What to do as the Bank closes in?

Thoughts on Foreclosures, Short Sales, Deficiency Judgments,Bankruptcy, & Everything in Between

By Barry Peters, Attorney at Law

101 Eagle Glen Lane, Eagle, Idaho

(208) 939-2600

BarryPeters-Law.com/whatnow

There appears to be a resurgence of people who are finally giving up.  They’ve fought tooth and nail for years to hang on through a relentlessly crushing economy.  Their income has dwindled.  They’ve spent their savings.  They’ve been forced to rely on their credit cards to make ends meet.

Their home equity has long since disappeared.  In its place, they notice that comparable homes are available in the neighborhood for far less than the amount they still owe on their own homes.  They are left with the despair of knowing that it will be years before they enjoy home equity again, if ever.

Eventually it becomes too much and they just throw in the towel.  They look for the door.  They wonder about the possibility of just starting over.  Get rid of the “underwater home” and buy one of the newer cheaper ones for a stunningly low price and interest rate.  Live happily ever after.  End of story.

With that as the setting, more and more often I’m being asked about the pitfalls of just giving up.  What can happen?  What can be lost in the process of foreclosure?  Is there any way to mitigate the adverse consequences?

Before taking a shot at answering some of these questions, I need to protect my back side and offer a couple important thoughts.  So here goes:

Disclaimer: The information contained in this article is provided as a courtesy. It is intended to provide only general information about the subjects discussed. This information is not intended to provide a comprehensive analysis. Depending upon your specific circumstances, the best legal advice for your situation may be contrary to the general observations noted herein. Reading this information does not create an attorney/client relationship with the author.

Invitation: This site is a work in progress, more art than science.  So any who read it and have additional suggestions that have proven useful, please feel free to email me at Barry@BarryPeters-Law.com with your thoughts.  I expect to update and expand this information on a regular basis.

If you are a licensed real estate agent in Idaho, may I also encourage you to link from your website to this page to quickly provide your current and potential customers and clients with answers to many of their common legal questions?  The valuable information provided in this forum will help your customers more quickly grapple with the complex issues which they are facing.  Just link your site to barrypeters-law.com/whatnow.

Caution: The information provided on this site is offered from a legal perspective.  But the issues are more than simply legal.  Issues of ethics and morality are also raised.  Although I do not comment on those aspects, I must encourage each reader to consider this advice within that larger context.  Stated simply:  That which is legal may not be moral.  Is it OK to break a promise to repay a loan?  Is it OK to do so if the lender will be made whole under a federal loan guarantee?  What if the loan guarantee is ultimately paid by U.S. taxpayers?  Beyond that, I will leave it to each reader to determine what is the best and most honorable course for him or her.

Now, back to answering some of your questions.

Let me start by taking you through a set of worst-case scenario presumptions.  By doing so, I want you to know what will happen if everything goes wrong.  Then I’ll go back and point out some practical strategies to reduce the chances that everything will go wrong.  In fact, if one or more things should actually go your way, a new beginning is a genuine possibility for you.  Nothing guaranteed, but a definite possibility.

The sequence that I describe next is for many people typical.  You may find yourself at this moment at the very beginning of this journey or farther down the road.  But by describing the whole trip, you can begin to see what may lie ahead.  Then we’ll go back and consider the steps that you can take both now and further down the road to cut your potential losses.

COMMON SCENARIO:

The journey starts when you run out of resources and options.  Maybe you’ve lost your job or suffered unexpected expenses.  You feel that you can no longer make your mortgage payments.  Or maybe you still have a little money squirreled away.  But you find yourself constantly dipping into your dwindling savings to try to keep a roof over your head and to make ends meet.  And you know that continuing to do the same thing while hoping against hope for a turn-around in the economy is not a wise strategy.  Sending your limited resources down the same dark hole seems imprudent.

So you throw in the towel.  Or you’re ready to.  Here’s what will follow under normal circumstances:

1.  When you start missing payments on your mortgage, you will receive demand letters from your lender.  Then they will threaten foreclosure if you don’t get caught up on your payments.  You may also receive telephone calls demanding payment, as well.

2.  After somewhere between 30 days and a year of missed payments, your lender will actually pull the trigger and begin the foreclosure.  You will know that has occurred because you will receive a Notice of Default and a Notice of Sale by certified mail.  If you live in the house that is involved in the foreclosure, you will also usually find a copy of those Notices attached to your front door at some point.  Unless you’ve received these notices or found them stuck to your front door, the foreclosure is not actually under way yet.

3.  Once the Notice of Default and Notice of Sale have been recorded and sent to you, or served on you, a 120 day clock starts ticking.  You can continue to live in the house and you can make efforts to sell the house during this period regardless of whether you are making your mortgage payments.  Or if the house is a rental house, you can legally continue to receive and retain your monthly rent payments (unless the lender notifies the tenant to send the rent to the lender instead).

4.  For the first 115 days after the Notice of Sale has been recorded, you have the legal right to make up the back payments and put the loan back on track.  If you send in the back payments (and the foreclosure costs incurred by the lender), the lender must accept them and stop the foreclosure proceeding.  After the first 115 days, the lender is not required to accept the back payments, though they typically would be happy to get your money and put the loan back on track if you offer to make up all back payments.  Even if they don’t accept the back payments, you still have the right to pay off the loan at any time up to the date of the actual foreclosure sale.

5.  The foreclosure sale typically will take place at the title company that sent out the Notice of Sale, but double check the Notice for the precise time and place.  At the sale, the lender will usually bid a portion of the total balance due on the loan.  For example, if the balance on the loan was $200,000, the lender may enter an opening “credit bid” of $100,000.  If no one else shows up to bid any higher, the bank effectively buys the property back at a “fire sale” price.  If anyone makes a higher bid, the bank has the option of raising its bid.

6.  At the end of the sale, you technically no longer own your home.  You will then be legally required to move out of the property within ten days after the date of the sale unless you are able to make arrangements with the buyer (usually your lender) allowing you to stay in the house in exchange for rental payments or exchange for performing upkeep services on the house.

7.  Assuming the house sold at the sale for less than the total amount that you owed, the lender in Idaho has the legal right to pursue a lawsuit against you for a deficiency judgment.  This item is crucial to understand, because there is a fair amount of information on the internet that suggests the lender cannot come after you in Idaho.  That is incorrect.  But if the lender does decide to pursue you, it will only have a 90 day statute of limitation within which to do so.  In other words, if the lender hasn’t filed a lawsuit against you by the 91^st day after the foreclosure sale, it can no longer come after you.  Or, if the lender bids your full unpaid loan amount at the sale, the lender is then barred from trying to come after you for a deficiency judgment. (Note Added 08/20/11: There is growing evidence that, although Idaho lenders have the legal right to pursue a deficiency judgment, they may have adopted practices that don’t actually do so.  While I used to receive queries every few weeks from people who had been sued by their lender and wanted to know what they could do to defend against the claim, I haven’t had any such calls for a number of months.  And I’ve asked a number of active real estate agents if they’ve heard of such lawsuits being filed in recent months.  The unanimous answer was “No.”  It may be that the banks have figured out that spending money on lawyer fees to pursue deficiency judgments in the long run costs more than is recovered.  Or it could be that Fannie Mae and/or Freddie Mac have adopted a new policy of non-pursuit.  But this is all speculation for the moment.)

8.  If the lender does file the lawsuit within the 90 day window, it will have a copy of it served on you by a Sheriff’s deputy or a process server.  You must then respond legally within 20 days or the lender will take a default judgment against you, typically for the difference between what you owed and the price for which the home sold at the foreclosure sale.  If you respond within the 20 day limit, it will normally be anywhere from 1 to 3 years before the lender will be able to actually obtain a judgment against you.  The lender will not be able to levy against your property, bank accounts, or income unless and until a judgment has actually be entered against you.

9.  Once the lender has a judgment, it can then look for your assets or income against which to levy.  If you have items of property (real estate or personal belongings) that are not exempt from execution and the lender finds out about them, they can usually have that property sold and the proceeds used to satisfy the judgment.  If you are employed, they can also garnish your earnings taking up to 25% of each paycheck applying it against the judgment.  And don’t even think about trying to hide your assets.  After the lender has a judgment against you, you will very possibly be put under oath and asked to tell them about everything you have owned and everything you’ve sold or given away recently.  If you intentionally lie under oath, you could go to jail.  So plan on the lender discovering all about your assets and income.

10. At any time in this lengthy process, you will typically have the “nuclear option” of filing bankruptcy which will eliminate the debt and give you a fresh start.  But for most people, that is an option that should not be exercised until all other options have been exhausted.  More on that, below

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Let me emphasize, this progression is pretty much the worst case scenario.  It assumes that nothing goes right for you.

But there are numerous options and strategies that can be employed to cut down on the risks along the way.  Here are some suggestions for ways to cut down on the exposure that a person faces in these circumstances:

Stop Making Payments?: One of the first questions faced in your circumstances is whether you should stop making your loan payments.  For those who have struggled financially, the thought of stopping loan payments before being flat broke seems absurd.  But the truth is that your negotiating strength in the future will probably be increased by stopping the loan payments before you are totally out of resources.  But if you still have some resources from which you might continue your mortgage payments, you should also assess whether it is wise to continue your monthly payments until you have nothing left.  In many circumstances, it is the more prudent course to hoard your limited resources to keep food on the table and your utilities paid.  So, for most people, once you know you won’t be able to keep your home, your best course will probably be to stop the bleeding immediately and cease making your mortgage payments.

Pursue Loan Modification Services?: If you would like to remain in your home, but renegotiate the terms of your loan to reduce the interest rate, the payments, or to take care of current arrearages, you should consider contacting a reputable loan modification service.  There are a number of services available, but the trick is to find one that is actually honorable and reputable and doesn’t turn out to be a waste of time and money.   I would suggest a law firm in Meridian that is part of a service that can attempt to convince your current lender to modify your loan in a favorable manner.  If interested, please call Mr. Chris Brown at the firm of Brown & Patrick at 336-4477 to discuss your options.   Mr. Brown and his firm have been providing this service for a couple of years now and have assembled a team of experienced lenders, legal assistants, and attorneys who will work diligently for your best interests.  You can visit their website at http://www.avoidforeclosureidaho.com/ For additional up-to-date information on this subject (as of November 26, 2011), see the Idaho Statesman article HERE and especially The Detroit News article HERE.

Purchase Replacement Home Before Your Credit is Destroyed: If your credit rating is still strong, you also might consider purchasing a replacement home now at todays rock-bottom prices and interest rates before your rating falls as your home is foreclosed or sold on a short sale.  There are a few loan programs available that may allow for this transition to occur.  For example, one client of mine worked with Anna Sorrells at Sterling Savings Bank in Meridian to arrange for such a purchase.  Her contact information is 208-855-2979 (office) and 208-890-8289 (cell).  Her email is anna.sorrels@sterlingsavings.   If you are unable to take advantage of this type of program, you should expect your credit rating to drop something like 350 points as a result of a foreclosure or a deed in lieu of foreclosure.  The damage from a short sale may be less, but will still preclude institutional financing for the purchase of a new home for some time into the future.

List the Home for Sale with a Realtor™ Now: Even if you know that you owe more on your home than it’s worth, your best course of action will be to list the home for sale immediately.  For some of the tactics that follow, you will need to list the home with a Realtor.  Trying to sell the home “by owner” may not satisfy the lender when it is asked to consider accepting a Deed in Lieu of Foreclosure,” for example.  The price you set for the home must be aggressive.  Ask the Realtor what price will give the best chance that the home will sell in less than 60 days.  And if the foreclosure has already begun, you’ll have to set the price even lower.  Additionally, you should commit at the beginning that, if you don’t receive an acceptable offer within 30 days, you will drop the price methodically every two weeks until it sells.  By making that decision up front, it saves the ongoing anguish of debating whether and how much to drop your asking price.  Just follow your initial decision mechanically.  As you select a real estate agent, it is important to ask how many short sales he or she has handled on behalf of a seller.  An agent who has completed numerous short sales will have learned many of the tricks of the trade both for marketing the property and negotiating with your lender for approval of the short sale.

In a recent Bloomberg.com article (02/07/12), the author points out that several lenders have begun to actually pay their borrowers cash at the closing of a short sale.  Sometimes they are paying up to $30,000.00 to cover moving and other expenses in connection with a short sale in which the lender is loosing hundreds of thousands of dollars.   If you want to try to take advantage of this practice, you should probably spell out your expectations in a counter-offer on the contract, the same one that will cover the requirement that you be released from liability (see next paragraph).

Release from Liability: If you are fortunate enough to receive an offer on the home, even if it seems ridiculously low, make sure your agent submits a Counter Offer that expressly makes the contract contingent upon your lender releasing you from liability.  If the contract includes this provision and the sale is approved by your lender, the lender will have given up any right to come after you for a deficiency judgment.  You essentially will be free to pursue your life without worrying about lawsuits, judgments, garnishment, etc.  Your credit will take a hit, but a smaller one than if the foreclosure sale actually occurs.  If the lender doesn’t accept this condition in the contract, it may ask you to pay some, or all, of the shortfall.  But this should be met with vigorous negotiation.  However much the bank demands, you should offer them less.  Your real estate agent will be able to help with this process also.

Request Deed in Lieu of Foreclosure: After your home has been on the market for 60 to 90 days, you will have the option of asking that your lender take a “Deed in Lieu of Foreclosure.”  If the lender agrees to this option, you will simply deed the home to your lender and be released from further responsibility for the loan or the home.  Sometimes the lender may ask you to pay some money toward the shortfall, but you can aggressively negotiate on that point also.  Traditionally, lenders have not been too interested in taking deeds in lieu of foreclosure, but lately they will sometimes accept them.  You won’t know unless you ask them.  But don’t bother asking until you’ve had the home listed with a real estate agent for at least 60 days.  Depending on your lender, you may also be able to negotiate even more favorable terms in connection with a Deed in Lieu of Foreclosure.  For example, Bank of America is currently indicating a willingness to consider (1) paying up to $3,000 of assistance to help you move from the property after the sale; and/or (2) negotiating a lease under which you will be permitted to remain in the home while they attempt to sell the home after they accept the Deed in Lieu of Foreclosure; and/or (3) paying up to 6% of the amount you owe on a junior lien against the property (maximum $6,000) in order to help you clear off that second loan so that Bank of America can receive clear title from you.  So, as you negotiate for the acceptance of a Deed in Lieu of Foreclosure, be sure to explore whether incentives such as these may be available from your lender.

Arrange Appraisal Just Before Foreclosure Sale: If nothing else works out and the date of the foreclosure sale arrives, it is important that you hire an appraiser to determine the fair market value of the property.  Explain that you need an opinion as to the value in case the lender sues you for a deficiency judgment.  Ask the appraiser to measure and photograph the home, but not do the full-blown appraisal unless and until you ask for it.  If the lender fails to sue you within the 90 day window discussed, above, you will not need the appraisal because you will be off the hook with the lender.  But if the lender does file the lawsuit, it will be important to have the appraisal available.  Here’s why:  When the judge determines how much you still owe the lender, it will not be measured as the difference between what you owed at the time of the sale and the amount bid at the sale.  It will instead be measured as the difference between what you owed and the Fair Market Value of the home on that date.  The price paid at the foreclosure sale is typically a fire sale price that is below the property’s Fair Market Value.  Your appraisal will be a crucial piece of evidence that will help the judge understand that the home was worth more than the amount for which it sold at the foreclosure sale.  So an investment of $300 to 400 in an appraisal at this point may pay huge dividends in reduced exposure if the lawsuit is filed.

Oppose the Lawsuit: If the lender actually files the lawsuit and serves a copy of the Complaint and Summons on you, you will have just 20 days to file a response with the court.  If you miss that 20 day deadline, the lender will immediately take a default judgment and the fight will be over.  The lender can immediately begin the hunt for assets and income to take from you to satisfy the debt.  Hiring a lawyer to file a response for you is probably the best course of action, but it can be expensive.  But if the lawsuit asks for a substantial sum, a lawyer can help to fend off the claim and facilitate the negotiating process.  A minimal effort by an attorney will slow the wheels of justice down significantly.  A trial can typically be delayed for 1 to 3 years allowing even more time to try to negotiate with the lender to cut down on the liability.  And if you’ve had the appraisal done as suggested, above, your attorney will be able to use that as a tool to push back on the lender’s assertion of liability.

Bankruptcy Option: If at any time you are out of assets and resources and it appears that you will not be able to work your way out of the hole, you may want to consider filing bankruptcy.  If you know that this is to be the ultimate outcome of the situation, the earlier that you recognize this the better.  That doesn’t necessarily mean that it is best to file immediately.  If you are continuing to live in the house without making payments and the home is listed with an agent for a short sale, there’s really no reason to file the bankruptcy.  You may still find a short sale buyer in time to fend off the foreclosure sale.  Or if the sale goes through, the bank may neglect to file the lawsuit within the 90 days allowed by law.  Or if the bank files on time, you still may be able to negotiate a reduced settlement that doesn’t require a bankruptcy filing.  Usually, the longer you can delay in filing the bankruptcy the better.  And doing something other than filing bankruptcy will usually have less of an adverse impact on your credit than filing.

What about the Form 1099c?: Normal practice after a short sale or a Deed in Lieu of Foreclosure will be for the bank to send you a Form 1099c which reports the shortfall as “income” to you.  Unless you have lived in the house for at least 2 of the last 5 years, you will be taxed on that income at the long term capital gains tax rate.  Currently that is about a total of 20% for state and federal taxes combined.  But that rate may be changed by Congress in the near future. For most people, paying 20% in taxes will still usually beat paying 100% of the shortfall to the lender.  On the other hand, as long as you’ve lived there for at least 2 out of the last 5 years and have not done a cash-out refinance of the property, you should be exempt from taxation even on that part of your loan that was written off as long as it is less than $250,000 (or $500,000 for a married couple).   Please check with your accountant to determine whether the exemption will apply in your circumstances.

Why did Bank of America Stop its Pending Foreclosures? See my comments at the end of this article.

CONCLUSIONS: While there are numerous steps that you can take to limit or even eliminate liability on your current submerged home, the longer you wait to act, the less likely a successful outcome becomes.  So resist the instinct to deny your condition or hope for a miracle.  Instead, to gain your fresh start, make your list and get to work on it now .

To gain a clear understanding of the numerous facets of your current predicament, I would also encourage you to go back and re-read this entire article three more times.  By the time that you have read it four times, you will find that you have a much clearer understanding of your predicament and the avenues that are already available for rescue.

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Bank of America’s Predicament

Media has recently reported on Bank of America’s decision to put a freeze on its pending foreclosures.  The problems that Bank of America faces are actually faced by other lenders, as well.  I will try to provide some transparency to this otherwise opaque situation.  But my own understanding is still evolving.  For a deeper look at this issue, please read over the materials at http://chinkinthearmor.net/.  Please also re-read the Note that I added on 8/20/11 under item #7, above, regarding a possible industry-wide policy of not pursuing deficiency judgments after a foreclosure has occurred.

The quandary faced by Bank of America stems from the fact that, in its efforts to enforce loans that it had made or which it was collecting on behalf of other lenders, it was unable to come up with the original Promissory Note that had been signed by the borrower.  In court, lenders have historically been required to bring the actual document to court and put in testimony or a sworn affidavit establishing that the debt is genuine and that the lender has the legal right to collect it.  If a lender cannot come up with the original Promissory Note, courts have historically been reticent to enter judgments giving the lender the right to collect the unpaid part of the debt.

Bank of America and a number of other lenders have in recent years been a part of a system that bundles huge numbers of loans to sell them to other lenders.  Or in the case of some lenders, when they got in financial difficulties, they had to transfer some or all of their outstanding loans to other lenders to collect payments.  But in the process, the actual pieces of paper that have the borrowers’ original signatures have been shipped off to warehouses and stored in a fashion that does not allow the lender to easily put its hands on the original papers in order to file a lawsuit to enforce the debt.

In connection with foreclosures, similar rules apply to foreclosures under Deeds of Trust.  If the lender cannot come up with the original Promissory Note that is secured by the Deed of Trust, a question arises as to whether the lender is really the legal owner of the Note and the party that is entitled to collect the payments.

As the media reports have indicated, Bank of America and others have been having difficulty coming up with the required paperwork.

Where will this all lead?  Very possibly to a nightmare scenario where billions — if not trillions — of dollars in home loans become unenforceable.  Worse yet, if the lenders can’t come up with that original paperwork, they may even be required to return all loan payments made in the past 5 years to the borrower who has been making the payments.  While the particular borrowers involved in these cases will receive a windfall when they are found to owe nothing on their homes, for the rest of the country, the results will be disastrous.

For individual borrowers who are subject to a foreclosure proceeding or have been sued for a deficiency judgment following a foreclosure, one additional avenue of defense would be a demand that the lender produce the original Promissory Note to prove that it is valid and that the lender has the right to enforce it.  If the lender fails or refuses to do so, there is a possibility that a court could be convinced to enter a judgment halting or reversing the foreclosure.

Having said that, this is definitely an emerging issue that will require expert legal participation to bring it about on behalf of an individual borrower.

But all citizens should study this issue with fear and trembling because it has the potential to topple our country’s financial system.  If the largest banks in the country fail due to their massive loan portfolios being declared unenforceable, we’re all in trouble.  And if Congress steps in to rescue those banks deemed “to big to fail,” the inflationary backlash will likewise destroy the value of the dollar.  Either option has the potential to result in a disaster like we’ve never seen.