The mortgage industry crisis that started in 2006 has resulted in thousands -- no, make that millions -- of foreclosed homes. Most of the occupants are the homeowners themselves, who must scramble to find alternate housing with very little notice. They're being joined by scores of renters who discover, often with no warning, that their rented house or apartment is now owned by a bank, which wants them out in a matter of days. For most of these renters, their options are bleak.
Who Are the Renters?
Renters who lose their homes to foreclosures don't fit a single profile. Many of them live in smaller buildings, condos, and single-family homes. They're located in cities and surrounding suburbs, in low-income and upscale neighborhoods. In short, foreclosed homes are everywhere, and they're rented by people with widely varying incomes, including some with "Section 8" (federal housing assistance) vouchers.
Who Are the Defaulting Owners?
The typical foreclosed home may have originally been owner-occupied, but more often it's owned by investors and speculators who were hoping to profit from the rents. During the heyday of sub-prime mortgages -- when practically anyone who breathed and could sign their name could get a loan, usually with an adjustable rate -- these owners easily bought-up rental properties. They counted on rising rents and low interest rates to cover their mortgage payments. Caught between the slump in housing values and the rise of their mortgage interest rates, these owners could not feasibly sell nor extract enough rent to cover their monthly costs. In droves, they lost their investments. For example, in Minneapolis and its surrounding suburbs, 38% of the 2006 foreclosures involved rental properties; in Minneapolis alone, 65% were rentals.
Who Are the New Landlords?
When an owner defaults on a mortgage, the mortgage holder, often a bank, either becomes the new owner or sells the property at a public sale. If the bank becomes the owner, it may pay a servicing company to handle the property. But don't expect close attention -- these companies are focused on financial matters, not mundane things like maintenance.
Some renters find themselves with a new owner even before the foreclosure. Lawyers in Massachusetts, for example, contend that many new rental property owners are investment trusts that specialize in purchasing troubled loans directly from banks, then foreclosing, evicting, and selling.
| New Owners Means No Maintenance | Many tenants have no idea that their building has been taken at foreclosure. They continue to pay rent to the former owner, who often pockets the money but is hardly inclined to maintain the building it no longer owns. In the meantime, the new owners simply refuse to be landlords, never making repairs or even paying utility bills. Because the banks are stuck with increasing numbers of foreclosed properties that they can't sell, they remain non-landlords for some time, making life impossible for their tenants until those tenants are evicted. |
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Renters in Foreclosed Properties Lose Their Leases
Most renters will lose their leases upon foreclosure. The rule in most states is that if the mortgage was recorded before the lease was signed, a foreclosure will wipe out the lease (this rule is known as "first in time, first in right"). Because most leases last no longer than a year, it's all too common for the mortgage to predate the lease and destroy it upon foreclosure.
That doesn't always mean the lease-holding tenants have to leave immediately -- but those who remain join the ranks of month-to-month renters, all of whom can be terminated with proper notice, usually 30 days. And the new owners tend to move quickly to terminate, giving as little notice as is legally possible (sometimes no more than three days).
Tenants who refuse to leave face an eviction lawsuit, for which they usually have no legal defense. The impact of an eviction on a tenant's ability to find future housing can be devastating. No law prevents a future landlord from automatically rejecting tenants with evictions on their record, even when those tenants were the innocent victims of a foreclosing bank.
There are some notable exceptions, however, to this grim scenario. Tenants who participate in the federally financed Section 8 program will see their leases survive, as will tenants in New Jersey, New Hampshire, the District of Columbia, and, as of the end of November 2007, Massachusetts. In these states, new owners cannot evict lease-holding tenants unless the tenants have failed to pay the rent or violated any other important lease term or law. Tenants in other states who live in cities with rent control "just cause" eviction protection may also be protected.
Does It Make Sense to Evict Tenants?
New owners evict existing tenants because they believe that vacant properties are easier to sell. Common sense suggests otherwise. In many situations a building full of stable, rent-paying tenants will be more valuable (and command a higher price) than an empty building. Emptied buildings are also prone to vandalism and other deterioration - after all, no one is on site to monitor their condition. When entire neighborhoods become a wasteland of empty foreclosed multifamily buildings, their value drops even further. It's hard to understand why new owners choose to pay lawyers to start eviction procedures instead of paying a modest fee to a management company to collect rent and manage the property while they wait to sell.
| "Cash for Keys" | | To encourage tenants to leave quickly and save on the court costs associated with an eviction, banks offer tenants a cash payout in exchange for their rapid departure. Thinking that they have little choice, many tenants -- even Section 8, protected tenants -- take the deal. It doesn't help them much as they join the swelling ranks of newly displaced tenants (and former homeowners) who are competing to find an affordable new rental. |
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What Can a Foreclosed-Upon Tenant Do?
Renters whose states follow the "first in time, first in right" rule, where a lease can be wiped out by a foreclosure if the mortgage was recorded before the lease, will not be able to convince a court to change that rule. But tenants who learn that their new landlord is a bank can at least lessen the financial consequences by suing the former owner. Here's how it works.
After signing a lease, the landlord is legally bound to deliver the rental for the entire lease term. In legalese, this duty is known as the "covenant of quiet enjoyment." A landlord who defaults on a mortgage, which sets in motion the loss of the lease, violates this covenant, and the tenant can sue for the damages it causes.
Small claims court is a perfect place to bring such a lawsuit. The tenant can sue for moving and apartment-searching costs, application fees, and the difference, if any, between the new rent for a comparable rental and the rent under the old lease. Though the former owner is probably not flush with money, these cases won't demand very much, and the judgment and award will stay on the books for many years. A persistent tenant can probably collect what's owed eventually.
Press for Legislative Reforms
Why should hapless tenants suffer the consequences of risky lending practices engaged in by others? States besides those mentioned above can enact legislation to protect tenants. On the federal level, some action is already under way. HR 3915, The Mortgage Reform and Anti-Predatory Lending Act of 2007, would not only tighten up the mortgage industry, but provide that tenants' leases would survive foreclosure, and that month-to-month tenants would be entitled to 90 days' termination notice.
For more information on the impact of nationwide foreclosures on tenants, see the testimony of the Massachusetts Law Reform Institute before the House Committee on Financial Services, September 20, 2007, at www.house.gov (choose Hearings, then Hearings of the 110th Congress. Choose the September 20, 2007 hearing and click the link for Ms. Judith Liben, under Panel Two).
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