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Banks sometimes turning to short sales for underwater mortgages

Greg Hull couldn't believe what he was hearing.

It was last fall, and Hull, a Madison-area real estate agent for the past six years, was in the midst of difficult negotiations on a deal.

His client, Linda Paul of DeForest, owned a four-bedroom, 3,300-square-foot home that had lost more than half its assessed value due mostly to dry rot and other massive water damage between 2006, when she bought it, and 2008, when she stopped making payments.

Hull was trying to get Paul's bank, JP Morgan Chase, to agree to a transaction known as a short sale -- a kind of compromise in which a home is sold for less than its outstanding mortgage. It can be good for both sides, because it generally does less damage to a seller's credit while also typically costing the lender less in time and money to unload than a foreclosure would.

Hull was also hoping to get the bank to waive its right to make Paul pay the mortgage deficit, which came to more than $160,000 before late fees and interest.

But Paul had one additional request. She said Chase had offered in a letter to give her $20,000 for agreeing to the short sale.

"She said, 'We'll do the short sale, but make sure I still get my 20 grand,'" Hull recalled.

"I basically didn't believe her," he added. "I told her they were already looking at hundreds of thousands in losses on the forgiven deficit. Why would they give you $20,000 on top of it?"

But Paul was right, and she got her $20,000, in addition to walking away from the outstanding balance, when the home was sold to an investor on Oct. 21 for $116,000. Paul had purchased it for $334,000 in November 2006.

Hull, who works for Prudential Community Realty, admits to having mixed feelings about the deal he arranged for Paul, and others like it, mainly because the reasons behind the cash incentives are so poorly understood. Banks don't reveal the formulas they use to decide who gets one and how much it will be.

"It's not like it was with the (federal) tax credit for buyers, where it was clear, 'If you do this, then that happens," he said. "Instead it's just this thing where randomly one day you get a letter in the mail that (says) you're rich. Maybe if I understood the process better...but it just seems kind of odd to just give people who are behind money. There's just something there that doesn't add up."

More common

Cash incentives to short-sale sellers from the major national banks have become more common in the past year, in Dane County and around the country. The incentives get the attention of delinquent buyers and can convince them to stop holding out for a principal write-down or to stop fighting the foreclosure process in court, while they often live for free in the disputed home for a year or more.

To date, Chase has offered the most and biggest incentives, but Citigroup, Bank of America, Wells Fargo and Ally Financial have also made payments, according to the banks and other sources.

"We're seeing more and more of that," said Peter Zarov, owner of Madison-based Homestead Title Co., which handles home closings. "I don't know why. All I can think of is they badly don't want that inventory back."

Zarov said his office handled two cases in the past year in which short-sellers received $35,000 and $25,000 to give up their homes and also walked away from what they owed on their mortgages, with "many more" getting $2,000 to $10,000 incentives, which are taxable.

Local Keller Williams agent Michela Terrazino said she had handled two short sales in the past year in which the sellers received $10,000 incentives from Chase, plus another $3,000 each from a federal short-sale program. One of those clients lost her home because of steep family medical expenses, Terrazino said, while the other family also had serious financial problems.

"Both walked away with $13,000, which was extremely helpful to both of them, and both were extremely glad to get these incentives," she said.

No 'rhyme or reason'

Other short-sale trends noted nationally and in Dane County include a marked increase in short sales, with or without incentives, by mortgage-servicing giant Bank of America, and by the Home Affordable Foreclosure Alternatives program, or HAFA, which is the federal government's program to encourage short sales. HAFA provides incentives of $3,000 to homeowners, along with $1,500 to the banks who own and/or service the loans and $2,000 to the investors who often buy distressed debt from banks on the secondary market.

Zarov said those sales also were proceeding more smoothly because of software upgrades and other reforms.

Zarov welcomed those improvements, but said he and his staff have been troubled at times by the incentives they see. In one recent case, he said, a rental property owner received $25,000, even though he hadn't paid the mortgage on it for a year while still collecting rent.

"My closing officer was incensed," Zarov said. "He keeps his rent money? How is that right?"

To some, incentives are bad policy if they don't differentiate between borrowers who may have behaved irresponsibly -- perhaps just buying more house than they could afford -- and those who became trapped by falling property values after a job loss or other hardship. Others argue that what matters now is shoring up the market's health for the good of all.

"I haven't seen rhyme or reason to it," Zarov said. "But my view of it is, we've got to get the market to recover, whatever it takes."

Linda Paul, the DeForest woman who received $20,000 from Chase to short-sale her house, said she doesn't think the payment is inappropriate. She noted she and her then-husband, Michael, made a $50,000 down payment and paid the mortgage for nearly two years before they hired a lawyer to sue the previous owners for allegedly not disclosing the home's drainage problems. (The couple eventually received a $30,000 settlement.)

Paul said the first sign of trouble with the house came just 90 days after they moved in, when the basement filled up with 17 inches of horse manure and water. It only got worse from there, she said.

"The $20,000 (incentive) helped, but it just helped us pay bills," she said. "We didn't break near even with what all we lost. It didn't get us ahead. It just helped us catch up."

Paul, 60, now lives as a renter not far from her former house. It remains painful to drive by it, she said.

"It was a nightmare from almost the time we moved in to the time we moved out," she said. "It's still an open wound on my heart."

(c)2012 The Wisconsin State Journal (Madison, Wis.)

Visit The Wisconsin State Journal (Madison, Wis.) at www.wisconsinstatejournal.com

Distributed by MCT Information Services

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