Part I: Mortgage Crisis Triggers Walk-Aways - Mortgage Debt Not Seen Since Great Depression

February 22, 2008 | Stuart Breakstone, a lawyer in Memphis, and his wife Lori owe about $670,000 on their home. Not since the Depression has a larger share of Americans owed more on their homes than they are worth. (Photo: Rollin Riggs / The New York Times)

To understand why the next phase of the nation’s housing crisis might mean financially troubled owners just give up and walk away from their homes, look no further than the winding roads and carefully tended lawns of the Piedmont subdivision in the once-booming exurbs of Washington.

Here, in Virginia farmland 40 miles south of the nation’s capital, builders in the last decade carved out development after development – hundreds of homes in gated communities that sold in a snap. At Piedmont, people camped out in line to get a contract, buying into plans for 2,000 spacious, traditional-style brick homes with decorative lamp posts on every lawn. The prices – at $600,000 and up – might seem high in softer markets elsewhere in the country. But in this expensive area, they felt affordable to people willing to trade a long and trying commute for a much larger home, adjacent golf course and community pool. Helped, of course, by interest-only loans, little or no down payments, and adjustable-rate mortgages.

But Piedmont’s amenities don’t mean as much to many of its homeowners these days. Housing prices haven’t just dropped – they’ve tanked, falling by as much as $200,000 to $250,000. By one estimate, some 80 percent of new listings here are either foreclosures or short sales, in which owners give their houses back to the bank at a fire-sale price, leaving their credit intact. Should the bank accept the short sale, it forgives the remainder of the mortgage. But banks often reject short sales. If owners can’t wrangle one, and they still want from under their loan, they might have to bring $200,000 in cash to closing, just to sell their house at a rock-bottom price.


Housing prices haven’t just dropped – they’ve tanked, falling by as much as $200,000 to $250,000.

Think, for a moment, about the likelihood of that actually happening.

Across the country, more than 30 percent of homeowners who bought in the last two years are now saddled with negative equity, meaning they owe more on their mortgages than their homes are worth, the research firm Zillow reported recently. Those homeowners can’t easily sell or refinance their way out of those loans, especially with house prices still falling. The Wall Street Journal described this as a vicious cycle, giving borrowers "an incentive to walk away from their mortgages."

It’s more fodder for a blogosphere already inflamed by the prospect of widespread walkaways, prompted by Bank of America CEO Kenneth Lewis’ observation that social attitudes toward default have changed, making walkaways culturally acceptable. Fear of walkways also motivated a recent plan to delay foreclosures for some borrowers. Although walkaway reports remain anecdotal so far, "I think there is a real tendency to move in that direction," Susan Wachter, a real estate professor at The Wharton School at the University of Pennsylvania, told the Orange County Register recently.

In the meantime, short sales, or at least attempts at them, are climbing as the next best thing, boosted by a Bush administration move late last year to let homeowners off the hook for taxes on the forgiven mortgage debt. Word on the cul-de-sac at Piedmont is that behind closed doors, many people haven’t paid their mortgages in months, sometimes many months, but banks aren’t foreclosing right away, as had been the norm. They’re moving slowly, the whole system clogged by other foreclosures. In California, it takes so long for banks to foreclose that attorneys advise people simply to stay in their homes, go on with their lives, pay down credit debt and wait for the notice – a modern, upscale version of squatting. As they wait for to hear from the bank, some Piedmont owners try to pull off a short sale, work out a repayment plan or just sit tight, playing a financial game of cat and mouse that doesn’t always end well for either side.

Trina Arce, 30, much to her dismay, is playing that game.

She stirs her tea while leaning on a granite countertop in the gourmet kitchen of her Piedmont home, the one she and her husband can no longer afford, the one they’ve listed for three months now as a short sale: "When we moved in we thought we’d spend the rest of our lives here," she said, pointing to the expansive rooms with gleaming wood floors."I used to say, ‘I love our house. It’s so wonderful. We’re going to live here forever.’’’ Now I just say, ‘God, I hate this place. I just want to get out of here.’"


...the mortgage crisis has altered in significant ways the long-held American dream of home ownership

The fact that owners here and in other overpriced markets around the country are willing and even eager to give their homes to the bank at a huge loss, or that they might consider walking away, is proof that the mortgage crisis has altered in significant ways the long-held American dream of home ownership. It’s cast a pall on the once-reverent relationship between buyer and house, a shift in attitude likely to have effects for years to come, even after the housing market eventually shakes off its excess inventories and returns to normal, whatever that might come to encompass.

People once valued their homes above all. In studying consumers who filed for bankruptcy, experts found that they’d hand over their credit cards, their cars, their savings, whatever else they had, even if it made no financial sense, just to keep their homes. There was shame, or sadness, the pain of losing a long-treasured home, the embarrassment of failing on a mortgage, the melancholy of older couples leaving behind the homes where they’d raised their families. Losing a home conjured images of the Great Depression, memories of hard times shared by grandparents around the kitchen table.

Now there’s just relief.

Arce and her husband, Pablo, bought their five-bedroom house in 2004 for $605,000 with an interest-only loan, watched it climb in value quickly to $750,000, and then witnessed its steep decline, beginning last year. Panicked, and worried about mortgage payments that are only going to rise, they put it on the market last summer for $550,000. No takers. Lowered it to $525,000. Then $500,000. Nothing. For the past three months, it’s been at $450,000, and offered as a short sale. It’s not moving.

Each morning, they say hello to neighbors out to pick up the morning paper or to enjoy a walk, who bought foreclosed homes at the bottom of the market, paying $420,000 or so for places just like theirs. So they deal with that, on top of the stress of trying each month to scrape together the mortgage payment, something they just can’t manage anymore. They’ve got a lively two-year-old daughter and another on the way. It’s either a short sale or… disaster.

They don’t want to walk away and ruin their credit. They don’t know what to do. And that’s the hardest part of the waiting game—not being sure what might happen next, with none of the alternatives looking particularly good.

"It’s crazy," said Arce, whose income as a mortgage broker took the same steep fall as housing prices. "We just want to get rid of it. It makes no sense to sit here and pay $4,000 every month for the same house that’s selling down the street for $200,000 less."

If the craziness incites people to give up and walk away, no one should be too surprised, said Joel Kotkin, author of "The City: A Global History" and an expert on social, economic and global trends. Just look around. "All you have to do is go to parts of the Midwest that are filled with farms that have been left behind and abandoned and that had been there for generations," Kotkin said. "This is a capitalist system. When things don’t go well, we move on."

And on. And on. Since Levittown rose from Long Island potato fields after World War II, the path to home ownership has led further and further out from the cities to new developments, with bigger and bigger homes. It’s precisely those exurbs that are most vulnerable in the foreclosure crisis, Kotkin contends. Look at Stockton, Calif., or Modesto, hit especially hard by mortgage problems, far from jobs, cities, and schools. They are communities that don’t really have a reason to be there, other than that’s where they are. "You have places where people haven’t lived for a long time and they don’t have particularly strong roots," Kotkin said. "There’s not a lot of reason for them to stay. It’s why rootedness is becoming a very important thing."

It’s also why the relentless expansion into the exurbs might stall. Even before the mortgage crisis, exurbs were coming under closer scrutiny due to the high costs of maintaining the large homes and transportation expenses, said Kenneth T. Jackson, author of "Crabgrass Frontier," an influential history of the expansion of American suburbs. Now that houses there aren’t exploding in value, it makes them an even less promising place. "As energy costs go up, the ability to move further and further off is going to be impeded," Jackson said. "I think there will be a slow change, an evolution over the next 15 to 20 years. It will be a movement not just back to the city, but to higher density, and to less of a tendency to move far out on the fringe."