Foreclosures, Renters, and Federal Law

The current economic downturn is damaging to citizens all across this country and across all walks of life. Americans watch as home values plummet, wealth dissipates, and consumer confidence gets shaken to levels not seen in decades. Foreclosures are a particularly unfortunate aspect of our current economic predicament. Families are losing their homes and real estate values become further depressed by fire-sale prices at auctions.

Individuals and families renting residences are also beginning to find themselves in unpleasant situations as the owners they lease from are unable to pay the mortgages on the rental property. In many instances, these people sign contracts to lease the property and rely on the obligations of the owners. When the owners default on their responsibility to repay a note on the property, the renters suddenly find themselves looking for a new place to live. This creates problems with moving costs, finding suitable alternatives for residence, and having little time to remedy the situation, even though the renters typically bear no fault in these scenarios.

As is often the case in our modern society, government feels the need to get involved and attempt to cure the problem. Never mind that the legal system, and typically the signed lease agreements themselves, provide remedies for breach of contract by either party.

The federal legislature has passed, and President Obama has signed, Public Law 111-22, also known as the “Preventing Mortgage Foreclosures and Enhancing Mortgage Credit” Act of 2009 (You can view the law here: http://thomas.loc.gov/cgi-bin/bdquery/D?d111:2:./temp/~bdFBvl::/bss/111search.html). This statute was written in an attempt to alleviate the current housing downturn and the effects on the economy and on individuals and families. Both are noble causes but the law itself fails to respect private contracts and further allows government to infringe upon reciprocal agreements between consenting parties.

Title VII, Protecting Tenants at Foreclosure Act, is a particularly good example of just how this occurs within the context of this law. The statute requires any foreclosure of property backed by a federal loan, or any loan made subsequent to this law, to provide at least 90 days notice to any bona fide tenant before eviction can occur. It even requires this 90 day grace period for leases that can be terminated at any time by either party and situations where no lease was even signed. At first blush, this may not seem all that unreasonable. After all, it is easy to claim how unfair the situation is to the renter. This is exactly how the justification for the law is framed. Herein lays the problem with many politicians and the legislation they support.

As we should all know by now, there is always more than one side to the story. Yes, the renter is probably the victim of someone else’s irresponsible behavior. That bad actor is not the purchaser of the property at auction. However, the high bidder at auction is the one who must pay the price the federal government set for this situation.

A simple illustration may assist understanding of this. Owner purchases property to rent. Owner finds a suitable tenant and enters into an agreement with Tenant. Tenant moves in and pays rent on time. Owner is in a dire financial situation and can no longer afford to keep the rental property, even with Tenant paying as agreed. Owner defaults on his promissory note and the lender decides to foreclose to recoup the money it loaned. Notice of the foreclosure is sent to Owner and the property address prior to the sale occurring. A sale then occurs and a high Bidder becomes the new title owner of the real estate. Tenant is not required to move out of the residence until Bidder files eviction proceedings.

In reviewing this incredibly simplistic example, you can now identify several problems that may, and often will, arise. First of all, Bidder does not have someone living on his property that he chose nor has he established any relationship with Tenant. Tenant is required by federal law to be allowed to live in that house for at least 90 days. Second, Tenant is not required to pay any money to Bidder because Tenant signed a lease with Owner (who no longer retains title to the property). Bidder owns property that he cannot live in or rent out for money so he is taking a loss with each passing day. Third, the government removed the rights of Bidder in favor of the rights of Tenant. The sole justification for this was to correct a perceived wrong by Owner. Bidder must now deal with the consequences of such prying. Fourth, Bidder’s only recourse against damage caused by Tenant is a lawsuit (remember the security deposit went to someone else); this may become lengthy, costly, and ultimately unproductive. Finally, Bidder must incur the costs of complying with the new law (mailings, reading statutes or paying an attorney to do it, etc.). All of these impacts have the consequence of chilling the real estate market for those interested in purchasing foreclosed homes, which is exactly the opposite of what our economy needs at this point in time.

All of these costs and consequences to the new owner can easily be avoided by simply utilizing the legal system already in place. The proper way to handle this situation is for Tenant to file suit against the original owner of the property; this is the other party to the lease agreement and the party to whom the grievance should be directed. Contracts have terms which must be met by both parties. If either party fails to perform as agreed, the other party may proceed with a breach of contract lawsuit. This is how contract disputes have been handled throughout our history. The proper venue for such a claim is State court. Real estate suits are properly, and typically exclusively, the realm of State courts. The issue is rarely, if ever, one to be decided on the federal level.

I have met a significant number of these renters and have a great deal of sympathy for them; however, I also respect the rule of law and despise the notion that our federal government is interfering with individual contracts. These issues, in dealing with real property, should be discussed and dealt with at the State and local level. The principles of Federalism require States to retain sovereignty over situations such as these and our Constitution placed constraints on the federal government to prevent this kind of meddling.

When our government no longer respects the rights of individuals to contract and participate in commerce, then our entire economic system is put in jeopardy. The government is creating instability by removing the certainty that written agreements have meaning and will be upheld. At some point, laws have to be honored and the government has to allow the system in place to sort out the facts. Otherwise, we inch closer to anarchy. Intruding upon private contracts sends the message that any mutual agreements may be trampled upon if the political winds change. A government that fails to respect the decisions of private actors in the economy will soon find that agreements will not be made as often or will end up not being adhered to by the parties at all. This creates a vicious cycle of even more chaos.