Contracts are neither moral nor immoral

Contracts have no morality

Are short sales moral?

I am going to talk a little bit about the “moral side” of a short sale. My favorite part of this story… the twist at the end that makes the whole thing laughable.

I was reading this article on CNBC this weekend about short sales and felt I needed to jump into the discussion. The Phoenix Real Estate Guy has written a lot about short sales as they have been a major part of the Phoenix housing market for the last few years.

The premise of the article is, should people who can technically afford to pay for their underwater home continue to do so, or should they be allowed to walk away? Here is how the author sums up the situation:

These borrowers have the wherewithal to make their monthly payments on their underwater homes but choose not to, because they know they won’t make their equity back any time soon. They also see that they can now buy more home for less money, given how low home prices have fallen. They can get in at the bottom, rather than pay what amounts to rent on their current homes. In other words, they’re in a position to make more money by walking away from their debt and letting their lender eat the loss.

I’m no bank apologist, but is that fair?

When I have this conversation with home owners I always tell them, no matter what have been taught to think, what you are doing is making a business decision. If you invested $400,000 in a stock that was now worth $250,000, and was unlikely to return to $400,000 for another 10-12 years, would you continue to hold that stock or would you sell it and invest in a better option that will guarantee you a higher rate of return?

Most agree when I phrase it like that it is a no brainer. There is always the follow up thought, but they signed a contract.

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But they signed a contract

Sure they did, but there are always options. Right inside all home contracts it lays out exactly how these options will work. You as the home owner have the option of stopping to make payments. If you chose to stop to make payments, then the bank has a right to take the property back.

In every situation, when we sit down with a someone considering a short sale we discuss this. If you are no longer happy with the terms of the contract, then the bank is giving you a way out. How is this different than what businesses do every day? They look at their bottom line and when things are bad they make changes.

You have options

You do have options, they are listed right in the original contract you signed. You can stop paying, and the bank can take the property back. But there is another option. The other option is you can renegotiate a contract. That is exactly what a short sale is. The seller goes to the bank says I am not happy with this situation. I would like to renegotiate the contract and agree to give you $xxx,xxx.00 for the home now instead of continuing our current business agreement. The bank then has an option of agreeing to this renegotiation because it is better than the foreclosure alternative, or no they can decide not to agree and instead foreclose. Both sides have options here.

So even though both sides have options, obviously the Mortgage Bankers Association is not happy with the results. Showing his frustration over the situation, John Courson, chief executive of the Mortgage Bankers Association said of those looking to short sale “What about the message they will send to their family and their kids and their friends?”

But are you ready for the punchline? The Mortgage Bankers Association did a short sale on their own building in Washington DC.

So before we get all high and mighty about morals remember, contracts are not moral or immoral, they are business documents in a business transaction.

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  1. says

    I usually finish up this conversation (which yes, is EXACTLY the one I have every time, and not because I learned it in Realtor school, because it’s the conclusion I also came to after thinking the whole thing through) with this, “I believe you have a moral obligation to make the best financial choices for your family in long run. But a moral obligation to choose one option over another available one in a contract you signed? Uh, no. The bank didn’t loan you the money out of moral obligation either. They bet on making a lot of money off of you in interest.”

  2. says

    At the end of the day a person has to do what is best for their family.  Knowing that the housing market acts like a pinball machine nowadays, it would be better to wait until you can pay for half the value of the house before you buy.

  3. says

    Love the article. So many homes are underwater these days.
    “It’s all in the game, yo” – Omar Little. Yes the house always wins…  have them win less. 
    Keep up the great writing.  

  4. moellering says

    I think homeowners have surely “evolved” on this issue, particularly as they’ve seen a number of others on their block (plus some family, friends, coworkers, etc.) overcome any moral hesitation they had.  Of course, Realtors have also been instrumental in convincing people that this is just business.  What you should have mentioned in more detail, though, is the credit hit that people must consider.  The credit hit seems insignificant compared to how much people are upside down, but it will become more significant as people become will be less upside down as home prices increase, and it seems as if people might have to play the opportunity costs of a short sale for some time.  Also, your stock analogy would be better if that $400,000 in stock was bought with mortgage-like debt.

  5. says

    Most of the news around is that short sales are a bad thing and that many people who are anticipating a short sale to become and option on a property they have been watching which is not selling, are in fact damaging the market. It has been predicted that an increasing percentage of potential homeowners will hold off buying just so they get the opportunity to buy through a short sale. This article looks as short sales as simply another option in the cycle and in many ways can be a positive thing as it may mean houses selling and people buying who otherwise wouldn’t have been able to.

  6. says

    A mortgage is a contract, and it has rights, responsibilities, and remedies, just like a real estate purchase contract.  When a lender makes a business decision to accept/approve a short sale, they typically will not do so without a lot of documentation and disclosure from the seller.  It’s a business decision based on the facts and circumstances they, and the homeowner, are faced with.

  7. hardwater says

    The moral obligation flew out the window with TARP. Not to mention the promises our federal government has made and will not be able to perform on. Short sales a moral hazard for homeowners? Nope.

  8. says

    Does selling your home short hamper your ability to get approved for another mortgage, keeping you from taking advantage of the low rates and property values?

  9. says

    You must be a very creative financier to walk away form your home and buy another on credit….. unless, of course, you call the original an investment property, and purchase the other one immediately before you walk away from the original. If ou wait until after you’ve defaulted on your mortgage, 3.75% is probably not in you future.

  10. says

    I would have problems with a Buy & Bail Strategy but Fannie Mae guidelines now require buyers to qualify for mortgages on both homes at loan inception, unless the existing home has plenty of equity. That’s because a home owner with plenty of equity would be foolish to walk away from it.

  11. says

    I disagree with a couple of related premises — (1) that “business decisions” should made differently than other decisions and (2) that contracts lack any moral component.  By throwing words like money, investment, collateral, and “big banks” into the mix we are able to classify this as a “business decision” and then divorce the decision and its consequences from their undeniable, non-monetary characteristics.  Why is this separation permissible?  I fully understand that the breaching of a contract is legal.  But, I don’t think that legality can be an absolute surrogate for morality.  In other words, just because it’s “legal” that doesn’t mean it’s necessarily “right.”  The marriage contract highlights this point as well as any contract I can come up with after thinking about it for a few seconds.  Divorce, while fully legal, is jam-packed with morality concerns (and economic ones, to be sure).  Ask any divorced person.  Comparing a loan agreement to a marriage agreement is not a good comparison?  I’m not convinced comparing the loan to a stock investment is any better.  When you buy a stock, you are not promising to hold it for any length of time.  You are simply promising to pay a certain price for it.  Your broker promises to deliver it at that price.  That’s the essence of the agreement; deciding to sell the stock at a later time is a wholly separate concern.  So, the sell-the-$250k-stock-analogy is unhelpful to me on the question of whether I should stop making the mortgage payment I promised to make.
    What if the mortgage holder was a 90 year old widow who relied on the monthly mortgage payments to cover her monthly health care needs?  Is breaking the promise still void of any moral implications?  I understand that “banks are different.”  They have a bajillion dollars and it’s okay to screw anybody that can absorb the damage so easily.  But are the underlying agreements and promises any different?  The elderly Mrs. Johnson received the same promises and security that Big Bank did.  So, if there is any greater pause on withholding payment to Mrs. Johnson, it’s not because of the “business” nature of the decision.
    My point is not that short sales are moral or immoral.  The point is that they do–no matter who the players are or what the dollar amounts are–have a moral component.  And the question of what a person “ought to do” can only really be answered by that person.  So, I think the real estate professional’s role is to be an expert and provide the information homeowners/obligors/borrowers/HUMANS need to make the decision.  Not to convince anyone of whether or not they ought to break (or modify) a promise that they made to someone else.
    (I could write an entire article about this… good job out of you Dean in addressing this important question.)

    • says

       @Andrew I I actually think the marriage comparison is a good one. Of course when you enter into a marriage you intend it to last for life, but I think we can all agree that sometimes, when circumstances have changed divorce is for the best. It’s not ideal and of course it has financial (and emotional) consequences, but often these consequences are worth it to jettison the failed relationship. But maybe this is where we differ, because I don’t believe divorce is inherently immoral, either. Do I hope I will never end up in one? YES. But am I going to stay married to my own detriment for the rest of my life simply because I agreed to it and I’m going to stick by my word? NO. I will continue to weigh the pros and the cons and make what I can determine are the best decisions for me and my family at any given time, in my marriage AND my mortgage.  

      • says

         @Elizabeth Newlin Totally agree!  I am divorced… and don’t think it’s inherently moral or immoral.  I do, however, think it raises a host of moral concerns.
        Like you, I will continue to weigh the pros and cons and make what I can determine are the best decisions for me and my family.  That’s EXACTLY my point.  I think it is a personal decision.  And I think that using any clout that might come with being a “professional” or a “Realtor” to persuade people that their decision has absolutely 0 non-economic implications is dangerous.

        • says

           @Andrew I I agree that in our professional capacity, we Realtors should not be urging people to do short sales or not, however, I feel like I’m often in the position of consoling poor potential short sellers wracked with guilt over the supposed moral implications they’re facing. I feel bad for these people who are often backed into a corner with few viable choices and society waggling a finger at the moral impropriety of their actions. This is probably why I quickly defend the right of people to make smart ‘business decisions’.

    • hardwater says

       @Andrew I Realtors can get in BIG trouble were we to “convince anyone of whether they ought to break (or modify) a promise that they made to someone else”, specifically in this case a mortgage contract. The point here that I would agree with is that the major banks make business decisions, not moral decisions, with their financial instruments and have continually proved and continue to prove that their decisions have no moral compass attached. The homeowner deserves the same opportunity with which to make their business decisions. 

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