Is keeping your (underwater) home the best solution? Maybe not, a new theory suggests

People buy homes for different reasons. Maybe to start a family. Maybe as an investment property. In any case, it is ingrained in homeowners' minds that the goal is to keep the house forever, or sell it at a profit. Losing a home at a foreclosure sale is never something a homeowner would happily acquiesce to.

Until now.

University of Arizona Law professor Brent T. White suggests in a new academic paper entitled "Underwater and Not Walking Away: Shame, Fear and the Social Management of the Housing Crisis" that many homeowners should welcome the opportunity to dump their homes and never look back.

A home is "underwater" if the amount owed on the property exceeds its current market value. Professor White's research indicates that walking away from an underwater mortgage may save troubled homeowners hundreds of thousands of dollars in the following years if they stop paying their mortgage and allow the bank to do what it wills.

White also suggests that societal and emotional factors affect peoples' decisions to remain in underwater homes. Homeowners may be worried about feelings of shame or embarrassment that accompany losing a home through foreclosure, or general attitudes and morals of the community may prevent them from making wise financial decisions.

If a house was 100% financed by the banks, I completely agree with White. The homeowner has little to lose (i.e. no down payment to be recovered) and much to gain (i.e. freedom from a financial sinkhole). It is true that credit scores will take a hit, but this can be repaired in a few years. Hanging on to the house may cause financial discomfort for decades.

If the homeowner made a significant down-payment, I think the decision to walk away depends on how long the homeowner has been in the home. For example, if someone made a $100,000 down payment and has only lived in the house for 12 months, it may be worth riding out the storm and selling the house when the market improves.


Source: Harney, Kenneth R. "Is opting to default wrong?" Los Angeles Times, 29 Nov. 2009, p. B14