In this economy there are a huge number of homeowner’s who owe more on their homes than the houses are worth. It’s become so common that no one will looking down on you if you decide to walk away from your home. Still, that doesn’t make it right.
Seeing so many people decide to let the bank take their homes makes the prospect look more appealing to those who would otherwise never consider defaulting on a debt obligation. So at what point should you think about walking away?
Here’s a look at the moral questions you need to tackle, the emotional implications of foreclosure and the math you need to figure it out to see if it is financially the best decision for you.
Is it Right to Walk Away?
The moral dilemma of defaulting on a home loan is certainly less painful than it once was. So many people are considering the move that no one will judge you if you decide the let the bank take your house. Most people, when faced with no social consequences, will bail out on morality with little guilt. In an age of tolerance and individuality, we each make our own moral compasses.
The decision to stay in your home and struggle with finances must be weighed against other responsibilities. If you can’t afford to pay the mortgage and feed your children, clearly, it would be your moral obligation to feed the kids and let the house go. But if it’s just you and your cat, only you can decide if walking away is the right thing to do.
The Emotional Consequences of Foreclosure
While it’s true that foreclosure is no fun, it’s not the nightmare many make it out to be. When seen without the shadow of moral implications, it is just another process to go through.
You will need to be strong-willed and ready to make tough decisions, and you will find that you are stronger than you think. Foreclosure is hard on your nerves, but no more so than struggling every month to pay the mortgage.
Here’s what foreclosure truly is…it’s extra time in your home, rent-free while you save money towards another home or an apartment. Understand that each month you fail to make a payment, arrearages, penalties and interest pile up. If you walk away without filing bankruptcy, you will be personally liable for any money the bank is unable to recover through the foreclosure. On an upside down home, that could be hundreds of thousands of dollars. You should seriously consider filing bankruptcy if you decide to stop paying the mortgage and you owe more on the house than it is worth.
If you walk away and the foreclosure satisfies all obligations to the bank, the default will remain on your record for about 7.5 years. If you file bankruptcy, it will show for ten years. For small business owners who rely on their good credit, there may be other negative consequences. It is important to discuss these consequences with an accountant and a bankruptcy expert before deciding.
Bankruptcy involves hiring an attorney and can cost a few thousand dollars in fees. You will need to go to court and answer a judge’s questions at the meeting of creditors. The judge’s questions can be uncomfortable, but the judge has authority to modify the loan, so a little discomfort can have major positive consequences. Another part of bankruptcy includes completing a financial education course that you can usually complete online. After the course is complete and you have had the meeting of creditors, you need to wait for a notice that confirms your discharge from debt obligations.
Whether you go through bankruptcy or not, the foreclosure process is the same. You will get a warning letter from the bank, followed by a notice of foreclosure from the bank’s attorneys. The notice will include the date when the house will be sold at auction. After the sale, you become a tenant and the new owner must evict you from the property. You can gain extra time by fighting the eviction, staying in your home months longer while you find another place to live. You should check on the laws in your state to find out if this strategy is best for you.
After foreclosure, there are private lenders who will loan to people with bad credit and even to those who have gone through bankruptcy. Although you will pay ridiculous amounts of interest, understand that you can get a loan again for another house. You could also decide to rent instead of own until your credit improves.
Don’t forget the emotional difficulty of moving out of a home you have loved dearly for so long. It may be the only home your children have ever known. Consider that you would have no problem uprooting your family if you were offered a higher paying job. Try to put your feelings in perspective. Remember, you will have to go through the hassle of packing, storing your things until you find a new home and moving into another place. Just be sure you are looking at the big picture and all the hassles that will come along with the foreclosure.
So, if you feel okay about defaulting on your mortgage and you believe you can handle the foreclosure and/or bankruptcy process, it’s time to take a hard look at the numbers. First off, if you simply cannot afford your payments, you must walk away. Sooner or later you will lose the house anyway.
But for everyone else, what is the right answer? At what point should you walk away? The calculations are complicated. A good place to start is at youwalkaway.com where there is a calculator to help you make up your mind. Remember, this site makes about $1,000 for every person who decides to walk away and pay the company for foreclosure advice. Keep this in perspective while you are perusing the site.
For the calculator, you will need the following information:
- The current market value of your home: To get your home’s current market value, go to the Federal Housing Finance Agency website and use the “HPI Calculator,” or House Price Information Calculator. It will show you the historical high value of your home and the current estimated value.
- Estimated cost of rent elsewhere: Search the area for rent values and determine the prevailing rate of an apartment with the same number of bedrooms as your home.
- The tax savings you get now from paying a home mortgage: You can estimate the tax savings from the interest you pay by multiplying your interest only mortgage payment times 12 and then by 32%. This gives you a rough idea on how much you save on taxes each year by paying interest on a home mortgage.
- The amount of outstanding debt attached to the property: This should include your primary mortgage plus any secondary mortgages or other debt that depends on your home as collateral.
- The amount of interest you pay on your mortgage(s) each month: Include the interest for all loans for which the home is collateral.
- The amounts of your monthly property taxes, insurance and homeowners association dues (if applicable).
The calculator works by weighing the savings you gain by renting versus paying interest. If you play with the calculator you will notice two rules of thumb. First, there is a big difference in the result for the short-term versus long term. If you plan on staying 15 years or more, you are almost always better off staying in your home and finding a way to make it work. Second, the level of appreciation your home experiences will have a strong impact on the feasibility of walking away or not.
The level of appreciation is a huge and unpredictable factor in whether you should struggle to keep your home or just walk away. No one knows when home values will begin to rise again. After the great depression, things only started to pick up ten years later when World War II broke out. Let’s hope it doesn’t take a war to help us out of this one!
According to University of Arizona law professor, Brent White, a good appreciation estimate would be the historical rate of 3 to 4 percent. Also consider, however, these are unprecedented times we live in. Your appreciation could be less than that. Try the calculator at 1,2,3 and 4 percent and see what the numbers come out to. The most important thing is to look at how many years it will take for you to recover the equity in your home. Also, understand that the calculator bases the results on home appreciation alone. The calculator does not take into consideration how much you are paying down on principal each month.
If you will not be in your home long enough to reach the point of breaking even, you may be better off renting. If you plan to buy another home, your chances of walking away successfully are greater in the long run.