Foreclosure; Losing the American dream

This is Part One of a series of articles on the foreclosure process.
This article does not constitute legal advice.
Foreclosure laws vary from state to state.

Homeowners in financial distress should always hire legal counsel. Call your local state bar association for a referral.  Reduced or free legal aid may be available in some states. Ask for a referral from the state bar association or through a LOCAL HUD-Approved Housing Counseling Agency.

Most mortgage loans are not mortgages. Instead, lenders shifted to using a deed of trust type of document in many states. With a mortgage document, a lender would have to use the judicial system for foreclosure which was time consuming and expensive.  With a deed of trust, the lender can take back the asset in a much shorter period of time although that’s arguable in today’s rising foreclosure climate.  Each state will have their own Deed of Trust Act.  Within each state’s Act, there will be a specific timeline that must be followed by the lender.  Moe at LoanSafe provides a basic timeline here.  First the homeowner misses a payment. Late charges are assessed and the lender may begin an effort to contact the homeowner to determine what’s going on. A “notice of default” letter is mailed informing the homeowners that if they do not catch up, the trustee sale will be scheduled.  At this point, the lender hires an attorney to file the public records documents, publish the required notices in local newspapers, and prepares for the auction.  Depending on state law, the homeowner will have a specific number of days before the sale date to bring the loan current and pay all late payments, including interest and penalties, attorneys fees, and trustee fees. After the date of the trustee sale, the homeowner will have a state-specified number of days to vacate the property. A sheriff is usually asked to help with eviction, if needed.

Washington State enacted the Distressed Property Law in June of 2008 which means, among other things, that the homebuyer of a home in foreclosure as well as the Realtors owe the the homeowner the highest duty of good faith and loyalty; fiduciary duties to the homeowner (one-to-four family residence, owner occupied.) Read more about the DPL here.

Securitized lending helped fuel the real estate and mortgage bubble because banks and lenders could package up loans and sell them as pools of Residential Mortgage Backed Securities (RMBS) thereby freeing up more mortgage money to loan.  Before securitized lending, banks would hold the mortgage loans on their books as part of their assets.  A mortgage payment arriving in the mail each month at a bank is considered an asset.  A delinquent loan is considered a non-performing asset. A foreclosed home is considered owned-real estate or Real Estate Owned (REO.) 

At trustee sales during the bubble run-up, there were many get-rich-quick believers with notebooks and cashiers checks bidding on homes that looked like a possible quick flip-for-profit on paper.  The lender was able to score the principal amount of the remaining loan balance plus all the other expenses, the high bidder went away happy, and the homeowner re-entered the housing market as a renter.  Today’s trustee sales are remarkably different.  In most cases, there are no bidders and the home is deeded back to the bank.  REO portfolios at banks are starting to hit the market. An institutional owner is far less emotional about the sales price and far more goal oriented about reducing the price in order to dispose of the asset.  BEFORE the trustee sale, there are options that homeowners weigh.  Repayment plans, forebearance, loan modifications, and short sales are some of the options we’ll discuss in part two.

Many homeowners have reported frustration in working with their loan servicing department towards a workable solution that will allow them to stay in their home.  We will discuss options to avoid foreclosure in part two.  Before we do that, we must first revisit Federal Accounting Standards Board Rule 140 from this article called “Predators are Still Safe”:

many loan servicing agreements prohibit the Servicer from modifying loan agreements entirely, or limit such modifications to no more than 5-10% of a total pool. Further, loan modification may run afoul of FASB rule #140, (2), which says that if a bank alters the terms of a loan it has pooled, it cannot keep the loan off its books. It must repurchase the loan, return it to the books, set aside a reserve for losses, and actively manage it.

The industry asked for and got it.  FASB Rule 140 will be delayed until after Nov 15, 2009, and the murky, opaque waters that make up credit crisis continue to pool around the banks that don’t want to tell us just how many bad loans they’re holding.  Will the TARP plan help banks? Will the involuntary capital injections help banks and anyone seeking credit? Will homeowners get help? It’s hard to say because the only way we can see what banks are holding is when the regulators take over.   What we do know is that homeowners are reporting that it’s becoming excruciatingly difficult to work with their loan servicing department. 

When the industry jumped into subprime lending, we underpriced risk.  We also underpriced the true cost of “servicing” a loan. I’m surprised we’re not reading about meltdowns in the servicing sector. I’m sure those folks are working 80-hour weeks and get yelled at all day long by Realtors.  In the future, we should expect tougher state or federal laws governing mortgage loan servicing (Kary Krismer’s short sale requests must be responded to within 24 hours, phone messages must be returned, and so forth) which will translate into higher bank fees and higher interest rates in the future. Or perhaps now.

Author’s note: Part one of this series was designed to be incredibly basic. So basic as to prompt a reader looking for more detailed help to seek legal counsel.  An attorney licensed in your state is the best person to help you understand the deed of trust act in your state, and all your possible options.

Part one: Foreclosure; Losing the American Dream
Part two: Options for Homeowners Facing Foreclosure
Part three: Loan Modifications
Part four: Government Intervention in Foreclosure
Part five: Foreclosure; Letting Go and Rebuilding

66 thoughts on “Foreclosure; Losing the American dream

  1. Some things specific to Washington, but first note: (1) I’m too lazy to look up the exact numbers, so where I’m not certain of the number I’ll say “about” so much time; and (2) If you’re in this situation you should get your own counsel that can advise you of the time periods and your various rights and review any notices sent to you carefully.

    The deed of trust foreclosure process takes about 4 months, but the sale cannot be held before the debtor has been in default of about six months. Thus you will not typically see a formal “Notice of Default” until there’s been a default for 2 months or more. Typically you’ll see a “Substitution of Trustee” filed of record, because the regular trustee typically doesn’t conduct the foreclosure process. The trustee can be an attorney, but there are corporations setup that also act as trustee.

    The “Notice of Trustee’s Sale” follows the Notice of Default, and can be done after the Notice of Default is 30 days old. The Notice of Trustee’s Sale sets a sale date that is at least 90 days out. It will also set forth the last day to cure the default and bring the loan current, which is about 10 days before the sale. After that point the lender doesn’t have to accept a cure, and could demand full payment (in theory). The Notice of Trustee’s Sale will also have information about the amount owing and the cure amount.

    If the property is sold, the debtor has about 14 days to get out. Part of the reason for the delay is that the sale date can be continued by the trustee up to 120 days total. So the first sale date might not be the actual sale date, and I don’t think the legislature wanted to force people out of their homes early.

    If you’re contemplating bankruptcy, it must be filed before the time of the sale. The new bankruptcy act requires that you start the process earlier, because debtor education is mandated prior to filing bankruptcy. Also, bankruptcy attorneys really don’t like last minute filings, so procrastination will limit your choice of attorneys. Ideally you should see a bankruptcy attorney at over three months prior to the sale date.

    The deed of trust process is faster for the lender, but what they give up is the right to a deficiency. If you owe $400,000 but they only collect $350,000, they cannot collect the balance. This lack of a deficiency does not apply to any junior debt holder that does not foreclose. So those with an 80/20 loan package would typically still owe money on the 20 if the 80 forecloses. The lender does have the right to judicially foreclose, and maintain a deficiency, but if the property is homestead property the debtor has the right to redeem and live in the property for 12 months after the sale. It is that right that pushes the lender to the non-judicial remedy.

    Finally, if you’re in this situation, do not rely on blog pieces. Obtain your own attorney to get advice for your specific situation.

  2. Kary, I know we’ve had a conversation before, I think on the SREP blog, about junior liens such as a second mortgage:

    “This lack of a deficiency does not apply to any junior debt holder that does not foreclose. So those with an 80/20 loan package would typically still owe money on the 20 if the 80 forecloses.”

    Many, many 80/20 homeowners in default are probably not aware of this WA St Supreme Court opinion.

    What are we seeing out there when it comes to second lien holders? Are they just writing off the second after foreclosure or are the banks pursuing the homeowner?

    So far, I’ve heard nothing from homeowners about being pursued by the second lien holder after the foreclosure takes place and is this only in WA State or nationwide?

  3. In case it helps either Kary or Jillayne, I’d like to point out a couple of things that I’ve seen first hand in short sales.

    1) All is approved and ready to close. The automatic assignment of an attorney to proceed with foreclsoure hits and increases the costs. The homeowner and buyer and underlying lenders have all agreed to the payoff. NOW there is an additional $2,000 or so for attorney fees because the 1st mortgage, after agreeing to the payoff (which was paid in full) added costs unnecessarily, which reduced the payoff on the 2nd.

    Can’t automated dates and attorney assignments be held in abeyance during the short sale process?

    2) All is approved and read to close. In fact the buyer made a cash offer acceptable to the underlying lender an hour before the Trustee Sale. Stopped the Trustee Sale and was willing to close in 14 days. All done…NOT.

    The owner went to an attorney on a different matter and the attorney filed for bankruptcy on behalf of the homeowner without excluding the property that was due to close in a couple of days.

    How does filing bankruptcy affect an existing agreement and escrow? How does a buyer, or the new law protect the buyer, from this adverse consequence the day before closing? It does not appear that anyone was served by this event, however the buyer was getting cold feet and so it all worked out OK for the buyer (who was my client), otherwise I would have pursued “carving out” the property from the bankruptcy.

    It was obviously an unhappy surprise to the seller that going to see an attorney and protecting herself with regard to other debts, cancelled the sale she had in place. If the seller wants to be out from under the property, and had a means to do that, why would the attorney kill the accomplishments the seller had made to date.

    We did feel very bady for the lender as had we not stopped the Trustee Sale, they would have received monies from the Trustee Sale or from our sale. By our delaying the Trustee Sale, they ended up with nothing. While that was not our fault, I still felt badly for stopping the Trustee Sale when the eventual result was the filing of the bankruptcy. The owner did not live in the property. It remained an abandoned property and an eyesore and safety issue for the neighbors. No one was served by the system in place.

  4. How feasible is it for a struggling borrower to just squat in their home indefinitely without making payments? I’ve heard stories about lenders taking a year or more to actual move forward with foreclosure procedings. A person could be living “rent-free” that whole time.

    Of course, there are also a growing number of cases where some lenders don’t actually have the proper documentation to prove they have a legal right to the mortgage. A struggling buyer might not have much to lose by at least challenging the foreclosure in court just to see if the lender can, in fact, produce the correct documentation.

    By waiting for the lender to actually force them out and challenging the foreclosure in court a good percentage of people might be able to continue living in their homes for a considerable period of time (2 or 3 years in some cases) without having to make any payments at all.

    I wonder if there is ever any advantage to being consciencous and trying to help the lender make the foreclosure proceed swiftly and painlessly?

    Hey, maybe the government will eventually institute some kind of bail-out program that will re-finance you into a loan with a 50% reduction in principal. There is little to gain by speeding things up.

  5. Sniglet,

    The speediest process is called “Deed in Lieu” of foreclosure. The owner just signs over the Deed to the Bank, with their previous acceptance of that method.

    I agree…it has become somewhat like prolonging life in hopes that a cure will be discovered. However, just like Joe Sixpack, I would expect the owner to continue to pay as much as he possibly can. I see no benefit or honor in purposely growing the shortfall and stockpiling money instead of paying one’s debts. Still you don’t want to give them your last dollar and starve to death…no honor in that either. There’s a balance.

  6. Hi Sniglet,

    In regards to just sitting in the house and not making payments thinking the lender’s are too busy and won’t get to your case for awhile, that’s quite a gamble. I believe that most (not all) people would have an extremely difficult time living under that kind of stress. Most people will begin to come out of denial and start to make plans about where they will eventually go to live, even if they prefer to stay as long as possible.

    Human behavior-wise, I’m trying to stereotype the kind of person who would live on the edge like that and I’m not coming up with many who would just gamble with time. Maybe a single person? Short of people in full blown denial, most ultimately can’t live with the burden of NOT knowing what will happen.

    In terms of responsibility, many homeowners have responsibilities that transcend responsibility to a lender. Responsibilities to family, self, job. Most humans would feel a higher responsibility to make sure their family is housed and that an eviction is not looming. Some of the videos I’ve seen of foreclosed homes in the California area would prove opposite of my logic.

    Those vids show people grabbing what they could and leaving so, so much behind.

  7. Jillayne wrote: “In regards to just sitting in the house and not making payments thinking the lender’s are too busy and won’t get to your case for awhile, that’s quite a gamble.”

    I don’t know… You will get plenty of notice if the lenders DO actually begin foreclosure proceedings. It takes at least several months from the initial notices of foreclosure to eviction, and that’s when the process is at it’s swiftest.

    That doesn’t seem like much of a gamble. Living rent free indefinitely, with the possible risk of getting 3 months notice to move at any time, isn’t such a bad trade off. From what I hear there are plenty of people doing precisely that these days. My sister in Florida, for example, is doing this. She hasn’t made payments on her home in six months and there has been no indication that foreclosure proceedings will happen any time soon. Sure, she gets lots of nasty mail and phone calls about past-due payments, but the lender doesn’t seem to want to pull the trigger and actually take posession.

    In fact, I have read about how lenders are EXTREMELY reluctant to take posession of condos. As soon as a lender forecloses on a condo they become responsible for the home association fees. Seeing as how condos are so hard to sell these days (for anything other than pennies on the dollar for the existing mortgage), lenders prefer to just do nothing. Thus, condo owners in Las Vegas, Miami, and elsewhere, have been able to stay rent and HOA fee free for 2 or 3 years already, with no prospect of getting evicted on the horizon. The stigma of being a deadbeat with HOA fees is even going away in these regions as many complexes have more than 50% of units in default.

    Sadly, it is the owners who still continue to make payments on their condos who are looking like chumps. Those dilligent owners keep paying ever increasing HOA fees to make up the shortfall even as the value of their own unit continues to plumet in price.

    Maybe THIS is the new American Dream — living rent and HOA free.

  8. Jillayne, re comments 2 and 3, only Washington state, and I’m not seeing anything right now because I’m not longer in that business. But when I was the seconds wouldn’t hold off if they thought the person had anything worthwhile. Usually they didn’t. I did see a couple of cases where they sued right before the 6 year statute of limitations

  9. Ardell, re #4 I’ve seen banks do lots so stupid things when they’re about to be paid.

    As to the scenario, if it was a short sale a Chapter 7 trustee would take no interest in it. The debtor could move to have the property “abandoned” and then proceed again with the sale, but there’s no way to legally exclude the property in the first place. The abandonment process could be done fairly quickly in some cases, but in others it might take 30 days or so.

  10. Sniglet, as I noted the process will take at least 6 months from the default, and getting 9 months wouldn’t be unheard of, but counting on that or more than that isn’t much of a plan. If you filed Chapter 7 right before the foreclosure you could squeak out a couple more months perhaps.

    The thing is, these things do fall through the cracks every once in a while. I had one case involving a creditor moving for relief from stay on a car, and the attorney wouldn’t agree to a one week continuance of the hearing because I couldn’t get contact with one of my two clients. I had to move for a continuance, which is something I might have only done that once in 20 years of practice. Anyway, the hearing was delayed and then we agreed to the relief from stay, but the creditor didn’t do anything for four months. The creditor called me up directly to ask about payments and I informed them of what happened previously. Apparently they never got the word from their attorney.

  11. One other point: Just because a lender “writes off” the debt, it doesn’t mean the debtor is off the hook. Writing off the debt might just mean it gets assigned from one department to another, or that it will be sent out to collection.

  12. Some words of discharge, release or waiver of the debt, but the bank might not be willing to do that. Also note that in some instances the release (discharge) of debt can result in tax consequences. This is really an area where the person should use part of the 6 months of payments they haven’t made to get their own professional advice (legal and tax) so that it’s applied to their specific circumstances.

    My point was mainly that “writing off debt” really doesn’t mean much. It could mean the bank merely considers it noncollectable at the point in time, not that they don’t intend to ever collect it.

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  14. Kary wrote: “as I noted the process will take at least 6 months from the default, and getting 9 months wouldn’t be unheard of, but counting on that or more than that isn’t much of a plan.”

    Well, my sister in Florida hasn’t had any notices of foreclosure and she stopped making payments in late 2007. Like I said earlier, she’s been getting plenty of nagging about late payments, but that’s it.

    Once my sister actually GETS some kind of notice of foreclosure proceedings then I suppose it might be worth her while to start thinking of moving, but even then it likely will take several months at best to actually finish the whole foreclosure process and evict her.

    I have told her that she’d might as well show up at court and challenge her foreclosure, demanding to see the paperwork behind the lender’s ownership of the note. Chances are this won’t accomplish anything for her, but in the off-chance she is one of those borrower’s who’s lender doesn’t have the correct paperwork, then she might be able to stay in the home for a much longer time. It’s worth a trip to court to find out.

    I get the impression that lenders have been moving much more slowly to reposess in markets with significant declines because they know they will just have to take a bath. In the Seattle area, however, lots of people may still have equity and the chances of a recovery for the lender are pretty good, so they might be motivated to move quickly on foreclosure. I wonder how lender practices towards foreclosures might change when our market drops another 20% in price, and foreclosures start piling up?

  15. Hi Sniglet,

    This is a great story. Please keep us posted. I wonder….I wonder what kind of duties lenders owe in your sister’s situation.

    I’m thinking about duties to the bank’s stockholders, duties to the bank’s regulators.

    I see the point you’re making. It makes me wonder what’s going on at that particular lending institution.

    It also makes me wonder if they’re gearing up to sue for massive deficiency judgements if people are living in the homes for free and not making any payments. Where is that money going?

    If I owned stock in that bank, that’s what I’d be asking the people in charge of loss mitigation.

    If the bank goes under and there are no buyers, then we as taxpayers should be asking the same question.

    Maybe your sister’s story is a symptom that the entire banking/servicing system is now starting to implode.

    I predict mass government intervention.

    I also predict that somewhere, someone is keeping a running tally as to how many months of payments are being racked up. What is she doing with the money?

  16. Jillayne wrote: “I wonder what kind of duties lenders owe in your sister’s situation. I’m thinking about duties to the bank’s stockholders, duties to the bank’s regulators. It makes me wonder what’s going on at that particular lending institution.”

    It’s only speculation, but the unwillingness of my sister’s lender to foreclose could be a variety of factors.

    1) They might have so many delinquencies on homes which are SO deeply under-water that if they foreclosed on any substantial portion of them the lender would become instantly insolvent. By delaying foreclosure the lender can maintain the fiction that the loans are worth more than they are on their books.

    2) They might already have a massive REO portfolio which is just not selling for the prices they need (i.e. the market prices are far below the value of the mortgage), and they are having to eat on-going maintenance fees and property taxes. Why foreclose on a property you know won’t sell as an REO, and will only add to your expenses? By the way, my sister says that there are numerous REOs for sale in her North Port neighbourhood that have been on the market for over a year. If these lenders aren’t willing to sell the REO then there likely isn’t much point in foreclosing in the first place.

    2) They might be holding out for some sort of government bail-out. I’ve read stories about a lender in Utah which has made the public decision NOT to sell foreclosed properties at a loss because it thinks the government might be willing to pay more for those homes than the actual market price.

    Ironically, it might be in the shareholder’s interest for lenders who are in deep trouble to NOT foreclose if doing so would mean going out of business. If the choice is to continue owning shares in a bank that has tonnes of long-term delinquencies in its loan portfolio vs owning shares in a bank that no longer exists, shareholders might choose the lesser of evils.

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  18. When the home owners is financial distress always guide the home owners to seek legal advice from an attorney and explain their options such as try talking to their lender who holds their deed of trust maybe to catch up on their mortgage payment.

  19. Interesting comments, I actually just discovered your series on forclosure and have been really impressed. There is a lot of great information and I fascinated by the comments by sniglet.

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  21. there are ways of keeping the dream alive. The government is working diligently now but I hope that it is not throwing good money after bad. the first round of government assistance left us with a big bill and it was not regulated.

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