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.
Ashok says
Hi, Bought home at 353K in 2006 and is now worth 272K(latest county assessment). First 282K(Modified in 2011 Feb from interest only to 30 yrs conventional loan). Second of 71K interest only. Both the loans are with Wells Fargo, not sure how I can handle my second mortgage situation when ARM period ends and not enough equity could be accumulated. Also what is the scope for settlement. Have kids growing and hardly have any money left at the end of month, and afraid if I loose my job. Greatly appreciate your suggestion.
Thank you in advance.
Charles says
Ashok, if you have already modified the first mortgage with WF, then you should inquire with them about the “2MP”, which is a modification program specifically for second liens. Settlement might be possible in this situation, but my first concern would be that the property might be worth more than you owe on the first mortgage, in which case you would be risking foreclosure. Check the valuation on Zillow and don’t go by the county tax figures, which do not reflect current market values. If your Zillow value is still under what you owe on the first, then a settlement approach might make sense. However, it can take a year or more, and you would need to come up with 10-20% of the $71k as a single lump-sum. So this might not be the best option for you given your tight budget. I also think it would be wise for you to consult with a local bankruptcy attorney, not that you need to go bankrupt right now, but to understand the Chapter 13 option that includes having a lien stripped on a second mortgage.
Ron says
Charles,
I previously used your program and methods to settle almost 60K in credit debt!! Many thanks to you!! However, I am still in a difficult situation. My home – 1st mortgage Chase – previously WAMU – 108K and 2nd Equity Loan is with Greentree – 28K. Home value roughly 120K not including seller fees. Divorce is occurring and down to one income. Stopped paying Greentree since 11/01. Any chance of settling? Or is 13 my best option to strip?
Charles says
Ron, your situation is right on the borderline for settlement, since technically there is $12k in equity over and above the $108k owed on the first mortgage alone, so roughly 43% equity coverage against the $28k second with Greentree. That said, it doesn’t mean they would *recover* that much by foreclosing, since there are costs to foreclose and REO properties generally sell for well under current market value anyway. (This is probably why they have left you alone for 4-5 months and made no move to foreclose.) So a settlement approach might work in this situation, although GT is not easy to work with. Please feel free to get in touch with me by private email to discuss further, thanks.
Tracy says
We have $117,000 on our first and $63,000 on our 5 year HELOC which is up next month. We are current on both, but the home is only worth $90,000. The community bank that holds the HELOC wants to convert it to an unsecured loan. Should we offer a settlement?
Charles says
Tracy, yes, that would make sense given the numbers. However, the bank is unlikely to consider a settlement on a currently performing note, so in all probability, you would need to be behind on the second to get a settlement.