Foreclosure Hills, 90210

The workings behind the US foreclosure crisis, Beverly Hills-style

Tim Reid, Reuters

The careworn house not far from Santa Monica Boulevard resembles millions of other homes that have been foreclosed on since the calamitous US housing crash four years ago.

Garbage spews from trash bags behind the property. A smashed television leans against broken furniture. A filthy toy dog lies on its side, an ear draped across its face. The garden is overgrown. The house needs a paint job.

Yet the property on North Rexford Drive in Beverly Hills, California, is no ordinary foreclosure.

A sprawling, Spanish-style estate, fringed by majestic pine trees and located near the boutiques of Santa Monica Boulevard, its former owners were served with a default notice in 2010; they were US$205,000 behind in their payments on mortgages totaling US$6.9 million.

Welcome to foreclosure Beverly Hills-style.

About 180 houses in Beverly Hills, the storied Los Angeles enclave rich with Hollywood stars and music moguls, have been foreclosed on by lenders, scheduled for auction, or served with a default notice, the highest level since the 2008 financial crash, according to a Reuters analysis of figures compiled by RealtyTrac, which tracks foreclosures nationwide.

As in the default-ravaged suburban subdivisions of Phoenix, Arizona, and Tampa, Florida, plunging real-estate prices are the root of the problem in Beverly Hills.

However, the dynamics of the residential real-estate collapse are very different in elite neighborhoods such as this. The majority of delinquent homeowners in Beverly Hills owe more than US$1 million. Many are walking away not because they can’t pay, but because they judge it would be foolish to keep doing so.

“It’s a business decision, not an emotional one which it is for normal people,” said Deborah Bremner, owner of the Bremner Group at Coldwell Banker, which specializes in high-end properties in the Los Angeles area. “I go to cocktail parties and all people are talking about is whether it is time to walk away, although they will never be quoted in the real world.”

She said she had seen in Beverly Hills a big increase in “strategic defaults,” in which owners who can still afford to make their monthly mortgage payment choose not to because the property is now worth so much less than the giant loan used to buy it during the housing bubble.

A strategic default is an especially appealing option in California, one of only a handful of US states where primary mortgages made by banks are “non-recourse” loans. That means the loan is secured solely by the property and banks cannot go after a delinquent owner’s wages or other assets if they default.

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Affluent And Stable Florida Homeowners are Still Walking Away

Christine Stapleton, Palm Beach Post

She has a sales job with a six-figure salary. He owns a successful tech company. And they are in foreclosure.

But unlike countless other Americans faced with losing their homes, this couple could make the $5,200 monthly mortgage on the waterfront property in Pompano Beach that they bought for $585,000 in 2004. Foreclosure was their decision – not the bank’s.

They crunched the numbers: $525,000 outstanding on their first mortgage and a $245,000 second mortgage on a home now worth about $319,000. His business was way down, her company was laying off workers and other investments had tanked. It made no sense to hang on to their underwater home. So they stopped paying their mortgage and waited for the foreclosure notice. It came in October.

It is called strategic default – borrowers who have enough money to make their mortgage payments but do not. They owe so much on a home that is now worth so little, that they decide to walk away.

It is not an easy decision. But it is not the inevitable blow to their credit score that troubles some strategic defaulters. It is the ethical dilemma of refusing to repay a loan when they are able to and worrying about what the neighbors will think.

“It felt like such an awful thing to do,” the woman said, who spoke on the condition of anonymity. “I got a car loan at 14 and paid $35 a week until I paid it off when I was 16. ”

Ethicist OK with decision

How prevalent are strategic defaults?

Although the exact number is unknown, half the homeowners in a study conducted by the Federal Reserve Board walked away when they owed twice what their home was worth. A Palm Beach Post analysis of foreclosed homes purchased since 2006 found 72 percent – about 4,124 homes – are worth less than half of the original loan.

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Biggest Defaulters on Mortgages Are the Rich

David Streitfeld, NY Times

No need for tears, but the well-off are losing their master suites and saying goodbye to their wine cellars.

The housing bust that began among the working class in remote subdivisions and quickly progressed to the suburban middle class is striking the upper class in privileged enclaves like this one in Silicon Valley.

Whether it is their residence, a second home or a house bought as an investment, the rich have stopped paying the mortgage at a rate that greatly exceeds the rest of the population.

More than one in seven homeowners with loans in excess of a million dollars are seriously delinquent, according to data compiled for The New York Times by the real estate analytics firm CoreLogic.

By contrast, homeowners with less lavish housing are much more likely to keep writing checks to their lender. About one in 12 mortgages below the million-dollar mark is delinquent.

Though it is hard to prove, the CoreLogic data suggest that many of the well-to-do are purposely dumping their financially draining properties, just as they would any sour investment.

“The rich are different: they are more ruthless,” said Sam Khater, CoreLogic’s senior economist.

Five properties here in Los Altos were scheduled for foreclosure auctions in a recent issue of The Los Altos Town Crier, the weekly newspaper where local legal notices are posted. Four have unpaid mortgage debt of more than $1 million, with the highest amount $2.8 million.

Not so long ago, said Chris Redden, the paper’s advertising services director, “it was a surprise if we had one foreclosure a month.”

The sheriff in Cook County, Ill., is increasingly in demand to evict foreclosed owners in the upscale suburbs to the north and west of Chicago — like Wilmette, La Grange and Glencoe. The occupants are always gone by the time a deputy gets there, a spokesman said, but just barely.

In Las Vegas, Ken Lowman, a longtime agent for luxury properties, said four of the 11 sales he brokered in June were distressed properties.

“I’ve never seen the wealthy hit like this before,” Mr. Lowman said. “They made their plans based on the best of all possible scenarios — that their incomes would continue to grow, that real estate would never drop. Not many had a plan B.”

The defaulting owners, he said, often remain as long as they can. “They’re in denial,” he said.

Here in Los Altos, where the median home price of $1.5 million makes it one of the most exclusive towns in the country, several houses scheduled for auction were still occupied this week. The people who answered the door were reluctant to explain their circumstances in any detail.

At one house, where the lender was owed $1.3 million, there was a couch out front wrapped in plastic. A woman said she and her husband had lost their jobs and were moving in with relatives. At another house, the family said they were renters. A third family, whose mortgage is $1.6 million, said they would be moving this weekend.

At a vacant house with a pool, where the lender was seeking $1.27 million, a raft and a water gun lay abandoned on the entryway floor.

Lenders are fearful that many of the 11 million or so homeowners who owe more than their house is worth will walk away from them, especially if the real estate market begins to weaken again. The so-called strategic defaults have become a matter of intense debate in recent months.

Fannie Mae and Freddie Mac, the two quasi-governmental mortgage finance companies that own most of the mortgages in America with a value of less than $500,000, are alternately pleading with distressed homeowners not to be bad citizens and brandishing a stick at them.

In a recent column on Freddie Mac’s Web site, the company’s executive vice president, Don Bisenius, acknowledged that walking away “might well be a good decision for certain borrowers” but argues that those who do it are trashing their communities.

Read more here: http://www.nytimes.com/2010/07/09/business/economy/09rich.html?pagewanted=1&hp

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The vexing case of strategic defaults

Kenneth Harney
With tougher mortgage underwriting rules a virtual certainty under Congress’ new financial reform legislation, lenders have begun confronting still another vexing issue: Can homebuyers who have high credit scores really be trusted not to pull the plug — strategically default — when the economy hits a rough patch and home values tank?

New research based on data from 25 million active consumer credit files suggests the answer just might be no. Though people with the highest-ranking credit scores are less likely to default on their mortgage compared to people with lower scores, when they do default they are much more likely to do it strategically — simply stop paying with little or no warning in advance.

In a study released June 28, researchers from credit bureau giant Experian and the Oliver Wyman consulting firm found that borrowers with “super prime” credit scores accounted for 30 percent of all mortgages outstanding in mid-2009 but produced just 5 percent of all serious mortgage delinquencies.

However, 28 percent of those elite scorers’ defaults were calculated and strategic, versus 18 percent for the overall population of borrowers in the sample. This pattern, in turn, is forcing lenders and the credit industry to seek new ways to evaluate risk beyond traditional credit scores.

Charles Chung, Experian’s general manager of decision sciences, said in an interview that “lenders not only are looking at credit worthiness” — as measured by traditional credit scoring models — but also at applicants’ likely “ability to pay” under scenarios where real estate values drop. In the future, lenders may need to adjust underwriting and risk-rating rules — higher minimum down payments, higher interest rates — to deal with loan applicants who fit the profile for walkaways in a depreciating real estate market.

The latest study, which follows up on earlier research involving credit files where consumers’ personal identifiers had been removed, tracked strategic defaulters in 2009. By examining payment patterns in individual credit files, Experian and Oliver Wyman estimate that about 19 percent of all mortgage defaults last year involved intentional, strategic walkaways.

Though there was some evidence that total defaults may have peaked at the end of 2008, the walkaway issue remains a costly and controversial one for the mortgage industry. Fannie Mae announced in late June that strategic defaults have become such a problem that it is toughening its policy and will pursue walkaways for unpaid balances and penalties wherever permitted by state law.

The Experian-Oliver Wyman study confirmed that geography plays a significant role in the strategic default phenomenon. Homeowners in volatile boom and bust states such as California and Florida have been especially prone to walk away from deeply negative equity situations.

A separate study by three researchers at the Federal Reserve found that not only is geography crucial, but state law treatment of unpaid mortgage debt balances following a walkaway may play major roles as well. The Fed study examined 133,281 loan histories from Arizona, California, Florida and Nevada where borrowers were underwater on their loans.

According to the researchers, in Arizona and California, where state law imposes restrictions on lenders’ abilities to collect post-foreclosure deficiencies on principal residence mortgages, borrowers were more prone to walk away from their houses at lower levels of negative equity compared with borrowers in states such as Florida and Nevada, where lenders face fewer restrictions.

“This result suggests,” the Fed study says, “that borrowers may factor into the costs of default the potential legal liabilities resulting from a foreclosure.”

The Fed researchers concluded that the depth of borrowers’ negative equity positions is an important tripwire to their decision to send back the keys. Borrowers whose negative equity is relatively modest appear to be much less willing to strategically default, probably because they hold out hope that market conditions will improve enough to restore them to positive equity one day.

But as negative equity approaches 50 percent — and borrowers see no prospects for higher real estate values — roughly half of all mortgage defaults are strategic.

The Fed researchers cited a hypothetical case from Palmdale, Calif., to illustrate the economic logic of strategic defaulters: Purchasers there in 2006 paid $375,000 for a median-priced single-family home. By 2009, the same house was worth less than $200,000. Meanwhile, a three- to four-bedroom house in Palmdale rented for $1,300 a month at the end of 2009 — far less than what the deeply underwater borrowers were paying for theirs.

Why stay in a seemingly hopeless situation, bleeding money indefinitely? Both studies document that many borrowers asked themselves that very question — and decided to just stop paying.

Ken Harney is a real estate columnist with the Washington Post.

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