Negative Equity and Repo Houses in Non-Recourse States
Homeowners with significant negative equity are 20-percent more likely to let their homes become repo houses in states that follow non-recourse laws than in recourse states, according to a study by researchers at the Federal Reserve Bank of Richmond.
Recourse states are states which allow lenders to pursue borrowers for complete payments of loans in case of default. A lender in a recourse state can collect from the borrower’s wages and other properties if the borrower defaults on a loan and the collateral is not adequate to pay the loan.
In states that follow non-recourse laws, lenders are not allowed to pursue the borrower for payments of loans. Lenders are only allowed to seize the loan collateral and they are prohibited from taking further legal actions after the collateral has been seized even if the value of the collateral is not enough to pay the loan balance.
In states that follow non-recourse laws, lenders take more risk. Typically, lenders in states that observe non-recourse law offer lower loan-value ratios because of the higher lending risk.
The researchers also found that the effect of recourse laws is substantial only when the homeowner has higher income or asset values.
For borrowers with assets below $200,000, the effect of recourse laws is not significant. For houses valued from $300,000 up to $500,000, homeowners in states that observe non-recourse laws are 59-percent more likely to let their homes turn into repo houses.
For houses valued from $500,000 up to $750,000, homeowners in states with non-recourse laws are nearly two times as likely to let their homes become repo houses. For homes valued from $750,000 up to $1 million, homeowners in states with non-recourse laws are 66 percent more likely to let their houses turn into repo houses than in recourse states.
The Federal Bank researchers also mentioned that the Boston Federal findings on the relation between repo houses and negative equity in Massachusetts in the 1990s do not hold through for the whole country because Massachusetts observes recourse laws.
The Richmond Fed researchers studied the foreclosure laws of the 50 states and found out that 11 states are non-recourse states – Arizona, Alaska, Iowa, California, Montana, Minnesota, North Dakota, North Carolina, Wisconsin and Washington.
These 11 states comprise 25 percent of the country’s housing inventory, with California accounting for 49 percent of the 25 percent share.
All in all, the researchers found that the link between the number of repo houses and price declines is significantly stronger in states which follow non-recourse laws than in states that implement recourse laws.
