REQUIRED READING: Last November, the U.S. Government Accountability Office (GAO) published a report entitled ‘Vacant Properties: Growing Number Increases Communities' Costs and Challenges.’ While the report focused on the vacant-property issue from the perspective of local municipalities, it also addressed the responsibility of the mortgage servicing industry regarding the growing vacant-property crisis. It's a long report – 102 pages long, to be exact – but servicers that take the time to read it will get a better understanding of the ticking time bomb they face if they don't give this issue the seriousness it deserves.
The fact is that cities face massive financial, budgetary and safety issues when dealing with vacant properties. These include lower property values and real estate tax revenues; rising crime; drug and gang activity; drains on code enforcement budgets; increasing police and fire department activity; rising up-front costs for property maintenance and demolition actions, and escalating legal, lien, and nuisance abatement actions against owners of record. Due to the skyrocketing volume of foreclosures over the past several years, simply identifying the current ‘owners of record’ on vacant property has become extremely challenging, if not next to impossible, for local governments.Â
Factors such as chain-of-title assignments, incorrect vesting, delay in foreclosure filings and recordings, unrecorded servicing agreements, and the multiple locations of lenders exacerbate the communication and notification process of registration non-compliance and/or unrecorded code-violation citations. And the problem is getting worse: According to the U.S. Census Bureau, the number of vacant, non-vacation properties increased 51% between 2000 and 2010, jumping from nearly 7 million to 10 million homes.
As a potential solution, many municipalities have begun to implement a variety of property-registration ordinances. These range from vacant property registration to notice of default, transfer of deed, and rental/landlord registrations with specific trigger points and other registration requirements that include fees and penalties for non-compliance.
Las Vegas and Atlanta recently enacted respective vacant-property registration statutes not only to address the issues stated above, but also to help offset the cost of code enforcement budgets. The goals behind these registration ordinances are simple – identify the owner of record and address potential code enforcement or violation issues. The aforementioned ‘ticking time bomb’ refers to what happens to servicers and investors that ignore these efforts. While it is true that servicers and investors face fines and fees by not registering vacant properties, the risks are actually much graver.
There are six key challenges for loan servicers regarding vacant property. Keep in mind that neglecting any one of these challenges creates a potential time bomb of sorts that can detonate at any time, creating enormous costs for servicers and investors as well as placing them in legal peril.
Registration management compliance. Most loan servicers and their real estate owned (REO) asset management companies lack the expertise, technology and, more importantly, the human capacity to fully address the numerous property-registration ordinances being created today. Tracking, compiling and understanding a variety of registration and code violation requirements on a national basis is a full-time job.
Every new property ordinance brings with it a number of important questions for servicers: Which properties are affected? What types of property registrations are required? What triggers the need to register a property? Do exemptions exist? What are the registration costs? Are there prerequisites for registration? What support documentation is needed? Are inspections or local property managers required? What are the fines for non-compliance?
Property registration is not just filling out forms and paying registration fees. It also encompasses a servicer's obligation to properly register and comply 100% to the letter of the law in order to avoid penalties. Yet, with so many other pressing issues facing the servicing industry, the property-registration process is taking a backseat – leaving investors and government agencies open to potential losses and litigation. As more and more municipalities enact new registration requirements, the need for loan servicers to identify ordinances, process statute requirements and implement registration workflow will continue to grow.Â
Ownership prior to foreclosure sale. This is where things get confusing. Most vacant property and notice-of-default registration ordinances impose financial liability on the mortgagee based on the mortgagee's contractual right to manage and control the property once there has been a default.
This right is more clearly stipulated in the deed of trust, which has a paragraph that (essentially) states that if the borrower fails to make payments or abandons the property, ‘the lender may do and pay for whatever is reasonable or appropriate to protect lender's interest in the property â�¦ including securing and/or repairing the property â�¦ including, but not limited to â�¦ entering the property to make repairs, change locks, replace or board up doors and windows, [and] drain water from pipes.’ However, most servicers would argue this language means lenders have the right, but not necessarily the obligation, to address vacant-property issues prior to the foreclosure action.
Another crucial issue is the question of who actually owns the property prior to foreclosure. Recently, the city of Chicago amended its vacant-property registration ordinance language, removing mortgagees and their assignees and agents from the definition of ‘owner’ in the specific provision establishing registration and maintenance compliance requirements for owners of vacant property. The question of who really owns a property in a pre-foreclosure scenario is often unclear. Making matters worse, some states have enacted trespass laws that bypass the servicer's right to access or secure properties.
Fees and fines transfer with property. City-issued violations for property-registration non-compliance, that are unheeded for long periods of time can result in excessive fines or legal action against the owner of record. In Las Vegas, for example, if city officials determine that a loan servicer has failed to register a property, civil penalties can be applied up to $500 per day for residential properties and $750 per day for commercial properties.
As more properties remain vacant for longer periods of time, those compounding daily penalties add up fast. In just months, servicers could face tens of thousands of dollars in fines on a single property. In addition, criminal-misdemeanor citations could be issued for failure to comply. But the worst part is that fines for registration non-compliance and code violations in Las Vegas and elsewhere often transfer with the property from pre-foreclosure through the REO disposition process and onto the new owner, opening the door for even more potential liability and litigation.
Title insurance exceptions. Typically, code violation fines and penalties are completely excluded from a title company's commitment responsibility. On most title insurance policies, the exceptions page clearly indicates that ‘the company will not pay loss or damage, costs, attorneys' fees, or expenses that arise by reason of â�¦ any law, ordinance, permit, or governmental regulation â�¦ or the effect of any violation of these laws, ordinance, or governmental regulations.’ And yet, in most cases, ordinance penalties and code violations are never even recorded in public records to begin with, which means someone during the default process life cycle is potentially open to loss or litigation risk.
Super lien status for municipalities. More and more cities are cross-matching code violations, fines and penalties incurred by the owner of record of the subject property to all other properties that are in the owner's name within the city's jurisdiction. For example, if an investor or a government-sponsored enterprise owns multiple properties and is issued a municipal code violation on one of its properties, other properties that had nothing to do with the code infraction on the subject property may also be tagged with the same violations and/or liens.
Moreover, if the code violations do not surface during final disposition, the potential exists for citations and liens to be passed to the new buyers of the property. And because code violation fines can exceed the actual value of the property, the risk exposure for potential litigation for loan servicers, REO companies, loan originators and Realtors becomes exponential.
Potential negative exposure. A leading issue local governments face with vacant property is the increase in crime activity. But what happens the first time a serious safety issue or crime incident happens with a property that has several code violation notifications on it, and no action was taken by the investor, loan servicer, asset management company or listing agent?
Exposure to negative media coverage increases substantially with vacant properties and non-resolution of code violations. Imagine television trucks are parked outside the property and that the property and the names of everyone associated with it are splashed all over the news media. Public relations disasters aside, such incidents also greatly increase the likelihood of legal action and additional penalties.
So what's the solution? Loan servicers can minimize their potential for financial loss severity and litigation risk exposure by adopting a 100% property registration compliance strategy. This would ensure proper notification of code violations, lessen the time required to resolve last-minute violations, and reduce exposure to municipal code violations, fines and liens. Such a strategy would also help municipalities that are proactively addressing public safety and liability issues while reducing neighborhood blight.
If anything, the recent GAO report confirms that the nation's cities are getting tough regarding vacant-property issues. This means loan servicers ought to be getting tougher, too, and start disabling those ticking time bombs before it's too late.
Rudy Krupka is CEO of Code Violation Services Inc., based in Windsor, Colo. He can be contacted at rudy@cvsinc.net.
