Negotiating with Mortgage Lenders

NEGOTIATING WITH MORTGAGE LENDERS
Information for 2008 Flood Victims
By Steve Klesner ofJohnston & Nathanson, 'P.L.C.
July 21,2008
The Flood of2008 has forced many homeowners into situations they probably had never
anticipated. Some flood victims are facing the permanent or temporary loss ofuse of their
homes, forcing them to incur expense for altemative housing. If rebuilding or substantial repairs
are planned, then there is a considerable unplanned expense for that purpose. In any event, the
damaged properties are worth much less on the market than before the flood, and the values may remain depressed in the foreseeable future ifit appears to potential buyers that the properties are at increased risk of future flooding.Some flood victims may now find that their homes are worth less than the debt secured by their homes. They may also find they are financially unable to meet their ongoing mortgageloan obligations while paying rent. What a flood victim needs is a cooperative mortgage lender. Because each person's financial situation is different, it is important to understand somebasic facts about mortgages and foreclosure to determine what options are available to the mortgage lender and the homeowner. With that knowledge, it then is possible to address the question ofhow to negotiate with a mortgage lender.

Because all situations are different, readers are urged to seek legal advice and not rely upon the general
information contained in this article.

First, it is necessary to discuss some basic concepts. When a person buys a home, there
are three main documents which define the relationship between the lender and homeowner. The deed is the document which conveys ownership. The promissory note is the document in which the lender agrees to lend and the borrower promises to repay the loan. The mortgage is the document in which the homeownerlborrower waives his or her right to retain the real estate after a payment or other default on the note. The way a lender exercises its right to take the property upon a default is called foreclosure.

The Mortgage Crisis
In the not-so-distant past, the common practice was for a lender to lend up to a certain
percentage ofthe value ofthe home. An equity margin was maintained to prevent the bank:
taking a loss at a sale after a foreclosure. The lender, in other words, wants to be sure that a sale
to another buyer - either voluntarily or involuntarily - will pay the entire debt.
Beginning in the early 1990's, home values appreciated at an unprecedented pace, in
large part due to lenient lending standards. Lenders were willing to lend without proof of
income, and beyond the value of the home. Inflated appraisals and other questionable practices
were employed by lenders to justify the making of larger and larger loans. Adjustable rate
mortgages and interest-only mortgages allowed buyers to believe they could afford more home
than they could, and this perception further drove up the prices ofhomes. These lending
practices were questioned well before a mortgage crisis suddenly emerged in 2007, but every
homeowner, no matter their mortgage situation, was invested by then in the maintaining ofthose
practices, since to tighten standards would have led to a rapid decline, or "correction", in housing
values.


Some have speculated that the lenders were expecting a rapid and perpetual increase in
property values: In other words, they believed there was no limit to how high property values
could go. If values continued to increase, then even the riskiest loans would always be paid in
full, even in the case of a foreclosure. A more realistic point ofview, I think, is that lenders
knew a day of reckoning would come, but so long as large profits could be earned in the
meantime, then it.was a winning business strategy to make these risky loans, even if the business
ultimately failed.
Locally owned banks generally plan for the long term. They also must protect their local
reputations. They apparently did not engage in the most risky of these lending strategies, but
undoubtedly did feel pressured to loosen their lending standards to remain competitive with
regional and national lenders. It is fair to say they loaned more against real estate, as a
percentage ofvalue, than in the past, and more than they wonld have done in the absence ofthis
competition.
When the mortgage crisis began, local homeowners became dependent on matters outside
their control, such as home values and the availability of credit. Anyone with an adjustable loan,
a short-term loan, or who planned on only briefly owning their home was at risk ofmarket
conditions changing their payments or future loan availability. An owner with a fixed rate, longtermloan,
and with considerable equity, was at little risk so long he or she planned to maintain
ownership until any housing correction played itself out. As flood victims have learned, even
homeowners in the latter category can be affected by the wider market conditions.
Foreclosure
So it is a relatively recent development, and one that hasn't been seen in some decades,
that, in the event of a foreclosure, the lender faces a potentially significant loss. Because home
values in most areas have fallen, and the amount of debt to value was high before the loss in
property values, mortgage lenders can no longer be confident ofbreaking even ifthey must
foreclose. This chan~e is important because it may influence the options the lender is willing to
entertain to avoid foreclosure, and because it may influence the choices the lender may make
regarding the type of foreclosure relief to seek.

Here, it would be helpful to provide a very briefprimer on foreclosure. Depending on
whether the property being foreclosed is for business use or used as a personal residence, and
whether it is agricultural property or not, there are various types of foreclosure relief available to lenders under Iowa law' In the simple case of a home in town, there are really two basic choices available to lenders. In the vast majority of cases, lenders have filed a type of foreclosure called foreclosure without redemption, with waiver ofdeficiency. Basically, this means the lender does not seek a personal judgment against the borrowers, but instead only seeks an order awarding the real estate to the lender. The homeowner loses the property (unless the entire debt is paid off before or at the foreclosure sale), but does not owe any additional money to the lender.

Why do lenders almost always choose this kind of foreclosure? The answer is twofold.
First, historically the bank has done well, satisfying its debt in full from a sale ofthe property,
because they loaned less than the value ofthe property. The second reason has to do with the
length oftime a homeowner can demand to remain in the property after a foreclosure judgment.
In the case of foreclosure without redemption,the homeowner can demand six months of
continued occupancy. In a foreclosure with redemption, on the other hand, the homeowner can
demand one year (although doing so subjects the homeowner to risk ofa deficiency judgment).
So the lender, by waiving the right to collect against the homeowner, by garnishment or other
methods, can obtain possession and sell the property six months quicker, which it considers a
2 Because the large majority offoreclosures are brought in state court, I do not intend to discuss federal court foreclosures in this article, other than to say federal loans foreclosed in federal court usually result in fewer protections forhomeowners, suchas in how long thehomeowner mayremain in possession.
A better option than pursuing a likely futile collection against the homeowner (who is apt to file a
bankruptcy to eliminate any remaining debt).
Here is a conunon foreclosure timeline. First, the lender doesn't usually foreclose until
the borrower is four months or more delinquent. Then, the foreclosure is initiated by the filing of
a foreclosure petition in the Iowa District Court. That petition is served on the homeowner,
usually by a sheriffs deputy or process server personally delivering it to the homeowner. The
homeowner has a total ofthirty days to answer the petition and/or demand a delay of sale.
Assuming the homeowner seeks immediate legal advice and timely files with the court a demand
for delay ofsale but otherwise does not contest the foreclosure, a judgment is rendered sometime
after the thirty days expires. Then a six month clock begins ticking, and at its expiration a
sheriffs sale is scheduled. If the homeowner is still in possession after the sale, then an eviction
will be commenced, which will take a few weeks to run its course. A homeowner is not required
to remain in possession during any of these time periods. It is therefore common for a typical
foreclosure to take eleven months or more (usually more) to accomplish, from the time the
homeowner first becomes delinquent to the time the homeowner is forced out.
A common question asked is whether a homeowner needs to resort to bankruptcy because
of a foreclosure of a home mortgage. The answer depends on the number ofmortgage loans and
mortgage lenders, and the type offoreclosure relief the lender seeks, In a simple case ofone
mortgage loan and the lender who pursues foreclosure without redemption, then the homeowner
probably does not need bankruptcy relief. This is because the lender is not seeking a personal
judgment against the homeowner, so there is no debt to eliminate. Moreover, bankruptcy
provides very little additional delay for a homeowner seeking to stay in the home as long as
possible -. If the homeowner thinks he or she can afford to get back on track and rehabilitate the
loan if given a few years to catch up past due payments, then a Chapter 13 bankruptcy may be
appropriate.

If there are additional mortgages against the home, then the homeowner may need
bankruptcy reliefto eliminate any deficiency that will result for the junior (second, third, etc.)
mortgage holders. It is common for junior mortgage holders to get nothing at a sale, and they
choose instead to sue the homeowner and try to garnish bank accounts and wages. A bankruptcy
will eliminate these debts, assuming, of course, that the homeowner qualifies for bankruptcy
relief (which is a subject too complicated to consider in this article).

How to Negotiate
Now that we have learned a few things about mortgages and foreclosure, it is possible to
discuss how to negotiate with a mortgage lender. Any banker will tell you that they don't want
your property. They want the payments to be made. This is true. Banks are in the business of
lending and collecting payments. They do not want to incur cost in managing a property and
taking a risk ofloss, especially in a declining real estate market (which has not affected all
geographic areas equally, of course).
That being said, the banks have few options other than foreclosure. If there are no other
mortgages or liens against a property, a lender is often happy to take a deed-in-lieu of
foreclosure. This means the homeowner signs a deed and acknowledgement that he or she is
giving up significant rights, and walks away. It is important to get it in writing that the bank will
waive all remaining debt. This is advantageous to both parties in many cases. The lender gets
the home on the market ASAP. The homeowner suffers less harm to his or her credit score.
If there is more than one mortgage, it may be possible to sell the property in a short sale.
This means one or more lender agrees to allow a sale for less than full payment. Usually, there is
no waiver ofremaining debt, and a payment plan is negotiated to satisfy the remaining debt.
The problem that has arisen in the declining markets, and more acutely for flood victims,
is that the properties at issue are worth much less than the loan balances. For flood victims
especially, it means the bank really, really, doesn't want the home, because it is not marketable
without substantial further investment, if at all. This situation forces a bank to consider
abandoning past practices, and instead pursue other options, like foreclosure with redemption,
for example, There really are no attractive options for either the homeowner or the lender if the
property is substantially destroyed,
When a property has been mostly destroyed, it is even possible a mortgage lender may
avoid foreclosure altogether, because nothing forces a lender to take the property, Instead, a
lender may simply sue on the note and never exercise its rights to foreclose, A personal
judgment will be used to garnish personal assets and wages, as mentioned above, and will lead in
many cases to bankruptcy. Further problems arise if the mortgage lender won't take the property. Property taxes continue to accrue, and any special assessments also will be the homeowner's responsibility.
The homeowner can be responsible for any injuries that occur on the property: Ultimately, the
homeowner may be stuck with the property until it is sold at a tax sale, assuming that the
homeowner stops paying the property taxes. This is not an elegant solution,
In most cases, flood victims will be better offif their mortgages are with local mortgage
lenders, Local banks must consider their local reputations, and therefore are more likely to do
everything possible to avoid foreclosures and are less likely to pursue personal judgments.
Those with national or regional lenders are not so fortunate, and, to make matters worse, must
contend with the unique difficulties that arise in these large organizations. In short, because of
the fragmentation of services provided by these behemoths, it is very difficult to get decisions
and formalize any deals. Meanwhile, credit scores are likely to suffer badly if the loan payments
are not made on time,

Until some announcements come from our local banks, no one, including bank officers,
probably knows how these unique circumstances will be dealt with. At this point, a best guess is
that local banks will be willing to talk to homeowners, on a case-by-case basis, about deferring
payments and not reporting the payments as late. Significant debt forgiveness is probably not
realistic, at least in the near future. Ifthe homeowner does not want to remain in the property
and cannot expect a buy-out by any governmental unit or FEMA assistance to be substantial
enough to pay off the mortgage debt, then he or she will probably want to meet with a lawyer to
talk about legal options. In most cases, there is no pressing need to resort to bankruptcy. A
bankruptcy later is usually as good as a bankruptcy today, and careful consideration is warranted
before selecting that or any other legal option. There is no reason to delay in determining
whether any legal option may ultimately be needed, however, and may aid in deciding how and
when to negotiate with any mortgage lender.

Summary
Because of the unique circumstances facing flood victims, including the mortgage
lending crisis which arose before the flood, it is hard to reliably predict how banks behave in any
negotiation. Before negotiating with your mortgage lender, you should understand your options,
including foreclosure, foreclosure alternatives, and bankruptcy. This will require advice from an
attorney after a review of your situation. Any plan to deal with your situation will depend on
your own situation, including:
• Your financial resources or degree of financial hardship
• The likelihood of a buyout or other public assistance
• Your desire to remain in the property or abandon it
• The extent of the damage
• Your eligibility for bankruptcy and the likely consequences ofbankruptcy
• Whether your lender is locally owned
• The number and amount ofmortgages on the property, and the likely foreclosure
outcome
• Any impact on other persons, such as cosigners, neighbors, and other collateral

Johnston & Nathanson, P.L.C.
1927 Keokuk Street, PO Box 3400
Iowa City, IA 52244
(319)338-9852, fax (319)354-7265
sklesner@jpnIaw.com
www.jolmstonnathanson.com
www.iowabankruptcylaw.net

Note: this was a scanned document and possible not all items were scanned correctly by the software. Please be sure to contact your attorney for more specific information regarding your exact situation.