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.
Ali Kafi says
I had a mortgage and a HELOC with bank of America in CA. The house was in short sale process but the BoA decided to auction it (100K less than short sale price) and therefor it was foreclosed in 2011. Most of the HELOC was paid and the deficiency of 66K was forgiven and the HELOC was settled. At least that what I thought until I pulled my Credit Report and it shows $5388 open balance until 2018. I called BofA and they are saying this amount is the fees and interest and since I am in CA they can’t come after money so they only can show it in my Credit Report as consequences of not paying the whole deficiency. I explained both loans were from BoA and if they waited for short Sale to go through instead of Auction, the HELOC would have fully recovered the full amount. They do not want to hear the whole story and they not care. They are doing this to just get back at me for not paying the deficiency amount. What can I do to settle this?
Charles says
Ali, what you are describing is more of a credit reporting dispute than a settlement scenario. There would not be much point in trying to get BOA to “settle” that $5,388 for a lesser figure and then show the balance as zero, especially if they are not pursuing the claim. What you can do is try writing dispute letters to the three major bureaus to challenge the accuracy of that entry.
Ali Kafi says
Charles, as soon as I saw this, I asked the credit bureaus to fix it in my credit reporting. But I thought since the BoA has this balance lingering on my account the credit bureaus may become difficult. I hope they look at the facts and see how Banks are not really serving their customers. The BoA customer service told me that this is how they get back at people who do not pay their debt. No regards for the fact that I got laid off in 2009/10 and was not able to get a job for a year as all companies were laying off and not hiring, then BoA told me no problem they will work with me until I get a job. But after a year they demanded the full behind payments plus late fees, story is long like many other folks, but BoA was worse bank I ever dealt with. Lies, manipulation, zero communication between their dept and on on…
Sorry for venting off here and thanks for your comments/help.
Charles says
Ali, the credit bureaus don’t care and neither do the banks, too many millions of hardship stories in the past few years (not that they cared to begin with!). They will just forward your dispute to BOA, who may or may not get around to verifying in time. You could also hire an attorney to pursue the matter, but I’m not sure it’s worth the hassle since they are not pursuing the claim itself. Anyway, I won’t disagree with anything you’ve said about this bank!
Amy says
I have a HELOC from US Bank that has reported even as recently as April of this year. The 1st mtg. was foreclosed upon in early 2011. I have the sheriff’s deeds, etc. I didn’t file bk afterwards and now the debt is still reporting. They have not attempted to collect on the debt. Their reporting shows “charge off – profit and loss write off”. I need this rectified (I have no intentions of paying US Bank the debt) and the credit company I’m working with needs something from US Bank in writing that they are not attempting to collect on this debt and the credit reporting agency will note it in their remarks which will satisfy my new lender (I’m purchasing). How and what do I need to do to obtain the letter from US Bank? Thanks!
Charles says
Amy, most HELOC loans are recourse debts, which means the lender can continue to attempt collection until the Statute of Limitations has expired (based on the rules for your state). I seriously doubt that US Bank is going to send you a letter saying they won’t pursue this matter. Even if they don’t actually intend to pursue it, it’s still possible they might sell the note to a debt purchaser who will pursue the claim. You can certainly request this in writing from them, but you need to understand that just because it says “charge off” that does not mean you are no longer obligated for the balance.