Unintended Consequences of Judicial vs Non-Judicial Foreclosure

The Lender Processing Services (LPS) Mortgage Monitor for January which was released on Thursday takes a detailed look at what it calls the "Time to Clear" default backlog and what might be termed the unintended consequences of legislative or judicial action in a few states.  The report shows the now well-known divergence in the foreclosure pipelines of states that use judicial and non-judicial foreclosure processes but, as its Senior Vice President Herb Blecher says, even this now-familiar judicial/non-judicial dichotomy is not as clearly defined as it once was.

While the overall trend of foreclosure activity has heading downward for months, January had one of the frequent upward blips.  There were a total of 148,000 foreclosure starts in January, an increase of 8.3 percent from December, and 66,000 foreclosure starts, up 14.7 percent from the previous month.  

Foreclosure inventories have been declining slowly since 2009 and the national inventory or pipeline now stands at 3.41 percent.  The inventory in judicial process states is 5.69 percent, nearly three times that of non-judicial states where the percentage of homes in some stage of foreclosure is 1.79 percent.  Further, the percent of loans in the pipeline that have been delinquent in excess of two years is 58 percent in judicial states as opposed to 33 percent in non-judicial states.

The Monitor points to two non-judicial states where pipelines have increased dramatically in recent months due in Nevada to legislative action and to the results of a court decision in Massachusetts.  The extent of the Massachusetts shift, apparently because of a requirement that the lender must now prove ownership of the loan it is foreclosing, raises questions about the circumstances surrounding foreclosures prior to Eaton V FNMA.   The Monitor asks, given the results in these two states, about the potential impact of the new Home Owners' Bill of Rights recently enacted in California.

Blecher said, "On average, pipeline ratios -- the rate at which states are currently working through their existing backlog of loans either in foreclosure or serious delinquency -- are almost twice as high in judicial states than non-judicial states. At today's rate of foreclosure sales, it will take 62 months to clear the inventory in judicial states as compared to 32 months in non-judicial states. A few judicial states -- New York and New Jersey in particular -- have such extreme backlogs that their problem-loan pipelines would take decades to clear if nothing were to change.

"More recently, certain non-judicial states, such as Massachusetts and Nevada, have enacted 'judicial-like' legislative and/or legal actions which have greatly extended their pipeline ratios. Nevada's 'time to clear' has extended from 27 months in January 2012 to 57 months as of January 2013. The change in Massachusetts has been even more pronounced. Since June of last year, its pipeline ratio has gone from 75 to 171 months."

The total U.S. delinquency rate in January was 7.03, down 2.03 percent from December.  The January data also showed that, despite an overall national trend of improvement, new problem loan rates remain high in states with large numbers of "underwater" borrowers. So-called "sand states," such as Nevada, Florida and Arizona, are still seeing high levels of negative equity (45, 36 and 24 percent of borrowers are underwater, respectively), and each of those states is experiencing higher-than-average levels of new problem loans. Additionally -- and further underscoring the differences seen between judicial and non-judicial states -- new problem loan rates in non-judicial states declined slightly over the last six months, while increasing almost 20 percent in judicial states.

LPS reported, based on December data, that loan originations remained elevated but did not move as significantly as might have been expected with the continued declines in interest rates.   Credit characteristics for recent vintages of loans are what it called "pristine" with low default rates and have lower risk with higher margins.

Refinancing through the Home Affordable Refinance Program (HARP) continues strong, representing almost a quarter of all originations and about 30 percent of originations done through Freddie Mac and Fannie Mae.  

Despite the high loan-to-value ratios of HARP loans the default rates remain low compared to FHA and other high ratio loans although LPS is extrapolating this conclusion from high LTV loans by the government sponsored enterprises (GSEs) that it presumes to be HARP loans.

LPS says as many as 20 percent of outstanding mortgages - or approximately 2.6 million - have refinancable characteristics and could benefit from refinancing through HARP or some other program.