What Does it Mean to Buy and Bail?

“Buying and bailing” refers to the act of buying a second property and allowing a first home to fall into foreclosure. Homeowners who purchase second properties in this scenario are typically “upside down” on their primary residence, meaning they owe more on their first home than it is worth in the current market. It's likely that they had an adjustable rate mortgage and their monthly mortgage payment grew to a payment they could no longer afford. For some, an easy solution appears to be buying a second property at a depressed price with a fixed rate mortgage in order to lower their monthly mortgage payments. At the same time, they let their first home fall into foreclosure hence the term buying and bailing.

You may wonder why a lender would loan someone money for a second property when they are already having difficulty making the mortgage payments on their first home. Typically, the buying and bailing homeowners will state in their loan applications that they intend to rent out the first property, but it should be noted that lying on a loan application constitutes fraud. Fannie Mae and Freddy Mac have instituted rules to curb the practice, but it continues. In addition to fraud, homeowners could get themselves into deep water when dealing with foreclosure and second properties.

Things to Consider About Foreclosure and Second Properties

There are two different scenarios that can occur with foreclosures and second properties. The first is the buy and bail situation explained above where the homeowner buys a second property and allows the home that has been his primary residence to go into foreclosure. The second is where a homeowner has a second property, perhaps a vacation home, and allows that second property to go into foreclosure.
When a home goes into foreclosure it will be auctioned off usually for a much lower amount than what is actually owed on the property. The difference between the amount owed and the amount received at auction is called a deficiency balance.

How the settlement of the deficiency balance will be handled varies greatly depending on where you live and your state's laws regarding foreclosure and the enforcement of deficiency balances. In about two-thirds of U.S. states, deficiency balances are treated like all other unsecured debts, and lenders may pursue a borrower after foreclosure by seeking a deficiency judgment. This allows a lien on the second property for the amount still owed on a previous mortgage. In states such as California and Arizona there are restrictions on lenders, and they may not have that option if the original home was a primary residence.

If you have a vacation home that goes into foreclosure, and end up owing a deficiency balance after foreclosure on that second property, the lender may file a lawsuit against you to collect the debt. This could result in garnishment of your wages, levies on your bank accounts, and/or liens placed on your property, including your primary residence, depending on your state's laws relating to the enforcement of judgments.

After foreclosure, the lender, otherwise known as the judgment creditor, may be able to force the sale of your primary residence to obtain the money needed to pay off its judgment depending on the state in which you live. Judgment creditors are more likely to pursue a forced sale of your property if you have a lot of equity in your home. Therefore, if you have a substantial amount of equity in your primary residence, you may want to think long and hard before allowing a foreclosure on your second property. A consultation with an attorney specializing in real estate law is advisable before deciding to let a foreclosure on a second property to occur.

UPDATE: Many homes under contract will not be able to close after September 30 if Congress does not act

In an update to a previous post, the Senate voted in favor of an amendment that would reinstate the heightened conforming loan limits for mortgage loans backed by Fannie Mae, Freddie Mac, and the Federal Housing Administration (FHA). The amendment, introduced by Sens. Johnny Isakson (R-Georgia) and Bob Menendez (D-New Jersey), passed late Thursday with a 60 to 38 vote. 

The conforming loan limit was previously increased on a temporary basis to $729,750, but the rate expired September 30 and returned to its original rate of $625,500.  The house still needs to approve, if approved the conforming loan limit will rise again to $729,750 and remain there through 2013.

Freddie Mac Not Allowing for Bulk Purchase of Foreclosures.

The Obama Administration, sent out a request for information asking for ideas that would help Freddie Mac, Fannie Mae & HUD shed its inventory of foreclosure homes.   Pools of investors approached Freddie Mac to purchase blocks of inventory homes @ 40 to 60 cents on the dollar.   Freddie Mac, however, is not considering any such discount pricing for these investors.

There are two sides to the argument.  Having investors purchase the volume of foreclosures in bulk transactions purges the inventory from the GSE which is a good thing.   However the investors are wanting it a deep discount, 40 to 60 cents on the dollar.   If a geographic area has a significant number of foreclosures that are purchased in bulk, it can further erode the value of all the homes in the area.

Freddie Mac, Fannie Mae & HUD position is to continue to focus on owner occupancy of its foreclosure inventory.

Short Sale Fraud and a Warning from Freddie Mac

With the rise of short sale, so to is the risk of fraud. Freddie Mac is sending out a warning to Realtor's & the public of the top four short sale fraud schemes.

Rigging sales & illegal flipping. In essence, a Realtor rigs the transaction to a low price & hides the better offer from the distress homeowner & from Freddie Mac. Once the home sells, the fraudster flips the home for a better price. By this concealment the distressed homeowner & tax payer loses.

Freddie Mac has a unit dedicated to short sale fraud. If you are a distress homeowner or a buyer of a short sale property, insist on signing an Arm's Length Affidavit. This affidavit is signed by all parties in the real estate transaction and states there are no hidden terms nor special agreements among the buyers, sellers and/or agents.