Underwater? Maybe You Should Walk Away From Your Mortgage?

Last Updated Dec 3, 2009 12:53 PM EST

This post was updated on December 3, 2009.
According to the latest figures, some 23 percent of Americans are underwater with their mortgage. That means their home is worth less than the amount they owe to their lender.

If you have a job, and can afford your payments, being underwater may not cause anything other than a really bad headache. But if you've lost your job, you're probably running through all of your available cash plus anything you can beg, borrow and perhaps steal in order to keep making your mortgage payments.

The question on Brent T. White's mind is "Why?"

White is a professor at The University of Arizona James E Rogers College of Law. His latest paper is called "Underwater and Not Walking Away: Shame, Fear and the Social Management of the Housing Crisis."
(Brent White responded to this post. See #28 below for his comments.)
In the paper, White writes that despite reports that Americans are "walking away" from their mortgages, most homeowners are continuing to make payments even though they would be far better off by "strategically defaulting."

White suggests there are two reasons homeowners don't default, even though they are seriously underwater with their mortgage:

  1. The desire to avoid the shame and guilt of foreclosure; and,
  2. Exaggerated anxiety over foreclosure's perceived consequences.
White acknowledges that while having a foreclosure on one's credit score would preclude the homeowner from getting a new mortgage from Fannie Mae, Freddie Mac, FHA or USDA for up to five years, it is possible to maintain good enough credit if the homeowner continues to pay his or her other bills on time and in full.

That's what White means by a strategic default. You get your ducks in a row and then shoot the lender.

White suggests that's no better than what many lenders deserve. He argues that lenders basically lent with no rules and no oversight, providing loans to people who were unqualified, using an appraisal system that helped cook the books with inflated numbers.

White's entire paper seems to boil down to this point: Send a message to Wall Street and default in mass.

In his syndicated Washington Post column, Ken Harney looked at the moral implications of simply walking away from one's mortgage. He seems incredulous that White suggests 15 million Americans should buy a new house, get their credit in order, and then walk away from their old loan:

What kind of law school professorial advice is this? Aren't mortgages legal contracts? In an interview, White said 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 other states, lenders may decide it is not worth the legal expense to pursue walkaways, or consumers may be able to find flaws in the mortgage documents, disclosures or underwriting to challenge the original contract.
White has an interesting point. We've all watched Wall Street stick it to Main Street, and today's coming announcement from the White House about yet another program to help keep homeowners in their homes means foreclosures are going up (as job losses continue to rise).

It would feel good to stick it to Wall Street. Which is what would happen initially if this country saw 15 million defaults. But then the housing system would collapse again, leaving taxpayers to clean up a very expensive mess. Housing prices would decline another 20, 30 or 40 percent from where they are and suddenly 60 to 70 percent of Americans would be underwater with their mortgages.

I have to say I agree with Harney. It's hard to believe that a law school professor would say that contracts don't matter and if you don't like the terms of the loan you signed (even if you didn't read the paperwork) just walk away.

If enough people do that the next time you go to get a loan, you might not like the interest rate or terms you're offered.

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Ilyce R. Glink is the author of several books, including 100 Questions Every First-Time Home Buyer Should Ask. She blogs about money and real estate at ThinkGlink.com.
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    Ilyce R. Glink is an award-winning, nationally-syndicated columnist, best-selling book author and founder of Best Money Moves, an employee benefit program that helps reduce financial stress. She also owns ThinkGlink.com, where readers can find real estate and personal finance resources.