“Strategic default” is a conscious decision by a borrower to stop paying the mortgage(s) on a real property even though the borrower can afford the payment(s). It can happen for a number of reasons and is not a decision to be made lightly or without education about the legal, tax and credit consequences.
We have counseled clients about strategic default in these common scenarios:
The client owns more than one real property, living in one as the primary residence and owning the other(s) as investment property; the investment property is either not cash flowing (the collected rent does not cover the mortgage, taxes, maintenance and other expenses), or so underwater (worth less than what’s owed) that the client does not wish to retain ownership of the investment property. Efforts to sell the investment property for what’s owed, or close to what’s owed, may have been unsuccessful. The client decides to either allow foreclosure of the investment property, or move into the rental property that best suits her needs, and either sell, lease, or allow foreclosure of the former primary residence. Any deficiency owed on the mortgage on the former primary residence is discharged in the bankruptcy.
The client owns his primary residence and decides to file for bankruptcy. As part of the “fresh start” afforded by a bankruptcy, the client decides to move back home, to another state, and surrender the primary residence — typically, upside down or with very little equity — in the bankruptcy, allowing foreclosure on the residence and discharge of any deficiency on the mortgage.
The client is current on the mortgage on her primary residence, but only because of supplementing income through debt — credit card, 401(K) loans, life insurance loans, and the like. When the client is no longer able or willing to continue borrowing in order to meet the mortgage, strategic default is an option, as is a bankruptcy.
The decision to default on a mortgage is fraught with emotion. We help clients look at the emotion-neutral facts and figures so that they can make a decision that’s right for them.