Just when you thought the exotic issues regarding residential default had all been discovered, discussed and litigated, here comes the so-called zombie foreclosure.
Leaving aside the ghoulish nomenclature, a zombie foreclosure is a foreclosure that commences but doesn't complete. The foreclosure that just won't die. Specifically, RealtyTrac defines the phenomenon as "properties that have started the foreclosure process but have never been foreclosed and the homeowner has vacated."
Abandoned by the homeowner, but not yet titled in the foreclosing lender, the affected properties are in limbo, falling into disrepair, attracting crime, dragging down the values of entire neighborhoods and creating uncertainty in local housing markets.
The zombie foreclosure saps tax dollars from municipalities and state and county government and liability for taxes hangs over the heads of homeowners who, in many instances may not know that they remain responsible for property taxes and upkeep of the property.
Most disturbing is the RealtyTrac statistic that one in every five of the homes now in foreclosure process (more than 152,000 in total) are zombies with home values in states like Florida, Illinois and New York seeing the greatest decline.
Consider how a zombie is generated. First, a foreclosure commences or is soon to commence. The homeowner has either received notice of the foreclosure or assumes that his or her default in repayment is shortly going to cause a foreclosure to commence. The homeowner then vacates the property in anticipation of ultimately losing the property to foreclosure, but the foreclosure does not conclude and title to the property remains vested in the homeowner.
The absent homeowner, believing that the foreclosure has concluded or soon will be, ignores ad valorem taxes either past due or coming due and takes no care to maintain the property. The lender or servicer, not having transferred title to the property through the foreclosure, might choose to pay ad valorem taxes upon learning they are delinquent or could decide to ignore the taxes particularly on low-value properties in which lender could never recuperate it losses.
Most frequently, the lender or servicer take no steps to maintain the property (having no knowledge that the homeowner has vacated or the evident right to go upon the property or responsibility to maintain it).
From the lenders perspective, the decision to halt foreclosure may be voluntary such as in the case where a business analysis of the loan indicates that the cost of maintaining and marketing the property post-foreclosure outweighs the potential amount of recovery; or, the delay may be foisted upon it as in the case of the District of Columbia which halted all nonjudicial foreclosures at the height of the economic crisis or where court delays, such as those experienced in the state of Florida, serve to drive the zombie phenomena.
From the homeowner's perspective, there has been the receipt of a notice of foreclosure or, at the very least, repeated collection calls. The last communication with the servicer or lender, therefore is that the property is going to be foreclosed if payment is not made. The borrower then vacates the property and, having vacated, may never receive notice that the foreclosure has been delayed or even halted altogether.
Even if the loan is charged off or the lien released, the borrower may not receive notification. In such a circumstance, the servicer, having charged off the loan, takes no further action regarding the property. The borrower, zombie-like, unknowingly continues to accrue tax and code violation liability and technically still owes the money on the note (unless there is a bankruptcy discharge or lien release).
The borrower cannot sell or donate the property even if they are aware that the foreclosure has stopped due to the lien. And there the property sits, while the borrower shuffles aimlessly forward. The property then sits vacant—a foreclosure that just won't die.
Most homeowners, government entities and certainly the news media are surprised to learn that few, if any, states laws require notice to a homeowner if a foreclosure, once commenced, is then halted. While government entities are considering the creation of ordinances to hold lienholders accountable for the condition of residential properties (whether or not foreclosure has concluded), perhaps it is the CFPB which has come up with the most formidable remedy.
The CFPB has taken the position that certain provisions of the Truth in Lending Act, already the law, provide the regulatory requirements of notice to a homeowner. CFPB experts have opined that truth in lending regulations which require delivery of periodic statements to borrowers should be interpreted to require lenders to notify borrowers if a noticed foreclosure is halted.
Specifically, that once the foreclosure has stopped, the loan is de-accelerated and thus the borrower is entitled to loan statements (and notice) that he or she remains liable on the loan. The catch for lenders and servicers is that once the loan is charged off, there is likely no further action taken on the account, including sending monthly statements.
No case law has yet developed on this issue, but this TILA provision is a method for the CFPB to justify weighing in on urban blight cases and the result could be new avenues of exposure to lenders and servicers.
The solution? There is none yet and the industry must think creatively before these zombies take more than a bite out of the bottom line.
Linda Finley is a shareholder in the Atlanta office of Baker Donelson and is the leader of the firm's mortgage industry service team. She concentrates her practice in business litigation involving the mortgage lending and servicing industries and litigation regarding real estate issues.