What is Wrong with Buying One Today and Losing One Tomorrow?

Illustration by: Matt Mahurin

Some of the distressed emails I get from homeowners facing foreclosure ask me what I think about buying a home before losing their current one. To answer that question I will give you my personal opinion at the end of this post.

First let’s look at the case of Michelle Augustine from Sacramento, California. Ms. Augustine runs a child-care service out of her home but is now looking to walk away from the four-bedroom home she bought two years ago. She plans to walk away because she will be unable to afford her monthly payments, which will jump to $4,000 from $3,300 in August, and because her home is now worth $200,000 less than what she paid for in 2006.

Michelle Augustine is not planning to be renter again; she plans to lock in the purchase of another home nearby before she loses her current one.

Lenders see this “buy and bail” scheme as fraudulent. In some states and depending on the type of loan, lenders can sue for assets including a new house. Although, non-deficiency states such as California and Arizona make it more difficult for a lender to sue consumers who walk away from their mortgages, borrowers who bought with a line of credit or refinanced (see: recourse loans) could be facing a lawsuit.

Borrowers could also be sued if the lender can show that the homeowner committed fraud by misrepresenting themselves on their loan application.

Yet some homeowners are opting to take on that risk because they believe lenders are too swamped. “So many people are foreclosing, is it cost effective for lenders to go after all of these people?” said Steve Hawks, a Las Vegas real estate agent who handles lender-owned properties also known as REO’s.

In a “buy and bail” scheme, homeowners with good credit and are currently underwater with their mortgage opt to qualify for a second home. They are able to qualify by providing a rental agreement proposing to rent out their existing residence. Using the rental income to cover the mortgage payments on this property allows homeowners to secure the purchase of a second home. However, once they have been approved for a new loan they walk away from the first home instead of renting it out.

In some cases, the coaching-through the “buy and bail” scheme/process comes from some real estate agents and brokers who see nothing wrong with it.

Linda Caoili, Augustine’s agent, told the WSJ “It’s just a business decision…If you’re upside-down $250,000, why would you keep it? It just doesn’t make sense.”

However, Caoili previously told RISMedia that she doesn’t encourage her clients to seek foreclosures. Rather she tells them of options from refinancing to selling an upside-down home as a short sale.

Isn’t she contradicting herself here?

Caoili is currently the broker of record for Tradewinds Mortgage in Sacramento and affiliated licensed officer for Envirian of Sacramento. Caoili also is a “certified loss mitigator” (source of certification is unknown) and offers seminars at local bookstores.

If a real estate professionals knowingly collaborate with anyone to acquire and maintain ownership of a house under false pretense, both borrowers and professionals possibly could face federal charges as explained by the FBI about “Fraud for Housing”.

Some lenders are trying to fight back by imposing new underwriting guidelines. Borrowers purchasing new homes while retaining their existing home as a rental, would be required to prove that they could make full payments on both homes to qualify for a loan.

Of course, not everyone that is in financial trouble with their homes is opting for this new scheme. John Ristuccia from Arizona is trying to complete a short sale for $425,000 on his five-bedroom home. He might be able to qualify for a second loan but he says he wouldn’t consider doing it. “Just personally I’ve got a problem with that,” he says. “I really can’t put it in terms other than it feels wrong.”

Lenders, of course, could be doing a better job to prevent all this. The number one complaint by homeowners is that the banks are not cooperating with them.

Most homeowners want to keep their homes but if lenders keep bouncing around phone calls from one department to the next like a ping pong ball, if they don’t become more customer friendly and cooperative, if they don’t streamline their resolution process, they will end up loosing more money than accepting a loan modification or a short sale.

While walking away from a home may not be illegal in certain situations, purchasing a home under false pretenses is. Lenders are not all stupid and they will look that much closer to these types of transactions. And when they do homeowners could end up losing a lot more than their credit if they buy a home today and lose one tomorrow.

You think lenders won’t figure out what happened after you move into your new home and they are left holding your previous home? I would not dare try to find out!