Moral Failure or Strategic Decision

According to the Mortgage Bankers Association More than 40% of borrowers are 60 or more days past due on payments. So many homes have lost value and never recover. About one in four homeowners, or 10.7 million Americans, are considered underwater.

This is far from over. The sub prime mess may be behind us, but the Alt A implosion is now. More and more home owners will find themselves paying off homes that will never recover.

A moral dilemma for many home owners is what to do when you believe that you will never see your money back. If you owe more than your home is worth, you have to struggle with some uncomfortable options.

We have been raised to pay our debts and never be a deadbeat. But what do you do when its clear that the best financial decision may be to walk away from an investment that will never recoup.

What Happens If You Take a Walk

Your ability to borrow becomes severly constrained. You are a bad risk, but not forever. Fannie Mae won’t back another loan for five years for a borrower involved in a foreclosure, except because of an extreme circumstance like a medical event or unemployment. Missed mortgage payments and defaults show up on your credit report and remain for seven years

White, a University of Arizona law school professor, said to the Washington Post, that in anti-deficiency states such as Arizona and California, mortgage lenders have limited or no legal rights to pursue defaulting homeowners assets beyond the house itself. In fact its not that simple. Some mortgages that have been refinanced may no longer be non recourse loans. Its a very complicated and should not be taken lightly.

Homeowners who decide that having a foreclosure on their credit report rather than continue to throw good money after bad is not necessarily immoral. It may just be realistic. In fact, a good business decision.

The lenders are also responsible. Im not absolving bad decisions made by borrowers to take on more excessive debt, but the poor decisions to lend as if real estate could only go up is the other half of the equation. They also made irresponsible business decisions and should play a bigger part in the cost of the bust.

Its imperative that the Banks Step Up

The FDIC acquires failed banks, some 124 just this year and may soon be require failed banks to cut principal mortgage debt rather than forbearing a portion until a later day or lowering interest rates.

FDIC Chair Sheila Blair told Bloomberg news that the FDIC is considering a loss-sharing for failed banks, requiring the banks to write down mortgage principals because job loss is driving mortgage distress.

For lenders, watching debtors walk away from their mortgages is harsh lesson, but bankers partnered with the homeowner in the deal. If they dont begin to take responsiblity along with the borrower for bad business decisions, they will simply be laying the groundwork for the next bubble.

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