Charting the Foreclosure Crisis's Far-Reaching Consequences

Bank owned foreclosure homeEven as the consequences of the ongoing foreclosure crisis slowly unfold -- and the ultimate impact is yet unknown -- it's not too early to tote up a list of 10 potentially important developments that have already happened. (For more background, see my recent DailyFinance article "The Foreclosure Crisis: Eroding Trust -- and Ending the Recovery?")

1) Title companies are pulling back from issuing title insurance on homes that were sold in foreclosure or that were previously foreclosed. Not being able to obtain title insurance is the kiss of death for real estate transactions, as Mark Hanson, an independent housing analyst in Menlo Park, Calif., recently observed. "Title companies would be crazy to ensure title on anything remotely associated with a foreclosed property because we don't know how this is going to resolve itself."

2) This uncertainty will make it more difficult to sell or even refinance homes that were purchased while in the foreclosure pipeline. This will have an outsize impact on the market for foreclosed or distressed properties, which now make up a significant percentage of all home sales. Investors who have been snapping up distressed homes accounted for over 20% of all home sales in August, according to National Association of Realtors.

3) Buyers who are purchasing foreclosed homes now face legal challenges to their ownership and potentially even "clawback" of the property if the previous owner claims he/she was defrauded by a flawed/defective foreclosure process.

A Southern California family has already launched a potentially precedent-setting case by reoccupying their former home that they had lost to foreclosure, thwarting its sale by the lender to an investor. The family claims the foreclosure documents were fatally flawed and that their eviction was wrongful.

4) The foundation of the banks' legal claim to trade mortgages like securities includes a registry called MERS (Mortgage Electronic Registry System). In what may be legally questionable slight-of-hand, MERS doesn't actually own title to the properties behind the mortgages on its registry.

If a court rejects the MERS claim of ownership in a foreclosure, that could mean the owner of a mortgage has no claim to the house as collateral. That conclusion could potentially reduce the value of mortgage's servicing fees to near zero.

Why does this matter? Banks count those servicing rights -- the rights to collect the interest and principal payments made on the mortgage -- as an asset. If servicing rights are in doubt, that would vaporize a key asset and revenue stream for many banks.

5) All 50 states and the District of Columbia are joining forces to investigate the legal issues raised by the foreclosure crisis. Ohio Attorney General Richard Cordray has already filed a lawsuit against one mortgage servicer, with potential damages in the billions of dollars.

If damages are collected from any servicer, then claims against others may have the benefit of precedent. The costs of battling multiple lawsuits could conceivably bankrupt banks with low reserves against losses.

6) Millions of underwater homeowners may realize they can stop paying their mortgages with no near-term consequence because the foreclosure system is frozen. While the legality and ethics of such a move can be debated, the fact remains that the incentives for underwater homeowners to stop making mortgage payments are high -- and the disincentives have now been significantly lowered.

Stories of "salt of the Earth" homeowners refusing to comply with their lenders' demands are now appearing in the blogosphere.

7) Evictions based on foreclosures can be challenged, halted, delayed or even canceled. The entire pipeline of foreclosure -- a lengthy process -- has been effectively plugged.

8) In most states, the necessary paperwork must be physically transferred when mortgage ownership is transferred from one party to another. Clearly, that has not been done in the robo-signing cases. Indeed, the entire MERS registry was intended to bypass this cumbersome and often arcane process. If the procedures were not followed, then it will take a monumentally labor-intensive cleanup to track down every owner of securitized mortgages and rebuild the properly executed chain of transferred mortgages.

These costs could weigh heavily on banks' cash flows and profits.

9) If millions of defaulted mortgages pile up awaiting some future resolution of the many issues at stake, the potential for a truly massive "shadow inventory" of unsold homes increases. That raises the unsettling possibility that a severe imbalance between a modest demand for houses from qualified buyers and an overwhelming supply of available homes will further depress prices.

10) The ultimate resolution of the crisis is unknown and unpredictable. Phrases such as "housing Armageddon" are now appearing in the mainstream financial media as commentators and legal authorities hazard guesses about how the crisis may play out. The key feature of the issue may well be that nobody knows.

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I personally think that bankruptcy is much better than foreclosure. You seem to bounce back from bankruptcy a lot faster now days. They have secured credit cards and all kinds of ways to rebuild you credit. But foreclosure is more like an event that even with recovered credit, could keep you from buying another home.

July 23 2013 at 2:00 PM Report abuse rate up rate down Reply

I do not understand why the banks refuse to negotiate reduction in principal on the existing mortgage. Foreclosing on a home, then reselling it, nets the bank far less than simply negotiating a principal reduction. Don't blame this on Bush. This all started with the CRA, and then Fannie and Freddie started the securitization of mortgages. Then the big investment banks jumped on the bandwagon and invented all the exotic mortgage investment vehicles. The rest is history. Unfortunately, the final chapter of this debacle, has not yet been written.

October 26 2010 at 10:34 AM Report abuse rate up rate down Reply

We as Americans have no choices! The Government always shuffles the deck and sees what hand they got dealt, we as AMERICANS always get passed there JOKERS. This is not about who can afford to pay there Mortgages, we were all doing fine till BUSH GOT GREEDY and WALL STREET thinking they don't have to abide by the laws! Instead of the Government bailing out banks they should have bailed out the tax payers. I think we as Tax Payers, would of gave them a Better Hand.

October 21 2010 at 7:43 PM Report abuse +1 rate up rate down Reply

If the title to forclosed proerties is in doubt because of the way the "Wall Street" community packaged loans, that is presumably also true of all loans that were packaged. Isn't that, more or less, everything? Barry Rodgers

October 17 2010 at 9:20 AM Report abuse -1 rate up rate down Reply

Imagine if you will, that the stimulus money had been applied to delinquent mortgages, allocated to banks as payment for the delinquencies. Banks still would have received all of the money, but real people would have received the one-time benefit. Most people did not fall 3 months or more behind all at once; it was a little at a time. Talk about a good shot in the arm, how different would be our home values? How many fewer homes would have been foreclosed? How many fewer homes would be on the market now? On a side note, the whole foreclosure discussion is missing a crucial and defining question. Did the mortgage contract specify terms for foreclosure and were mortgage payments made? Time spent renegotiating principle and/or interest should not validate my decision to violate the terms of the agreement or eliminate its consequences.

October 16 2010 at 3:57 PM Report abuse -1 rate up rate down Reply
Pam Miller

When you read this stuff, it can only go one of two ways. Either America has a lot of really stupid CEO's, or they're crooks. I have a tendency to believe the latter. Something should have been done immediately when these banks did not use the stimulus provided, as it was intended. For the administration to say that legally they slipped up on some paper language, and could do nothing is BS. We're goint to find out in 30yrs, that this has been the most corrupt years in American history.

October 16 2010 at 3:51 PM Report abuse -2 rate up rate down Reply

A foreclosure freeze will be a disaster for the economy. Why would someone cooperate on a short sale when they can't be kicked out? Why struggle to pay on a property with negative equity? This will increase prices short term, and then cause another crash when foreclosures swamp the market. Banks need to do do things right, not cheapest and fastest, but the government needs to avoid excess button pushing because they have no recent track record of knowing what they are doing.

October 16 2010 at 3:15 PM Report abuse +3 rate up rate down Reply


October 16 2010 at 2:45 PM Report abuse +4 rate up rate down Reply

What a mess is right on, I tried to refi my house in Oct of 2009 with my "new" mortgage company Bank America, they took over Country Wide. I did have a credit rating of 814 at the time, but was turned down as my spouse employed did not have a credit card. our house payment would have gone up $60 a month to $601 very affordable. The lower interest and paying off of credit cards from the start up of our business. My spouse died 2 weeks later and now I am left with just my SS and and a huge credit debt,lost the business and that could have all been resolved by the refi and I would still be able to carry on. Now I cannot even sell my house due to the forclosures as the banks are selling houses at rediculous prices. A house on the lake that would normal sell for $350K+ now listed $150K.....well I live in a small Montana town where normally my home would sell for $ tell me buy the house on the lake for $150K or mine in small town. Never have I ever not paid my way and can't file bankruptcy as under the "rules" I do not qualify and so I have no choice but to try and make it through the winter and try to survive the best I can, so I had to decide stay warm, eat and pay my mortgage payment and not the credit cards. I know many are in the same position and burns my butt that these banks were bailed out....and now it seems that they are laughing all the way to the bank

October 16 2010 at 2:12 PM Report abuse +5 rate up rate down Reply

Bank loan officers and mortgage brokers routinely inflated values and incomes to get a loan funded. In the process they received 1% commission of the loan amount. may loan officers became millionaires. Now banks want homeowners to pay for this mess, that banks helped create. Is it fair? Solution is simple reduce the mortgage interest on anyone who seeks to 4% no questions asked. people will have an incentive to stay in their homes. The tsunami of foreclosures will be avoided and banks will survive the debt bubble bursting. Soft landing is needed. Not evictions.

October 16 2010 at 2:03 PM Report abuse +3 rate up rate down Reply