Law comes with deluge of problems

In June, Bank of America filed a lawsuit against Raymond J. Ruddy III, seeking to foreclose on a home he owns on Oahu's North Shore.

The lawsuit is part of a diverted flow of Hawaii foreclosures resulting from controversial changes the Legislature made to state foreclosure law in May 2011.

Ruddy hasn't made a mortgage payment on the Laie house, which he rents to students, in about 21/2 years.

Another North Shore property, a condominium at Turtle Bay Resort that Ruddy also owns and rents to a friend, is the subject of a foreclosure lawsuit that BofA filed in April.

Ruddy, a California mortgage broker, is perplexed by Hawaii's foreclosure system despite knowing a lot about home loan financing.

"I'm still trying to figure it out," Ruddy said of the distorted path he encountered after defaulting on both mortgages toward the end of 2009.

Ruddy isn't alone.

COMING UP MONDAY Part 2: Legislature may take another look at foreclosure issues. TUESDAY Part 3: Hawaii borrowers file suits after nonjudicial foreclosure auctions. DID YOU KNOW? 12,000 Number of delinquent Hawaii home mortgages in the first quarter of this year $312,000 Average Hawaii home loan balance $3.7B Estimated value of delinquent home loans Sources: Mortgage Bankers Association and Transunion HAWAII'S FORECLOSURE LAWS: CRITICAL CHANGES OLD LAW Since Late 1990s » Popularized nonjudicial (out-of-court) foreclosure as cheaper and quicker procedure for lenders to repossess homes from delinquent mortgage borrowers. » Provided little protection for homeowners, including poor notification requirements. ACT 48 Enacted May 2011 » Allowed borrowers to force lenders into mediation on nonjudicial foreclosures. » Provided stiff penalties for lender violations. » Prompted lenders to abandon nonjudicial foreclosures in favor of court foreclosures, resulting in no mediations. ACT 182 Enacted June 2012 » Attempted to redefine penalties to be more acceptable to lenders for nonjudicial foreclosures. » Requires attorneys representing lenders in nonjudicial or judicial foreclosures to attest to the accuracy of documents.   GLOSSARY: FORECLOSURE TERMS » Deed-in-lieu: Transferring ownership of a home to a lender outside of foreclosure » Judicial: Foreclosure in court overseen by a state judge » Nonjudicial: Foreclosure out of court with little to no third-party oversight » Short sale: Sale of a home for less than what a borrower owes on a mortgage

A little more than a year after Hawaii lawmakers overhauled state foreclosure law via Act 48, the foreclosure process in Hawaii is in turmoil. Hundreds of pending foreclosure cases were halted, and lenders have restarted relatively few even as additional homeowners default on their loans. At the same time, a mediation program created by Act 48 that was supposed to help homeowners has never been used.

Additional tweaks to the law were implemented last month when Gov. Neil Abercrombie signed Act 182.

Proponents of the latest changes say they fix problems with Act 48, but critics say it makes the law worse to the point where foreclosures will be further restricted. That picture should become clearer in the months ahead.

Advocates of Act 48, mainly its chief architects -- Rep. Bob Herkes (D, Puna-Kau-South Kona-North Kona), chairman of the House Consumer Protection Committee, and Sen. Rosalyn Baker (D, Makena-Wailea-Kihei-Maalaea-Lahaina-Kaanapali-Napili-Kapalua), chairwoman of the Senate Commerce and Consumer Protection Committee -- say it has helped many homeowners even though a major function of the law, mediation, has never been used.

Critics of Act 48, including local economist Paul Brewbaker and lending industry representatives, say the law hasn't made it easier for lenders to resolve problem loans, and many delinquent borrowers are taking advantage of foreclosure delays by keeping their homes while making no mortgage payments.

Those critics also say the improving economy is helping homeowners and that Act 48 has inhibited a faster recovery in the housing market because foreclosures have been delayed and homeowner credit hasn't been restored.

"My impression of the main consequences of Act 48 is that the foreclosure inventory has persisted at high levels in Hawaii," Brewbaker said. "I think Act 48 was misguided."

One nonprofit that campaigned for Act 48, Faith Action for Community Equity, said the foreclosure delays triggered by the law provided opportunities for homeowners to avoid foreclosure through loan modifications, selling their homes for less than they owe and granting lenders property deeds in lieu of foreclosure.

FACE organizer Jun Yang said the public movement that helped produce Act 48 pressured lending giant BofA to establish face-to-face meetings with Hawaii borrowers. In addition, the drop in foreclosures brought on by Act 48 has resulted in fewer personal bankruptcies, Yang said. "We feel that the law has benefited the community," Yang said.

Data from the national Mortgage Bankers Association suggest that since Act 48, fewer Hawaii loans are entering default, but foreclosure inventory hasn't fallen. Act 48 critics say this indicates the law is interfering with an organic recovery.

Even though Hawaii's economy has improved in the past several years, foreclosure inventory has stayed between 4.5 percent and 5 percent of the housing market since the fourth quarter of 2009, peaking at 5 percent in the fourth quarter of 2011, after Act 48.

At the same time, completed loan modifications and new repayment plans have declined over the past two years.

Hope Now, a national alliance of debt counselors and mortgage companies helping consumers keep their homes, said there were 1,577 loan modifications done in Hawaii and 1,596 repayment plans started last year, down from 2,758 and 2,596, respectively, the year before.

There were about 12,000 seriously delinquent Hawaii loans in the first quarter of this year, of which about 8,700 were in foreclosure and another 3,500 were more than 90 days delinquent but not in foreclosure, the Mortgage Bankers Association reported.

Based on an average Hawaii home loan balance of about $312,000 calculated by credit reporting agency Transunion, the total value of seriously delinquent mortgages could be about $3.7 billion.

Brewbaker said letting so much bad debt fester weighs down economic recovery. In neighborhoods with lots of foreclosure homes on the market, home values can suffer.

Act 48 was a response to a more than 100-year-old statute that established a nonjudicial, or out-of-court, foreclosure process that a 2009 report by the National Consumer Law Center called one of the weakest in the country for consumer protections.

Hawaii's old law gained widespread use in the late 1990s, and until May 2011 was how the vast majority of foreclosures were done because it was quicker and cheaper than going through court.

Act 48 aimed to curb what consumer advocates said were lender abuses, while allowing foreclosures to proceed in cases where homeowners had no realistic prospect of maintaining their mortgage.

Herkes said the old law, dating back to 1874, enabled lenders to sell a home at foreclosure auction in as little as four weeks, with no third-party oversight and sometimes even without a homeowner's knowledge.

A key provision in Act 48 encourages mediation to work out problem loans. The law allows qualified homeowners to bring nonjudicial cases into a dispute resolution program overseen by a mediator. The program was set up by the state Department of Commerce and Consumer Affairs with $400,000 in state funds.

Act 48 halted all pending nonjudicial foreclosures and required that they be restarted, using the new process which included the possibility of mediation. But lenders balked at the revamped procedure because of what they perceived as unfair potential penalties, and for the past 14 months there have been no nonjudicial foreclosure cases restarted by lenders.

Instead the lenders have been filing judicial foreclosures. New judicial foreclosure cases tripled to 3,936 in the 12 months through May, compared with 1,304 in the 12 months before Act 48 was enacted, according to state Judiciary figures.

While huge, the increase doesn't reflect the number of foreclosures that lenders have amassed but can't get into court because of workload limitations, according to local foreclosure attorneys.

In short, they say, the volume has been constrained because court foreclosures take more effort, money and time. Each case can take up to two years to complete, compared with several months for nonjudicial foreclosures.

For instance, Bank of New York Mellon intended to sell a Makaha Valley Towers condo in July 2010, according to a nonjudicial auction notice. But the sale never happened. In November the bank restarted the case in court.

According to court documents and property records, local real estate agent Amalia Johles bought the condo in 2005 for $165,000 with a $132,000 loan from Countrywide Home Loans Inc. Six units similar in size to Johles' were sold earlier this year for between $70,000 and $115,000.

In May an attorney for Bank of New York, which represents investors that acquired the loan from Countrywide, told the court that numerous attempts to serve Johles with a copy of the lawsuit were unsuccessful. The court gave the bank six more months to serve Johles.

Johles did not respond to a request for comment.

Local foreclosure attorney David Rosen, who isn't involved in the Johles or Ruddy cases, said lenders are being stymied from recovering bad debt through foreclosure, while many homeowners are able to stay in their homes without making mortgage payments or rent.

"The entire process is being abused," he said.

Rosen said one lender he represents had 1,000 nonjudicial foreclosures pending in Hawaii when Act 48 took effect.

Brewbaker contends that a relatively small number of Hawaii families beset by circumstances such as job loss or divorce were caught up in foreclosure after making un-risky home purchases. He contends that far more people made risky purchases and are now coasting on benefits from Act 48.

"There are way more deadbeats and failed real estate speculators working the system, living in their houses for years without making a mortgage payment, I mean proportionately, more than genuine economic distress would suggest should be likely," he said.

Ruddy, the North Shore rental property owner, said he would have preferred a quick foreclosure under Hawaii's old foreclosure law. But with the way things went, he's not conscience-stricken about collecting rent while the bank plods through court foreclosure.

"My losses far outweigh the benefit," he said.

Ruddy bought his Turtle Bay condo in 2004 for $370,000, followed by the Laie house in 2005 for $550,000 as Hawaii's real estate market was surging. He said he made down payments in cash totaling $50,000 to $80,000 and spent $80,000 to $100,000 on renovations. But a slump in the rental market combined with rising expenses turned his rental investments sour in 2008 as the economic downturn was unfolding.

Soon the properties were losing what Ruddy said was $2,000 to $4,000 a month. "I went through my savings, I went through my retirement," he said. "I got wiped out."

Ruddy defaulted toward the end of 2009. BofA tried to modify his loans three or four times in what Ruddy said was a maddening experience that involved the bank losing his paperwork and shifting his case to numerous ill-informed staff. He attempted a short sale -- selling the property for less than the loan amount -- on the Laie home in late 2009, but a deal in escrow fell apart. After that, Ruddy prepared for foreclosure by moving tenants out and filing for bankruptcy. That was two years ago. Instead, auction dates got postponed and then Act 48 was enacted.

After Ruddy learned it could be 12 to 18 months before foreclosure concluded, he decided to rent out the properties again, in part to offset some losses and to keep paying maintenance fees and property taxes.

"I was thinking it was going to be done, but then Act 48 passed," he said. "In a way it prolonged the agony. If the bank would have come and taken the property right away, that would have been preferable."

Ruddy has benefited from what he said has been $35,000 to $40,000 in additional rental income absent of mortgage payments, though it will take him longer to repair his credit after foreclosure is completed.

In the past six to nine months, Ruddy said, BofA has been encouraging him to deed over the property in lieu of foreclosure, but he said he is wary given his previous ordeals trying to work with the bank. "Why should I go through another process jumping through hoops?" he said.