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Defaulting on Debt—Moral or Business Decision?

     I’ve had many referrals from clients of people who wanted to refinance.  We try to refinance as many people as we can to help with payments or get them into a better loan.  We can’t help everyone, and we shouldn’t.  In some cases, it makes sense to walk away from a mortgage or piece of property.  Some readers will gasp at this.  “How could anyone do that?!  There’s a commitment to pay that loan back!”  Others of you (even the gaspers) will wonder, “But why should I hold onto a bad asset if it’s not in my financial best interests to do so?  Shouldn’t I cut my losses?”

What to consider

     There was a great article in the New York Times not a month ago about this very topic (“Just Walk Away” by Roger Lowenstein).  If you’d like a copy, send me an email, and I’ll pass it along to you.  The author’s main point was this:  Big companies don’t hold onto bad assets, feel no shame about unloading them, and don’t worry about their credit ratings.  These companies practice “strategic default.”  Case-in-point, I just recently received an email from a company from which I buy products informing me that it was filing for bankruptcy.  It explains, “As numerous companies have demonstrated during this difficult economic cycle, using this type of legal process can be an effective way of achieving a fast and efficient debt restructuring with minimal disruption to the business.”

     So why should individuals act differently?  Why does the Obama administration ask homeowners to continue paying on their debt on homes in which the debt exceeds the value by 2-to-1?  Because it’s good for the banks, which are selling off their mortgage portfolio to the Fed because it’s a good business decision to unload as many bad assets as possible?  I don’t get it.

     If you decide to walk away from a piece of property and your mortgage obligation, you still have to live with yourself.  If walking away from the debt takes off years of your life in guilt and stress, it’s not worth it.  But if unloading the asset in a time in which banks are prepared to deal with it, why not take advantage of opportunity to put yourself in a better place financially?  Yes, your credit will suffer.  Temporarily. Yes, you will have reneged on a promise.  To this point, I thought the article put it brilliantly:  You did promise to pay, but the contract outlined specific penalties for non-payment.  “The borrower is not escaping the consequences; he’s suffering them.”  I also agree with the author that a flood of “strategic defaults” by homeowners might lead to more loan modifications by banks, which is what’s supposed to be happening.  It might “un-stick” the system, which would be good for all of us.  Consider walking away.  Talk to your accountant, your financial planner, your bank.  Get the facts and then decide.

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