There are 11 non-recourse states: Alaska, Arizona, California, Iowa, Minnesota, Montana, North Carolina, North Dakota, Oregon, Washington and Wisconsin. Some of these states, such as California, forbid lenders to seek deficiency judgments on any shortfall after a foreclosure. Others have such severe restrictions on deficiency judgments that it's "virtually impractical for the lenders to pursue a judgment without incurring an expensive and time-consuming legal process," Deutsche Bank concluded.
Deutsche took a closer look at the impact of non-recourse legal provisions on a homeowner's decision to strategically default and concluded that states that do allow recourse have lower rates of strategic defaults. Even in recourse states, Deutsche bank found that "actual deficiency judgments are rare in practice because they are often costly and time-consuming."
To do this study, the bank looked at California and Arizona (non-recourse states) versus Florida and Nevada (recourse states). It found the rates of default about 15 percent to 20 percent higher in the non-recourse states. When a home was underwater by 130 percent, there was an 81.3 percent cumulative default rate in California and Arizona. At the same loan-to-value, the cumulative default rate was 62.7 percent in Florida and Nevada. Even though recourse is a deterrent, that's still a high rate of default.
But Deutsche Bank also found that recourse is "generally a larger deterrent on borrowers with more negative equity." So the more that borrower could owe after default, the greater the chance the borrower will delay the default.
Deutsche Bank also looked at credit scores and their impact on strategic defaults. It found that in non-recourse states defaulters had higher VantageScores (a type of credit score) than borrowers in recourse states. In other words, borrowers in recourse states hold on longer before defaulting and stop paying other bills as well. In fact, the study found that borrowers in California and Arizona have a "smaller number of delinquent, revolving accounts than recourse states."
By looking at these numbers the bank concluded that "home borrowers that have defaulted have better credit profiles in non-recourse states, an indication that many of these defaults may be strategic."
Maybe if banks would work with borrowers and include some type of principal forgiveness they may be able to halt the trend of strategic defaults.
Lita Epstein has written more than 25 books, including "The 250 Questions You Should Ask to Avoid Foreclosure."
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