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Strategic Default Accounted for 31 Percent of Foreclosures in First Quarter

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Strategic default, where a homeowner intentionally walks away from their home (and their underwater mortgage), accounted for 31 percent of foreclosures during the first quarter of 2010, according to the Chicago Booth/Kellogg School Financial Trust Index.

That’s up from 22 percent a year ago, and significantly higher than the 12 percent figure Morgan Stanley attributed to strategic default in February.

The Kellogg School researchers believe part of the rise has to do with the increased perception that fewer banks and mortgage lenders will come after borrowers who don’t pay their mortgages.

Strategic Default More Common, Less Risky?

“With more and more homeowners believing that lenders are failing to pursue those who default on their mortgages, there is a risk that a growing number of homeowners will walk away from their homes even if they can afford monthly payments.” said researcher Paola Sapienza in the report.

The results also indicate that strategic default increases by 29 percent if the homeowner is able to find an alternate way to finance a new home.

And if the homeowner learns they have a neighbor with negative equity that received a partial loan for forgiveness, the likelihood of strategic default rises 23 percent.

“A key deterrent to strategic default is the fear of losing a good credit score,” said researcher Luigi Zingales. “Approximately 74 percent of homeowners in our survey believe it is very important to maintain good credit and this can be a factor in encouraging them not to walk away.”

Of course, credit scores seem to be negatively impacted via loan modifications as well, so some borrowers may opt to walk regardless.

Fico’s latest stance on loan modifications and credit score is that they won’t hurt borrowers at the moment, but could once more data is compiled.

That type of uncertainty doesn’t bode well for those hanging on based on credit score alone.

Fannie Mae Looks to Punish Strategic Defaulters

Government mortgage financier Fannie Mae plans to make life harder for these so-called strategic defaulters, or those who walk away despite having the capacity to make their mortgage payments.

Those borrowers, along with those who fail to “complete a workout alternative in good faith,” will be ineligible for a Fannie Mae-backed mortgage for a full seven years from the date of foreclosure.

Of course, none of this will really matter because the long-term viability of Fannie Mae doesn’t look so bright, and there will be plenty of other ways to get a mortgage.

“We’re taking these steps to highlight the importance of working with your servicer,” said Terence Edwards, Fannie Mae executive vice president for credit portfolio management, in a press release. “Walking away from a mortgage is bad for borrowers and bad for communities and our approach is meant to deter the disturbing trend toward strategic defaulting.”

“On the flip side, borrowers facing hardship who make a good faith effort to resolve their situation with their servicer will preserve the option to be considered for a future Fannie Mae loan in a shorter period of time.”

Fannie also plans to take legal action against borrowers who strategically default in jurisdictions that allow for deficiency judgments.

Next month, the company will instruct its loan servicers to monitor delinquent loans sailing toward foreclosure and put forth recommendations for cases that warrant the pursuit of recouping outstanding mortgage debt.

Be careful out there!

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