Should you walk away from your mortgage? (WSJ)

REAL ESTATE DECEMBER 17, 2009

Debtor's Dilemma: Pay the Mortgage or Walk Away
In Down Real-Estate Market, Homeowners Are Deciding to Abandon Their Loan Obligations Even if They Can Afford the Payments

By JAMES R. HAGERTY and NICK TIMIRAOS
PHOENIX -- Should I stay or should I go? That is the question more Americans are asking as the housing market continues to drag.

In good times, it would have been unthinkable to stop paying the mortgage. But for Derek Figg, a 30-year-old software engineer, it now seems like the best option.

Mr. Figg felt trapped in a home he bought two years ago in the Phoenix suburb of Tempe for $340,000. He still owes about $318,000 but figures the home's value has dropped to $230,000 or less. After agonizing over the pros and cons, he decided recently to stop making loan payments, even though he can afford them.

Mr. Figg plans to rent an apartment nearby, saving about $700 a month.

A growing number of people in Arizona, California, Florida and Nevada, where home prices have plunged, are considering what is known as a "strategic default," walking away from their mortgages not out of necessity but because they believe it is in their best financial interests.

A standard mortgage-loan document reads, "I promise to pay" the amount borrowed plus interest, and some people say that promise should remain good even if it is no longer convenient.
George Brenkert, a professor of business ethics at Georgetown University, says borrowers who can pay -- and weren't deceived by the lender about the nature of the loan -- have a moral responsibility to keep paying. It would be disastrous for the economy if Americans concluded they were free to walk away from such commitments, he says.


Walking away isn't risk-free. A foreclosure stays on a consumer's credit record for seven years and can send a credit score (based on a scale of 300 to 850) plunging by as much as 160 points, according to Fair Isaac Corp., which provides tools for analyzing credit records. A lower credit score means auto and other loans are likely to come with much higher interest rates, and credit card issuers may charge more interest or refuse to issue a card.

In addition, many states give lenders varying degrees of scope to seize bank deposits, cars or other assets of people who default on mortgages.Even so, in neighborhoods with high concentrations of foreclosures, "it's going to be really difficult to prevent a cascade effect" as one strategic default emboldens others to take that drastic step, says Paola Sapienza, a professor of finance at Northwestern University. A study by researchers at Northwestern and the University of Chicago found that as many as one in four defaults may be strategic.



Driving this phenomenon is the rising number of households that are deeply "under water," owing much more than the current value of their homes. First American CoreLogic, a real-estate information company, estimates that 5.3 million U.S. households have mortgage balances at least 20% higher than their homes' value, and 2.2 million of those households are at least 50% under water. The problem is concentrated in Arizona, California, Florida, Michigan and Nevada.
Josh Cotner, who owns an insurance agency, says his mortgage balance is about $100,000 more than the market value of his home in Gilbert, Ariz. Mr. Cotner could rent a bigger home nearby for $600 a month, far below the $1,655 he now pays on his mortgage, home insurance and property tax. He says he recently stopped making mortgage payments because his lender wouldn't help him reduce the principal on his loan under a federal program in which he believes he is qualified to participate. Given the sometimes lengthy legal process of foreclosure, he may be able to stay in the home for at least another nine months without making any payments.

Banks warn they may get tough with strategic defaulters by pursuing legal claims on a borrower's other assets. "We will try to reduce people's payments if they have a hardship," says Thomas Kelly, a spokesman for J.P. Morgan Chase & Co. "But we have a financial responsibility to get people to pay what they owe if they can afford it."Steven Olson, a loan officer and roof installer in Roseville, Minn., defaulted in 2007 on a plot of land in Florida he had bought as an investment. "I thought I could move on with my life," he says. But the lender, RBC Bank, a subsidiary of Royal Bank of Canada, sued him, seeking to make him pay more than $400,000 to the bank to cover its losses on the loan. Mr. Olson has hired a Florida lawyer, Roy Oppenheim, to resist the claim. An RBC spokesman declined to comment.

States where lenders generally can pursue such legal claims include Florida and Nevada but not California and Arizona, where laws generally prohibit lenders from pursuing other assets of mortgage borrowers. A new Nevada law will protect many borrowers from these judgments if they bought a home for their own use after Sept. 30, 2009.
Another risk for defaulters is that banks could sell the rights to pursue claims to collection agencies or other firms, which could then dun the borrowers for up to 20 years after a foreclosure. Such threats appear to deter some borrowers. A recent study from the Federal Reserve Bank of Richmond found that under-water borrowers were 20% more likely to default in a state where mortgage lenders can't pursue claims on other assets than in those where they can.

Brent White, an associate law professor at the University of Arizona who has written about this issue, says homeowners should make the decision on whether to keep paying based on their own interests, "unclouded by unnecessary guilt or shame." He says borrowers can take a cue from lenders that "ruthlessly seek to maximize profits or minimize losses irrespective of concerns of morality or social responsibility."

But it isn't just a matter of the borrower's personal interest, says John Courson, chief executive of the Mortgage Bankers Association, a trade group. Defaults hurt neighborhoods by lowering property values, he says, adding: "What about the message they will send to their family and their kids and their friends?"

In Mesa, another suburb of Phoenix, low prices are helping to draw buyers who may walk away from other homes. Christina Delapp bought a house out of foreclosure in July for $49,000 in cash. She says she will stop paying the mortgage on another home she still owns in Tempe if she can't sell in the next few months for more than the $312,000 that she owes.

Ms. Delapp, who has been jobless for 18 months, says that the new home is part of her survival strategy. "I feel very fortunate," she says. "Regardless of what happens to my credit, we've managed to put together the best safety plan that I possibly could."

Mr. Figg says that deciding to default on his loan was "the toughest decision I ever made." He worried that if he ever loses his job he would be marooned in a home that he couldn't sell for enough to pay off his loan, limiting his ability to find work in other parts of the country: "I couldn't move up. I couldn't move down. I couldn't move out of the city. It was a very claustrophobic situation."

By moving to an apartment, Mr. Figg expects to lower his costs by about $700 a month. He plans to put that into his savings account and says he is willing to rent for the next five years or so.

Lenders are guilty of having "manipulated" the housing market during the boom by accepting dubious appraisals, Mr. Figg says. "When I weighed everything," he says, "I was able to sleep at night."

Write to James R. Hagerty at bob.hagerty@wsj.com and Nick Timiraos at nick.timiraos@wsj.com

Printed in The Wall Street Journal, page A22

Shielding Your Assets from Creditors (NY Times)

April 2, 2009
Protecting Retirement Accounts From Creditors
By DEBORAH L. JACOBS

RETIREMENT accounts remain among many people’s most valuable assets, even at today’s depressed values. That means you need to protect them from creditors, a category that can include former spouses or people who have won lawsuits against you.
The asset protection strategies available to you depend on the type of account you have, where you live and whether you inherited the assets or amassed the funds yourself, among other factors.

You can start by understanding the exemptions in federal or state laws that may protect your retirement accounts. The good news is that most employer-sponsored plans, including 401(k)’s, are covered by the Employee Retirement Income Security Act, known as Erisa, and are completely protected from creditors — except when those creditors are former spouses or the I.R.S., said D. James Gehring, a lawyer with Seyfarth Shaw in Chicago.

The bad news is that individual retirement accounts are not covered by Erisa. If you have filed for bankruptcy, federal law protects up to $1 million in an I.R.A. that you contributed to directly, and protects the entire account balance if the money was rolled over into an I.R.A. from a company plan, said Jonathan E. Gopman, a lawyer with Cummings & Lockwood in Naples, Fla. So it’s important to keep careful records tracing the funds.

For anything short of bankruptcy, state law determines whether I.R.A.’s (including Roth I.R.A.’s) are shielded from creditors’ claims, Mr. Gopman said.
Most states, including New York, New Jersey and Connecticut, exempt 100 percent of the assets while they are in the account. But laws in other states vary widely on whether withdrawals are covered, whether protections extend to inheritors as well as the initial owner and whether former spouses can reach the funds.

Some states limit how much is exempt — Nevada caps it at $500,000 — while California and other states exempt only what is “reasonably necessary” to support the owner and her dependents. Such wording is, inevitably, an invitation to lawsuits.

In deciding whether, under California law, an I.R.A. can be attached by creditors, courts look at the owner’s age, earning ability and other assets, said Alex M. Brucker, a lawyer with Brucker Morra in Los Angeles. If someone had a $1 million company plan that was fully protected from creditors, a court might find that a $500,000 I.R.A. was more than what was reasonably necessary and thus should not receive the same protection, he said. And in some states, an innocent misstep could leave retirement assets vulnerable to creditors’ claims.

If, for example, you have been laid off or are retiring, rolling over assets from a qualified plan, like a 401(k), into an I.R.A. has estate-planning benefits. However, if you live in or are moving to a state where I.R.A.’s are not protected from creditors, you would be better off leaving the assets in the company plan, Mr. Gehring said. So you should consult a lawyer familiar with the rules of the state where you plan to live.

If you have at least $5,000 in the plan, the company must allow you to leave the money there until you are 65, but it is not required to let you take partial withdrawals or borrow against the account, Mr. Gehring said. “If the company goes bankrupt, your money is perfectly safe,” he said, because the business must keep retirement funds in a separate trust where its own creditors can’t reach them.

If you are leaving a company that has a cash-balance pension plan, you should resist the temptation to withdraw the money in a lump sum, Mr. Gehring said, unless you need the money to live on. Upon withdrawal, the money would be exposed to creditors’ claims, and you would have to pay income tax on the full amount.

As with money coming out of a 401(k), you can defer the income tax until you make withdrawals by rolling over the money into an I.R.A., but, again, your protection from creditors will depend on the state where you live.

For example, you might be returning to work after a period of unemployment and have rolled over an I.R.A. when you left your previous employer. Most companies will allow you to transfer that money directly into their plans as you come on board, Mr. Gehring said. You might want to do that either for asset protection or to take advantage of investment offerings. This strategy also works for people who are starting their own businesses and setting up 401(k)’s, Mr. Gopman said.

Note, however, that under federal law an I.R.A. that has been converted to a Roth I.R.A. cannot be rolled back into a company plan, Mr. Brucker said.

Be aware that state and federal laws against fraudulent conveyance prohibit transfers intended to hinder, delay or defraud creditors.
As a rule, such transfers must be in place before there is even a hint of potential trouble, said Gideon Rothschild, a lawyer with Moses & Singer in New York, to be sure they are protected.

If you plan to leave at least some of your I.R.A. to your family, remember that the assets may not be protected from your beneficiaries’ creditors, depending on where the beneficiaries live.

But you can shield the assets by leaving an I.R.A. to a trust, Mr. Rothschild said. To do that, you must name the trust (which in turn benefits certain people) on the beneficiary designation form on file with the financial institution that holds your retirement account. You should be sure not to withdraw the money from the account and put it in a trust; that would make the money subject to income tax.

protecting your assets from creditors

FLORIDA ASSET PROTECTION - Statutory Protection

--------------------------------------------------------------------------------

Much of the asset protection benefits for Florida residents is contained within the Florida Statutes. These exemptions are available to people who permanently reside in Florida.

Salary or Wages

Wages, earnings or compensation of the head of household which are due for personal labor or services, including wages deposited into a bank account (provided they are traceable and identified as such) are exempt from garnishment under Section 222.11 of the Florida Statutes.

Life Insurance Policies and Annuity Contracts

Cash value in insurance and all annuities are protected from creditors’ claims by Florida Statutes. While a Florida resident is alive, the cash value of any insurance policy he owns on his life or on other Florida residents is exempt from creditors claims. The protection afforded to the cash surrender value of a life insurance policy is only for the benefit of the owner/insured. Death benefits are not protected from the creditors of the policy beneficiary.

Perhaps the most popular financial product for asset protection planning is annuities. Florida courts have liberally construed this statutory exemption to include the broadest range of annuity contracts and arrangements. Private annuities between family members are entitled to the exemption as are the proceeds of personal injury settlements structured as an annuity. Additional protection is available by purchasing international annuities. Particularly, Switzerland and Liechtenstein have laws which guard annuities from attack by creditors for outside countries including the United States

The protection of cash value insurance and annuities extends to proceeds withdrawn by the owner. Florida courts have held that funds withdrawn from a cash value insurance policy and annuity payments received by a debtor remain protected as long as the funds can be accurately traced to a bank account readily accessible to the debtor.

Pension and Profit Sharing Plans, IRAs

To prepare for retirement and to defer income taxation more and more individuals direct significant wealth into IRA accounts and other tax qualified retirement plans. In Florida, retirement money not only defers income taxation, but is protected from creditors as well. Florida Statute 222.21(2)(a) provides that any money or other assets payable to participant or beneficiary in a qualified retirement or profit sharing plan is exempt from all claims from creditors of the beneficiary or participant. Florida Statutes specifically include under the protection umbrella pension plans designated for teachers, county officers and employees, state officers and employees, police officers, and firefighters. Disability Income

Disability income benefits under any disability insurance policy are exempt from legal process in Florida.

Automobile Exemption

Florida residents may protect up to $1,000 of equity in an automobile. The fact that a debtor need his automobile to go to work does not protect the vehicle from creditors to the extent that the debtor's equity (value less loan amount) exceeds $1,000.

Prepaid College Plans

Florida prepaid college tuition plans and Florida's 529 college saving plan are protected from creditors by Florida Statute 222.22.

Miscellaneous Exemptions

Florida Statutes include several narrow asset exemptions such as professionallly prescribed health aids, qualified prepaid college tuition, hurricane savings accounts, medical savings accounts, and unemployment benefits.