Chicago Tribune: Mortgage Cops Are Coming For You

Last week, the Chicago Tribune ran this article. In the article, it is implied that homeowners who choose to strategically default on their mortgages may be facing criminal prosecution. The tone of the article itself is very anti-strategic default. 

Take this paragraph for example: 

Investigators are searching not only for lenders who have sold materially deficient loans to Fannie and Freddie, but also individuals, including those who reneged on their promises to repay their mortgages. So if you are a "strategic defaulter" who decided it was better to walk away from your obligation than to keep paying for a house that was worth substantially less than you owed, it's time to start looking over your shoulder. 

The investigators referred to are the Federal Housing Finance Agency Office of the Inspector General's investigators. The OIG at FHFA is tasked with rooting out corruption, fraud, and other bad behavior inside Fannie Mae and Freddie Mac. It is also tasked with prosecuting those who commit mortgage fraud. 

However, the OIG is not tasked with arresting and prosecuting homeowners that stopped making mortgage payments. You cannot be arrested for what amounts to a breach of contract. More likely is that the FHFA might pursue a homeowner for a deficiency judgment -- but that is a civil matter, not a criminal matter. 

The article plays up this "strategic default = jail time" concept by reminding us just how morally defective strategic defaulters are:

No one knows for certain how many borrowers fit the rather amorphous strategic defaulter mold. But credit repository Experian estimates that 20 percent of all foreclosures are the result of walkaways, people who could afford to make their payments but who decided not to.

These are not just borrowers who made a personal, strategic financial decision not to pay. In some cases, they remained in their houses for months or even years, living free on the government's dime - and yours and mine - before moving on. In other instances, they profited handsomely by renting their properties to unsuspecting tenants, collecting rent for many months but never paying lenders.

These two paragraphs are full of "moral hazard" language. Nowhere is it mentioned that homeowners who strategically default also see their credit scores plummet or that they are often subjected to harassment at the hands of debt collectors. It is designed to make the reader feel that maybe, just maybe, these ne'er do wells deserve to be locked up. 

The second half of the article finally reveals that, in reality, the criminal prosecutions don't really relate to strategic defaulters. The OIG is looking for people who have committed mortgage fraud by falsifying mortgage loan applications. 

If there is any indication that you falsified information on your new loan application, the OIG is "absolutely" going to refer you for criminal prosecution, Wolfe said. "We're not just going to demand repayment," he said. "We're going to lock (people) up."

Quite simply, you cannot be put in jail for missing your mortgage payments. No matter what this article implies, breach of contract remains a civil matter. Mortgage fraud, however, is a crime. You don't need to be a strategic defaulter to commit mortgage fraud. Some strategic defaulters may have committed mortgage fraud when buying a new home, but not everyone who has committed mortgage fraud is a strategic defaulter. 

The main risks faced by those considering strategic default are 1) damage to one's credit score and 2) the risk of being pursued for a deficiency judgment after a foreclosure is completed. Choosing to walk away from a bad investment is not a crime. 

What is most surprising about this article is that its author, Lew Sichelman, is a nationally-syndicated columnist who is purportedly a consumer-oriented real estate expert. This may be true, however, it would also appear that he is way off-base when it comes to his understanding of strategic default and the law. There's absolutely no reason to scare people away from making financial decisions that are in their best interest. 

When a business walks away from a bad investment, the CEO is praised for having good business sense. When a homeowner walks away from a bad investment, he is a "bad person." This kind of rhetoric needs to change; articles like this one simply reinforce the double-standard. 

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