Mortgage servicers are bracing for a potential public relations nightmare: scores of renters and their belongings on curbs across America, after evictions from foreclosed properties.
Consumer advocates expect a rash of evictions in the coming months on properties entering foreclosure following the expiration of the federal Protecting Tenants at Foreclosure Act.
That 2009 law upheld existing leases and required that tenants in foreclosed properties be given 90 days' notice before being evicted. It was originally set to expire at the end of 2012, but a provision of the Dodd-Frank Act extended the law until the end of 2014.
Wells Fargo, the nation's largest mortgage servicer, said it is no longer following the guidelines prescribed by the federal law, while JPMorgan Chase, Citigroup and Nationstar are voluntarily following its rules. Bank of America said it is in the process of reviewing its policy.
With the law's expiration, mortgage servicers will have to maneuver a patchwork of state and local regulations. Just nine states and Washington, D.C., currently offer the same protections as the expired federal law, while 17 states have no specific tenant protections or allow servicers to evict immediately following a foreclosure sale.
"I expect to see more evictions in the coming months," said Kent Qian, a staff attorney at the National Housing Law Project in San Francisco. "Some renters are going to be left out in the cold."
Roughly 30% to 40% of properties in foreclosure have tenants or renters, said Linda Couch, a senior vice president for policy and research at the National Low Income Housing Coalition.
"One of the reasons Congress decided to act in the first place is that foreclosure affects a large number of renters," said Couch.
Bills to make the law permanent failed last year. Now that Republicans control both houses of Congress, making the law permanent "is not in the cards," Couch said. But consumer advocates are still looking for some housing policy legislation that might reenact the law.
Banks are servicers on many foreclosed properties, which may be held on their own books or serviced on behalf of investors in securitizations. In the past, when a property became real estate-owned following a foreclosure, the tenant lost his deposit and no longer had the right to occupy the home unless the new owner offered him a new lease. Mortgage servicers typically do not want to be landlords, so most tenants were required to move.
Evictions may be in the financial interest of investors when tenants fail to pay rent. Often when a home goes into foreclosure, the existing tenant does not know who to send the rent to and simply stops paying.
But a flood of evictions could play poorly with a public already angry at mortgage servicers.
"Any bank that is going to continue with the same criteria that the government imposed (with the federal law) is doing so to reduce the reputational risk, that's all," said Cary Sternberg, a default servicing expert.
"On the other side, these banks and servicers represent trusts and investors, and now they are going to expose themselves to financial risk if investors come back to them saying, any time you give a tenant three months' notice, they could be losing money," he added.
Mortgage servicers that do not voluntarily adhere to the federal law's requirements have gauged that the financial risk they face from investors is greater than the potential reputational risk from tenants, Sternberg said.
To be fair, many servicers, including Wells Fargo, offer relocation assistance to tenants in foreclosed properties. And both Fannie Mae and Freddie Mac will continue to follow the law for their respective REO inventories. The Federal Housing Administration typically requires that properties be vacant when they are turned over to the agency after a foreclosure.
So far, consumer advocates have not seen much fallout yet because properties with foreclosure sales dates in December are still covered by the federal law.
Though home prices have rebounded significantly from the depths of the 2008 financial crisis, there are still millions of distressed properties languishing in some state of the foreclosure process or heading there affecting many, many tenants.
There were 820,000 properties stuck somewhere in the foreclosure process in December that had not yet been liquidated through a foreclosure auction or by a bank taking legal title to the property, according to Black Knight Financial Services.
Servicers have long complained that laws like the Protecting Tenants at Foreclosure Act delay a REO property's sale after an already lengthy foreclosure process. It now takes an average of 1,010 days or nearly three years for a delinquent loan to move through foreclosure, according to Black Knight.
In many states, a foreclosure terminates the rights of a tenant. So without the federal law, a mortgage servicer or purchaser of an REO property does not have to file a separate eviction notice to remove a tenant.
"In traditional foreclosure states, you get the right of possession when the foreclosure is completed so the owner would just get a sheriff to go to the property," to evict the tenant, said Qian.
In non-judicial foreclosure states, where foreclosures are not processed by a court, an owner would have to file a separate eviction notice, he said.
There is confusion because some state laws provide tenants with the notice of the foreclosure itself, while others require a notice period after a foreclosure, but before an eviction can proceed.
A few states including Massachusetts, New Jersey and Rhode Island have "just cause" laws, where a foreclosure is not considered a valid reason to evict a tenant.
Jeremy Bergstrom, a senior staff attorney at the Sargent Shriver National Center on Poverty Law, said bank servicers still might adhere to the federal law because of the added expense of complying with the hodge-podge of state laws.
"These tenants are truly the innocent victims of foreclosure because they didn't fall behind on the mortgage, and are current on their rent and could be evicted through no fault of their own," Bergstrom said.