The Buy and Bail Fairy Tale – The Elephant in the Room
I’ve studied the elephant that no one likes to talk about for about 4 years. This week, I attended the Short Sale Tsunami event where a panel of real estate attorneys, real estate analyst Mike Orr, Commissioner Judy Lowe, along with representatives for Chase and Wells Fargo spoke about our local Phoenix market. One of the hot discussions was Strategic Default strategy. After learning so much about this over the years, I wanted to share some information. I’m not even going to entertain the moral or ethical question about it. Nor is this blog intended to give legal advice because I am not a real estate attorney. My intent is to provide some facts about strategic default, who is doing it, how, and the purpose.
CAUTION! This blog may cause increased heart rate and high blood pressure for some people. 
Although we are certainly seeing great signs of recovery over the past 4 months, many homeowners in the Greater Phoenix area are sitting in their home staring at a mortgage statement wondering how they can owe hundreds of thousands of dollars more than their home is worth. Worse yet, many of those homeowners will never see their home appreciate back to what they owe in their lifetime. If you look at history, take the facts and do the math of average appreciation rates once the economy stabilizes, it doesn’t add up…literally.
So the question becomes, “What to do?” You don’t qualify for a short sale or loan modification because you aren’t financially destitute. Some homeowners in Arizona have come up with a strategic solution aptly named the “Buy and Bail”. But, many have questioned, “Is the Buy and Bail illegal?”.
So here it is, the shocking truth: The Buy and Bail is NOT illegal. However, some may say it’s definitely immoral. People have a moral issue with the “Buy and Bail” because we’re taught as children to “keep our promises”. A popular belief is that ‘you bought the house, you took a loan out, now you should pay it back.’ One real estate attorney told me, “It’s not a moral issue. It’s a contractual issue.” (and there’s an entire conversation with contractual verbiage that he can explain that is quite interesting!) He also asks his clients, “Would you pay $150,000 for good credit?” Most people say, “No way!” His response is, “That’s what you’re doing by staying in that house.”
Putting the “moral issue” aside, the only justification I hear for staying in a severely underwater property is that “your credit will be ruined”. So basically, you should stay in it for the sake of your ego. “You won’t be able to buy a house for 7 years if you foreclose!” Hence, the strategy of the “BUY ….Then Bail”.
Strategic default is a business decision to cut one’s losses short, cut bait, let go of the dead weight. The typical profile of a homeowner who seeks out this type of solution doesn’t have financial hardship in the way that they’ve lost a job or racked up too much debt spending money they didn’t have. Their hardship is that they’re hundreds of thousands of dollars under water on a property whose value will not recover in 10, 20, 30 or more years. They put 10 to 30% cash down payment when they purchased the property. They are not the zero down or FHA buyers. They have money in the bank and earn a good income. For various reasons, such as a growing family, need to 
move for a job, or they’re savvy with money and realize there’s a 50% off blue light special going on, they need or want a new house
Fact: If you qualify for the new mortgage AND the existing mortgage along with any other debts, without lying or falsifying facts or documents (AKA “Mortgage Fraud”), you can buy a property. A few years ago, people were creating fake lease agreements on the existing property to qualify for the new mortgage. Even if you have a valid lease agreement on a property and are trying to buy another property, the new lender does not even take that lease into consideration as income. And, let’s be clear – mortgage fraud is illegal in any situation. This also means that you shouldn’t get the new loan as an “investment property” instead of a primary residence. As soon as you change your mailing address and switch your utilities to the new house, they just might suspect you lied. . . and YES, there are consequences.
Your new lender will most likely ask you to write a letter about what you’re going to do with the existing property. This letter is a key piece and you should see a real estate attorney before writing it. What you write on this letter and put your signature on matters. Less is more. This letter states your “intent”, so take caution.
Some say that the new lender won’t lend you money on a new purchase if they suspect a strategic default or a “buy and bail” may occur. Do you really think that a bank doesn’t want to lend money to someone who is well qualified and has a minimum 10 to 40% down payment? Of course they do!
Once you have closed escrow on the new property, then what? The new lender may check your credit again within the first 90 days of the new loan. It is highly likely that they will sell your loan, so your credit can be pulled again AFTER you have closed escrow. Should you make a few more payments on the old house to show good intent? Should you make a few more payments in case the new lender pulls your credit again? Ask your real estate attorney.
All the attorneys I’ve talked to have consistently conveyed the message that it is hard to prove someone’s “intent” in a court of law. We have yet to see a lender attempt to go after a homeowner for a “Buy and Bail”. Do they like it? Of course not. Will they try to scare you out of it? Yes. Arizona is a non-recourse state with anti-deficiency laws in place. Talk to your real estate attorney about the details of the laws. If you took out a HELOC, you BETTER speak to a real estate attorney.
When you took out the mortgage, you agreed to make payments. You also agreed that if you stop making payments, the bank can take the house from you. Once you stop making payments and the bank forecloses, you have satisfied your end of the agreement. You gave the house to the bank (in excellent condition, right?) and they resold it for a profit. Did they lose money? No. They got all those interest payments over the years from you and now they resold it and got more money. They made out ok. PS…….If you can buy a new house, a short sale is not likely to be an option on the old house.
The Mortgage Debt Forgiveness Relief Act of 2007 is scheduled to expire at the end of 2012. As of right now, you may even qualify for tax relief of the foreclosure under this act. Certainly, seek the advice of your CPA!
I regularly attend classes, events and seminars where economists, attorneys, CPA’s, and industry leaders speak about short sales, foreclosures, strategic default, mortgage fraud, and tax consequences. It’s important to stay on top of a moving target to understand what options are available. It’s my job to consult with clients and provide you with information so that you can decide the BEST option for YOU and your family…..and for me to know reputable professionals that can help you accomplish your goals.
If you would like to speak to a real estate attorney about your real estate questions or a situation, a number of highly accredited real estate attorneys are listed on my website. Please feel free to contact me with questions. Two of the recommended attorneys have helped several of my clients and specialize in this area.
Comments(0)