Underwater Mortgages

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 What is a Mortgage?

A mortgage is a type of loan that helps an individual pay for something, typically a home, using payments over a specific period of time. The two most important documents in a mortgage transaction are the promissory note and the deed of trust.

Promissory notes are legal contracts that typically state that one party promises to repay a certain amount of money to a lender, often a bank, in a specific time frame. Promissory notes require borrowers to pay back their loans even if they sell the property.

Deeds of trust act as liens on homes or properties and ensure lenders will be repaid for their loans. If a loan is not repaid as agreed, a lender can force a borrower to repay the loan by selling the property.

Mortgage lenders, or mortgagees, provide loans to borrowers, or mortgagors, to purchase a home or property. In most situations, mortgage lenders are banks or mortgage companies.

There are some individuals who may be eligible to borrow from a government-sponsored lender, for example:

Once a mortgagor has satisfied their loan, or paid off their home or property, the title to the home or property will then transfer to the mortgagor.

What are Underwater Mortgages?

Underwater mortgages arise when a home loan has a higher outstanding balance than the market value of the property. In other words, the borrower has a greater mortgage debt than what the house is worth.

This typically arises due to a default or a failure to make payments on the mortgage. Having an underwater mortgage can have several effects on a borrower as well as their ability to do things with their property.

For example, an underwater mortgage situation may:

  • Prevent the borrower or homeowner from selling their property;
    • there may be exceptions if the homeowner has cash or other funds to pay for losses of the sales;
  • Prevent the homeowner from obtaining refinancing on the property; or
  • Create other limitations on the borrower’s financial situations.

The main issue with an underwater mortgage is that the homeowner may face foreclosure if they cannot catch up on their payments or if they are unable to renegotiate their loan terms.

How Long Can You Not Pay Your Mortgage before Foreclosure?

There is not a straightforward answer to the question of how long an individual can go without paying their mortgage before they face foreclosure. The borrower must carefully review the terms of their mortgage agreement in order to determine if there is a grace period provided for missing payments.

Once a homeowner fails to repay their mortgage, the lender has the right to begin the process of foreclosure. Foreclosure is a process in which the lender takes possession of a home because the borrower defaulted on their mortgage payments.

Once the process of foreclosure is complete, the lender often sells the property at a public auction and uses the proceeds in order to recover their losses. If the sale of the property does not cover the amount that is owed to the lender, the borrower may be required to make up the difference.

When this occurs, it is called a deficiency judgment. This is because the money that was recovered from the auction or sale of the property was not sufficient to cover the amount of the loan.

In general, foreclosure begins after 3 months of non-payment and after the homeowner has been notified of their default. It is important to note that proper notification is different in nearly every state.

The notice that is provided to the homeowner will typically claim that they have become delinquent in their payments, and, as such, the lender has the legal right to repossess the home. It is important to note that even after the lender begins the foreclosure process, a borrower may be provided a grace period in which they can repay their missed payments.

The length of the grace period will depend on the laws of the borrower’s location, unless otherwise specified in the mortgage agreement. If the homeowner does not pay their mortgage by the end of the grace period, a lender is permitted to report them to the credit bureau.

Doing this may lower the borrower’s credit score and will appear on their credit history. A borrower should be fully aware of their duties and rights as outlined in their mortgage contract.

Common examples of foreclosure avoidance include:

  • Short refinancing: Short refinancing allows part of the debt of a borrower to be eliminated and the remaining loan to be refinanced;
  • A short sale: A short sale occurs when the homeowner sells their property for an amount lower than what they still owe. The proceeds of the sale go to the lender, and the rest of the debt may be forgiven;
  • Loan modification: Loan modification may occur if a lender is willing to modify the terms of the loan in order to be paid some amount of money instead of being paid nothing;
  • Forbearance: Forbearance can temporarily stall the foreclosure process and gives the borrower more time to eventually pay the amount owed; and
  • Negotiation: Often the lenders will not want to pursue a foreclosure, as the foreclosure process is costly, and the full amount of the loan may not be recovered. Instead, lenders may work with the borrower to restructure their original loan, as mentioned above, or modify the mortgage agreement so that the borrower can afford to make timely payments.

What are Some Common Causes of Underwater Mortgage Situations?

An individual does not get into an underwater mortgage situation overnight. Underwater mortgage situations usually result from a series of events or a number of factors, which may include:

  • Changes in economic situations, for example;
    • the loss of a job;
    • a new child; or
    • a business failure;
  • Failure to properly estimate future mortgage payments, especially in mortgage loans where the monthly rates increase after a certain period of time;
  • Changes in market conditions; and
  • Various other factors.

What is Strategic Default?

When attempting to deal with or anticipate an underwater mortgage situation, a borrower may go into strategic mortgage default. A strategic mortgage default occurs when an individual purposely skips one or more mortgage payments.

This may be done with the understanding that the home will eventually go into foreclosure. At this point, the homeowner may be trying to keep whatever income they still have.

Strategic default is more common in non-recourse states. Non-recourse states do not allow a lender to sue a borrower for additional amounts on top of the foreclosure lawsuit.

There can be negative consequences that are associated with a strategic default, including bad credit ratings. There are alternative methods for dealing with an underwater mortgage that may be preferable, for example, trying to renegotiate payment terms.

Do I Need a Lawyer for Help with an Underwater Mortgage?

An underwater mortgage may create daunting situations for homeowners. If you have any issues, questions, or concerns related to an underwater mortgage, it may be helpful to consult with a mortgage attorney.

Your attorney can give you legal advice on what to do and can advise you of the laws in your state. In addition, if you need to attend any court hearings, your lawyer will be present to represent you during the process.

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