Nonrecourse home loans in Arizona

by David Safier

I'm a homeowner and not underwater, so this doesn't concern me directly, but I didn't know that in Arizona and California, homeowners have a special protection which says, if any of us defaults on a home loan, the lender can't go after other possessions.

[In Arizona and California] mortgages are so-called nonrecourse loans. That means the mortgage is secured by the home itself; in a default, the lender has no claim on a borrower’s other possessions. Nonrecourse mortgages may be viewed as financial transactions in which the borrower has the explicit option of giving the lender the keys to the house and walking away. Under these circumstances, deciding whether to default might be no more controversial than deciding whether to claim insurance after your house burns down.

This isn't a gift someone gave us. We pay for it when we get a loan.

In a report prepared for the Department of Housing and Urban Development, Susan Woodward, an economist, estimated that home buyers in such states paid an extra $800 in closing costs for each $100,000 they borrowed. These fees are not made explicit to the borrower, but if they were, more people might be willing to default, figuring that they had paid for the right to do so.

So if I took out a $300,000 home loan in AZ, I paid about $2,400 for what amounts to an insurance policy that protects my possessions if I can no longer — or decide I no longer want to — pay my mortgage.

That means underwater homeowners can decide to toss their house keys to their lenders, then go down the street and rent an empty home at half the cost of their mortgages without worrying about the lender going after their cars and other possessions.

What would happen if enough people did that? Lending agencies would get very nervous and start playing Let's Make a Deal with homeowners to keep them in their homes. Like refinancing at a lower rate or creating other kinds of incentives. In other words, it would level the playing field that now tips mightily toward lenders.