I was raised to believe that the most valuable asset in business, and in life, is integrity. Your word is supposed to mean something and personal ethics are paramount.
This week my article on the BiggerPockets Blog was about The Ethics of Real Estate Strategic Default.
To be sure, I expected it to get a reaction and it was written with that in mind. There are a lot of comments regarding the role banks had in the mess and there is no doubt that the financial meltdown couldn't have happened without their recklessness. That's not what I am debating.
The question is - Do you have a moral and ethical responsibility to honor your agreements?
It seems I am in the minority on this one and have even been called an idiot for thinking the way I do. Personally, I'd rather be the village idiot than discard my beliefs.
I ask that anyone reading this please be sure to leave their thoughts on Rich's post (as linked). Of course, like Rich, I'm assuming that anyone who is an active investor, or at least a professional, would share the feelings that people need to take responsibility for their actions.
So, with that in mind, jump on the post and help support Rich!
Edited: 06/26/2010 at 12:43PM
Joshua Dorkin, BiggerPockets, Inc. E-Mail: webmaster@biggerpockets.com Telephone: 877-831-4704 Website:http://www.biggerpockets.com Be sure to check out the BiggerPockets Blog at http://www.BiggerPockets.com/renewsblog/
While I'm a big believer in always making good on promises and debts (I pay my credit card off twice a week :), there is another -- more impartial -- way to look at this issue that makes the ethical question a bit more complicated:
When it comes to a mortgage contact (or any service contract), making payments is only one part of that contract. Every mortgage contract I've ever seen also has a section on the lender's recourse should the borrower stop paying.
The details of this recourse (foreclosures, usually) is PART OF THE CONTRACT, not outside the contract.
So, when someone stops paying on their mortgage, they aren't neglecting the contract at all. Instead, they are just triggering ANOTHER PART of the contract that deals with this particular circumstance.
Here's an analogy:
As part of most people's mobile phone contract, it is stated that if the subscriber terminates the contract early, they will need to pay an early-termination fee.
Would you consider someone who cancels their service before the contract is up and who happily pays the early termination fee to be unethical?
Or would you just think, "It's okay, they terminated early and lived up to the agreement in the contract that they had to pay a termination fee?"
The same can be said of someone who allows their house to go into foreclosures: They have stopped paying their mortgage (terminated their contract early), and they are agreeing to abide by the terms of the contract that specify what happens when they stop paying.
In essence, they are still fully abiding by the contract, just not in the way the lender would prefer.
From that perspective, an argument can be made that letting your house go into foreclosure is not unethical and is also not "breaking a contract."
Just my $.02... And in case there is any confusion, yes, I certainly agree with you that making good on any contract is the right thing to do, regardless of what the ethics may be...
That is a great analogy and certaily not one that I have heard anyone use before. Most people are too busy blaming someone else or making excuses for their actions.
Looking at it that way makes more sense than what other people are typically saying.
Of course, I still advocate keeping your word above all else...including a cell phone contract.
I've got to agree with Jason here for the average consumer mortgage. The average consumer mortgage with a bank is essentially a contract of adhesion. If you want to do business, you must accept all their terms. In a contract of adhesion, the unequally strong party bears a lot more responsibility in the fulfillment of the contract than the unequally weaker party. By taking the position they are, it is legally the Bank's responsibility to make sure the person obtaining the mortgage has the ability to repay it or the mortgage is unenforceable. I have case law for this.
Steven v. Fidelity & Casualty Co., 58 Cal. 2d 862, 882 n.10 (1962) "If the term was outside of the reasonable expectations of the person who did not write the contract, and if the parties were contracting on an unequal basis, then it will not be enforceable. The reasonable expectation is assessed objectively, looking at the prominence of the term, the purpose of the term and the circumstances surrounding acceptance of the contract."
Circumstances surrounding the acceptance of the contract could certainly include but not be limited to the interest rate, income and value of the property at that time. Granted, you will suffer consequences in the form of restricted access to future contracts of adhesion but that necessarily does not make it morally wrong.
Let me break it down simply. If you have damage to your house and I'm your insurance adjuster, I'm coming to your house with about $70,000 worth of training and experience of a couple thousand claims under my belt. It's not equal. Because of that, I hold a greater legal responsibility to keep everything equal. It does not make it morally wrong for you to file the claim (no matter what insurance companies may feel).
Now.....
All that being said. For the investor, you're supposed to be operating at a different level.
If you have a contract with another investor you had better follow that contract.
If you are a large investor who is at a level where your local bank is not an unequally strong party, you had better follow that contract.
In most contacts, the penalty for forfeiture of the contract is sufficient that the party extending the asset/credit is going to be relatively happy whether the borrower fulfills the contract or forfeits the contract.
Using the example above, while the cell phone companies certainly don't want you to switch providers, they are probably somewhat okay with it based on the fact that they collect a flat fee (generally $200-300) when subscribers terminate early. In other words, they have ensured that the penalty sufficiently covers their remuneration for a forfeited contract.
But, this isn't the case for mortgages...so, why not?
Remember that 20 years ago, most mortgage borrowers were putting down at least 20% (and before that it was 50%) to get their loan. This meant that the banks maintained a good bit of equity in the property, so that if the borrower forfeited, the bank would still have reasonable remuneration for the borrower deciding to bail.
I imagine back then, banks still weren't thrilled when borrowers defaulted, but they were probably a lot less concerned than they are now. In fact, back then, because borrowers were putting down large down payments, they were probably out more money than the banks if they chose to stop paying their mortgage.
Then, banks started to get greedy. They decided that they'd rather get more borrowers with a higher risk profile by lowering the down-payment requirements.
5% down, 3% down, no-downpayments, stated-income, ARMs, option ARMs...these were all mechanisms put in place by the banks to lure borrowers. But, by creating these products, the banks made a conscious decision to forgo the collateral that provided them a safety cushion should borrowers default.
In other words, banks decided to break from the age-old convention of ensuring that the penalty for breaking the contracts was sufficient to remunerate them in the case it happened. And they did this purely to lure more customers and earn quick commissions.
So, while I 100% agree that people should repay their debts, keep in mind that the banking industry had safeguards in place for dozens of years to ensure that they didn't get too burned when a borrower defaulted, and they consciously traded those safeguards for fast and easy revenue.
From that perspective, banks are just as much to blame for the situation they are in now...had they been less greedy, they'd probably be in a position where they were a lot more okay with all these borrowers defaulting...
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