22 Sep Strategic Bankruptcy?
More and more often these days, we are hearing about “Strategic Foreclosure Defaults” in the housing market so let’s talk about how that relates to “Strategic Bankruptcy” filing. Such defaults occur typically when a borrower with perfect credit and ability to afford the mortgage, makes the intentional financial decision to let a home foreclose back to the lender.
Such defaults are generally triggered by massive amounts of negative equity. Yet while a credit score may suffer from such defaults, the upside for such debtors is generally much more beneficial than the downside. Such strategic defaults are now spilling over into the bankruptcyarena.
Let’s face it. Maintaining a home valued at $250,000 with a debt of $600,000 makes no economic sense whatsoever. Such a home requires $350,000 of hard earned money just to break even. Add to that all the interest, property taxes, and insurance one pays to get from negative $350,000 to $0, and well, you get the picture.
$600,000 in debt on a home costs a debtor $3600 a month in principal and interest(6% and fully amortized), and another $700 a month in taxes and insurance. Add to that the maintenance, upkeep, and other routine expenses of home ownership, and one pays about $4,500 a month to own real estate completely upside down with $350,000 negative equity.
That same home could probably rent for $1800 per month. Moreover, renting usually does not require the payment of taxes, insurance, maintenance, and upkeep. Thus the $2,700 per month savings over a year’s time adds up to $32,400.00. In five years, that’s $162,000 assuming 0% interest or about $185,000 with a 5% return.
So by defaulting now versus hanging onto an upside down mortgage, a borrower would be looking at the following two scenarios in five years:
1) Keep Home: $250,000 value still? Mortgage Balance $558,326, Negative equity
2) Surrender Home: $185,000 savings in bank, options
But it gets better! In addition to being an attorney, I’m also a real estate broker, and I’m sure other brokers will agree with me that one will have no problems purchasing a $250,000 home with a $185,000 down payment five years after a foreclosure. Then, the remaining $70,000 in debt on the home can be paid off in 2 years at $3,100 per month instead of $3,600.00 per month. So in 7 years one can be mortgage free!
So now compare the following scenarios 7 years from now:
1) Keep Home: $250,000 value still? Mortgage Balance $537,836, Negative equity
2) Surrender Home: Repurchase in 5 years, pay off in 2, $0 debt, home free and clear
Additionally, in 7 years any foreclosure must also drop from all credit reports. Thus not only would the home be paid for free and clear, but one would have perfect credit. So why doesn’t everyone do this?
To start, most individuals have a sense of moral obligation to pay their debts when due. Despite being victims to a housing market completely outside of their control, and despite the fact that their loan was bundled and sold on Wall Street in what in many cases may have amounted to criminal activity, this moral obligation creates the glue to prevent total failure on Wall Street, at least for the time being. These individuals are also probably a bit unfamiliar with the history of mankind’s “jubilee year” to forgive debt and its religious origins.
Nevertheless, if one adds a bankruptcy to the above, one’s credit and financial condition improves even further. First off, it now generally takes 12 to 18 months for the typical foreclosure in California. Thus at $4500 per month savings, thats $54,000 in savings, $21,600 higher than the $32,400 in savings if one were to immediately rent. Additionally, the bankruptcy will usually add another 4 to 6 months to the foreclosure process, creating a total savings of about $72,000 in the example above. Add another 3 years, 8 months of the $2,700 per month savings by renting, and the total is now $190,800. Add to that interest, and one is well over $200,000 with the home being paid in full within a year later.
Indeed, I have one such client that has now avoided over $350,000 in actual mortgage/tax/insurance payments and still resides in his mega-mansion after he stopped paying almost 2 years ago. I do not see any problems with him buying a home once the foreclosure takes place.
In addition to the housing savings, and in addition to the fact the the bankruptcy eliminates practically all other debt one has, it also prevents the lender from furnishing a foreclosure to your credit files. All the credit report can report is$0.00 balance, bankruptcy discharge.
So, move over Strategic Foreclosure Defaults, something better exists: Strategic Mortgage Bankruptcies. In today’s economy where Banks, Automakers, and the rest of Corporate America invoke Bankruptcy to protect their finances, it makes little sense for the individual debtor to avoid the same and subsidize such corporate bankruptcies.
Debtors need to step back for a second and prioritize their budgets, goals, and dreams. Their personal life goals and finances must always be a priority over corporate finances. Being a victim of the economy and paying debt with no end in sight strikes in the opposite direction of personal growth and fulfillment.
Once debtors realize that “main street” is not a slave to “wall street,” they can only conclude that bankruptcy relief will provide the most significant economic advantage to their financial situation, which in turn actually has the incidental effect of stimulating the overall economy by spreading newfound wealth across America instead of draining nearly all of the same solely to pay mortgage backed security trusts. Indeed, at that point, life returns to meaning and not slaving away at a job only to pay creditors in dysfunctional economic world.
Since Bankruptcy Laws were enacted in America, Bankruptcy has always been about, in words of our founding fathers, “providing unfortunate but honest debtors a fresh start.” As many commentators write, “Bankruptcy greases the wheels of capitalizm.” It encourages risk taking, and the invention of new products and services without the fear of debtors’ prisons. In no time like the present is Bankruptcy probably more necessary to the victims of the housing collapse than the present.
If you are seriously upside down on your mortgage, its time to have a reality check with the future. In doing so, seek acompetentattorney in Bankruptcy Law to explore this option, as opposed to foreclosure, short sale, or struggling through the payments. You might just find that by setting aside the ego and getting your fresh start, you will be doing yourself, your family, your friends, and the rest of America a favor. Do you want to be debt free and own a home free and clear in 6 years, or end up the same place you are now? Tough choices require tough decisions, but make sure they are well thought out and not entered into solely by emotion.
Written by Michael G. Doan
Bankruptcy Law Network (BLN)
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