Wall Street Journal: Make like a bank and just walk away from debt

Of all the interesting tidbits in Brett Arends’ article in The Wall Street Journal about how to decide whether to walk away from your mortgage, his admission that the middle class is the only part of America adhering to standards of personal financial responsibility might be the most shocking.

Still, when it comes to the idea of walking away from debts, many people are held back by a sense of morality. They feel it’s wrong to abandon their obligations. They don’t want to be a deadbeat. Your instincts, while honorable, are leading you astray.

The economy is fundamentally amoral.

Sometimes I think middle-class Americans are the only people who haven’t worked this out yet. They’re operating with a gallant but completely out-of-date plan of attack—like an old-fashioned cavalry with plumed hats and shining swords charging against machine guns.

Arends goes on to point out that when a business’s debt exceeds its ability to pay, that business declares bankruptcy. He adds that “walking away from debts is as American as apple pie,” unless you’re a homeowner.

Why is Arends so profoundly down on Americans sticking out the tough housing times? He counts the ways:

• 11 million families current owe mortgages for more than their houses are worth — a full 25 percent of families that have mortgages.
• 5 million of those homeowners owe at least 25 percent more than their houses are worth.
• More than half of mortgage holders in Nevada owe at least 25 percent more than their homes are worth, as well as one-third of Florida mortgage holders and twenty percent of California mortgage holders.
• To regain even a 25 percent loss of value, a home would have to increase in value by one-third — and even if housing prices went up by 5 percent a year, it would take more than 5 and a half years to increase in value by one-third.
• Housing prices aren’t rising at 5 percent a year now.

Arends also notes that in many states, lenders cannot come after homeowners for the money they fail to make on a foreclosure or, when they do, they face significant hurdles in getting that money. With the foreclosure rate so high, many lenders don’t bother. Better yet, from Arends’ perspective, if one’s liquidity is in retirement accounts, lenders who do choose to pursue the remainder of the loan will find themselves unable to access that money at all.

Of course, from a larger perspective, if too many mortgage holders — the 50 percent of Nevadans, for instance — took Arends’ advice, they would contribute to continued depreciation of housing stocks and lenders’ unwillingness to offer mortgages to any but the least risky buyers. The one positive part of Obama’s struggling mortgage modification program, in the minds of most analysts, is the fact that it is helping to spread out the number of foreclosures over a longer period of time, thus keeping home values from going into yet another freefall. A spreading willingness among the American middle class to treat their relationship to debt (and particularly housing debt) as a business transaction instead of the fulfillment of the American Dream (whether that phrase has been trademarked yet by the National Association of Realtors^TM or not) would indeed lead many people to walk away from their often-failed investments.

Luckily for the economy, few Americans are going to stop buying into the idea that home ownership is fundamentally part of the American experience — and many people will continue to pay their underwater mortgages as long as they possibly can.