Some homeowners miss out on housing recovery

Scott and Caroline Schmauderer know all the acronyms and the nitty-gritty details of the federal government's various programs to help homeowners like themselves, whose plans were derailed by the housing bust.

They read up on loan modifications, but they aren't behind on their mortgage payments, so they don't qualify for one.

They rattle off the requirements of the federal government's refinancing program, but their loan isn't owned by Fannie Mae or Freddie Mac, so again they don't qualify.

The couple's final hope came last year, when they tried to sell their Lake in the Hills town house for less than the amount owed on the mortgage, a well-worn strategy known as a short sale. But that turned into a gamble they weren't willing to take when a critical tax break expired in December, despite congressional efforts to extend it.

There are few alternatives for frustrated, largely silent borrowers like the Schmauderers, whose mortgages are current, underwater and not owned by either Fannie Mae or Freddie Mac. Simply put, they are stuck in place, their lives on hold, left on the sidelines of the nation's slowly recovering housing market.

"I'm pretty much losing hope," said Caroline Schmauderer, 39. "It looks very bleak."

"This isn't where we wanted to be at this point in our lives," added her husband, Scott, 40, a firefighter.

When the couple bought the town house in July 2007 for $216,900, the Schmauderers figured they'd live in it with their two daughters for a few years before moving on.

They figured wrong.

Chicago's housing market fell and fell hard, and the recovery has been spotty.

Seven years later, another child, a boy, has been added to the mix, and it's a tight fit around the kitchen table which is at one end of the first floor, right behind the living room couch and the kitchen counter.

They found out their loan was not owned by Fannie Mae or Freddie Mac, a requirement for the government-supported Home Affordable Refinance Program, so there was no way to lower the interest rate — theirs is 6.25 percent on a 30-year mortgage — as more than 3.1 million underwater homeowners have done. At one point two years ago, average rates were around 3.5 percent.

The couple debated falling behind on their mortgage to try to qualify for a loan modification, but after being homeowners for 12 years, they didn't want to hurt their credit histories. Many nights were spent debating whether to walk away from the mortgage and let it fall into foreclosure, but that move would hurt their credit and their ability to buy a home in the future.

"I refuse to walk away," Scott said. "I don't want that to follow me."

"I'm a little different," said Caroline, a medical assistant. "I'm not saying I want to walk away, but I'm frustrated. We don't own this house for us. We own it for the bank."

Last fall, they listed the town house for sale at $150,000 in a short sale, meaning they'd sell it for less than the approximately $180,000 left on the mortgage, a popular strategy for homeowners so long as they receive their lender's permission. In the 12 months that ended in May, more than half of the 511 homes sold in their suburb were either foreclosures or short sales, according to Midwest Real Estate Data LLC, the local multiple listing provider.

In 2007, Congress passed a law, which was twice extended, exempting a homeowner from being taxed on debt that was forgiven as part of a short sale or a loan modification. Otherwise, canceled debt is treated as taxable income by the IRS.

Without the act and assuming a 28 percent tax bracket, every $10,000 in forgiven debt would make a homeowner liable for an additional $2,800 in taxes. The "extra" income could also push someone into a higher tax bracket.

But the Mortgage Forgiveness Debt Relief Act expired Dec. 31, and legislative efforts to extend the tax break and make it retroactive to Jan. 1 have faltered, stuck in committee.

The Schmauderers put a contingency in their listing that if the tax break was not extended, a deal was off. As a result, they ended negotiations with an investor who made an offer on the property late last year. Instead of looking for another home, they bought a skinny Christmas tree for the corner of their living room.

"I'm sure we're not the only ones in this situation," Caroline said.

They are not.

An Urban Institute study this year predicted the uncertainty surrounding the tax break could affect more than 3 million homeowners who would benefit from programs that allow debt forgiveness.

Meanwhile, a troubling trend is emerging. While the percentage of short sales is slumping, the share of home sales that are foreclosed properties in good condition has been on the rise since last fall. In May, short sales made up 5.2 percent of all home sales nationally. Move-in-ready, bank-owned homes constituted 10.3 percent of the market, the highest share in more than a year, according to Campbell Surveys, a research firm.

"Since the expiration of the tax break, the proportion of short sales has sunk like a stone," said research director Thomas Popik. "What would have been short sales is now being sold as move-in-ready (foreclosures). People are just letting it go to foreclosure. I'm not sure there's a positive social benefit to less short sales and more foreclosures."

In May, 664 homes in the Chicago area were short-sale transactions, according to Midwest Real Estate Data. That compared with 1,105 a year earlier.

"They have to extend that tax bill," said Eric Selk, executive director of Hope Now, a coalition of mortgage servicers, investors, housing counselors and other players in the mortgage industry. "You want to create an incentive for the homeowner."

The Schmauderers realize how lucky they are to have jobs and not be in the dire straits faced by so many other families. But their frustration is hard to mask. They curse themselves for not trying to do a short sale earlier. They wish they had a home big enough for family celebrations. Thinking at this point that they'll just have to wait to break even on a sale, they don't know whether to make improvements to the house, like new flooring, since they worry about neighborhood prices hitting a plateau.

In April, a nearby town house almost identical to theirs sold for $148,000.

"How long do we have to live here (to) break even?" Caroline said. "How do we ever get ahead?"

While in Chicago last week, Mel Watt, head of the agency that oversees Fannie Mae and Freddie Mac, said he empathized with underwater homeowners that his agency is unable to help with a refinancing, and noted that the tax break is an issue for Congress.

"I don't do lobbying anymore," said Watt, a former North Carolina congressman. "I can't change the tax laws. I understand that that is a major impediment to the effectiveness of principal write-down of any kind but I can't control that."

U.S. Rep. Bill Foster, who represents Illinois' 11th District and sponsored legislation in January that would extend the debt forgiveness act for two years, is hopeful that some action will be taken on the issue in the fall.

"You can't have this uncertainty," Foster said. "Families that are going through short sales or some sort of forgiveness are families that cannot afford a big tax bill. I understand why they are holding back. I wish I could say that if it will pass, it will be retroactive."