We’re lucky again to have Jim Eckley joining us to shed some light on legal questions and dispel misinformation for homeowners faced with short sale and foreclosure situations. Below are the time-stamped show notes so you can skip to those sections which are relevant to you. If you’d like to ask Jim a question for a future episode you can leave a comment below or call our answer hotline (615.SHORT.IT) and record your spoken question there. Major props to Jim for taking the time to speak with us. You can read more from Jim and engage him via his web site EckleyLaw.com.
Sean: Jim, welcome. Thank you for joining us on the third episode of this podcast.
Jim: Well, thanks very much Sean for asking me back again. That must mean either I’m not charging enough, which of course since I’m doing this at no charge I can see how that might be an issue, or the other reason might just be that you like coming back and talking to me because I might know something. I hope that’s how this turns out.
Noting today is June 17th, 2012. Fifteenth? Okay. Also, I always need to put on a little commentary before I start. That is, what we’re going to talk about today is not the direct giving of legal advice. I can only sought by independent counsel that you go to and tell them all of what it is that ails you and show them your facts and your positions so that they can deal specifically with you. All of this advice today, for the most part, is talking about Arizona, but when we talk about federal rules, those extend clear across the states.
As we speak about it today, we’re talking about the law as it stood on that date we just gave. I don’t think it changed much between the 15th and the 16th, at least I didn’t notice, so I guess we’re still all right. Remember that law can change. There could be a case that comes down tomorrow that could change what I say after this podcast but I’ll assume that Sean at some point would amend it if I came terribly out wrong because of some new case that came down next week. Having said that, let’s see if we can approach some of the questions that some people have written in.
Sean: Absolutely. Yeah. We have a lot to cover. Kind of the format that I wanted to do on this one because I saw you yesterday at the Arizona Academy panel… Excellent panel, by the way. For anyone listening, this was a really good event. I figure we’d talk about some of the stuff that came up on that panel, go through some of the questions that were submitted on our website, and if there’s anything you wanted to add on that. . .
Jim: Sure. That’s right.
Sean: Okay. Can you just start off talking about some of the changes to the anti-deficiency stuff that you’ve seen?
Jim: Yes. I’m not sure where you might post of some this information at some of the old conferences you and I had, prior to the time of some recent changes by case law, but let’s talk a little bit about where the statute stands now. Most anti-deficiency rules come from the statutes themselves, so we work with those to begin with. Then of course in the law the judges have a chance to take a shot at those statutes. The reality is that regardless of what the statute may say on its face, it’s what the judges say it says that actually binds to the parties that are before them in litigation and makes our law.
Well, that statutes say that in Arizona that a home that is 2.5 acres or less, and that’s either capable of or is being used as a residence, doesn’t have to necessary be your residence, doesn’t even necessarily have to have somebody living in it, but just that it’s capable of being used residentially or if it’s a duplex or less, then there is no deficiency in foreclosure if it was a purchase money loan on which it was foreclosing. If your money bought that kind of a property there is no deficiency. That’s what the statutes say. We thought that was pretty darn clear.
One of the things that has come up recently that has made a big difference is the question that we see out here on HELOC, the home equity line of credit, or blends, in which part of the mortgage is for purposes of purchasing the property and part of it maybe was to wrap some other obligation in there.
Here’s a real common one. You go down to the bank and you say, “I’d like to borrow some more money for buying a Hummer.” The bank that holds your current loan says, “Okay. We’ll be glad to do that. It’s currently $220,000. How much do you need?” You say, “Well, it’s about $20,000, $25,000 that I’m going to pay for this. It’s used.” I say, “Fine. Let’s just put it in your mortgage.” They actually refinance it and put it in the mortgage. Twenty to twenty-five thousand of that is not for purchase money. After that, 20,000 to 25,000 for it, in reality, went for that Hummer, and you’re driving it right now and you’ve got the title to it. Now, that’s called a blend.
There’s another kind of a blend and those are where you can have a prior debt that you owed on the home that was a purchase money mortgage that qualified. You go back to the lender for a refinance, and the lender refinances not only that but a second that you had placed on it originally. Maybe you took a line of credit and you were out there paying your bills with it and doing some other things with it. It wraps it around in a brand new instrument that incorporates the two prior debts against your property. Well, obviously, that final instrument, some portion of it was for purchase and some portion of it was for that second that you used as a line of credit and spent on other things. Those are blends. There are other kinds of blends but I think that gives us the point that I’m trying to make.
What has changed here in the last few cases, and these are called the Myers case, the Helvetica case, and the Stevens case, is that the court has started to say that they think that those blends should be broken down so that the portion that really did go into purchase is one on which there should still continue to be no deficiency in the event of a foreclosure or even a short sale, but that those portions of that loan that were something other than purchase money should be and remain a non-deficient debt on which recourse could be had and the lender could ask full payment and even sue for it in the event they didn’t get it out of a foreclosure. That’s quite a change in the law.
The law from 1988 up until about January of 2012 was if all or part of that mortgage or a substantial portion of that mortgage or trustee was for purchase, the belief was then the law would say, “Look, it’s impossible to split it up and trace what went to what, so what we’ll just do is we’ll just call it all non- deficient.” Sort of infectiously non-deficient. If you pour more money into a big non-deficiency mortgage, then it probably becomes non-deficient too. That’s the old Bill [Veyas 5:48] vs. Bank One case, which is a couple of years old, which we thought clarified and made that the case.
Now, recently, as of January 2012, we’re hearing otherwise with some of these cases. It seems a retreat. I sort of disagree with it, but our appellate courts have said they do feel it’s capable of being traced, that throwing your hands up and saying, “Well, you can’t tell what went to which,” we really can. That’s what they felt. We’re going to go right back to it. If it’s purchase money, every dollar of that’s purchased, no deficiency. If there’s a blend in it and some other dollars that went to something other than purchase money, then the lender could pursue those.
Now, this left unanswered some really good questions. The one right off the bat is, “When I close this and I start making payments, which one am I paying on? Am I paying on the deficient balance or the non-deficiency balance? When I go into a short sale, what part am I settling? Am I settling the non-deficiency balance or the deficiency balance? If it goes to foreclosure and there’s a payoff from a foreclosure sale, does the payoff go first to the deficiency balance or the non-deficiency balance?”
Now, they say that that could be traced. I’d be hard pressed to think how you could. There are some cases in Arizona, not of course ones that are talking specifically about deficiency and non-deficient because nobody ever thought the court would say something like that. In law, what you do if you can’t find a case directly on the point you’re trying to research about which balance it would go to first, you go out and you try to find cases that are analogous, so that they’re sort of metaphorically just about like what you’re looking at.
There are several cases in Arizona that are close. Here’s what they say and how they get to it. The cases that you’ll find are the ones where there are two or three notes secured by one deed of trust. The borrower went out and made several loans. He had them all secured by one debt or even two debts on the property. It doesn’t matter. The point is, he sends in one payment. He does not earmark that payment and the instruments are silent on where that payment goes. Those are a great case because then the question would be just like the deficient or the non-deficient. The guy sends in one payment. Apparently the courts think that there are two balances running here. Which one does it get applied to, the deficient or the non-deficient?
Here’s what the court said. The court said that if the instrument is silent as which it goes to, then the decision about which it goes to is the payer’s, in other words, the guy who wrote the check to make the payment. That means that from now on, we should always be sending with every payment coupon some sort of a letter, which we’re going to generate a form around here for, that says, “By the way. If you contend that there’s some part of my loan that’s deficient and some part that’s not, I want to make it perfectly clear that any payments I’ve ever made from day one until today and all the ones I make hereafter, no matter how this pays out in the end, when I pay this short sale and get foreclosed, should go strictly to that portion of the lane that is deficient.”
In other words, you’re satisfying that so it would leave the argument that if you ever lost the house, you’d be able to take that part of the loan that was not used for purchase price, take all of your payments, see how much you paid, and if it’s equal to or in excess of that then the only thing that would be left is the non-deficient instrument on which there would be no capability of pursuing you further than just the property alone.
That’s cast, of course, a lot of confusion in it about two different balances, but there is a case out there that appears to settle that. That means you have to give notice of how you want it applied.
Sean: Let me make sure, just to condense it, so I think I understand everything. It’s your recommendation that any homeowner that’s still paying even now, not even for new loans but on existing loans, to put this verbiage in their next payment coupon.
Jim: I think that’s true. I think we have to. I think that’s a new piece of law, but the courts are acting as though, “No, it’s always been that way. We just didn’t quite get ourselves clear.” That means it would apply all the way back at the beginning, so if the law applies all the way back to the beginning, then so also should the rule that it shall go as directed by the payer.
Yes, we should get some sort of a uniform document. We’re working on something like that now. We’d make it available for free to anybody that wants it. It’s going to be something where you fill in the dotted lines. The name and address. The bank. The reference to the account number and your name. Then it’ll have language in it that says, “Any payment you’ve ever gotten is going to go strictly to the deficiency portion and that is my directive.” As I say, I might be even citing a couple of cases in it, but I don’t think we want to make it very argumentative because the law supports that. Just send it in with one or two coupons. Probably by certified mail so that no one can say they didn’t get it.
Then you may never use it. It may never even come about. You may sell that property and even make money on it so that the mortgage is completely satisfied. You never have to worry about an issue where you’re going to worry what the distinction is between the non-deficient or deficient part.
Just in case and to be safe rather than sorry, this would be, I think, something everybody should do. It will not trigger some sort of adverse credit rating or anything else. It’s merely a directive that if I have some kind of two-balance system going on with you, I always want the supply to the balance that will do me the most good.
Sean: Yeah. That seems like a more massive implication because it can be retroactive and it applies to anyone to this situation.
Jim: I think it does. I think the banks right now don’t know what to say. They’re sort of confused and they really don’t know any more about this than anybody else, but you can take this position home, I think, and bank on it. I think they’re going to make the argument that it all went, of course, to the portion that was non-deficient so only the deficient portion remains. Otherwise they’d have no argument to ask you for any additional money. They’re going to look for one.
Sean: Would them cashing one of these checks with that in the memo field essentially bind them to agreeing to that?
Jim: It would help to have something. Essentially what you’d do is with this uniform notice I’m telling about, I’m probably going to put some language in there that says, “Negotiation of any and all payments hereafter to the extent any acceptances required by law will be deemed an acceptance.” Now, the reason I say negotiation to the extent that law might say you have to accept it, I’m just being careful. In reality, those cases out there on those two- note and three-note cases, none of them say that they have to agree to it. They say that’s absolutely the borrower’s right.
Sean: Yeah. This actually is a nice segue into another thing that came up yesterday regarding not being able to sign away your right. . . I forget exactly what it was. You’ll probably remember. The fact that lenders were attempting to get people to sign away certain rights that are kind of inalienable to them.
Jim: Well, that’s absolutely right. One of the responses that we got in this session that you’re talking about, Sean, is that session that we did with the commissioner and a number of other panelists, qualified lawyers, and others in Phoenix. I guess it was yesterday. One of the remarks I made there, and I also have a case that’s on point, was that commonly what the lender will say when you’re doing a short sale and they ask for additional money. Here you have what probably is a non-deficiency instrument under the laws we just talked about. In the course of a short sale, the lender says, “Okay. I’ll accept your short sale, but I want you to sign another $25,000 note, or I want you to sign this approval letter from the bank that says we can pursue you for more money afterward and you waive any arguments that you have,” or something along those lines. Those are very common in those approval letters.
The question has been, well, if I do sign one of them because I’m desperate and it seems like I’m saying share whatever. If you think I still owe more money, whatever, as the borrower on your way out. You’re the short seller. The argument has been, well, you waived it. Maybe you didn’t have to do it and maybe there were no shortfalls that you would be personally responsible for. The only thing that the bank would ever get is the property back under these non-deficiency laws. Well, you’ve revived it by agreeing you would stand liable for it, sort of gratuitously.
I don’t know what you’re getting out of it. Some people would say, “Well, you got the short sale!” You say, “What did I get out of that? I lost my shorts. What are you talking about? That’s not consideration!” Well, out there says if you give something up, you should get paid for it because that’s the only way you can determine that honesty and integrity is prevailing, especially if it’s a valuable right like them to pursue you. Now you’re out the house, and you still owe the debt. One of the whole reasons you went to do it was to try to get rid of the debt! It makes no sense, but I can see why people would think, “Well, gosh. I signed it away.” Most people feel the freedom of contract. Do you know what? That’s not the way the state of Arizona feels about it.
There’s actually an ancient case here, lawyers love to dig through this stuff, that has never been set aside. It has a really, really good point about this idea that you can contract away or agree away the protections that the law gave you. Now remember, this anti-deficiency statute that says the only thing that against the property and not the money is a consumer protection law by the legislature. They said, “We want,” and it’s totally substantive meaning it’s public policy. You are protected. You don’t have to file something to be protected like a homestead exemption or something. You just plain are protected.
Then the question is can you set aside a consumer right that the state law said is yours, per se? Here’s the answer. It’s the old case of Forbach vs. Steinfeld. I’ll give you a legal citation for it. I think this will bore most of you, but it’s there. 34 Arizona 519, Arizona 1928. 1928, I said, folks. Does that ring any bells to what was going on in 1928? There was a great depression that was starting. In Arizona, it started earlier than others because it started first in agriculture, cotton, cattle, and citrus. People weren’t buying as much anymore. The country was winding down. Arizona was one of the first to get hit by what ultimately in 1929, with the great crash in Wall Street, was then recognized as a crash. I guess in the eyes of the law, it’s not a crash until it hits the east coast. If it didn’t happen in New York, it didn’t happen. Well, it was happening in Arizona in 1928. Of course then there was great pressure. People were losing their houses and their farms to the bank, and they were signing off all their rights.
The court had an opportunity to look at this and say, “Is it possible for the borrower to be put into a corner by a lender and sign off rights he has?” Here’s what they said. “Statutes of limitation, exemption laws, the right of redemption, and other provisions that are for the protection of the debtor against the creditor cannot be waived. They are part of public policy and they are part of modern legislation. The wise man of old has well said, ‘The borrower is servant to the lender,’ and if the debtor, when he applies to the creditor for favors is always under a certain amount of moral duress, he will never be deemed to have voluntarily given up any of these rights. If the creditor has the right to demand of waiver of statutory rights, he will certainly do it every time. The farmer, the debtor, is really in no position to protect himself. For this reason, the law, in order to give the debtor effectively the protection which the public policy of this state says is his privilege, the state must deny him the right to voluntarily surrender it. He has no capacity to do, nor does the lender to demand it.”
Jim: That sounds pretty dispositive to me. Here’s what that means. You can sign it a million times and it can all be set aside because it’s a void. The law has taken away the borrower’s capacity to even sign it away. You can see why. That would be the hole in everything. If there’s exemptions like homestead exemptions and protections from deficiencies and so on, wouldn’t the lender, probably even in the original notes, have you waive it every single time so the legislature can sit down there and make laws trying to protect you and the lenders can take it away in a pen stroke? That obviously would defeat the law.
Jim: They said, “You can’t do it. You can’t do it as the borrower and the lender can’t ask you. When he does, it’s an unlawful debt collection practice act, which also has its own sanctions and fines.” That case is still good law. It’s the Supreme Court of the State of Arizona.
That’s the law we relied on recently in a trial court case in which the judge bought it entirely on one where the party had signed off and waived his right to be protected against a $500,000 short fall on his home. Very bad story there. I won’t go into it. The lender promptly pursued him for $500,000. Well, we raised the issue first that it was a non-deficiency instrument. Secondly, even if it wasn’t, he couldn’t waive it because of the Forbach case. The court agreed. That covers the issue, I think, of whether there is such thing as a waiver out there. Now, what was your next question, Sean?
Sean: That’s another good segue, talking about the Great Depression. I know that there have been some changes to the Dodd-Frank Law recently. I think there were two critical changes that were mentioned yesterday. I was wondering if you could talk about those and what implications they have for folks.
Jim: Well, one of my arguments has been this. In Arizona, we have a three- tiered system of crisis right now in the residential market. Even though we see articles in the newspaper talking about, “Well, the average net sale price is $139,000 or it’s $137,000 or it’s going up and down all the time,” that’s what they call a modal number. That means that there’s an equal number of incidences above it and an equal number below, meaning that there’s half again as many people who sold for more and half again as many people who sold for less. Sometimes it’s a kind of an interesting indicator and it suggests generally that the market is going up and down a little bit, but generally up if you looked over the last six to eight months.
It still kind of belies one other point. That is there are really three tiers here right now in this state, certainly in the valley. There’s the $350,000-below tier. That right now is dominated by investors, usually cash investors. Unfortunately, they’ve chased mom and pops out. That’s usually the entry level for new families. They come in, they’re dual income, and they buy their first home. That’s in $350,000 or less. Those now are being so competitively pursued by the investors who say, “Look, it’s all cash, no contingencies. I don’t even care to inspect it. I’ve made up my mind right now.” Sitting in the car. At the curb. Well, I’ll tell you, that gets deals done and it’s difficult to compete with that.
After you get past the investor money, there are really no further real programs that seem to help those of us who are looking for homes in excess of $350,000 but less than $729,000. That tier is sitting there with virtually not much action on it. It’s really a function of two things which I’ll mention in a minute.
Then there’s the third tier, which is the jumbo and super jumbo tier. Jumbo tier is considered $729,000 up to a $1,000,000. Super jumbo is beyond $1,000,000. Those are just common real estate parlances, by the way. There’s no real label out there.
Obviously in the super jumbo market there’s almost no movement. In the jumbo market there’s very little. The likely place where most people are going to buy is between $350,000 and $729,000. There’s no one there buying.
Here’s the reason. First of all, a lot of the people that want to sell cannot get the property to appraise out for enough to pay off their underlying mortgage. Even though they may want to move up or move out, they really have to sit on their home and they can’t do much about it until the market comes up. The market can’t come up until people start selling something at prices that bring it up at least to that equaling the mortgage or better. It can’t do that until appraisers start agreeing that there’s value out there. Appraisers are saying, “Look. I’m just relying on the comps up and down the neighborhood.” Of course, remember, those are the comps of bad times that we seem to be coming out of, hopefully. Those are pretty nasty comps. It just shows that there’s no value and no movement.
The second problem is, even if you are a ready, willing, and abled buyer and you can buy in the $350,000 to $729,000 market, if you come in the first thing that’s going to happen with a conventional mortgage, and let’s say you want to put 10% down, it’s a 90% finance. First thing that’s going to happen is they’re going to appraise. Now, let’s say you offered to buy the house for $500,000. The appraiser comes back and says, “It’s $400,000.” What are you in to? Well, first, it’s going to be 10% of $400,000. It’s $40,000 that you’d have to put down to qualify for that loan and you have to pay it down for the amount by which you offered over the amount at which it appraised. That means to close that deal, you’d have to come in with $140,000. Nobody has that kind of money and no one wants to put that kind of money in just to buy a house.
We’ve got a terrible situation out here where the lender’s underwriting policies mean those properties can’t sell and technically there really is no mortgage for them. That means no one can sell and no one can buy, and the appraisers are not going to add any value because they can’t get any comp started to see any greater value than what there has been historically.
Now, I think I have an answer for that. Of course, I’m one of those kinds of folks that are progressive in the real estate market, I hope. I really try to come up with answers and use my head on this. My theory usually is that if there’s blockade in one way, then try another. We’re obviously blockaded. Why don’t we go back and do something that we did all through the 80s and at one time was almost the only source of finance? Let’s do owner carries. Let’s let the seller carry it for a while. That means he sells it at the price they wanted.
Let’s take that example I gave. The guy wants to pay $500,000 and $500,000 will solve the problem for the seller. Maybe he’s got an underlying encumbrance of $370,000 or $380,000 that he owes to one of the banks, and $400,000 never would have done it anyway, but $500,000 which that buyer is perfectly willing to sign for will do it. That means that the owner’s going to carry some paper for a while. Now that doesn’t mean he carries it forever. Essentially the buyer is paying him for several years. In many cases, these contracts go in for five years or seven years and they usually have a balloon. In other words, okay borrower, we’ve waited five to seven years for the market to get a little better and for you to demonstrate that you’re capable and build some equity. It’s time for you now to go down and pay it off.
Those are very, very common. They were about 25% to 30% of the market place in the 1980s. Of course, prior to 1950, it was almost the only way. There just weren’t any mortgages and everybody did owner carries. If you get outside of town in Pinal County and Piedmont you’re going to find tons and tons of owner carries, and farms and bare land have almost always gone by owner carries, and so have business ops. Owner carries have been around for a long time.
Now, you would think you’d have the right to do an owner carry any old darn way that you wish. If you want to sell it to your uncle or your brother or you want a carry contract you should have the right to be able to do that because, after all, this is your home, this is your life, and you could put the numbers on it that you wish. That generally was the case until the passage of the Dodd-Frank Act.
Now, the Dodd-Frank Act came down about three years ago originally. It was an act that tried to put sense back into the lending system. Originally when all the Dodd-Frank appointees sat down, their idea was to go to the lenders and straighten them out saying, “Look. This crunch was produced by unsafe and unsound lending practices. It came from the banks primarily, so we’re going to regulate them. We’re going to go back and rethink this whole thing and regulate them.” That’s what it started as. When the Dodd-Frank bill finally came out… It’s dense. It’s very thick. It’s about 2,800 pages after you get through the addendums and so on and it has a lot of cross references to other departments, divisions like [Fensen 25:51] and FDIC and so on. It’s just a maze to get through. You really have to have a very boring or non-existent personal life to actually want to sit down and read this thing. Read it was, by very few.
When this passed, and it did get passed, we all then for the first time said, “This is the thing that’s going to get the bankers back on track. Let’s start reading.” Well, of course, I guess I’m one of those ones with no social life because I actually read the whole thing. Amazingly enough, buried about three quarters of the way back, it appears as though Dodd-Frank even attempted to regulate transactions between mom and pop buyers and sellers. In other words, that deal that you were getting ready to do with that buyer seems now to be regulated and regulated in this fashion. Did you get a financial statement? Is this borrower capable of borrowing? Are you charging a variable rate? Are you charging a flat rate? It applies to anybody that sells even their own personal residence. It seems to have no exemption whether it’s free and clear or whether it’s encumbered.
This was real confusing. The crazy part about it is most people haven’t read that far into Dodd-Frank to even find that. I’m not sure anybody even really cares. I would like to know how in the world would anybody even enforce that? Who would you call other than Ghostbusters, I guess, for someone to say, “Hey, I think this private contract I did with my brother-in-law down the street where I bought one of rentals, I think it’s a violation of the Dodd-Frank Act.” Well, who the heck would you call? It may be something that’s more bugaboo than teeth and there are certainly a lot of those things in life. We do have to take it realistically as lawyers because we want to draft the right thing that works for our clients.
Here’s what it has to be. Here are some of the things that kind of, I think, take some of the bugs out of it. One of them, if you look at the statute, is it has to be between consumers in order to apply. In other words, it really had to be a mom or a pop deal in which the buyer is going to personally occupy it. If it’s not a mom and pop deal between mom and pop sellers and buyers, and say the buyer is going to make it a rental or he’s going to finish it up, remodel, and flip it, then Dodd-Frank doesn’t apply because it only applies to consumer transaction and that’s more like a commercial transaction. You’re not looking so much at the seller as what is the buyer going to use it for.
Secondly, the Dodd-Frank Act says that it governs private mortgages and deeds of trust and contracts for deed. It does not say that it governs lease options or lease purchases. That works very well too as a method by which you can sell, especially if you as seller is going to have a person who’s going to come in with a low down payment. You might want to have them in a position where they don’t quite get as much equity so that if you have to toss them out you can do it under the Landlord Tenant Act as opposed to a formal foreclosure as you would have to do if they had equity.
On the other hand, so that you know, from the buyer’s standpoint, the buyer would say, “Well, look, I’d like to have all the accoutrements of home ownership. How do I get tax deductions on a lease?” The answer is you can actually take the election to treat it as an installment sale as far as IRS is concerned. You can call it something else under the state, but under IRS you can treat it as an installment sale. In that event, the amount of the lease, if this document is written right by a real estate attorney… Believe me, not a title company, not your realtor, not yourself, I hope. That’s asking for it. You know what they say. The person who represents himself has a fool for a client. That’s not a good idea. A qualified underwriter that can sit down and actually draft that document will write it in a way to fit all the exceptions and write it in a way that gives the buyer, if that’s what you’d like to do, all the feeling of buying a house. That makes it a great sale item. It’s a good sale argument then for that buyer, and it makes them want to get into it. Believe me, they’re out there and they’re not all empty-pocketed. There are a lot of very good ones.
Sean, a minute ago, was talking about, there’s a great trove out there now of people who have dual incomes. They’re making $300,000 or $400,000 a year and they can’t buy a house because their credit is tainted because they left that big jumbo house up on the hill that they couldn’t afford anymore and didn’t want to pay as it was sinking ship. They’ve been living in a rental for a while and now they’ve got money, they’ve got down payment, they’ve got full employment, they’ve got great credit, and all their credit cards are in good ship. That guy qualifies. He’s a good buyer. We have a huge number of those out there waiting to come in and buy houses as soon as we make that available. It opens up all new avenues for really good sales by those who need a sale that’s in excess of their mortgage and want to get their cash out of here, and really good buys by those who want to get back into the market and actually put some money down and not have to rely on some appraiser who doesn’t see value in anything.
Dodd-Frank does seem to have some restrictions, but those who know the restrictions know how to write around them and that’s why I encourage people that are going to do this to get professional people on this and allow them to draft documents that do that.
Sean: Can you talk a little bit about what Paul Valentin was talking about with the tax, and how he’s had to unravel some of these things that were done?
Jim: Well, in the session we did yesterday, there was a local attorney there who also has an advanced degree in taxation. Really, in every one of these deals if you’re talking short sales or even sales, virtually everything you do economically of course has a tax ramification to it. This fellow is one who has really specialized in it so it was helpful to hear him chime in and say pretty much what the better real estate lawyers have been saying in all along in Arizona. That is that though the Mortgage Debt Relief Act appears to be expiring in December this year, and I’ll go into what the Mortgage Debt Relief Act is in a minute, the likelihood is that that exemption against tax on phantom income, which I’ll explain in a minute, will continue on under IRC Section 108, which has been in the revenue code for 25 years. It’s today, and it’s going to last long after December 31st of this year.
Let’s go back first. I want to talk a little bit about what phantom income is. The law actually says, if you look at the revenue law, it starts out with a position that if you’re excused of any indebtedness, you go down, you owe $400,000, you do a short sale for $300,000, and the lender excuses you for $100,000. Then you have $100,000 of “phantom income.” They deem the being able to be relieved of debt almost the same as though someone paid it for you, and of course you got the benefit of that. It’s sort of a fiction, but it’s just as though you got the benefit of not paying $100,000 as though someone else paid it for you and that would be like income. Using that fiction, yes, folks, IRS even taxes loss, not just gain. Of course, that’s really terrible when you’re already in a bad position. You’re doing a short sale because you have no other options and very little money in most cases. Right behind that, the revenue services come in and tax you on the entire amount of the write off. That’s not good.
The tax mortgage reduction act was passed in, I think, it was about 2007 and added into the Internal Revenue Code. The idea was to give relief to people in a position like that. Here’s what it said. It said if it’s a purchase money mortgage and you’re a home occupier at the time that the write down occurred, or if it was mortgage that was put into improving the home like putting in a new roof or carpet or pool, then under the Mortgage Debt Relief Act they will not recognize any of this phantom gain up to the amount of $2,000,000 of phantom gain. Well, that’s a pretty good deal.
Now, of course, that’s expiring at the end of this year, and so far it looks like Congress is not going to extend it. I’m really surprised that they wouldn’t do that because this country still is not out of this terrible mess. If I had to say so and make a guess, my guess is they might do a last minute extension anyway because I think whichever party decides that that should not happen is probably the party that’s not going to win any elections for a long time. That’s for sure because we’re all in need and that has really been a life raft to many.
As was pointed out in the session yesterday by the attorney I mentioned, and this has been consistent with what we’ve said in the past as well, there’s always been Section 108 of the Internal Revenue Code, of which that Mortgage Debt Relief Act is part. Now, if it drops away at the end of this year, so be it, because here’s the balance. The balance of Section 108 also says this. If the mortgage was non-recourse by state law, and of course purchase money mortgages are not, then it doesn’t even drop into Section 108 and it’s not considered debt relief because it’s seen in the eyes of the law you never wrote the debt in the first place. It’s kind of a fiction that the property owed the debt, and all they do is get the property back, but you don’t personally owe the debt. If you didn’t personally owe the debt, how can you have income when it’s been forgiven? That’s the theory. Most of Arizona, these residential short sales do concern purchase money mortgages which do not have a deficiency and therefore you’re covered under Section 108 anyway. Always have been, doesn’t matter whether this thing expires or not.
Also, there’s another exception. Even if it was a non-purchase money, like you took a second out on HELOC to buy that Hummer I was talking about or go to Vegas for a wild weekend, and by the way you should have invited me, but anyway, go into Vegas for a wild weekend, so it would be a deficiency one. That one, of course, is still going to fall under deficiency rules. That’s still going to be outside of the Mortgage Debt Relief Act. It’s also going to be outside of Section 108.
If you got that second and put it into the house, then it is inside the Mortgage Debt Relief Act but it is not inside Section 108. You do have a risk then, that if that Mortgage Debt Relief Act expires in December and you have one of those types of loans, you could get into a situation where you’d be taxed on phantom income.
There’s only one other exclusion and that brings me to the second one. The second one is if, however, under Section 108, at the time that you gave up that debt and that property, if you were insolvent, meaning the fair market value of your assets less all your indebtedness was equal or zero, it was actually a minus figure, so you were technically insolvent under the formula in Section 108, you also do not have any phantom income treatment. After all, they figure, why beat a dead horse and try to tax someone who virtually has lost their shorts and is completely insolvent at the time is absurd. Now, obviously bankruptcy discharges you from this as well because it is a formal insolvency, but they also mean an informal one. If you merely can show on a balance sheet test that you were insolvent, that’s good enough.
Sean: At the time of the. . .
Jim: At the time of the consummate of the deed.
Sean: Yep. There are just two more and then we’ll go to our users’ questions. At some point yesterday came up this concept of laundering the responsibility. When it goes to a collection’s agency, they feel like they’re somehow not bound to same standard that the lender was. Can you speak a little bit about that?
Jim: Well, commonly, and this is really common, here’s what happen. The lender at closing maybe even is silent about what he’s going to do with the balance of the debt. Now, sometimes they tell you, “You realize we’re still going to pursue the debt?” Other times they’re just silent. They just take the money. They don’t ask you to put any more in or some will even ask you to put $2,000 more in or something at the short sale. They don’t talk about what’s going to happen to the rest. Now, some of them do. They say, “By the way, we’re still going to come after the rest. Just not now.”
Now, if you go ahead and agree with that, shame on you, but even if you do you may have an out under the Forbach case that I talked about earlier in this session. Let’s just say that we leave that as it is on the table and you go about your way. Well, the first thing the lender in the past used to do was send it over to their own lawyers and start a collection. Now they’ve got so many of them, they realize it’s probably better to wholesale them out to these freestanding collection companies.
Now, some of these collection companies are secretly owned by the lender from behind. Wells Fargo maintains a large one and so does Chase, but you’d be hard put to find out it actually is owned by them. They start a separate collection company. They get it off their books. That’s what they wanted to do. They either sell it or assign it. Most of the time, they sell it for very little money. It’s usually like a commission over to the collection company. That collection company is going to pursue you.
Now the lender doesn’t want to get into the dirty picture, you see, so they’re going to say this is disclaimability. They try to make it sound like, “Oh, you’re getting pursued for the money? Well, it’s not us anymore. It’s the XYZ collection company that’s chasing you. Boy, take it out on them.” Well, the XYZ collection company has no more greater right to come after you and cause you issue than did the original lender on the original loan. If that loan was one on which there was no ability whatsoever to come back at you, no matter what they said, then the credit collector does not get any better deal. It doesn’t wash off all of your defenses or wash off all your rights for him to sell it to the next guy.
This, by the way, is the same rule if you go down to buy a car. Let’s say you go down to a dealer, you buy a car, and it turns out to be a lemon. You go back to a dealer and say, “Hey, I want my money back,” and he says, “Too late. I already sold your note to GMAC Financing,” in the old days. Now GMAC’s become Ally. “I’ve already sold it out. Somebody else has it. I’m not responsible.” Actually, state law and all the statutes say yes he is. The seller of merchandise to a consumer is always responsible for the fatalities that may have come out under that sale and so is anybody that buys from them.
Why would they do that? Well, the reason is they want to make anybody who would want to buy the paper of the dealer leery of dealers who are sort of shady and are selling bad paper. They made the debt defense go right go with.
Well, it’s the same rule in mortgage. You are a consumer. That creditor gets no better deal, whether it’s a collection company or not, than the original one. If they made mistakes or if they’re not eligible to be repaid, neither is the collector. If you’re harassed by collectors, time to go see an attorney. Usually one letter will solve it and they’ll be gone.
Sean: Last question on here. Under the goal of giving more tools and ammo to agents to be able to get lenders who are giving them a hard time, basically backpedaling and stalling the deal. What are some things… I know this HARP acceptance binding them to guidelines. . . There was something that came up around that.
Jim: Right. What it really sounds like… I want to thank you Sean as you were listening mostly to my presentations, but you’re right, those are the ones that I brought up. First of all, I think probably the bigger question is, as a licensee, what kind of tools do I have to cope with all of this when the lender’s giving me a bad time, giving my client a bad time, stalling, stammering, and making ridiculous demands that can’t be met by anybody?
Well, let’s start out first by this. There’s no better protection than knowledge. Remember, knowledge is the spear in the darkness. When these folks are making these demands it’s not because they know so much, in fact they know they can’t. They realize this is a poker game. That’s what they think of it as. If they can bluff you out and get you to fold you on a hand on which you are strong, that you had four aces and they had a deuce, but they bluffed you, and you gave up your four aces and let them keep the pot, they’ll do it. They are not with scruples in this particular area. They think that all is fair in that game and that the stupid guy is you if you let them do it. That’s how they feel about these things. The first one is knowledge.
Know the difference of what a deficiency and non-deficiency is. Know of those rights earlier that we’ve talked about. Listen to sessions like this. Go to these educational programs so that you’re armed with knowledge and you can’t be fooled. That’s step number one.
Obviously, though, in any kind of dealing with a lender, at some points if you’re really having a crisis, it’s going to get “legal.” You probably don’t want to be the one that’s sitting on the phone quoting case law to the lender. Why do I say that? Well, I think first of all, they just don’t take it seriously. They think that only lawyers should be saying lawyer things. They think as long as you’re saying it, you’re not going to a lawyer. They know that the lawyer is the one that can really cause them some problems and actually can go down and file lawsuits and you probably aren’t in a position to do that. There may be a point you also need to keep in mind where you’ve exhausted the point where you’re effective and you really realize that maybe it’s time for the intervention of counsel.
Now, sometimes, of course, your short-selling client is going to say, “God. I can’t afford a lawyer.” Of course, the reality is no one can afford a lawyer. Not even lawyers can afford them. I was at a session one time where a judge was teaching a class on civil procedure and he was railing about the big bills he’s seen from lawyers. He asked for a showing of hands in the class of lawyers. His question was, “I would like to see a show of hands of the people who could afford the kind of bills they’re sending out if they’re being sent to them.” Two hands were raised. This is out of a class of about 120. Are lawyers expensive? They are. Usually the lawyers that are most expensive are the ones that don’t know the law because they have to look it up.
There are a cadre of lawyers out there, five or six of them I think here in Arizona, that really do know their stuff. The lenders know they know their stuff. It would be a good idea to maybe send them over there. It’s usually not very expensive because whether this is going to be the siege of Troy or a quickie on one phone call, maybe a couple of letters, it’s pretty well to be determined real early. Usually the lawyer gets on it, like we have letters that are like 20 pages long that have all been though out because we’ve seen just about every issue with every citation there is in the world that says that they’re crooks, they can’t do it, countersuits, and you name it. We put on the black hat. We don’t charge all those pages. We amortize those by charging less to a lot of people but using a lot of the same material, because the same material comes up again and again. Typically, our consultation fee and maybe generating a letter out the door to one of these, we usually charge an hour or less.
Here’s what it also does for the agent. It allows the agent to let somebody else take the hit on this thing and even the blame. If the lawyer can’t turn it around, at least the broker’s absolved. Also if there was some nook or cranny that could be explored by the broker that the broker just wasn’t aware of or if they feel unpleasant dealing with the lender that way, it makes sense to let the lawyer, the guy who does just that… That’s what they like to do is go out and pick those kind of fights if they have to. They know the law. Maybe it’s worth $250 to let them do it. Especially if you’re in one of those deals where your client says, “They’re already asking for $2,000, $3,000, $5,000 to close when they don’t have the right to ask for anything.” Would you advise your client to write the $5,000 check to the bank or write them a $250 check to the lawyer to make the $5,000 claim go away? It seems like it’s a better deal.
Now one of the things that Sean had brought up is that yesterday in our session, we were talking about other ways of handling this. One of the other ladies that came up to the speaker and asked questions towards the end of the class said, “Well, let me give you a kind of a problem that I had. I have a first and a second mortgage for a borrower on whom I’m representing on a short sale. The first is, we kind of got him straightened away about how much that they want, and it’s going to get a write down. The second is asking for a pile of money. The first is saying, ‘If you can’t pay that second and get him out of the way, we won’t take the deal either.’ I’m stuck! I’m going to second,” she says, “and I keep saying, ‘Why do you have to have so much money?’” By the way, it turns out the second is a non- deficiency instrument as well. It was actually an 80/20 loan on this property originally. I talked to her afterward and found this out.
The lender on the second is demanding large amounts of money on an instrument they couldn’t possibly collect that money on from that borrower in the first place. It’s just a bluff. They’re playing chicken with the borrower. Let’s just see what the borrower does. Is he really going to pay that kind of money? Well, one thing was made perfectly clear. He doesn’t have that kind of money to pay the second, so does the mean the whole short sale falls apart, they all foreclose, and that’s the end of it? Well, it could. There’s another answer to that and it’s the one I came up with. I will say I’ve talked with her since and it probably won’t fit her program, but it might fit one of yours so it’s worthwhile talking about.
Most of the lenders have participated in what they call the GSC programs. GSC programs are anything that is an entity like Fannie, Freddie, and the rest of them that have participated in federal funding and are federally held, where the feds are involved. There are also some federal programs then that relate to those lenders and to any lender who wants to sign on. It’s called HARP, HAMP, 2MP, and other programs which are work out programs, short sale programs and what not, that your licensee tries to get you through and those are the documents that are provided in the why you put as a hardship statement and a financial, and all those things are part of those programs to qualify for a write down like this. Every one of those programs has guidelines that are prescribed by the federal government. If the lender follows those guidelines, he actually gets some money on the back side.
In other words, you may have a short sale on which out of a $400,000 debt you only paid off $300,000. Don’t think they’re going away with only $300,000. They’re going to get money from PMI insurers. They’re going to get one from a government matching fund for losses. They actually come out pretty well on these. You’d be surprised. In fact, they come out better on these than probably the original loans. They’re very well taken care of. That’s where our tax money is going.
In return for this, to get that money, to be eligible for it, they have to sign that they will follow the federal guidelines. Now that 2MP program and HARP now has a provision in it that says that the second only gets a certain amount of money. There’s a formula there. Now, the last time I worked with that formula, it was $3,500 then it went up to $5,500. A fellow in the audience yesterday who does these all the time, and we don’t see HARPs all the time, said it’s up to $8,500. That’s the maximum amount that even a second, who is one that you have to pay because it is a deficiency one. This one it wasn’t, but let’s say it was. This one is almost a $40,000 second. The most they could ask for is $8,500 under the guidelines.
Even the first lender, they signed under the guidelines too. They can’t make demands that you satisfy the second for more money than what the second could possibly get under the guidelines. They’re both in violation of the guidelines.
What can you do about it? You can report them to the feds. Now let me mention why that didn’t work for that lady as we looked this after the session. It didn’t work for her because they weren’t in a HARP program. They were in a Hope for Homeowners program. Now, a Hope for Homeowners program is not a true federal program. That’s a proprietorial program. It’s owned by the big lenders. It kind of feels like HARP or HAMP. It feels like 2MP. A lot of the rules are the same, but it’s a proprietorial one where the lenders themselves run it and they are not under the guidelines. That means, in that case, they probably could have gotten away with making demands for more money than they would have gotten under the guidelines. They can get away with it, because after all, they own the guidelines. That’s their proprietorial program.
Now, Hope is not the majority of the sales out there lately. At one time, Hope was 65%. In other words, they used their proprietorial program and they didn’t use the federal programs. Now, the proprietorial programs have kind of dried up and more of the federal programs are coming in. There was a good chance this could have been. It just turned out that it wasn’t.
What would those parties do? They’re not inside the guidelines program. They don’t have any guideline defense. Both the first and the second are making demands they can’t meet. Well, I think the solution on that is very easy. First of all, you have a lawyer yell at them a little bit as a last ditch shot, a Hail Mary pass at the end of the fourth inning or you walk. I hate to say it, but some deals just plain don’t work.
What could they do to this guy? He’d like to do the deal. The broker would like to do the deal. She’s got a lot of money in this and she’d like to pick up a commission too. She needs to feed her family. Well, if it just can’t work any possible way and they’re not going to budge, then let them have the property. They can eat it. The buyer just sits in there and lets them foreclose. Does he deed it back to him? Not unless they offer. He just sits in there and saves his money and doesn’t them a dime and lets it go ahead and go to foreclosure. It’s not going to make any worse credit. It’s not going to make any worse Section 108 or Debt Relief Act or anything on him. In Arizona, it might even be the better way to go, especially if that’s all the money in the world they have. Let me tell you why.
What if that’s it? They don’t have any savings. They don’t have anything. If they go with a short sale deal, here’s what they’ve got. The park bench. Them and their two kids sitting in the park because they can’t get rich, they don’t have any money, they got credit cards clear up to the eyebrows. That’s probably a deal that shouldn’t have been done in short sale anyway. That’s probably one where you say, “In looking at how terrible you are, you need a roof over your ahead. If nothing more, if you just sit it out, you may get a roof over your head for free for the next eight or nine months.” Of course, it’s not for free. You’ve paid a ton of money for this and you’re losing a lot of money on this house. It cost you. For that, maybe you want to sit in it for eight or nine months until they foreclose. Save the money up that you would have made so at least when you’re out of here you have some money to start over again. That might have been the better decision. In that case, it’s probably how it’s going to turn out.
Sean: Yeah. Short sale is not always the right answer.
Jim: That’s true.
Sean: Jamming people into these deals, like you said, is not always appropriate.
Jim: It isn’t. I do think it’s fair. Remember, we all have a fiduciary duty. If you list it, and it’s a listed short sale, you do owe them a fiduciary duty. You might want to ask them a few more questions. After all, they’re going to give you a hardship letter. You can see the position they’re in. People come in here because they run into a little jam like we just talked about with the lender. Broker sends them over, thank you very much, we love to work with brokers and we do try to get answers. We try hard. Sometimes we’ll look at it and some deals are doomed to failure because the economics aren’t there.
If you’re a broker, for instance, and they want to do a short sale on this property and you look at their hardship statement and their financials, they haven’t got two nickels to rub together. Well, the man’s on unemployment compensation, the mom does some odd jobs, checks at a grocery store or something, barely makes any money. They’re underwater on their cars. They’re underwater on their credit cards. Those people shouldn’t be in a short sale. They should be sitting this out as long as they possibly can and getting what goods they can and working to get some money stored away so that months from now, when they’re finally relieved of this debt and on their way, they’ll have something to start with.
Sean: Yeah. Something you said, actually, before we jump to our user questions, you made me think of an instance on the topic of private mortgage insurance. We had a situation that was reported via our forums where a lender had purchased private mortgage insurance unbeknownst to the home owner after it was discovered that it was an at-risk property and that ended up blocking the short sale. What would the recourse be in that situation, if any?
Jim: Well, all of these things cost money when you’re talking about recourse. The bigger question on PMI is if the lender’s getting PMI, why don’t they use that to off-set the instrument? Why aren’t you getting credit for that? In other words, if you’re under one that does have PMI, and you can tell because you’re usually paying a premium for it in your monthly statement. They usually show that separately, give you statements at the end of the year. If you’re FHA or any of those, of course you are paying premiums. One of the things that everybody has asked is, let’s say I owe $200,000 and I have a short sale for $150,000. The PMI carrier is going to pay them up to $51,900 towards that loss. They’re going to get it tomorrow.
Sean: You’re not going to get. . . Yeah.
Jim: The question is why in the heck don’t I get credit against that mortgage? Just as though it all went to the mortgage and then some, they actually made a profit on it, as far as that means my debt got paid off. Why am I getting ill reported? Why should I have to worry about phantom income? Why should I have to worry about anything? It’s paid in full with insurance I paid for.
Jim: No. That is not what the big lenders are doing. They’re pocketing in both sides. See, that’s just part of what I was talking about. The double dealing and the play on the aces versus the deuces. They’re playing that with everybody, not just the borrower. They’re playing it with their own insurers and with the feds.
One of the questions then that you mentioned was, well, what happens if the PMI has been developed by the bank at a later date in a way that chokes up this whole deal? Obviously, the PMI insurer probably is rejecting making payment saying, “Hey, Peg. You don’t go out and buy insurance the day after your car got wrecked and then say it was the day you bought it that it got wrecked. It was already a wreck when you insured it and you told me it wasn’t.” That’s the precondition of PMI. There are no clouds in the sky when they buy PMI. Well there was already a cloud. Hell, there’s a thunderstorm going on. Obviously, PMI wanted to bail. Then the lender says, “Well, we can’t take that big of a hit, so we just can’t do this deal.” Since the lender is the sneaky party here and PMI actually is right. I think they have the right to do that. Then, of course, you can claim against them and also use that as a defense.
One of things we’ve not talked about today is what if I’m just caught cold, I can’t do whatever kind of deal it is they want me to do? What else can I do? Do I have to go to the guidelines? The answer is no. Sometimes these lenders have engaged in wrongful lender practices that give you a lender liability claim. Guess what? You can use that as trading stock.
Remember that poker game we were talking about? They’ve only got a deuce and you’ve got four aces. Well, two of aces might be that they engage in lender liability. That’s valuable to trade back. Here would be the liability. You defrauded people in a way that barred my ability on the short sale. Because of that, I now am in a worse position than I would have been on an insurance policy that I paid for. You say, “Well, you were paying the premium yourself. Even worse! Then I didn’t have any notice at all that this thing was buried in my transaction and I should have had some notice on that. That’s on your side of the equation. You set me up for failure and now I’ve got failure and I’ve got implied income. Now I’m going to have a worse credit rating than I would have had before. It’s all caused by you. Would you please write me a check for, how much it is you think I owe you, $50,000? Okay. Write me a check for $100,000.”
Now, do you want to play poker? That’s kind of how you do that. That’s what lawyers do, by the way. That’s a thing that as a broker you can’t do if you’re the licensee trying to handle the deal. You’re just not in a position to make lawsuit threats. That’s not how it works. That’s probably an unauthorized practice of law anyway for which you’re not licensed. It’s best to send it off to a lawyer and let them be the black hat. That’s how that works.
Sean: I want you on my poker team so I win. Let’s go to our user questions here and talk about some of these. We’ve got one submitted. What is the remedy if my name is mistakenly still on the mortgage when the house goes to short sale?
Jim: The answer about mistakenly on the mortgage is probably the big question here. How did it mistakenly get there? One example would be this. People think it’s a “mistake” but it’s not really, but it happens quite a lot.
Let’s say that you got married and you bought the house and you both sign the instrument together so your names are both on the deed and both on the loan. Then later there’s a divorce. Wife says, “Look, I’m out of here.” Husband says, “I’ll assume and continue to pay the loan.” They do a marital settlement agreement or the judge rules that. Now, judges don’t worry about HAMP, HARP, 2MP. The judge says, “There’s a decree and the decree says, ‘Husband owns the property free and clear of any interest of wife. Wife can deed it over to him or this decree can act as the deed and he will pay and defend and hold her harmless on the underlying obligation.’” She leaves.
A year and a half later, she goes down to get a credit card and she finds out that there’s a bunch of dings on her credit and it’s from the lender. The lender’s still dinging her because her idiot fool ex-husband is not making payments. In fact, he’s in foreclosure. It’s all being reported on hers.
Now there’s one where a lot of people say, “Well, it’s mistaken that I’m even on there. I shouldn’t be.” Well, here’s unfortunately the problem. The only way when you both signed it originally that you get your name off of it is not because a judge said so or because the two of you decided that your name should not be on it when you did your marital settlement agreement. The only way you can get it off is with agreement with the lender. Did anybody approach the lender? Nope. Probably couldn’t have got it refinanced and got you out in the first place anyway because the husband wasn’t personally strong enough to take over the entire debt because now your income is removed as wife, so he couldn’t have done it anyway.
There’s one where people say it’s mistakenly on it when in fact it’s going to stay there because, by operation of law, lenders cannot suddenly have someone approach them and say, “Me and my partner made a deal last night that he doesn’t owe you any more money and that’s binding on you now.” They go, “Wait a minute. You signed the note. You signed the deed. No. You need our consent to that. Where were we when you made that deal? The answer is no. We’ll just keep you on there.” As to the lender, you’re still responsible. This happens again and again and again.
There’s also a caveat to this I should note and that’s an example of “mistakenly” on the deed it feels like, but not in fact not mistakenly. It was the law. You stay there until the lender says otherwise. Yes, it can continue to go on your credit. We’re trying to talk about credit here in a minute. Yes, it can continue to go there. The foreclosure can go there. You’re going to get a 1099 for potential phantom income, etc.
Now, of course, if you’re a wife, the husband did make an agreement to indemnify you and hold you harmless. It’s probably a violation of your decree. It might a contempt to court. Husbands, before you stop making those payments or go sideways, if you’ve got an indemnity agreement just remember, wife can come back to court and tell the judge you are not playing according to what he said in his decree. Judges become very angry when you do not do what they say. They have the capacity to actually put you in jail, fine you, issue orders that you will bring it current by a given time. Beware of those things.
Sean: The lesson there is to make sure that you talk to the lender. Quick-claim deeds and things you do on title and all that is independent of the note and to make sure that you go to the lender.
Jim: Absolutely right. Any kind of time you’re going to make a transfer or something where you’re trying to absolve yourself from the title, you’ve got to get down to that lender and get their John Henry on the dotted line saying, “We’ll let you do that.”
By the way, say in my situation with the married couple, if the husband is capable of sustaining the debt, let’s say he was the provider all along which we see of course still, even in these modern times. A lot of times the husband is the provider of the income to the home and the wife stayed home, took care of the kids, raised them, and did her part. Wife typically doesn’t have much credit that she couldn’t have gotten anyway to make any assumption or otherwise, but the husband does.
Many times if the husband’s condition has not changed and he’s still financially strong because he’s employed and gainfully employed and there are no credit cards that are going sideways, he can go down and usually get them to sign off. They call it a novation. She’s essentially removed. It will feel almost like a new loan as to him. He has to fill out some forms and so on. They usually don’t go out and appraise again. They’ll just consider it a refinance. Often times, that’s possible.
In many cases, that divorce cost everybody a ton of money. Everybody’s in bad shape. Neither one of them has the ability to go down and carry that. Those are the ones where you’re going to get involved in a short sale. Everybody’s probably going to feel a little bit of a ding on that.
Sean: Good info. Let’s go to the next one here. How can I fix a short sale that was improperly recorded as a foreclosure on my credit?
Jim: There’s a great deal of debate on whether there’s much difference between a foreclosure and a short sale. Now, one of the ways that short sales are sold out there as an option by brokers is to say, “Well, you will get a different credit rating as opposed to going to a foreclosure.” Sometimes that’s true, sometimes not.
If you go to the original rules that FICO and the Trimerge learned by, these are the credit raters and one of them is the place where they report all adverse information and good information. That’s called the Trimerge. That’s your Equifax report, your TransUnion. These are the ones that actually effectively are your world of credit. Those folks have some rules that are essentially theirs. They play by them. Lenders can’t make a difference. Many times you can’t make a difference except by the method I’m going to suggest in a minute. If, under their standards, you get one credit rating, that’s pretty much it. You’re not going to get far by arguing with them on that. That means it is what it is as to those credit reporters.
The real problem is that when you start scoring these out as to how they’re going to turn out. You just started to go into default or delinquency and the credit report is going to start reporting you after 30 days anyway. That’s even just when you’re in delinquency or already getting reported and you’re already losing FICO score every single month. How long does this go?
I met one of the big FICO representatives for this district at a session I gave one time. She was a co-speaker. She traded some information with me because I wanted to get it right from the horse’s mouth. I don’t mean some lady that answers 1-800 line. This lady was the boss for this whole five-state district. I said, “What are your thoughts on that?” She says, “We do show it as a paid, satisfied charge off.” If it all happens at once as opposed to a foreclosure, there probably is a better rating on it.
For instance, if somehow magically the very day you go default they could somehow say, “You got a short sale that day, it’s a charge off, but paid as agreed.” Everybody knows that there’s a code for that that they actually use. Everybody knows that’s a little bit better than a straight foreclosure because it looks like you cooperated. You went along with one of these programs that the feds and the lenders are extending so you get a little bit better deal.
She says the problem is that they wait so long, they take so long to maybe ultimately get it sold and every month you’re getting another ding. She says on a mortgage they used to ding about 15 points a month after 60 days of delinquency and then get an extra ding for how it finally turned out either as a short sale or as a foreclosure or Cash for Keys or one of those.
Look at this. Let’s say if the average time you’re in a short sale was six months. By the way, it’s per mortgage, so if you have a first and a second on it, it’s per mortgage so it’d be a 30 point ding every month. Let’s say you go into six months. Ding, ding, ding while you’re sitting there waiting for the short sale. Then you finally get the short sale. That adds another 75 to 80 points. She says sometimes you can end up waiting so long that your score can be hurt worse than if you just went into foreclosure that very day. She says, “Foreclosures, we rate at over 100 points. It will come down.” It hurts one that had a high credit rating worse sometimes than even those that had a low credit rating to begin with. By the way, it’s logarithmically balanced.
You could be in there all those months, get all those dings, and then get a final modest ding because you went through the short sale. The collective dings could add up to 150 points because of all of all those delinquencies on those two mortgages for all those months. They don’t take it all back and then just show the short sale. They still keep it there and then report the short sale as a little bit less than a foreclosure. If you want to look at what your points are now, they add up all those dings. Those could get large. It’s a problem.
Maybe if your broker says it’s a better deal per se, it’s true. If it all happens simultaneously, you’re going to get a better rating. Not a ferociously better rating, but you’re going to get a better rating on a short sale that was accommodated quickly than you do on a foreclosure. If it’s a long, long, long dragged out deal, the likelihood is on a short sale you’d almost end up with the same score as you would with a foreclosure. In that case, if it was a long, long closure, your broker would be wrong.
What can you do about it? Well, one of the things you can do is if you look on your credit, you can go and get one free credit report a year on the real line for free credit reports. It’s a government line you can log to. You can find it on Google. You can also go down to credit reporter and pay $8 and get it any old time you want. You might want to get it and see how they scored it. It’ll also, for a few extra bucks, get you your FICO score. If you have any questions, they do have a 1-800 number. Because you’re a consumer, they have to answer it.
You might ask, “How is that finally scored? Give me the line-by- line scoring.” If you find out that you were dinged for all those months delinquent while you were in a short sale, I have been writing, as you can do, you have a right to do this, a letter of contest saying, “Look, the only thing I should have gotten is my short sale and all those interim dings are wiped out and merged into it because that’s what it took to get that short sale. That short sale is supposed to the final enunciation of what it is I did. The only reason you made it less than a foreclosure is to give me a better benefit on my credit report. Since you don’t get a short sale in one day and it takes some time, I ought to be able to just have only that and not months and months of dual delinquencies on what essentially was one account on one property. That doesn’t make any sense.” I’ve had them take it off sometimes.
Now, there are three addresses you have to write to and FICO makes the fourth. Those addresses are available for me but they’re also available online if you go out and start talking about a consumer credit complaint. It will usually give you those addresses. You have to write to them. You have to tell them who you are, your Social Security Number, what it is you’re objecting about. Give them the line. Demand for the FICO count from FICO, how they got there, and then look at it that way and make that argument.
Now, they may not go for it. Of course, then you could always make a claim. Wrongful credit reporting practices, there’s up to $25,000 violation per wrongful act against the credit reporters. Anybody who repeats the credit reporter also with the wrong credit. Maybe that’s the right way to go. So far, most of the folks that we’ve worked with have had such hardship anyway, that if we can’t get it with a nasty letter that kind of shakes the tree a little bit, that’s usually about the end of it and they’re just unable to go on from there. That’s just the reality of things.
Sean: Yeah. That’s interesting because we’ve seen pretty substantial benefit to doing a short sale credit-wise, but at the same time I think some of that might be our times. We typically get them done in two months versus. . .
Jim: Well, there you go. See, now, you guys are fast. That’s because you’re doing your short sales right. You’re thinking them out. See, the times that we’re seeing come into our office commonly on the issue like the reader wrote in about, six to eight months, and there have been offers and offers and they’re turned down or they’re asking for more money and they don’t want to pay. What it means is your organization is doing it the right way, so it’s a minimum amount of ding.
That is another point. Shop your organizations well. Go to those that have been there and done that. Don’t go to these people who are just now learning. They’ve done three of them or something, and wow, we’re going on number four. Hey, we’re getting experience now. You need to go to people who’ve done 100 or more. They know the drift.
Also, I will mention something else. Some of it has nothing to do with your broker, nothing to do with your short sale, nothing to do with you particularly. It has to do with your lender. There are some lenders out there who just will not play ball. It takes six to eight months of jerking them around and them jerking you back and whatnot to get the deal through that they should have taken immediately, just because that’s the way they are. There are like three of them out there that any time we see them come with these names we know, “Oh boy. Here we go. Get ready. Get on the gloves and get the ones with the spikes on them. Get a big clothespin and put it on your nose because this is going to stink to fight with these people because they’re stinky.” Fight. That’s, of course, again, what lawyers do. Sometimes you have to make that fight.
In some cases, if there’s not enough money to do it I really regret it, but that goes back then again to just using good short sale brokers from the first get go so that you don’t get into that in the first place. Most of them also know who the troubled lenders are too, so they know what to tell you. If there’s one of them I’m thinking starts with an M, if they came in, they would know immediately, “Yep. Get ready. You’re getting ready for a big fight.” They’ll tell you so at least you know what you’re biting off.
Sean: I have to inject a little personal story here, an anecdote. Just along the lines of how dysfunctional it can be. We had an instance where a lender that will remain nameless, we had faxed them the approval forms and everything repeatedly. They kept saying, “No. We didn’t get it. We didn’t get it.” We finally certified FedExed it, had the certified delivery thing, we knew who had got it, who had signed for it. They came back to us and said, “No, we don’t have it.” We said, “What do you mean you don’t have it? We got the signature here.” They said, “Oh, we threw it out.” “Why’d you throw it out?” “Well, it was incomplete. It was missing something.” “Well, what was it missing exactly?” “Well, we don’t know. We threw it out.”
Jim: Because we threw it out, yeah.
Sean: It’s Catch-22, the [inaudible 1:12:10].
Jim: There you go. By the way, that’s a difficult one for the lawyer to play with as well because, like I say, it goes on these… They’re supposed to be getting better. Maybe they are.
Sean: The Equator system is improved and it seems like that’s. . .
Jim: That’s right. The Equator system is the computer system now that asks the right questions and you put things in the right box and it processes it. What Sean’s talking about, about this endlessly losing everything you send, that’s not unusual. Even lawyer letters. They don’t seem to care there either. In fact, maybe they like to throw those away more. I don’t know.
I can assure you that there are only two causes for it. One of them is that they’re in massive inefficiency on the other side, which should have you deeply concerned. The other one is they actually intend to do all of it, which should have you even more deeply concerned. Either way, it puts you in a bad and precarious position.
Then it really boils down to this. Who are the professionals that are working for you? If you’ve got the good guys, they’re going to get you the best deal you’re going to get. It may not be a sensational deal, but they’re going to get you the best you’re going to get especially from the wily lenders. Some of them really are wily. That again argues for getting into the best hands you can from the very beginning of these.
Sean: Yep. All right. We’ve got three more and we’re already up more than an hour of your time so I appreciate it. I have already had a bankruptcy. Should I still consider a short sale over a foreclosure?
Jim: Well. Good question. It comes out a lot. I don’t know how long ago your bankruptcy was. If you had this loan during bankruptcy, it was probably discharged. Then the question becomes in bankruptcy, did you reaffirm it? At the tail end of a bankruptcy, the court will ask you or there’s a group of forms that you’re supposed to use and volunteer if you reaffirm a debt. Now, some people do. If you reaffirm it in the bankruptcy court, that means okay, I’ve discharged everybody else, but you, Mr. Creditor, I agree, I will continue to owe you money.
Now sometimes the lenders demand this. They say, “Look. I let you go all the way through bankruptcy without paying. Yes, you discharged me, but you’re still on the house. Now, if you want to pick that loan up and pay for it, I want a reaffirmation so I know you’re back on the hook on that loan. If you don’t sign it, then I’m just going to go into foreclosure because you haven’t paid me. I’ll just take the property away from you.”
The next question that comes about is did you sign a reaffirmation? If it’s a reaffirmation, it’s a new debt all over again. It’s still there. Now, some lenders don’t even do that. They just say, “Look. You went through the bankruptcy. You brought us current or you’re still in delinquency, but we’re going to let you stay in the house. We just don’t want to get around to it right now.” That happens. That changes it a little bit. The reason is that if you were discharged in a bankruptcy and never reaffirmed the debt, you don’t owe them money anyway. It’s over. You might still own the house until such time as there’s a foreclosure, but you don’t owe any money.
After that, the next question you go to is what would be the difference then if I went to short sale or just let it go? Well, not much, because at that point the bankruptcy has done about as much harm as it can to you.
In the old days when they had what they called the unified credit reporting system, and it got turned later into FICO, they had a 0 to 9 scale. Zero meant you had never had any credit. One meant that you paid everything before it was due and you paid more than what was due when it was due. Two meant you paid things as due and you paid whatever was due on the very date they were due. Well, if you could see that numbering system, like four was you missed a payment once, and then finally got to nine. Nine’s a bankruptcy. Bankruptcies last a long time on your credit rating, as much as 10 years, whereas other credit dings could last only seven. The likelihood is if that bankruptcy was recent, you haven’t got any credit to repair. You are toasted. You’ve got some pretty bad credit.
What would be the difference on a short sale from a credit reporting standpoint or anything else? Not much. If you reaffirm the debt, it may be a wise way to go because that’s the one crucible and the one moment where you can get back off that debt and make some kind of a deal that you can live with and start yourself getting fresh again. If you’ve been discharged from the debt, I think it’s one of those things that doesn’t make a dime’s worth of difference.
Then after that, it’s just a matter of your preference. If you feel morally obligated to enter a short sale program and get your lender paid as much as possible, then that’s fine. I’m not going to argue with that. Other than that, from a very aseptic, legal reasoning, there would probably be no reason to fight for that unless you were fighting for reinstatement to just stay in the house. That probably would be more worth it if it was financially feasible. There you go.
Sean: Good deal. All right. Cash for Keys, is that considered a short sale, foreclosure, or something else?
Jim: Well, Cash for Keys in an acronym that just means, usually comes at the tail end of the HAFA program. That’s the one that’s trying to avoid foreclosures. Essentially, usually what happens is you’re in a short sale scenario. The lender says, “First we have X months that we approve you to go ahead and try to short sale it. See what you can get. If that doesn’t work, then we’ll give you another number that you can short sale it at that’s lower that would satisfy us. If that doesn’t work, we might go into one of two things. We might still end up just foreclosing or we might make a proposal to you to give you some, usually $3,000, $2,500 to $3,500, to just give us the keys. Give us a deed in lieu of foreclosure.” It’s not just keys. You have to deed it back to them. “Give us a deed in lieu of foreclosure and go your way and we’ll give you some money to move.”
Those are part of the HAFA program. It’s called the last ditch solution. It goes down as a deed in lieu of foreclosure. That’s what it goes down as on your credit. A deed in lieu of foreclosure is just about as bad as a foreclosure. I don’t think there’s any difference. Now, so far, some people say, “Well, there might be a difference in Cash for Keys in the future.” I’ll tell you what that is in a minute because it also goes back to an earlier question. From the standpoint of, if you’re at the Cash for Keys in the abstract, they’re going to treat it the same as a foreclosure because you’re going to execute a deed in lieu at the same time. You can’t just say, “Here are the keys.” That doesn’t transfer ownership. It’s kind of just a slang to say, “It’s yours. Here’s the deed. I’m out of here.”
One thing though that I want to talk about on some value in short sales as opposed to just walking away or sitting on it until it gets foreclosed. There is another value. It’s about credit rating. It’s something that we do have to consider because it may make sense to you or it may not. It also helps a little bit in why you might short sale when there are a lot of reasons maybe economically that we’ve talked about that wouldn’t make any difference to you particularly.
Well, there is one difference it can make. The government is giving you one last reward. It says this, “If you walk from your property and we just have to take it back the hard way, then as far as we’re concerned you are not going to be capable of getting a loan from Fannie and Freddie for up to, say, five to seven years.” They lowered it recently to three. “You’re not going to be able to get another loan. You’re just completely disqualified. We don’t even care what your credit rating is. You can walk in the door with a million bucks in the bank. We won’t give you a loan. That’s because we’re mad at you. If you go along with one of our programs and follow it all the way through, then we will reconsider you for eligibility in as low as two years for Fannie and Freddie.” It used to be one year for an FHA loan. Now they tell me they’re considering them in 90 days.
What it does get is maybe one other element and maybe it’s important. That is, it gives you another shot to go back and get a loan. Remember, they’re still going to run you through the rest of the qualifications. It just means you won’t be boycotted. You cooperated with the program. Didn’t turn out very wonderful for you, but now you want to be able to get into another house which means you’d better be capable financially of doing it. It might be an FHA, 3.5% down, 665 or 670 or something on FICO scores. That might be the one you get into. They want to see that you do have the financials to qualify otherwise. It’s just that they’re not going to boycott you per se, because you walked on it.
Cash for Keys still qualifies if it was done under HAFA and they said, “Give us the deed in lieu. Give us the keys.” Then you’ll have a shorter qualification time for those loans and you will not be boycotted.
Sean: Cool. This last one, I think we may have actually already covered. Is there any way to avoid having the mortgage insurance company demand a large sum of cash at the close of Escrow?
Jim: The mortgage insurance company has no right to make any demand on you at all for the money. The reason is all you are is the payer is but the beneficiary is the lender. That’s the end of the end. They have no right of what they call subrogation.
Think of it like this. Let’s say that you’re buying insurance on your car and the purpose of it is to cover it in the event someone crashes into it and destroys your car, so you’re paying the premium. Now, remember, I didn’t pay you anything unless you own the car. Let’s say there’s a mortgage on the car. Big mortgage, you just bought it. You drive down the street and somebody comes out of nowhere and smashes your car and takes off. It turns out they’re uninsured. Fortunately you’ve got some good insurance. You’ve paid the premiums on it. That insurer steps up to the plate. You owe $21,000 to the bank on the car. They pay the $21,000. There’s about $1,000 left maybe on its fair market value at the time of the collision that gives you the thousand. Well, they don’t turn around now and sue you for the $21,000 they paid out.
Sean: That’s why you bought the insurance.
Jim: That’s why you bought the insurance. Again, this is the thing about the poker game. See, if the system was played legitimately, then there would be legal intervention by the state and federal governments to make sure these people play according to Hoyle with the lenders. Remember, the lenders drop big bags of big dough every place. Really, all the cops that should be on the beat making sure these people play kosher are looking the other way. They’re all on the payroll, the political payroll. The lobbyists out there are working like crazy. It shouldn’t be that you’re just alone when they violate the rules and make these ridiculous and unlawful demands. There should be somebody that comes down and raps these guys alongside the head with their nightstick and drags them off some place and puts them in the crowbar hotel. Unfortunately, they’re paid to look the other way by the very lenders you’re dealing with. Since the fix is in, unfortunately it’s every man for themselves and that’s not the way it should be.
From the standpoint of people making unlawful demands, to come back and ask you to subrogate and repay what you just bought insurance to cover, and the only one that got covered was the lender in most cases, then it’s ridiculous to think that that’s the kind of insurance that they can come back and say, “We covered it. Now you have to pay us back everything we did.” What the hell was that insurance good for? Hence, the law says it can’t do that. Now, of course, remember, since the policeman isn’t there with his whistle, the state is not doing anything about that. It’s pretty much you, your broker, and probably your lawyer are going to have to take that position.
Sean: Yep. As we’ve discussed, as long as it’s economically viable for them to keep bluffing and keep pulling these shenanigans, I guess. . .
Jim: That’s true. What Sean’s talking about is a conversation we had just before we went online today. That was this issue where people are rolling over where they probably shouldn’t. Of course, it’s hard when you have all the odds stacked up against you to have the gumption to keep on going on and fighting the system. I know what that feels like. As a lawyer, I’ve been fighting this system for many years and so I do know. Believe me. I’ve got plenty of bumps and bruises to prove that periodically the system got the best of me. For the most part, I have learned this. If you don’t fight, you can’t win. You’ve got to put up a fight.
Let’s be realistic. If everybody put up a fight and the lenders got nada everywhere. All the brokers and all of us got on the same page, you’re not going to get PMI. Don’t even try. It isn’t going to happen. Frankly, the bank, who’s a how-much-ventured and how-much-gained kind of guy, they will not play that chess piece anymore. They’ll pull it back and say, “Ah, looks like that ruse has been exposed. Nobody’s going to do it anymore.” Everybody that rolls over finances the bank and encourages it to do the same misconduct next time. In other words, you don’t teach a dog anything when every time he makes a mistake you give him another dog bone. That’s essentially what they’re getting. You’ve got to just stop giving them.
Sean: It’s the veritable blood diamonds of this century.
Jim: It is. That’s exactly true.
Sean: Jim, we can’t say how much we appreciate your time. You’re an advocate of the homeowners and we really respect that so thank you for being on.
Jim: Thank you very much for asking me.
Sean: Yep. Cheers.