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March 28, 2011

Reestablishing Credit During the Recession

CreditCardsIStock.jpgA number of the people I counsel want to know how soon they can restore their credit after bankruptcy. The prerecession standard advice was two years for a credit card with decent interest and four years for a mortgage with indecent interest.

But that was then. Now, because so many people have bad credit because of foreclosures, late payments, and bankruptcies, it's hard to say what decisions the credit issuers will be making in the next several years. Will they be more forgiving because of the need to pull in people who might not have qualified a few years ago, or will they get tighter and not give credit at all until more time has elapsed after the bankruptcy? Only Fair Isaac (FICO) knows for sure, sort of.

For sure, if you want to reestablish credit, the old ways are probably still the best ways. Get a major credit card, periodically make purchases, scrupulously make your payments on time, get a second card, same thing, work to build your credit line, never max-out your cards, and so on. There are a number of other tips on the Fair Isaac website at that will help you lift your credit score to the maximum extent possible. The more you follow that advice, the better off you'll be. You can get Nolo's Credit Repair, by Robin Leonard and Margaret Reiter (Nolo) for even more on this subject. Or check out the free articles and FAQs in Nolo's Credit Repair for Bad Credit area of its website.

But should you even try to get your credit back? I often tell people I'm counseling that working to get your credit back is like an alcoholic learning how to drink better. Credit is simply the opportunity to go into debt, and once in debt it's really hard to get out. When you've received your bankruptcy discharge you will usually be completely solvent (except perhaps for debts like student loans and recent income taxes). Why spend energy for the privilege of going back into debt? There are lots of reasons why people feel it's a rational thing to do, but all you're really doing is preparing to live beyond your means.

Sure it's nice to have credit for an emergency, but people would be much better off reigning in their spending and saving as much and as fast as possible, and using their savings if necessary for an emergency. You may not feel like you're addicted to credit or spending (same thing), but chances are you are and are just in denial. Now I would never say this to your face because you would just deny it and be angry at me. Well, maybe you're still angry at me but at least I don't have to see it. Please accept the fact that my intentions are good -- to keep you solvent and out of debt.

October 27, 2010

The New Bankruptcy Law: Little Change for Most Debtors (Other Than Pricier Lawyers)

In 2005, Congress made big changes to the bankruptcy laws. In the six-month lead up to those changes, Chapter 7 bankruptcy filings spiked because people were told that the new laws would make it much harder to file for bankruptcy. After the new law took effect, filings plummeted, in part because people now believed (thanks to the pre-change marketing efforts by bankruptcy attorneys) they could no longer file under Chapter 7. Due to the great recession, however, filings are once again spiking and are close to the pre-change level.

So what's the story? Is Chapter 7 bankruptcy harder to file now than it was before the law changed, or was that perception wrong (and wrongheaded)?

As with so many things in life it's kind of an 80-20 proposition. For about 80% of Chapter 7 bankruptcy filers, the main change has been that many bankruptcy lawyers doubled their fees. So, for people using lawyers, Chapter 7 has become much more expensive. Not a trivial change to be sure. But, if people in this 80% category file without a lawyer -- which is a feasible option in most cases -- then they will see little change overall. The other changes (the main ones include a credit and budget counseling requirement, submission of tax returns and wage stubs, and a reaffirmation agreement if you want to keep a late model car you're making payments on) have proved to be relatively insignificant and easy to comply with.

October 18, 2010

The Loan Modification Process Can Help Avoid a Charge of Strategic Default

Banks are beginning to punish homeowners who engage in "strategic default," and pushing for legislation to do the same. A strategic default is defined as not paying your mortgage when you can afford to do so, thereby letting your home fall into foreclosure. (For a more comprehensive discussion of strategic defaults and the steps banks and legislatures are taking to punish homeowners, see my previous blog post The Government and Banks May Punish Strategic Defaults.) 

An Ounce of Prevention:  The Loan Modification Process

One way that homeowners can reduce the risk of a strategic default accusation is to use the loan modification process.  (To learn about loan modifications, see Nolo's article Mortgage Modification and Refinancing Under the Homeowner Affordability and Stability Plan.)  Here's how it might help:

Because nonpayment when you have the ability to do so is the key aspect of a strategic default, your best protection against having this label applied to you is to make a diligent effort to obtain a loan modification. Of course if you don't really need a modification, the mere attempt to obtain one probably won't immunize you from being considered a strategic defaulter. But few people are that well off.

If your first mortgage is 31% (or more) of your gross income, you have a non-affordable mortgage under the Making Home Affordable guidelines, and failing to pay it should not be considered a strategic default on your part. And you may have additional reasons why you cannot afford your mortgage at the time you defaulted (for example, student loan repayment obligations, a second or third mortgage, or erratic periods of employment).

Defaulting After a Obtaining a Loan Modification Might Hurt You

On the other hand, If you do obtain a modification and then immediately default without a change in circumstance, you may be considered a strategic defaulter almost by definition. (However, obtaining a loan modification is no easy feat.  See my previous blog post More Money for Foreclosure Prevention: Will It Help?)

So, if your main goal in participating in a modification process is to avoid this label, success may be failure, and failure success. Such are the strange times we live in.

Document Everything

If you think that you might be considered a strategic defaulter, be sure to thoroughly document your modification efforts. Use email or the post to document all discussions with the bank or a HUD-approved housing counselor. If you receive a phone call from the bank or counselor, follow up with a confirmation letter and record the names and titles of everyone you talk with. Your goal is to be able to provide a ton of paperwork showing that you diligently sought a modification and your default was not made for "strategic" purposes.

September 14, 2010

The Government and Banks May Punish "Strategic Defaults"

What Are Strategic Defaults?

A number of articles have recently appeared in leading newspapers and magazines reporting that more and more people are engaging in what they call "strategic defaults," defined as not paying your mortgage when you can afford to do so.

The typical story involves a family with a decent income who bought into the housing market when it was high and who now are upside down on their mortgage payments. Rather than continuing to the keep the mortgage current, this family decides to remain in the home without paying the mortgage and then moving when forced to do so (usually due to foreclosure).

This tactic is similar to the advice I give clients who would benefit from stopping their mortgage payments in order to save money to use when they must leave their homes. The difference is that most of the people I speak to really can't afford their mortgage anyway (so foreclosure is probably inevitable). By stopping their mortgage payments, these folks are just trying to cut losses and save some money which they'll need to find new housing at some point in the future.

Proposed Government Actions to Discourage Strategic Defaults

It is not against any law to stop paying your mortgage, whatever the reason. However, the banking industry is pressuring lawmakers and the government housing entities (Fannie Mae, Freddie Mac, and the Federal Housing Administration) to punish people who have engaged in strategic defaults.

Effective October 1, 2010, Fannie Mae will not purchase any mortgage made to a person who has engaged in a strategic default within the past seven years, and Freddie Mac is expected to follow suit. Since almost all mortgages are purchased Fannie or Freddie for securitization and resale, if this happens to you, you will probably be banned from the home mortgage market for seven years.

And it gets worse. The U.S. House of Representatives has passed a bill [H.R. 5072, FHA Reform Act of 2010] that would deny insurance under the Federal Housing Administration to anyone who has engaged in a strategic default. Since FHA insurance is a requirement for many mortgages, this law (if passed by the Senate) might prevent you from obtaining a new mortgage loan -- forever.

Distinguishing Between Strategic Defaulters and Truly Distressed Homeowners

But how will "strategic default" be defined by the law? The House bill leaves the definition of "strategic default" to the HUD Secretary. But figuring out what is and isn't a strategic default won't be an easy task. What if you obtained a modification "in good faith" but then purposely re-default? Do you need to show proof of unemployment or other hardship? If differentiating between strategic defaulters and truly distressed borrowers were an easy task, laws would be better able to distinguish between the two groups. But it's not an easy task, and the laws are unlikely to do a good job of distinguishing between the two groups. 

Next up: Using the loan modification process to avoid a "strategic default" accusation.

September 7, 2010

How the Modification Process Can Help Even If You Can't Modify Your Loan

The fact that the Making Home Affordable Modification Program might not work for you doesn't mean you can't benefit from it. (To read about some of the reasons the program isn't working, see my previous blog post Why Hasn't the Make Home Affordable Program Worked?)

You Can Save Money by Not Making Mortgage Payments

First of all, while you are engaged in the modification application process, you won't be expected to pay your mortgage. (In fact, if you are paying your mortgage, many banks will refuse to entertain your modification request on the ground that you obviously don't need it. Talk about a Catch 22!) And as long as you do your part in the modification process -- which means completing and sending all requested paperwork -- most lenders will suspend any foreclosure proceedings they have already initiated.

Delays in the Process Means More Time In Your Home, Payment-Free

If you have decided to use delay as a money-saving tactic by living in your house payment-free as long as possible (see The Foreclosure Survival Guide, by Stephen Elias (Nolo), Chapter 9), misplaced paperwork and repetitive requests for certain documentation will contribute to the delay and provide you with an opportunity to save another couple of months (or more) of mortgage payments. While some lenders may decide to push forward with foreclosure even while they are negotiating with you, most won't. If your modification efforts ultimately fail, but the process takes six months (during which you don't make mortgage payments), your net savings may  be greater than if you received the modification in the first place.

Of course, for people who desperately want to keep their homes, money saved during the modification process won't keep you in your home (assuming you ultimately fail to get the modification you need). But if you are resigned to leaving your home sooner or later, a long and messy modification process gives you time to amass a not-insignificant amount of money to find new shelter when it becomes necessary.

Some of you may consider me overly cynical for suggesting that you take advantage of the modification process in this way. However, as I consistently remind people, the home mortgage industry is run for the benefit of the investors and has never been known for its interest in the well-being of its borrowers, so there is no particular reason for you to be concerned about its health and welfare.

Next up:  How home modifications can help homeowners avoid an accusation of strategic default.

September 3, 2010

What HUD-Counselor Shortages Mean for Home Loan Modifications

When the Making Home Affordable Program was launched, the Department of Housing and Urban Development (HUD) had a pretty good network of counselors in place. Not only were these counselors free of charge and highly trained in the ins and outs of mortgage modification procedures, but they would advocate for the homeowner in seeking the best available modification under applicable regulations and policies. Where banks might give modification seekers the cold shoulder, HUD-approved housing counselors had back channel connections that would push the request forward in a reasonable amount of time.

For these reasons, the second edition of The Foreclosure Survival Guide (which I wrote about the same time as the Making Home Affordable Program launched) strongly recommends that you hook up with a HUD-approved housing counselor to help you deal with your bank under its--and the Making Home Affordable--guidelines.

New Landscape: Not Enough HUD-Approved Counselors

Unavoidably, the number of people seeking assistance from HUD-approved housing counselors ballooned with the advent of the Making Home Affordable Program, and from all accounts HUD's housing counselor program has not kept pace. My clients have consistently reported that working with HUD counselors provides little or no advantage over working directly with the bank, and that counselors, like banks, lose paperwork and require redundant submissions over a long period of time without any tangible results.

Old Advice May No Longer Hold True

In short, my previous universal answer to people facing foreclosure ("call 1-888-995 HOPE and hook up with a HUD-approved housing counselor") may no longer be operative in all -- or even most -- cases. On the other hand, you have little or nothing to lose by starting with a HUD-approved counselor, provided you approach the relationship with a tad of skepticism. And my advice in The Foreclosure Survival Guide about not paying for modification help still holds. In most cases it won't help you to hire a lawyer or real estate broker to assist with your modification request. The fact is, too many people are seeking modifications for most banks to respond in any reasonable time frame.

August 27, 2010

Why Hasn't the Make Home Affordable Program Worked?

In my previous blog, I talked about how the Making Home Affordable programs have not been particularly successful in keeping families in their homes, especially given the amount of money thrown at the problem. (See More Money for Foreclosure Prevention: Will It Help?) So this brings me to the next inquiry: Why haven't these programs worked?
There are three overarching reasons why the Making Home Affordable program has failed in its primary mission, which is to keep people in their homes.
  • First, the program has erroneously depended on the good faith of the American mortgage lending industry, a mistaken approach for many lenders.
  • Second, many people facing foreclosure lack an income stream to support even a radical modification.
  • Third, even if good faith among the banking industry was widespread and unemployment wasn't so high, the Making Home Affordable program was still doomed to fail because of the sheer number of people applying for modifications. As a whole, the banking bureaucracy has not been up to the task of processing this flood of modification requests, which has resulted in many applicants giving up out of disgust and despair. 


August 25, 2010

More Money for Foreclosure Prevention: Will It Help?

A recent announcement by the Obama administration provides an additional two billion dollars worth of foreclosure prevention assistance in seventeen of the hardest hit states. This is on top of 1.5 billion dollars allocated earlier in the year for the five hardest hit states. And HUD will kick in one billion dollars for foreclosure prevention efforts in the additional states. The   programs target unemployed homeowners and will implement by the states to fund locally originated foreclosure-prevention programs. These programs typically help homeowners reduce their principal mortgage, deal with second mortgages, and, where appropriate, facilitate short sales and deeds in lieu of foreclosure by providing assistance to move or find rental housing.
But will the additional money and new programs help? It's not likely.
For starters, two billion dollars (or 3 or 4  billion) doesn't seem like an overwhelming number given the many billions of dollars that have already been spent in mostly fruitless efforts to halt the foreclosure epidemic. Of course those who successfully get help to stay in their homes will benefit, which has been the thinking all along for the basic Making Home Affordable programs. However, the Making Home Affordable programs have been in place for well over a year, and have only resulted in several hundred thousand mortgage payment modifications (and far fewer refinancings) out of the seven to eight million foreclosure filings on record. And even where modifications have occurred, the homeowner has defaulted anew in more cases than not. Simply put, the Making Home Affordable program has failed to make homes affordable for most of the people who have tried to benefit from its provisions, and there is no reason to think these new programs will be any different.
Next up: Why haven't the Making Home Affordable programs worked?
October 21, 2008

Should You Keep Your House?

If foreclosure looms because you've missed some payments or you think you will soon, it's time to face what's probably the toughest question of the whole process: Does it make economic sense to keep throwing money into your house?

If your mortgage debt is significantly more than the value of your home -- which is becoming the norm rather than the exception -- the main question is whether the property's value will bounce back enough to give you at least a little equity in your house in the not too-distant future.


If you owe at least 25% more than the value of your house -- whatever you determine it to be -- the wise economic decision, under the present circumstances, would be to extract as much money as you can from the house now by stopping your mortgage payments and staying in the house payment-free for as long as possible, which can be as long as a year in many states.

How do I know what the market will do in the future? I don't. And I always keep in mind the advice that Mark Twain is reputed to have given a young man: "Buy land, they're not making it anymore." Also, no formula exists that can predict how soon a particular real estate bust will be over. But, while the general history of real estate booms and busts might indicate a fairly speedy recovery, history has never seen a combination of such factors as:

The fact is, there is no guarantee your house will ever recover its original value. As the old saw goes, you don't want to throw good money after bad. If the housing market fails to rebound because of these factors (and others sure to come), every economic sacrifice you make now to keep your house could be for naught if you ultimately lose it.

October 11, 2008

Hold Off on Chapter 7 Bankruptcy If You Might Qualify for a Mortgage Modification

On October 6, it was announced that Countrywide Financial has agreed to the largest program ever to modify (reduce) the principal and interest of home loans as part of a lawsuit settlement with officials in 11 states. This was followed several days later by the passage of the federal bailout bill, which contains language likely to also result in widespread loan modifications. In other words, if you have defaulted on your mortgage, or are likely to default in the near future, help may be on the way.

This raises an interesting question for homeowners who are contemplating filing bankruptcy: What effect will bankruptcy have on a homeowner's ability to participate in a lender's home loan modification program? While only time will tell for sure, here are two important points to consider.

First, when you file a Chapter 7 bankruptcy (the most common kind), the title to your home technically passes to your bankruptcy estate and is "owned" by the bankruptcy trustee -- the official appointed to handle your case. Countrywide is telling its homeowners that it won't consider them eligible for a modification while a Chapter 7 bankruptcy case is pending. So filing bankruptcy might take you out of the action just at the wrong time.

Even more problematic, a Chapter 7 bankruptcy typically cancels the promissory note portion of your mortgage along with your other debt. However, even if you don't owe anything on the mortgage itself, the lender will still have a lien on the property in the amount of the mortgage, and will be entitled to foreclose on that lien. In other words, even though you don't owe anything on the mortgage after bankruptcy, you'll still have to pay on it if you want to keep your house. Confusing? You betcha.

So, what's my point? If you don't owe anything on your house after your mortgage, you won't have a mortgage to modify, and it's unlikely that the new programs will offer modifications for liens remaining after bankruptcy. The only way to avoid this result is to offer to reaffirm the mortgage as part of your bankruptcy case (that is, agree to a new mortgage) and hope the lender agrees. As part of this process you can attempt to negotiate different terms for the new mortgage that would be similar to what you would otherwise get outside of the bankruptcy process.

Bankruptcy used to be a really good remedy for people facing foreclosure. However, in the brave new world of mass mortgage modifications, bankruptcy may foreclose your ability to partake of the manna from heaven pouring forth from our nation's mortgage lenders. For this reason, if you think you might qualify to have your mortgage modified, either by Countrywide or by your lender, strongly consider holding off on your Chapter 7 bankruptcy until you know which way the mortgage modification winds are blowing. For more information on whether you might qualify to have your mortgage modified, find a non-profit HUD-certified housing counselor by calling 1 888 995-HOPE.