I first heard the term “strategic defaulter” back in early 2000 from one of our large servicing clients that was utilizing our work-flow technology to manage their increasing volumes of delinquent borrowers. This client was able to handle the standard servicing of billing and collections; but when it came to doing the hard work of tracking down borrowers that were 90 days late or greater and proactively working with these borrowers to see if they could seek debt relief through loan modifications, they were amazingly deficient. They were not equipped to handle the rising number of borrowers that were beginning to show mounting delinquencies as the vast majority of their activities and infrastructure were being consumed in chasing consumers as collection agents, not offering solutions to keep people in their homes.
Most delinquent borrowers, however, were delinquent on their mortgage payments as a result of a hardship such as losing their job or a cut in their work hours. Rising unemployment and mortgage payment delinquencies began to show up in foreclosure filings and so the housing prices began a drop that continues today, three years later.
Borrowers that remained current on their mortgage obligations continued to watch the prices of their homes erode. And with lender servicers telling delinquent borrowers that they must be at least two or three months late in order to apply for a loan modification, current borrowers gradually became angry and apathetic; why was the government offering debt relief solely for distressed properties and in some rare cases even offering principal loan balance reductions. As property values continued to drop, more and more borrowers that were doing the right thing and paying their bills on time were watching distressed property owners being rewarded with loan modifications. The reality is that only one in seven borrowers have received loan modifications but current borrowers continued to see much media coverage and advertisements that suggested everyone and their mother were getting a free ride on the backs of those distressed properties that were paying their bills on time.
Imagine the millions of homeowners that were becoming more and more infuriated as their home values continued to drop; this is when the term strategic defaulter began to make its way into discussions by government agencies such as Fannie Mae and Freddie Mac, the largest holders of delinquent mortgages in the country. Some of the discussion about increasing foreclosure activity began to shift away from legitimate hardship issues leading to increased foreclosures to focus on borrowers that can afford their mortgage payments but calculate the benefit to stop making payments and except the fact that they should wait it out and let the bank eventually take the home back in a foreclosure. With values plummeting in once high flying locations like California, Nevada and Florida, current homeowner making a $5,000 mortgage payment could now stop paying the mortgage, wait it out for the bank to foreclose and go and rent the same home in the same neighborhood for half the price of their original mortgage payment. With the property values dropping more than 50 percent or more in some areas to far less than what they owe on the mortgage loan, the strategic defaulters mentality has become more mainstream. In fact, Morgan Stanley estimates that 12 percent of all homeowners are exercising strategic defaulter characteristics back in early 2000 with that number exceeding 30 percent according to some studies. Fannie Mae recently announced new policies against borrowers who defaulted on their mortgage even though they had the ability to continue payments by actually going after these borrowers legally by obtaining deficiency judgments and shaking them down to pay on these deficiencies.
Of course, going after strategic defaulters is not an exact science. The group that calculates consumer fico scores is developing ways to identify them but with so many millions of homeowners becoming strategic defaulters enforcing any kind of penalties on any scale is unlikely. “Mortgage payment patterns have shifted, and some borrowers are intentionally defaulting on their mortgages because they believe it is in their best financial interest, and because they believe the consequences will be minimal,” said Dr. Andrew Jennings, chief analytics officer at the Minneapolis-based FICO and head of FICO Labs. “Before mortgage servicers can work effectively with potential strategic defaulters, they must first be able to identify them.”
With 35 percent of all foreclosures driven by strategic defaulters, according to the Chicago Booth School of business, homeowners are surly bracing for continued pain in the protracted housing market melt-down.
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