Help, We're Underwater!!

Q: In October 2007, my wife and I bought a two-bedroom condo for $525,000. About a year later, we both lost our jobs. We put our condo on the market for $512,000 last November, and dropped the price in January to $499,000. We got zero offers. As far as we can tell, prices for condos similar to ours are now $465,000; we now owe more than the condo is worth. We approached our lender early this year, seeking a loan modification and were turned down because we still had some emergency funds available. But we are running through this money fast, and expect it will be gone in six months. We do have some retirement funds, as well; if we do a short sale, will the lender be able to come after us? What other options do we have?

--Chicago

A: I'm sorry to hear about your problems. Many others are in the same predicament, as property prices continue to slide. In Illinois, according to Moody's Economy.com, more than one out of five homeowners are upside-down on their mortgages.

Although the Chicago market is improving on a month-to-month basis -- median prices for condominiums went up 1%, to $282,500, in June from May -- prices are still down 14% from a year earlier, according to ChicagoCondosOnline.com. And since there's an almost 13-month supply of condos on the market, according to ChicagoCondos, it's unlikely that you'll be able to sell your place for as much as you paid for it before your emergency funds run out.

But don't despair. You do have options:

■Try again for a loan modification: The federal government rolled out its Making Home Affordable program on Feb.18, giving lenders new financial incentives to refinance or modify loans. To qualify for a refinance, you must be up-to-date on your loan payments and your first lien can't exceed 125% of the current market value of your house. For a loan modification that lowers interest rates and perhaps even reduces the principal owed, you must document hardship, have a monthly mortgage payment that's more than 31% of current gross income and have an unpaid balance on a principal residence of less than $729,750. Normally, a lender would probably require that either you or your wife have a job or other steady income stream before changing the terms of your loan. But, says Chicago real estate attorney J. Kelly Bufton, "these are not normal times." Your lender may decide it's better to stick with you if you can make the payments for a few more months, she says, rather than foreclosing and trying to sell in an over-supplied market.

Getty Images

Condo prices in Chicago have stablized but they haven't bounced back.
.■Declare bankruptcy: Filing for bankruptcy could automatically forestall your foreclosure and discharge your debts—or allow you to repay them over a long period of time. (More information.) Though bankruptcy will hurt your credit, you'll be able to rebuild it faster if you have a clean slate.
■Try a short sale: Many buyers are concentrating on distressed properties these days. So you may be able to find one who will pay enough for your place to satisfy your lender, even if it's less than you owe. Accepting short sales saves lenders from the carrying and processing costs of foreclosure. However, they won't agree to this solution unless you prove that you don't have the money to pay off the debt (retirement funds are exempted from this calculation, by both federal and Illinois state law). Chicago real estate attorney Michael McCormick says to make sure that the agreement that you sign with your lender forgives the debt permanently. Don't agree to a "release of lien" that requires you to pay back the shortfall sometime after the sale.
Related
Developments: More homeowners upside down on mortgages.
Developments: Strategies for backing out of condo deals.
.■Return the condo to the lender: If all else fails, you can return the keys to the lender (deed in lieu of foreclosure), or simply stop paying the mortgage, which will eventually lead to foreclosure and your home being sold at auction. In the former instance, you transfer ownership of the property to the lender; in return, you get a document that marks your note "paid" as well as a waiver for a right to a deficiency judgment, meaning the lender can't make you pay for the difference between what you owe and the price the condo fetches on the courthouse steps. A "deed in lieu" won't hurt your credit rating as much as a foreclosure. However, you'll have to leave your home immediately; in a foreclosure, the rent-free period between when you stop making payments and you're evicted can last more than a year.
■A note on taxes: Normally, you have to pay tax on any forgiven debt, which is considered income to you. But the Mortgage Forgiveness Debt Relief Act gives many financially-strapped homeowners a pass until January 1, 2010.
■And a caveat: Whichever option you pick will affect both your ability to borrow and your financial stability for years to come. Don't go it alone. Before you decide what to do, call 1-888-995-HOPE for free mortgage advice. The National Foreclosure Mitigation Counseling Program, administered in your area by the Illinois Housing Development Authority, also provides free counseling and legal assistance.

To find out if you qualify for the Home Affordable Refinance Program, launched as part of Obama's economic stimulus program in February. I am approved to provide these programs with most all major lenders and get homeowners quickly approved and into a more stable loan product and lower monthly payment.

Call me directly to arrange for a no-cost consultation at 714-478-3153 or apply at www.tomdrasler.com/loanapplication.