After his sister was diagnosed with cancer, Shawn Murphy flew home from South Korea, where he was stationed with the U.S. Army Corps of Engineers, to offer support and refinance his Los Angeles duplex to help with medical bills.
While preparing to re-finance the property he’d bought in 2003, he discovered a lien for a second mortgage taken out on the property almost two decades ago, he told Bloomberg (1). Having filed for bankruptcy in 2010, he believed the debt had been erased.
Murphy had stumbled into what’s known as a zombie mortgage, a long-dormant home loan that resurfaces years later, and, like many others who make such a discovery, didn’t realize it until he was in a tough spot trying to refinance or sell.
Even worse is that the debt has grown substantially in the years it lay dormant: Murphy’s initial debt was for $75,000, but now he’s being pursued for more than twice that — $159,355 — due to years of back interest (1).
Here’s what you need to know about these reanimated loans and how to figure out if you’ve got one lurking in the background.
Zombie mortgages are typically a second home loan that dates back to before the 2008 financial crisis, and were also known as “piggyback mortgages” (2). These loans appeared to die during the housing crash, only to resurface years later, often when a homeowner tries to refinance or sell.
In the years leading up to the 2008 housing crash, a second mortgage was a means of allowing borrowers without adequate down payments to qualify for a mortgage without having to pay for mortgage insurance. A would-be homeowner who had only saved 10% of the purchase price could get a primary mortgage for 80% of the purchase price and a second mortgage for the remaining 10%.
Some borrowers took out an 80/20 mortgage — a primary mortgage covering 80% of the home’s value and a second loan covering the rest. This structure allowed buyers to finance a home with little or no money upfront.
Such easy loans made for risky mortgages, and when interest rates started to rise, defaults and foreclosures increased dramatically and the subprime mortgage bubble burst. The crash in property prices that followed made the “piggyback mortgages” close to worthless, and many were sold for a fraction of their face value. Housing prices have rebounded in the years since, turning these loans into a valuable asset to the debt collectors who bought them.
As for borrowers, many had their mortgages modified under the Home Affordable Modification Program (HAMP) or similar programs and thought that covered the second mortgage too. With no notices or statements arriving in the mail for years, they continued to think that the loan was modified, discharged in bankruptcy, or forgiven.
Not all of these loans have resurfaced as zombie mortgages. Some were written off or extinguished during foreclosures or bankruptcies, while others were quietly sold to investors who waited years to collect until rising home values made them worth pursuing again.
According to Bloomberg’s analysis of public property records, 5.5 million of these mortgages were made from 2002 through 2008 and an estimated 600,000 of these “piggyback mortgages” remain today (1).
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So, why do second mortgages have such staying power when so many primary mortgages didn’t?
Second mortgages were a “complication” to modifications undertaken in the wake of the mortgage crisis, according to The Financial Crisis Inquiry Report: “If a first mortgage is modified or foreclosed on, the entire value of the second mortgage may be wiped out” (3). And the country’s biggest banks had substantial amounts of capital tied up in those second liens.
According to a Congressional Oversight Panel Report from April 2010, four banks (Bank of America, Citigroup, JPMorgan Chase and Wells Fargo) had substantial portfolios of these second liens: as of the third quarter of 2009, a collective $442.1 billion. “At the end of that same quarter,” says the same report, “these four banks’ total equity capital was $459.1 billion” (4).
The report goes on to say, “There is a tension between Treasury’s goal of removing second liens as an obstacle to mortgage restructurings and Treasury’s stated interest in maintaining bank capital levels” (4). In other words, providing second-mortgage borrowers with relief might have required another round of bank bail-outs, so Congress prioritized the banks.
Law professor Arthur E. Wilmarth, Jr. who was a consultant for the Financial Crisis Inquiry Commission, puts the numbers even higher, saying that at the peak of the mortgage lending boom in 2007, second mortgages and similar home equity loans accounted for “about $1 trillion” of outstanding debt, of which the four largest banks held $475 billion as of the end of 2008 (5).
As Wilmarth wrote in a 2013 legal paper “if regulators forced the big banks to write down their second liens, it would probably compel the banks to “come back to the federal government for additional bailout money” (5).
Zombie mortgages are mostly second mortgages, so if you have never taken out such a loan on your home, you probably have nothing to worry about. If you have, and want to make sure there’s no zombie lurking just out of sight to ambush you when you need to tap your equity, there are a few things you can do to put your mind at ease.
The most straightforward way to check if a lien exists on your property is to perform a title search on your property by checking local public records. Search for your address in the local county registry of deeds to ensure no additional loan is attached to your home.
Review your credit report with an eye to old lenders and “charged off” status (which means the debt has been written off, but you are still required to pay it.)
Go back through your files for the right tax form: debts that are forgiven or canceled require a Form 1099-C to be sent both to you and to the IRS. If you never saw a 1099-C for an old second mortgage, it may have been sold rather than forgiven.
Should the worst happen and you receive a letter from a company you’ve never heard of demanding payment for a loan you thought was history, don’t ignore it. Contact a real estate attorney before responding to the debt collector.
We rely only on vetted sources and credible third-party reporting. For details, see our editorial ethics and guidelines.
Blooomberg (1); Consumer Financial Protection Bureau (2); GovInfo.gov (3); Congress.gov (4); Social Science Research Network (5)
This article provides information only and should not be construed as advice. It is provided without warranty of any kind.
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