More Washington state borrowers get trapped in foreclosure

Three years after the housing crisis struck Washington state, the economy is showing signs of emerging from recession. But when it comes to foreclosures, things are only getting worse.

Today, more local homeowners face losing their houses. And now the process of getting out of foreclosure is getting harder, trapping borrowers and lenders alike.

To provide a snapshot of the problem, the Puget Sound Business Journal updated its tracking of a week’s worth of King County homeowners who received foreclosure notices in December 2008.

More than a year later, two-thirds of those 172 households remain in limbo. These 116 homes either have been taken back by the bank and not sold, had their sales canceled or have repeatedly been scheduled for auctions at which they failed to sell.

Too often loan modifications also fail, leaving banks and borrowers with few options for resolving these cases.

The rise in foreclosures and the blocked exit means a staggering number of properties are building up in the system. Currently, about 400 homes are scheduled for auction each week in King County, even though only a fraction of those actually sell. By June the number is expected to rise to 800, according to a forecast by Vestus LLC, a Kirkland firm that specializes in buying foreclosed homes at auction. That is many times more than before the crisis. During the first week of June 2007, for example, just 43 properties came to auction in the county.

As they hang in the system, these unresolved cases weigh on banks, homeowners and the economy. They push down home prices, slow the recovery in home sales and limit the availability of new loans for home buyers and local businesses. Trapped properties also undermine the stability of some banks by eroding their capital ratios. They also give rise to rescue scams and other frauds. Only three people staff the state-sanctioned hotline to counsel those in foreclosure.

The Puget Sound region is one of only three areas in the country where the number of foreclosure-related “distressed sales” is still rising, according to CoreLogic, a research firm. Even foreclosure hot spots such as California, Nevada and Arizona are seeing the rate of foreclosure sales decline, compared with a year ago, while in Seattle, Houston and Orlando, Fla., those rates are still inching higher.

“Over the course of the last year, Washington has moved from one of the states with the lowest rates of foreclosures and serious delinquency rates to very much in the middle of the pack,” said Glenn Crellin, director of the Washington Center for Real Estate Research at Washington State University in Pullman.

“We’re not among the worst, but we’ve deteriorated markedly over the course of a year.”

Distressed sales also have a powerful impact on prices. In the Seattle-Bellevue-Everett area, home prices fell nearly 8 percent in February, compared with a year ago, CoreLogic said.

That was a bigger price drop than in January. And more than 1.5 percentage points of the drop was due to the effect of distressed sales, according to CoreLogic. The trapped properties are concentrated in the cities of Maple Valley, Federal Way, Tukwila and Kirkland.

What’s more, Seattle is the only top-15 metropolitan market where price-cutting on homes — listing a home at one price, then reducing it when it fails to sell — is on the rise, according to Trulia, a research firm. Not only are there more price cuts happening (up 15 percent compared with last year) but the cuts are deeper, an average 10 percent cut so far in 2010, up from 8 percent last year.

Trulia warned that the end of the federal home buyer credit, coupled with the rise in interest rates and foreclosures, will stress the national housing market even more.

“The next few months will be very telling for whether the U.S. housing market can be self-sustaining over the longer-term,” Trulia CEO Peter Flint said in a statement.

And still the foreclosures keep coming. In some cases, the homeowners become squatters in their own houses.

Cheryl Harden hasn’t made a mortgage payment in two years. But she continues to live in her three-bedroom house on a cul-de-sac in the small city of Milton, which is east of Tacoma and partly in King County.
She bought the house in 2007 and moved in with her kids. She financed the $318,000 property with a subprime, adjustable-rate mortgage from an Idaho-based company called Subprime Lenders, property records show. The mortgage carried an interest rate of 10.5 percent, which adjusted to 12 percent in 2009.
By April 2008, Harden, 34, had fallen behind on her monthly mortgage payments of $2,800. Her roommate had moved out, leaving her without a second source of income. Then she lost her job.
By now, Harden has racked up more than $70,000 in back payments, interest and late charges, according to property records.
In the spring of 2009, after receiving a notice of trustee’s sale — the first step toward a foreclosure auction — Harden said she began to negotiate a loan modification with Chase Home Finance, a division of JPMorgan Chase.
She said she faxed the bank nearly 80 pages of documents explaining her situation.
Several months later, she said, the bank got back to her with an answer: No modification.
“I was basically told that it wasn’t a sound business decision,” Harden said.
A spokeswoman for Chase said Harden stopped paying in April 2008 and never filed paperwork for a loan modification.
Harden, like many homeowners nationwide, appears to have been caught in a behind-the-scenes struggle between the company that handled her mortgage and the group of investors who actually own it. Unbeknownst to Harden, her mortgage had been turned into a security administered by U.S. Bancorp of Minnesota.
She wasn’t alone. One in three homeowners tracked by the Business Journal, or a total of 55, have home loans that were packaged into mortgage-backed securities.
That makes receiving a loan modification all the more difficult, because many security contracts either prohibit loan modifications or require the servicer to contact the investor who purchased the security before they can make a loan modification, said Mike Gamsky, an attorney with Seattle-based law firm Foster Pepper PLLC.
“It’s a real mess,” Gamsky said. “The number of loans being successfully modified given the number of loans in foreclosure is just a fraction.”
Loans that have been bundled into securities can put the bank into a Catch-22 situation. On the one hand, it can’t legally break a contract with a mortgage-backed security investor. On the other hand, mounting federal pressure on banks to modify loans turns such decisions into a political question.
“The servicers don’t want the picket lines and the bad publicity and the reputation risk of being this evil foreclosing entity,” Gamsky said. “At the same time, they’re faced with all kinds of contractual restrictions.”

Harden was a subprime borrower, one of the millions who’ve captured headlines for the past two years.

But today, foreclosure is affecting even solid, creditworthy borrowers who made substantial down payments and hold prime loans. This new class of borrowers, who never thought they would have trouble making payments, has been hit by stubbornly high unemployment that has cost them their jobs and their ability to keep current on their mortgages.

“Most of the problems in the early days of the crisis were focused on the lower half of the market,” said Crellin, of the Washington Center for Real Estate Research.“Now we’re facing problems that are spreading up the price spectrum.”

This influx of prime borrowers to the foreclosure world has added to the backlog of houses waiting to be sold.

Even though the 172 homeowners tracked by the Business Journal received foreclosure notices more than a year ago, only about one-third have managed to sell their houses, either through an auction or a private “short sale,” where the property is sold for less than the amount owed.

Short sales are difficult in situations where buyers took out two loans — a so-called “80/20,” in which a main mortgage loan covered 80 percent of home cost and a second loan covered the remainder.

“These were fairly popular in Washington,” said Fred Corbit, senior attorney for the Northwest Justice Project, in Seattle, who represents financially distressed homeowners. “I think it will be a big deal — a substantial number of these loans were 80/20 loans.”

With the drop in housing prices, a distressed sale likely won’t pay back both loans. The second lender may agree to a sale only if the borrower is saddled with repaying the second loan after losing the home.

More than half of the 172 homes the Journal tracked — 52 percent — are caught in the foreclosure spin cycle.

The government has focused on loan modifications as a way to resolve these cases. The Home Affordable Modification Program (HAMP) is designed to help spur banks to modify loans. But the long-term track record for these modifications is poor. More than half of all modified loans redefault within six months, despite measures such as income verification and trial modifications. That puts them right back into foreclosure.

And few of those who apply get lasting help. Of the 20,000 Washington residents who have participated in the federal program, only one out of four have obtained permanent modifications. The rest are still in the initial trial phase to determine whether they can make their mortgage payments at the lower rate. The median savings for participants is $512 a month.

The best candidates for loan modification are homeowners with a history of making their payments who are struggling with temporary financial difficulties, said Ed Hedlund, executive vice president and group manager for consumer and mortgage lending at Washington Federal, the state’s largest bank.

“We will modify loans when it’s a short-term issue and we think people can recover and get back to affording their homes, such as medical issues or a job loss,” Hedlund said. “It’s the people who really want to stay in their home and will address their spending habits.”

The bank will agree to a short sale in certain circumstances where the house is worth substantially less than the mortgage debt, he said. The bank may also forgive a portion of the loan, depending on the circumstances.

“It definitely comes out of profits,” Hedlund said. And that means the bank has less money to lend to other borrowers, such as small businesses that may need money to begin expanding their operations again, he said.

In the summer of 2009, Harden filed suit against Chase and the other financial institutions involved with her mortgage, trying to block their efforts to sell the house. But the suit was dismissed, according to court records.
“I thought I had a house,” Harden said. “I was happy, my children were happy and then the bank tells me, ‘I’m sorry, we can’t work with you.’ It’s ludicrous.”
Chase said it has made 110,175 permanent loan modifications across the country since the beginning of 2009. Another 731,349 have been offered to homeowners, Chase said.
Without a loan modification, Harden’s house remains caught in the system.
Recently, she received a letter saying the house would be put up for auction at 10 a.m. on July 2.

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