Our Home is Currently Worth Less Than We Owe On It. – Chris

“Dear Steve,

Our home is currently worth less than what we owe on our first mortgage. We purchased our home in 2003 and it was valued at $224K. Our mortgage broker, who we believed was a friend, took us sub-prime when we would have qualified for FHA or Fannie Mae we later learned. Our interest rates are 9% on the 1st and 13% on the second. We tried to re-finance in late 2007, when rates were low and were unable to do so because the appraisal came back lower than what we owed. At that time, we owed $214K and the value had dropped to $192K.

In 2008, we experienced job loss and layoffs which forced us to concentrate on paying the 1st since we were unable to pay on the 2nd. Due to this our credit has dropped and we are unable to refinance and our income is considerably less. My husband is still not working. Our balance on the first is $164K and now $46K on the second (fees included).

Recently, we received a letter from Wilshire that they are sending our second mortgage to their collection agency. If we sold our home now, it would probably sell for about $130K due to the foreclosures in the neighborhood and surrounding areas. Several have sold for around this price. Wilshire would not receive a penny if this happened.

Earlier this year we were injured in a car accident with a drunk driver. We will be receiving a small settlement, after medical and attorney’s fees, that we would like to use to clear up as much debt as possible and make an offer to Wilshire. Although we cannot afford to make monthly payments in our current situation, we do owe them and feel that we should give them something. This will also help us one we get our credit strong enough to re-finance later.

Would it be advisable to try to set up a guaranteed settlement with Wilshire? How should we proceed with the process if they are receptive to doing so? Is there a specific percentage of the defaulted loan that is standard? Will they give us a 1099C for the difference? Any advice would be greatly appreciated.

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Dear Chris,

I suppose what has me slightly confused is that Wilshire has a secured second mortgage against your property. Withoutout some agreement by them to release their lien against your property, I’m not sure how you could sell it at all.

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You might be able to enter into a settlement with Wilshire in exchange for a lien release but I think that a settlement like that might be best negotiated by a professional third party. In your case, possibly even a real estate attorney. Why a real estate attorney? Well the underlying factor here is that you want to make 100% certain that the title to your property is completely cleared of the second mortgage when you settle it. A typical debt settlement company just isn’t going to have the legal expertise to make sure that happens, and it’s a critical component of your settlement approach.

I’d suggest that you first go and meet with a bankruptcy attorney to discuss your situation. It might just be that with all that has happened to you that bankruptcy might be a reasonable way out. Here’s why.

For whatever grand and master plan, you’ve been dealt a series of blows to your life and finances. To cap things off you were hit by a drunk driver and now will be receiving a small settlement. Since the legal settlement is probably not attachable by your creditors you could consider getting rid of the house, getting out from under both mortgages, and taking that settlement money and use it towards starting over.

Your current plan has you using that money to try to resolve your debt situation and I’m just concerned that you will be unable to resolve all of the debt issues with your “small” settlement. With the settlement approach you will get a 1099 and a tax bill for the forgiven debt. With bankruptcy there is no tax bill.

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I understand your feeling as if you have a duty to repay them. I felt the same way when I went bankrupt. But consider this, just because you seek the protection that bankruptcy can offer you, it does not mean that you still can’t repay your creditors latter, as you can and on your schedule. I did that and was very surprised by the response from my creditors. Half actually asked me to stop sending them checks.

And before you disregard the suggestion that this might be a good opportunity for you to start over, consider this, at the end of the day the house is just a thing with emotional attachments. Would your life be better starting over or struggling to repair the past, even if it meant handing the house back?

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Steve Rhode is the Get Out of Debt Guy and has been helping good people with bad debt problems since 1994. You can learn more about Steve, here.
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