensive, lenders have been known to take this course if the borrower has sufficient assets available.

A Word of Caution

Scenario 1 is going to take some skin off one�s credit worthiness, scenarios 2 & 3 spell trouble. Measure the consequences carefully before electing the �Strategic Default� course, the waters are getting rough.

*Deed-in-lieu is a deed given by a mortgagor (borrower) to the mortgagee (lender) to satisfy a debt and avoid a foreclosure. It is also called a voluntary conveyance.