It’s considered a given of home ownership that allowing your home to go into foreclosure is a last resort, something that you only do after you’ve exhausted all other options. However, according to new information from credit-scoring firm Fair Isaac Corp. (FICO), more homeowners are intentionally choosing foreclosure — or “strategic default” — and that those borrowers tend to be pretty savvy consumers.
According to FICO, many strategic defaulters are homeowners who previously maintained solid credit histories, but have made the decision to abandon homes that are now “underwater,” or worth less than the outstanding mortgage balance.
These consumers are likely to have lower credit-card balances (except in the immediate period leading up to the strategic default), and have been reliable about making their mortgage payments until they decide to default. And they’re willing to risk the lower credit score and higher borrowing costs that come with a default, if it will get them out of an underwater home.
FICO has developed a system to help lenders identify strategic defaulters before they stop paying, with the idea of helping avoid foreclosures. However, the fact that educated, credit-aware consumers are choosing this option raises the issue of whether it’s a good idea in the first place. FICO, not surprisingly, says it’s not:
“Mortgage payment patterns have shifted, and some borrowers are intentionally defaulting on their mortgages because they believe it is in their best financial interest, and because they believe the consequences will be minimal. … Strategic defaults are bad for lenders and investors, they’re bad for the homeowners who elect to default and they’re bad for neighborhoods and cities. Preventing them is in the interests of everyone involved,” says Dr. Andrew Jennings, chief analytics officer at FICO.
According to the Consumer Reports Money Adviser newsletter, a better option is to negotiate with your creditors, and if that doesn’t work, to consider a short sale — or a sale of your home for less than the outstanding mortgage. Of course, your lender will also have to agree to that, which means the strategic default may continue to be a tempting option for underwater homeowners who believe values aren’t likely to recover anytime soon, and whose lenders are reluctant to consider other options.
FICO Enhances Ability to Predict Strategic Mortgage Defaults [FICO]
Preventing foreclosure [Consumer Reports Money Adviser]
What to do if your credit score drops [Consumer Reports Money Adviser]