Consumers Beware: Zombie Mortgages Are on the Rise

A "zombie mortgage" is one that a borrower stopped making payments on, but on which no collection activity or effort has taken place for several years.

This is most common in situations where borrowers took out second mortgages, and because of the lack of activity and having reached some sort of resolution with their primary mortgage lender, the borrower believes the debt has been forgiven or otherwise satisfied in their loan modification. However, it has simply been sitting idle, and we're starting to see a resurgence in collection efforts for some of this old second mortgage debt.

The zombie mortgage problem

According to Rohit Chopra, director of the Consumer Financial Protection Bureau (CFPB), we're starting to see an increase in these so-called zombie mortgages.

One of the biggest culprits is the "piggyback" mortgage products many homeowners used in the years prior to the 2007–2008 financial crisis. If you're not familiar, a piggyback mortgage is a type of second mortgage loan used to avoid making a down payment. For example, the borrower would get a mortgage for 80% of the purchase price (the primary mortgage), as well as a secondary "piggyback" loan for 20% of the price, effectively obtaining 100% financing. When borrowers were unable to make loan payments, we saw a wave of foreclosures and modifications of first mortgage loans.

Since these were second mortgages and so many homeowners were underwater at the time, meaning they owed more than the value of their homes, most lenders with second mortgages like these didn't aggressively pursue them. Whether structured as piggyback mortgages or otherwise, second mortgage lenders are in a subordinate position to first mortgage lenders, making the probability that any meaningful recovery would take place very low.

So, instead of pursuing the borrowers, these second mortgages were typically sold to debt collectors for a small fraction of the amounts owed. And in many cases, they remain owned by debt collectors and have been sitting on their books ever since.

But now some of these debt collectors are making an appearance, especially in situations where the borrowers still own the home that the debt was used to purchase. They have started to get in contact with borrowers who have long since forgotten about these loans and assumed they were discharged in loan modifications. These collectors often demand full payment of the amount owed, plus interest and fees that are quite excessive.

What can you do?

If you hear from a collector about an old mortgage loan, there are a few tools to keep in your back pocket that can help you navigate the situation more easily.

Know your rights

First of all, know your legal rights in a situation like this. Lenders can't foreclose on you after the statute of limitations in your state expires. This might require a bit of homework on your part, as foreclosure laws vary considerably by state, but it is six years in many cases.

Not only can statute of limitations be a valid defense in a foreclosure proceeding, but according to the CFPB, debt collectors that hold mortgage debt past the statute of limitations cannot start foreclosure proceedings, or even threaten to do so as a way to get you to pay. To do so could be a violation of the Fair Debt Collection Practices Act (FDCPA).

Furthermore, it's important to note that delinquent debts over seven years old cannot be included on your credit report, and in most cases you cannot be personally sued for it.

Be proactive

As a final thought, if you could be in a position to have a zombie mortgage reappear, reading information like this is a great first step to educate yourself. Other smart ideas could include actively monitoring your credit reports, keeping an eye out for mail from debt collectors that you might assume is simply junk mail, and acting quickly by contacting a lawyer if a debt collector becomes aggressive or may be violating the law.