Looking for a Lifeboat When Your House is Underwater

An Article by David Cox Featured in the Lynchburg Business Magazine: “Looking for a Lifeboat When Your House is Underwater”

As homeowners across the country are painfully aware, the U.S. housing bubble burst beginning in 2006 as home prices plummeted for several years thereafter and even into 2013. Homeowners have watched helplessly as any equity they had built in their homes quickly diminished to the point that many homeowners now find their homes “underwater.” When a property is underwater, the debt or mortgage owed against the property exceeds the current market value of the property, leaving the homeowner feeling like more of a renter than owner.

Some homeowners become effectively trapped in the property, unable to sell their home in a traditional fashion without bringing significant cash to the closing simply to pass a clear title to the buyer.

Some options exist, though, for homeowners in this situation. Understanding the choices they have is the first step a homeowner should take before determining how to best solve the problem.

Abandon Ship and Walk Away

Although tempting, simply ceasing payments on a home mortgage in Virginia and walking away from the property is not typically a good idea. Under such a scenario, the home would ultimately be sold by the lender at foreclosure, and the mortgage borrower would be left owing whatever deficiency remained on the mortgage loan after the proceeds from the sale were applied to the outstanding debt. While in some states such deficiency claims may not be asserted against and collected from the homeowner and borrower, Virginians are not so lucky. If you walk away from your home and mortgage, expect to be sued for the deficiency after foreclosure.

Weather the Storm and Stick it Out

Although this choice provides the least immediate relief to the homeowner, staying in the property and remaining current on the mortgage loans will minimize the negative impact on your credit. If the property suits a homeowner and his or her family’s needs, it is often best to stick it out and wait for property values to eventually recover, if such an option is financially feasible.

Chart a New Course with a Loan Modification

The buzz words in home lending and mortgage servicing for the last several years have been “loan modifications.” A loan modification is simply an agreement whereby the mortgage lender changes the terms of the loan typically to reduce the monthly payment amount, interest rate, principal balance or any combination of the above. Unfortunately, the reality is that few homeowners successfully negotiate and finalize loan modifications with their mortgage lenders. The promise of generous and widespread loan modifications simply has not become a reality. With that said, interested homeowners should certainly consider the option.

The process is started by contacting the mortgage lender and requesting a loan modification application. Be prepared to spend a great deal of time preparing and submitting such an application as careful documentation of every aspect of the transaction is key. Also be prepared to deal with the frustrations of the loan modification review process. No doubt, you will have to submit and resubmit your application and supporting documents several times as the mortgage companies have become notorious for losing entire client files during the process. Nonetheless, homeowners should treat the process like a full-time job, stay organized and patient, and they will have the best chance at successfully negotiating a loan modification.

Navigate to Safe Harbors with Short Sales and Deeds in Lieu of Foreclosure

Two other popular options are a short sale or a deed in lieu of foreclosure. From the homeowner’s perspective, these are similar options in that the end result of each is the loss of the home. In a short sale, the home is sold to a third party for less than the balance due under the mortgage loans. In order to pass a clear title to the new buyer, though, the mortgage lender must agree to release its lien for less than the full payoff of the loan. Therefore, the mortgage lender is an important party to the transaction. A deed in lieu is the transfer of the home directly to the mortgage lender who will thereafter resell the property to a third party without ever completing the foreclosure process. In both of these transactions, the key for the homeowner is to negotiate with the lender as to whether the remaining balance of the mortgage loan will be forgiven and to document the same by some written agreement.

Decommission the Ship with the Planned Surrender of the Home in a Bankruptcy

Surrendering a home through a bankruptcy provides protection to the homeowner from the potential deficiency claim that might otherwise be collected from him or her after the foreclosure of the property is completed. Depending on the homeowner’s income and assets, such a bankruptcy might take the form of either a Chapter 7 liquidation or Chapter 13 reorganization, but either form of bankruptcy will provide the ultimate relief for the client. Another benefit of surrendering a home in a bankruptcy is that the homeowner may continue to reside in the property without making any mortgage payments until the ultimate foreclosure sale, often months or even years before the final sale is completed.

Lighten the Load and Eliminate Second Mortgages and Equity Lines

For those homeowners with multiple mortgages who want to remain in their homes but cannot afford their mortgage payments, a Chapter 13 bankruptcy permits a homeowner to void and remove second mortgages and equity lines to the extent that they are completely unsecured. In other words, if the balance of the first mortgage exceeds the value of the home, then the homeowner may use the Chapter 13 process to strip off and void the remaining inferior mortgage liens against the property.

Second mortgages and equity lines were heavily marketed by some lenders in the early 2000′s as property values soared but these loans have choked the finances of many homeowners during the recession of the last several years. The ability to completely eliminate such a mortgage payment from a homeowner’s budget is a unique and powerful tool in bankruptcy that will often make the difference in whether the home may be saved.

Right the Ship and Get Back on Course through a Chapter 13 Bankruptcy

Another important use of a Chapter 13 bankruptcy is to help a homeowner stop the foreclosure process and catch up any missed mortgage payments through a court approved repayment plan. Although such a scenario would not permit the homeowner to reduce his or her mortgage payment or otherwise modify its terms, a Chapter 13 bankruptcy may offer the struggling borrower the second chance necessary to save the home and recover from some temporary personal financial setback, like a job loss, demotion or unforeseen medical complication.

A family’s largest single investment is typically their home. Trying to keep a home that is significantly underwater can, in some cases, prolong a bad investment and lead to financial pressures in the family. Options are available to such homeowners but they should always seek out professional legal advice to guide them through the process in order to navigate the smoothest course out of the financial storm.