Have I mentioned of late how much I love my commenters? Many
thanks to James
Moore, who adds a very interesting twist to my obsession over
the proportion of mortgages which are non-recourse.
Moore gets straight to the heart of the matter: the key
question isn’t how many mortgages are non-recourse, but rather how many
mortgage lenders would go after their borrowers for unpaid mortgage
debts even after the property in question is sold at foreclosure.
Moore’s insight is that just because a lender can
pursue a borrower, doesn’t mean it will. And the
key distinction to be made here is between judicial and non-judicial
I’ll let Tanta
explain the difference:
Foreclosures can be
“judicial” or “non-judicial.”
Some states require judicial foreclosure; most states allow one or the
other at the lender’s election or in certain other
circumstances. A judicial foreclosure requires the lender to sue the
borrower in court for satisfaction of the debt. A non-judicial
foreclosure allows the lender to use the “power of sale
clause” in the mortgage document to force sale of the
property without a court order.
the non-judicial foreclosure uses powers granted to the lender in the
mortgage document, which is executed by the borrower at the time the
loan is made, the property sale is, in essence, already
“authorized” by the borrower. When you sign a
mortgage document, you are agreeing in advance to sell your property at
public auction if you do not pay the debt as agreed in the note.
Non-judicial foreclosure is
almost always faster and cheaper for the lender than a judicial
foreclosure. Most of the time, when there is a choice, the lender
chooses the non-judicial option for that reason. The big benefit to the
lender of a judicial foreclosure is that the lender can ask the court,
when appropriate, to enter a “deficiency judgment”
against the borrower; this makes the borrower liable for any difference
between the proceeds of the sale and the debt owed when the borrower is
upside-down. Practically speaking, a lender who chooses non-judicial
foreclosure generally waives its right to seek a deficiency judgment.
The lender’s calculation, obviously, comes down to weighing
the benefit of quick sale and reduced expenses against the cost of
(potentially) writing off part of the debt.
If a mortgage lender wants to sue a borrower for repayment
over and above the sale proceeds from the property, then, it basically
needs to go to court and get a deficiency judgment. If you’re going to
go to court anyway, you might as well get a judicial foreclosure: if
you opt for a non-judicial foreclosure, then the chances of your going
back to court for a deficiency judgment are essentially nil.
Now Moore says that in California, at least (all this is
complicated greatly by the fact that foreclosure law is made by the
states, not the federal government), “you just don’t see judicial
foreclosures” – they’re simply too expensive for the lenders,
and the extra money the lender might be able to squeeze out of the
borrower simply can’t compensate for the cost of getting that
deficiency judgment in the first place.
This surprises me, I must say. After all, California was
ground zero when it came to mortgage innovations like 125% LTV
mortgages, where the bank lent the borrower more money than the
property was worth. Clearly, no one is going to do that unless you have
a reasonable expectation that you can go after the borrower
individually for any monies not received in foreclosure. The credit
markets might have gone a bit crazy over the past few years, but they
didn’t go that crazy. (Please
tell me they didn’t go that crazy.)
But it’s also obvious that in these stressed times when
lenders can’t even service their loans properly because they’re
overwhelmed by the volume of defaults, they’re going to be extremely
hesitant to go through the hassle of a judicial foreclosure, if they
have a much easier alternative in non-judicial foreclosure.
So maybe even recourse borrowers might be able to walk away
from their homes without declaring bankruptcy – “jingle
mail”, it’s called – with the reasonable expectation that
their bank won’t pursue them for any extra money. If that’s the case,
it adds a whole new and rather unpleasant twist to the dynamics of the
property market. Suddenly, it becomes economically idiotic for many
prime borrowers to continue to make their mortgage payments, even if
they can quite comfortably afford them. And the implications of that
for properety prices are nasty indeed.