Security Breach: What Should You Do?

Every week it seems like I read something about a security breach, whether it is a bank, government entity, university, or hospital, the possibilities of a breach are endless. Criminals are grabbing sensitive information such as social security numbers to commit fraud. The topic comes up frequently in my classes about credit, people want to know how they can protect themselves if they are part of a security breach.

The standard recommendation is to add a fraud alert to your credit report. This is a notation on the credit report notifying anyone looking at the credit report that there is a chance of identity theft, therefore the identity of the person requesting credit should be scrutinized. I am not a firm believer in relying on a fraud alert as a sound protection from identity theft. The reality is it does not stop anything, but rather it is simply a cautionary notice.

The better approach is to consider a security freeze as a protection because it denies access to your credit report. When a freeze is added to your credit report, all third parties, such as lenders or other companies, whose use is not exempt under law will not be able to access your credit report without your consent (you give them a pin for access). A security freeze is more beneficial than a fraud alert because it actually stops access to your credit report without your permission. It is available to ID theft victims with a police report and non-victims who have no police report for a specific incident, but wish to protect themselves.

You need to go to each credit bureau individually to institute a freeze:

TransUnion: http://www.transunion.com/corporate/personal/fraudIdentityTheft/fraudPrevention/securityFreeze.page#3

Experian:
http://www.experian.com/consumer/security_freeze.html

Equifax:
http://www.equifax.com/cs7/Satellite?c=EFX_Page_C&childpagename=EFX%2FEFX_Page_C%2FGetcreditCP&cid=1182374732430&p=1182374732489&packedargs=locale%3Den_cp&pagename=EFX%2FWrapper#NextSteps

If the links change just go into each credit bureau website and search the term “security freeze.”

The reason I like the security freeze is because if someone has your social security number and tries to apply for credit, a creditor will not be able to access your credit report and therefore credit will likely be denied. You should still check your credit report annually to make sure there are no issues, and the security freeze will not prevent someone from using your credit card if your account number is stolen, so remain on guard and realize the freeze will only prevent new accounts from being opened in your name. Existing accounts are still susceptible.

The security freeze may delay or interfere with the timely approval of any subsequent request or application you make that involves access to your credit report. This includes new loans, credit, mortgages, insurance, rental housing, employment, investments, licenses, cellular phone service, utility service, digital signature service, and extension of credit at point of sale.

Additionally, while your report is frozen, companies that provide consumer data to the credit bureaus will not be allowed to update name, address, social security number and date of birth information on your credit report. If there are any changes made to your name or address while your file is frozen, you must notify the credit bureaus directly so that they can update your personal information.

If you wish to apply for a new credit account or other credit relationship, and the prospective lender or company needs to access your credit report, you will need to get a pin code to give access to your report or remove the security freeze.

As a method of protection the security freeze is a way to lock up your credit report and the cost is generally free if you have a police report or a $5 - $10 onetime fee if you do not. It is not only the best protection, but it is also a very inexpensive protection.

June Arizona Housing Update

I am going to repost June housing opinion from our friends at the Cromford Report in it's entirety. Very interesting information. So, why is it, when such good signs abound, are we reading so many doom and gloom stories (like this CR piece)? I believe it is for the same reason we've discussed multiple times on this blog - real estate is talked about as a national trend, whereas in reality it is a local phenomenon. Yes, I believe that the "housing market" in general has a ways to go down. No, I do not believe that Arizona will continue to decline at the pace it has been. Let's remember - we were among the first to go down (starting at the end of 2006), and are among the hardest hit (in the top five biggest pricing declines nationwide). Logically, this also means that we will reach our bottom sooner. Practically, this means that investors and savvy buyers will continue to pick up great deals for years to come, since the general mood about housing will remain dour until the other markets reach their natural correction levels, and start to level off.

Unfortunately, this is still not good news for millions of Arizona homeowners who are hopelessly upside down. I do not believe that we will see sharp and fast pricing increases, and they will remain upside down for years to come, with only solutions remaining what they are today - staying put if they can, or short selling or foreclosing if they cannot afford the house.

Here is the full June housing opinion:

A child of five would understand this. Send someone to fetch a child of five.
Groucho Marx

While researching the definition of robo-signers, I came across this partial definition in Investorpedia: “robo-signers assume the paperwork to be correct and sign it automatically, like robots.” This is a perfect description of how I was at my last loan closing. I think I may be a robo-signer.

Distressed Inventory Continues Slide

The big news in Maricopa County’s housing market in May continues to be the rapidly declining distressed housing inventory. This decline is not subtle folks; it hits you over the head like a sledge hammer. We define distressed inventory as the number of homes with an active notice combined with the number of bank held properties. On January 1st of this year Maricopa County had 39,724 homes with an active notice and another 18,889 REOs.  Our distressed inventory began 2011 at 58,613 homes. At the end of May these numbers had fallen to 27,396 and 18,451 respectively, combined 45,847. In the last five months distressed inventory has fallen on average 2,553 homes per month. During the last two months these declines have continued at an accelerating pace, reducing inventory by 3,704 in April and 4,265 in May. The decline we saw in May was the highest on record indicating the snowball is gaining momentum and heading down hill. Our early June numbers are projecting the same accelerated pace. Simple math tells us that if distressed inventory continues to decline at its current rate, in 10 months it will dry up, but then, that’s merely simple math. 

When I present my simple logic, readers and other experts counter with complex math factoring together a Massive Backlog of “Shadow Inventory”, "Robo-Signings", a declining demand as QE2 ends and the ever popular bank conspiracies. Sometimes, I feel like I’m conversing with Hollywood screen writers. Maybe there is a need for Rocky 7. Stallone is going to be 65, maybe it’s time he quit competitive boxing, maybe it’s time for him to leave the ring and get his real estate license.  “Yo, Adrian, we’re movin to Phoenix, two warm up bouts with ‘Robo’ and ‘Shadow’, and I think I’ll be able to take down da champ, Russell Shaw. Cut me Mick, I’m going 15.”  Boom.  Sorry, sometimes I drift.

Since January 1, 2007 Maricopa County has seen 165,385 home foreclosures, a numbing number in anybody’s book. One of the main reasons I believe we’re heading into the home stretch is how far we’ve come. The news links above talk about the same decline in distressed inventory that I just mentioned; only they attribute the decline to massive processing delays. These same articles talk about how foreclosures rose through last summer, and then began their decline in September when the robo-signings scandal broke. Information Market numbers tell a slightly different story, a short-lived Bank of America moratorium in November and December briefly lowered foreclosures. In January foreclosure numbers picked back up resuming their steady and consistent flow. In May, Maricopa County saw 4,206 homes sold at auction with 1 in 3 being purchased by investors, leaving only 2,800 reverting to the lender.  So, at the end of the day while our detractors have similar numbers, their explanation as to where we are and where we’re headed is completely different. Since January 1, 2007, Maricopa County has seen 165,385 homes removed from the “bad mortgage” file leading loan delinquencies to their inevitable decline.

I believe the decline we’re seeing in new notices runs parallel to the report of Jay Brinkman, the chief economist of the Mortgage Bankers Association, where in he states, "Of particular importance is that the drop in the percentage of loans 90 days or more past due was driven by improving numbers for loans originated between 2005 and 2007. These are the loans that drove the mortgage market collapse and now represent about 31 percent of loans outstanding but 65 percent of the loans seriously delinquent. Given that loans originated during this period are now past the point where loans normally default, and that loans originated since then generally have better credit quality, mortgage performance should continue to improve.” 

The Wall Street Journal article would disagree, arguing that banks have decided to slow the foreclosure process while they perfect their procedures, in turn stabilizing property prices while minimizing losses and legal issues. There are two points in the WSJ which I have difficulty grasping. First, I find it hard to believe that the banks would foreclose on 165,000 homes in Maricopa County and just now realize they have a problem with declining home values. Second, why would you be concerned about robo-signings and legal issues when many of your current foreclosures are strategic defaults? How can there be vast legal issues when the majority of home owners facing foreclose, are saying in Henny Youngman fashion: “Take my house-please”. Why would the banks conduct a more thorough review when the party with the “alleged” claim is mailing in the keys? I may be wrong, and the Wall Street Journal article may be right; but in life, I’ve always found the simplest explanation is usually the best.

The following graph compares the number of homes with an active foreclosure notice on March 1, 2010 to homes with an active notice on June 1, 2011 by origination date.

May’s Sales Activity

Case-Shiller, announced the dreaded double dip in home pricing in its May 31st report.  In response to the report, David Blizter, chairman of the S&P index committee reportedly said, “Home prices continue on their downward spiral with no relief in sight.” In response to Mr. Blizter’s statement the Maricopa County housing market immediately responded the next day by registering its 6th consecutive month with a resale median home price of $115,000 while quoting Mark Twain, “The reports of my death are greatly exaggerated.”

May’s Sales Summary

Final Thoughts

There has been a lot of speculation in a series of recent articles regarding the purchase of a home in Scottsdale by one Sarah Palin. Questions swirl, is she running for President? Is she making a run for John Kyl’s seat?  One article even questioned whether or not she has title issues.  In a recent Huffington Post article, Massachusetts Register of Deeds John O’Brien and Forensic Mortgage Fraud Examiner Marie McDonnell gave this opinion, “the title to Sarah Palin’s new home in Scottsdale is clouded by robo-signers.”  They even published a copyright protected "McDonnell's Mortgage Map"  exploring the property’s chain of title in depth.  Ms. McDonnell, what were you thinking? Not once in your report do you mention the “livery of seisen” ceremony. Did it take place or not?  What was symbolically passed? A token cactus? A clump of dirt?  Was the cactus of native variety? Was the soil clayish and high in alkaline content? Ms. McDonnell, these are the rudimentary tenets of common law, the Normans are not pleased. I drifted again, didn’t I?   The simple explanation is probably best. I’m certain Ms. Palin’s local attorney required title insurance, and I’m also certain our local title experts are confident in their $1,700,000 guarantee. In parting, the speculation as to why the home was purchased, I’m going with Scottsdale is a good investment opportunity and a great reprieve from Alaska’s frigid temperatures.

Cheers,
Tom Ruff

"McDonnell's Mortgage Map"
Huffington Post
"Robo-Signings"
Massive Backlog
Case-Shiller
The Information Market

Jay Brinkman

Debtors can end up being on the receiving end of an abandonment.

What if the bankruptcy trustee abandons your property back to you?

Bankruptcy and insolvency may cause debt cancellation income to be nontaxable to the debtor, but bankruptcy can cause tax problems for an individual if the court allows or orders the trustee to abandon property under 11 USC 554.

If a property is of no value, or a potential burden to the bankruptcy estate (by virtue of tax on built-in gain for example), the court may authorize or order the property’s abandonment. If the debtor subsequently voluntarily (eg. short sale) or involuntarily (trustee’s sale) transfers title to the property, a taxable gain to the debtor may occur.

Discharge of debt income is excludable under IRC Sec. 108 to the estate and to the debtor while in a bankruptcy proceeding, but gain from the sale is generally not. If a property is sold by the estate, any potential tax would generally be an administrative expense of the estate. However if the property were to be abandoned to the debtor, then the debtor assumes the cost basis of the property subject to any reductions in basis by virtue of the debt discharge. Some practitioners believe that abandonment may be made to the secured party, rather than the debtor, in which case the debtor may be insulated from the tax consequences of a future transfer. The transfer of property between a bankruptcy estate and the debtor is non-taxable under IRC Sec. 1398. This section refers to a “termination of the estate,” but most practitioners believe it would also apply to an abandonment.

Depending on the other tax attributes of the debtor, the basis of the property abandoned might not be reduced, as the ordering rules of IRC Sec. 108 require net operating losses, capital losses, and other attributes to be reduced first, unless an election is made. There is also a limit to the reduction of basis under IRC Sec. 1017, where generally the basis of assets cannot be reduced below the aggregate of the taxpayer’s liabilities immediately after discharge.

Because any deficiency relating to the debt secured by the abandoned property is discharged, all debt secured by the property now becomes non-recourse. While some practitioners believe that the tax law should be changed, the current law treats all such transfers of the abandoned property as sales with the selling price equal to the balance of the secured loans, and the cost basis to the debtor equal to his basis before the bankruptcy reduced by any required reductions due to debt forgiveness.

If the property qualifies as a primary residence for two out of the last five years, the gain upon sale, trustee’s sale, deed in lieu, may be excluded up to $500,000 for a married person under IRC Sec. 121. If the property does not qualify as a primary residence, other losses, carryover losses, or other tax attributes (although possibly reduced by debt forgiveness) may lessen the tax burden to the debtor.

In Private Letter Ruling 8918016 (no precedent), the IRS in a pre-BAPCPA 1989 ruling, stated that an underwater farm abandoned to the taxpayer in a Chapter 7 proceeding, retained the tax basis of the property in the hands of the estate reduced by adjustments for debt forgiveness. The ruling went on to state that the abandonment of the farm to the taxpayer lifted the stay on foreclosure, and that the unsecured deficiency claim was discharged, leaving the lender’s lien against the property as a nonrecourse claim. A subsequent foreclosure would cause the taxpayer to recognize gain equal to the balance of the mortgage over the basis of the property.

In Tax Court Memo Decision 2000-82, the issue was addressed as to whether an abandonment was the equivalent of granting relief from the automatic stay. The Tax Court cited conflicting decisions as to whether property was necessarily removed from the bankruptcy estate upon the lifting of the stay. At the time of the Tax Court’s decision, it deferred to the Ninth Circuit’s 1987 decision in Wilson v. Enters, Inc. (822 F.2d 859), that relief from stay as to petitioner’s residence was an abandonment whereby the property reverted to petitioner, resulting in the petitioner, not the bankruptcy estate, having to account for the tax effects of the property’s foreclosure.

Based on the possibilities above, I would suggest that if your attorney believes it likely that a property will be abandoned by the bankruptcy trustee, a tax projection be prepared estimating the tax consequences of the property’s transfer, pre-petition versus post-petition, in order to minimize the tax penalty to the debtor.

Free Rent? Private Stimulus? Thinking double over the short sale solutions.

There is a concept in professional negotiations called "Thinking Double." In common terms, it's what we would call "walking in somebody else's shoes," and basically it means that you should always try to see the situation from the other party's perspective to get a better vantage point over the situation, and to know how to best negotiate. In this post, I will briefly try to think double about the short sale solution to a default borrower, and try to see the situation from the bank perspective.

A few months back my friend and colleague Ray Mathoda posted a very insightful blog post which referenced a WSJ article that claimed that 492 is "the number of days since the average borrower in foreclosure last made a mortgage payment." Today, there is an article from CNN Money that claims:

Nationwide, it takes an average of 565 days to foreclose on borrowers in default from their first missed payments to the final auction. In New York, the average is 800 days and in Florida, where the "robo-signing" issue is particularly combative, it's 807.

So, let's try to see this from the bank perspective (and I use the term "bank" to mean servicer and investor, whose self interest should be aligned in this matter). This number means two years of not collecting payments, possibly paying vacancy insurance, all the while moving the file between various departments and paying to service it. This is a money loosing proposition if I have ever seen one!

Now, let's take a look at the alternative side - short sales, long and drawn out as they may seem, average 180 days list to close for our team. Tracking a few other top producing teams in the Phoenix Valley, this numbers seems to be consistent. Meaning, some are faster, some are slower - but 180 is a common average. So, going the short sale route reduces the number of days that a bank has to carry a non performing asset by 314%! Couple that with the fact that a short sale typically nets the bank more money (up to 30% more according to Mortgage Banker's Association), and you have a solution that is very hard to beat, when it comes to dollars and cents.

Much more can be said on this topic, but if there has ever been a motivation for the banks to improve their short sale solutions - this is IT. After all, the bank is not in business of offering rent free living and personal stimulus to distressed borrowers, but in business of maximizing profits and minimizing losses for their investors.

Quick note on reversing the vantage points once again, and looking at it from the distressed borrowers perspective. What is their incentive to do a short sale? First of all, not all foreclosures take a long time. As Murphy's Law dictates, in my experience those homeowners who are banking on a drawn out process, usually get their notice of default served right away, and their process moves fast. Those who hope to "get it over with" quickly, however, frequently get stuck in the quagmire of bank's process, and their foreclosure magically gets pushed out and out and out. So, making the process more predictable would certainly go a long way in tapping into the self interest of the distressed borrower.

One more point - if we look at what the government HAFA program is trying to accomplish - we are talking about even shorter and MORE predictable timelines! And there is the moving cost incentive to the distressed borrower ($3,000), and there is the financial incentive to the bank.

There IS a better way - we just need to truly want to implement it.

The Implications of Receiving a Form 1099-C

After completing a short-sale, it is common for the seller to receive a Form 1099-C from the lender or lenders who received less than the balance owed on their secured notes. The form will show the amount of debt cancellation from the transaction, which may result in taxable income to the seller/borrower.

While it is normally preferable to pay tax on the debt canceled rather than be forced to actually pay the debt, the two are not always mutually exclusive when it comes to the issuance of a 1099-C. In other words it may be possible for a lender to issue a 1099-C for cancellation of debt resulting from a short-sale, while still pursuing the borrower for the deficiency.

The problem lies with the IRS regulations directing the lender when it should issue a Form 1099-C. While in most instances the lender cancels the debt, then issues a Form 1099-C by the following January to the debtor. However the regulations may require the issuance of a 1099-C if a payment has not been received during a testing period and certain other conditions are met. The current testing period is 36 months, but that could change in the future.

If the borrower includes the 1099-C amount in his income, then is forced to pay the debt at a later date, the statute of limitations may have expired to amend the return and receive a refund of the related tax.

Borrowers who have received a 1099-C, but have no additional agreements binding the lender’s ability to collect on the note, should consult with an attorney in order to determine if the lender has a reservation of rights or other legal means to collect on the note. Arizona has case law relating to this issue as do other states, but there is no simple rubric to follow in determining the outcome of this issue in Arizona.

I would hope that future 1099-C forms will include language stating whether the lender is legally discharging the debt or merely issuing the form based on IRS regulations and thus reserving the right to enforce collection of the obligation.

What Your Accountant Will Need For a Tax Analysis

Whether it is a short sale, trustee's sale or other conveyance of your underwater property, your accountant and attorney will need many of the items below in order to calculate the tax effects of the transfer. The calculation can be fairly simple or extremely complex depending on the circumstances. It will likely save you money to have this information assembled before you discuss taxes with your advisor.

A. Lot size, description, and location of the property.
B. How the property was titled, and the parties to the related notes.
C. Dates of property use and changes of use.
D. Cost of the property and improvements, and adjusted basis after tax depreciation.
E. How the property was financed, and possibly refinanced, and use of proceeds.
F. Determine if the loans were VA, FHA, HUD, conventional, or carryback notes.
G. Determine if the terms of the note or federal/state law limits borrower’s liability.
H. Nature of property in hands of owner (primary residence, second home, rental, non-rental, investment property, or inventory).
I. Determine if there was waste committed by the owner, or fraud used to obtain financing.
J. Terms of conveyance of the distressed property.
K. Lien priority of secured lenders.
L. Determine if the property owner is or will be filing for bankruptcy protection.
M. Determine statute of limitations on enforcement of obligations.
N. Value of borrower’s assets and liabilities immediately before all planned conveyances.
O. Determine the other taxable income and deductions of the debtor for the period in question, including carryovers of suspended losses, net operating losses, and capital losses.
P. Obtain copies of any 1099-C and 1099-A forms issued in relation to the loans.

Should FEDs get more involved to help housing?

Good God, I hope not.

According to a Moody's analyst, the Fed Govt should do more to help underwater borrowers. Read the article here. The rationale employed is that the government can help offer more refinance solutions to involve principle reduction in order to prevent people from strategically defaulting.

This quest by some in Washington to "keep borrowers in their home at all cost" is killing the market and the economy. "Too Big To Fail" has been waiting to make it's debut on the homeowner front. Think about it... the bail out failed, the stimulus failed, loan mods (HAMP) failed... so is it that government just had the formula wrong? Did they just bail out the wrong side (industry instead of consumers)? I think not. Rather, it was their involvement to begin with that created false hope and an elongated (and inevitable) homeowner default. It is the Federal policies that gave lenders an alternative to negotiating settlements with the borrowers.

Left to their own, lenders and borrowers have enough mutual interest in working out a solution, including principle reduction, and if it does not work, there is always a short sale. My point is simple, the Fed Govt should divest itself and allow the market to work its way toward recovery. It will be faster and cheaper in the end.

Bank of America branch - FORECLOSED!

Full disclosure: This story has nothing to do with Arizona or short sales, but in a very large sense, it is a very telling story about our market, our industry and our times. So, so, so painfully telling ... anyway, click here to read about the Florida couple who foreclosed on a Bank of America branch. 

Credit Reports Used in Employment Background Checks

A few weeks ago I was teaching a finance class at the Ohio State University when a scenario came up that I knew I would need to write about on this forum. A student had applied for an internship for the summer, the hiring manager said he was the top candidate and there were just formalities such as a background check before a final decision would be made. The student signed an authorization form allowing the employer to do a consumer report on him. Within a few days the hiring manager called and told the student that the position was filled by a different candidate. As he was telling the story in class I knew where it was going, I have heard a similar story every academic quarter since 2006 when I first started as a guest lecturer at OSU. The student checked his credit report and found a medical collection for $168. Did he owe the money? Yes. Was it his responsibility to pay it? Yes. Should he have checked his credit report before applying for a job? Absolutely!

A 2009 survey by the Society of Human Resource Management showed 60% of employers conduct credit checks of potential employees. This is an increase from 2006 in which only 42% of employers were doing credit checks.

Not all job candidates go through a credit check, of those organizations surveyed only 13% do credit checks on all employees. 47% surveyed conduct credit checks on specific positions. Positions in a financial or fiduciary responsibility go through a credit check 91% of the time, while senior executive positions are checked 46% of the time, and positions with access to highly confidential employee information are checked 34% of the time. Medical debt is generally not considered during the hiring process according to the poll, but medical collections are open to scrutiny. A foreclosure is only part of the hiring decision in 11% of those surveyed. 87% of those surveyed allow job candidates the opportunity to explain the results of the credit report, depending on the circumstances. 57% initiate a credit report after making a contingent offer, 30% perform the credit check after the interview.

Employers may be considering many things, such as the likelihood to be more tempted to steal based on delinquent accounts or a high debt-to-income ratio based on the debt present on the credit report. Other considerations:

• On the job errors
• Longer lunch breaks to take care of personal problems
• Requesting paycheck advances
• Attempting to borrow money from co-workers
• Frequent personal phone calls or incoming collection calls
• Absenteeism, attitude, enthusiasm, etc.

How employers gauge the credit issues in terms of a hiring decision:

• Outstanding judgments 64%
• Collection accounts 49%
• High debt-to-income 18%
• Foreclosure 11%
• Medical debt 1%

My advice is to review your credit report, make sure it is correct, and always have an explanation for anything derogatory focusing on:

• Why the derogatory event occurred
• Why the derogatory event was out of your control (job loss, medical issue, etc.)
• Why the derogatory event is out of character based on the big picture of your credit and is unlikely to happen again