There is a “hidden” component to the real estate and financial crisis, and it gets very little attention by the media. I’m referring to the problem with second mortgages on homes that have lost market value during the real estate crash. Banks are being allowed by the Treasury Department to keep large portfolios of second-lien mortgages on their books at values close to those before the bubble burst.
Some estimates indicate that up to 50% of at-risk properties include this type of loan, so it’s a huge problem. There are more than $1 trillion in outstanding second-mortgage loans, with more than 40% of that concentrated among the four largest lenders. With housing prices down more than 30% average since 2006, many of these second liens are either completely without equity as collateral, or very close to it. Today, the major banks are carrying these notes at 86-93% of book value, when some estimates indicate that they are actually worth only 40-60 cents on the dollar on average.
Many consumers are unaware that it’s often possible to settle with creditors on second mortgage obligations for greatly reduced principal balances. Why would a second lender agree to a settlement on a debt that is secured? Simple. Once the property drops in value below the level where even the first mortgage is under water, then the second lender is completely exposed and is very unlikely to recover anything by way of foreclosure. In that situation, a settlement for even 10-15% of the face value on the mortgage often makes sense for the lender.
For example, let’s say you purchased a home for $300,000, with $30,000 down payment and a first mortgage of $270,000. Later the property appreciated in value $400,000 when the market was at its peak. Like so many Americans, you borrowed against the increased home value and took out a home equity line of credit (HELOC). With the home valued at $400,000 against a mortgage of $270,000, you had $130,000 of equity to work with. Being prudent, you didn’t borrow all of that, only $100,000. So you had a first of $270,000 and a HELOC for $100,000. Then the real estate crash happened. Your $400,000 house is now worth only $250,000, less than you originally paid for it. This means that the first mortgage of $270,000 is itself under water, since the house would sell for less than you owe on the loan. And therefore the second lien is 100% exposed. There is no collateral at all remaining to cover this note. In practical terms, this type of obligation can be settled the way any unsecured debt (like a credit card account) can be settled.
At ZipDebt, we’ve been assisting some of our clients to settle second mortgages, and the results have been nothing short of amazing. We’re seeing 10-15% settlements routinely, even less in some cases. But it’s important to understand that not all second mortgages can be settled, nor is it appropriate to use this strategy in all cases where the property is distressed. Sometimes there are other solutions more appropriate to the specific situation. It really requires a detailed analysis to determine whether a second mortgage or HELOC is suitable for the settlement approach. There are a number of key factors involved, such as whether the home is primary or a rental property, whether the state the property is located in is a “recourse” or “non-recourse” state, the specific type of mortgage contract involved, and of course, the equity figures relative to loan face values.
UPDATE: April 5, 2012
As of April 2012 we are offering PAID CONSULTATIONS ONLY on second mortgages or HELOCs, and no longer offer free consultations on this subject. Our fee is only $150, and includes 30 days of follow-up support via email. We made this change because our experience has been that each mortgage situation is totally unique, and requires careful analysis and discussion before a solid recommendation on strategy can be made. We have had so many inquiries on the topic of second mortgage or HELOC settlement, that we felt a paid consultation would be the most efficient method of assisting consumers to avoid scams and make the correct strategic decision. For additional details, please visit our other website at SecondMortgageAdvice.com.
UPDATE NOVEMBER 26, 2012:
Gerri Detweiler of Credit.com recently interviewed me on Talk Credit Radio on the subject of second mortgage and HELOC settlements. This is an in-depth podcast that covers a lot of important information consumers need to know on this topic. If you’d like to learn more about debt settlement as it pertains to mortgages or HELOCs, this is the audio file you’ve been hunting for! Click here to download the full podcast free of charge.
I am current on my 2nd/1st lien,never paid late and FICO is great!
There is no equity for the 2nd and the 1st is under as well.
We have moved out of the house and have rented it. And we are renting as well. We couldn’t live in the condo as it was getting very cramped.
i want to know if /or any options i have to working a settlement w/the 2nd lien. We want to stay in good standings.
please let me know. thank you
Larry, you have mutually conflicting goals. As noted in the above comment to another inquirer, second mortgages don’t get settled without being in default. You will have to decide what is more important, your FICO score, or getting the second mortgage resolved via settlement. It will have to be one or the other.
Can BOA foreclose on my home since my HELOC is 4 months past due? I just received a letter that they were referring my account for foreclosure. Please advise. Thanks
Andrea, yes, a lender has the legal right to foreclose on a property when you fall behind, and that is true for second mortgages as well as first mortgages. We usually don’t see the banks moving to foreclose on the basis of a second mortgage being in default unless the home is worth more than is owed on the first mortgage. That leaves partial equity against the second mortgage that can be recovered via foreclosure.
I sold my house is 2009 as a short sale. HFC had both my first and second mortgage.
We had to send them a letter requesting to sell the house short of what the value was. We were moving due to my workplace causing my to get sick and I was selected for a promotion out of area. We owed about $220,000 on the first and $20,000 on the second. The bank told us just to get an offer and they would work with us. We were offered $190,000 which the bank accepted. Should the 2nd have been included since we no longer live in the house?
We have been trying to buy a house now in our new location for the last 2.5 years and no luck due to the credit caused by a short sell. The local mortgage company was shocked that the 2nd was still be paid on when there was nothing it was tied to now.
Help? Please, I need some positive news.
Mike, what should have happened in the short sale is a negotiation to release both the lien on the property, as well as any deficiency resulting from the short sale as it pertains to the second mortgage. It sounds like what happened is that the lien was released, which permitted the close of escrow in the short sale, but that HFC did not release you from the deficiency. That would leave the full $20k intact as a debt still owed and appearing on your credit report. Depending on whether or not the loan was recourse or non-recourse, you can probably work out a settlement with HFC. Please feel free to email me for further discussion.