Wednesday, September 22, 2004

Foreclosure myths

The most common myth about foreclosures you will hear from the creditoris squaliformes order goes something like "...we don't want to take your home..." or "...we want people to keep their homes..." etc. More elaborate and seemingly convincing statements include estimates of the losses the species faces when foreclosing, often referring to amounts in the tens of thousands of dollars per foreclosure.

The statements are an almost ingrained mantra from any squaliformes who comes face to face with a reporter.

Like so many things business executives are trained to say, they are designed to protect the image of the company as opposed to being entirely honest. They serve to deflect the uninformed reporter or writer by not having to actually discuss or explain the realities of the mortgage market.

Unlike automobile reposession, which deals with assets that functionally decline in value (depreciate), in the vast majority of cases, real property increases in value. In fact, unless the loan was fraudulently created or significantly damaged, the property is almost always worth more than the balance owed.

One would hope reporters would understand the concept of equity and would then explore the issue in a little more depth with the executive, as in: "But what if the house is worth a hundred and fifty thousand and the loan balance is only a hundred thousand?"

Surely, that's not always the case, but neither can it be said that a lender "loses" tens of thousands of dollars on a foreclosure.

It is particularly disingenuous of sub-prime loan originators to imply they lose money on foreclosures. Few of them own or service the loans they originate so when a foreclosure occurs it is essentially meaningless to them. In reality, they stand a chance of seeing another borrower come through the door.

Because most foreclosed properties end up back on the market, a foreclosure and eventual home sale and new loan generates new income for almost all the players:

Property "preservation" services
Real Estate agent(s)
Private property investors (rental property buyers)
Listing services
Mortgage Broker
Credit bureau (Fair Isaac)
Wholesale lender
Mortgage insurer (GSE or PMI)
Title insurance company
Courier/delivery service
Property/Casualty Insurer
Master servicer
Servicer/sub servicer
Bond brokers (Wall Street)
Bond holders

Everyone gets a slice of the pie. The bigger the pie (the more loans written) the more money is made. The amounts may be small, so the key is to do lots of loans.

The other facet of the argument they won't dwell on is what happens to that borrower's equity in a foreclosure. The fact is, much of it will be eaten up in various fees, including thousands of dollars in legal fees supposedly billed by and paid to a network of specialty attorney firms for what is mostly an electronic filing process. To make a long story short, the goal is to get enough at the auction to cover all the creative charges and fees and never have to write a check to a borrower.

This takes some expertise as well as creativity. The analysis of when to foreclose has become rather scientific, and goes beyond the simple mathematical equity opportunity/cost analysis. It even includes computerized analysis of what it said by borrowers when they're communicating with company representatives. Savvy servicers even get credit notifications to see if borrowers are shopping for refinancing.

Under the guise of "loss mitigation" the process culls the fattest cattle from the herd and sends them off to the meat packers (the law firms).

The statements of servicing industry executives need some editing. To wit:

"...we don't want to take your home..." should read: "...if you've got a sharp attorney, and we're going to lose money on a foreclosure, we don't really want to take your home, but we will try if you really piss us off, and if we do win, and the auction sale doesn't cover all of it, we'll come after you anyway."

"...we want people to keep their homes..." should read: "...we want people to keep their homes as long as they'll pay us what we tell them to pay without too many questions..."

Just one of many lender myths to be exploded.

Judgment hereby ordered in favor of the victims.

The Honorable Judge Roy Bean.

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