About 588,000 borrowers walked away from homes last year, double the number in 2007. While home prices are rising, the increases pale compared with overall drops in home prices since 2005 that threaten to push millions more homeowners into owing more than their homes are worth and seeing little chance of rebuilding equity soon.
The mortgage unit of Citigroup says one in five borrowers who defaults does so willingly, even though they’re able to pay the mortgage. “It’s a very large number, and it’s a very, very significant risk to the housing recovery,” says Sanjiv Das, CEO of CitiMortgage.
The number of borrowers who walk away is expected to increase, along with the rise in homeowners who owe more than their homes are worth. An unprecedented 16 million homeowners currently are underwater, according to Moody’s Economy.com. That’s about a third of all homeowners with a first mortgage. Moodys estimates the number of underwater borrowers will peak at 17.4 million in the third quarter of 2010. An even higher estimate comes from Deutsche Bank, which predicted that the number of homeowners underwater will grow from 14 million (or 27 percent of all homeowners with mortgages) in 2009 to 25 million homeowners, or 48 percent of all those with a mortgage, by the time home prices stabilize.
Waiting for prices to stabilize
How bad the strategic defaults issue gets may depend on how much more home prices fall and whether the government does more to help homeowners with mortgages larger than their homes’ value. The government’s current Making Homes Affordable program for mortgage modifications disqualifies borrowers whose unpaid mortgages are more than 125 percent of the home’s market value.
Nationally, median prices have fallen about 25 percent from their peak in late 2005, although prices recently have risen compared with prior months this year. The median price in the second quarter – $170,000 – was at roughly the level it was in autumn 2003. But price declines have been worse in some markets. A closely watched barometer of home prices, the Standard & Poor’s/Case-Shiller 20-City Composite Index, shows they have fallen more than 25 percent in 12 markets and more than 50 percent in two – Phoenix and Las Vegas – from peaks hit in 2006 or 2007.
Not coincidentally, strategic defaults have been highest where prices have plunged most, such as California and Florida.
From 2005 to 2008, the number of strategic defaulters went up by 68 times in California, according to the Experian-Oliver Wyman study published in September. During that same time period, the median price for existing, single-family homes in California fell from $522,670 in 2005 to $346,410, according to the California Association of Realtors.
In other geographic regions, the increase in strategic defaulters ranged between 3 times and 18 times more.
The Experian-Wyman study found borrowers with higher credit scores when they applied for their loan were 50 percent more likely than other types of borrowers to walk away from a mortgage only because they were underwater, even though they could afford to pay. The study was based on an analysis of about 12 million borrowers.
No household would default if the equity shortfall is less than 10 percent of the value of the house, according to another study this year, done by the University of Chicago, Northwestern University and the European University Institute. But 17 percent of households would default, even if they could afford to pay their mortgage, when the equity shortfall reaches 50 percent of the value of their house. That means the market value of a mortgage property is that much below the amount of loan taken against it.
There also appears to be a contagion effect. Borrowers who know someone who defaulted are 82 percent more likely to declare their intention to do so.
Growing acceptance
Because of the time and expense involved in completing a foreclosure, borrowers who decide to walk away often wind up staying in their homes for months after they stop paying their mortgage.
In most states, lenders can go after homeowners for past-due payments, but many fail to take such action when borrowers abandon their properties, because the legal costs are so high.
