Real Estate: But Didn’t The Borrower Sign The Mortgage?

It hardly seems unfair. Aren’t borrowers responsible for the loans they take out? It’s not like someone is held at gunpoint and forced to accept the worst loan lenders can concoct.

That’s the thinking of a considerable segment of the population, a segment represented in some of the email I receive as well as in the ethics classes I teach for real estate brokers.

Borrowers, according to such logic, should not be bailed out. They signed up for a loan and if it had woeful terms it was the borrower’s job to know better. Let the market take its course; if people fail they’ll know better the next time. Besides, individual responsibility counts.

It’s not up the government to rescue people who made bad financial decisions goes such thinking, especially real estate investors. As President Bush said in August 2007, “it’s not the government’s job to bail out speculators, or those who made the decision to buy a home they knew they could never afford.”

There’s much regarding the borrower-is-responsible view which is attractive, including simplicity. That said, borrower responsibility should be seen as a nuanced concept, one which requires a look at both principle and circumstances. Here’s why:

Mortgage Theory Versus Reality

Personal responsibility is a great theory, but when used on an absolutist basis it denies the reality of modern life, the fact that we are each dependent on one another because no one knows everything.

For instance, when you get dental work do you check to see that the dentist properly sterilized his instruments? Why not? Dirty dental tools can lead to massive infections that can disfigure your face, cause you to go blind and lead to brain injuries and death.

The truth is you don’t check the dentist’s instruments for the same reason you don’t ask a chef when he last washed his hands or the brake repair guy if he tightened all the bolts. Instead, you expect that even the most mundane activities have standards, protections and social norms which make your dealings safe and predictable.

Unfortunately, when it comes to mortgage lending virtually no one understands the paperwork they sign at closing and thus the full content of the loans they take out.

Don’t believe it? Let’s get some testimony from people who should be supremely adept at mortgage matters, real estate attorneys with nationally-recognized expertise and credentials.

Unread Mortgage Paperwork

First up we have Mel Martinez, previously a secretary of the Department of Housing and Urban Development and a former United States senator from Florida. As Mr. Martinez told The Washington Post, “you know if I’m a lawyer and the secretary of HUD and I’m not reading this junk, you know there’s work’ to be done fixing the system.” (See: HUD Chief Seeks Simpler Sale Closings, June 2, 2001)

Next we have former HUD Secretary Alphonso Jackson. According to The Washington Times, “Jackson says he knows just how borrowers must feel when they’re caught off-guard by sudden surges in their monthly payments because they didn’t read the fine print in their contracts.

“‘I’m an attorney and I’ve had eight houses and I didn’t read all that mess. If I didn’t read it — and I doubt anyone around this table read it — then we can’t hold people responsible for not reading every line when they were closing their loan.'” (See: Jackson: Mortgage fine print not read, March 20, 2008)

Bargaining Over Mortgage Terms

A basic concept in the contracting process is that both parties must be able “to negotiate as equals to have a valid contract,” according to Successful real Estate Negotiation. “In situations where one party feels compelled to act because he or she believes they have no choice, or do not have a valid opportunity to understand the agreement, or finds the complex and technical language used in the contract is over his or her head, then such contracts may, in certain instances, be declared invalid by the courts because these deals lack a true ‘bargaining over terms.’ A contract in which the language cannot be understood equally by both parties is a so-called ‘contract of adhesion.'”

Missing Protection

The mortgage system has broken down because in many places the standards and protections that any normal, rational person would expect are missing. The result is that blanket expectations of personal responsibility are not possible on a playing field which is neither fair nor level.

Regulators, for example, should be expected to protect the public interest yet did nothing to stop the widespread use of stated-income loans nor did they object to the unfettered use of option ARMs or interest-only mortgages, the toxic loans behind many of today’s foreclosures.

Not only did federal regulators fail to protect the public, they made sure that state regulators could do little if anything to defend borrower interests. As the federal Office of Thrift Supervision has said, state laws which “prohibit the financing of single premium credit life insurance or that restrict points, fees, and prepayment penalties or other forms of compensation are preempted” by federal regulations.

A Contract is a Contract — But Not Always

A mortgage is nothing more than a contract between a borrower and a lender. A lender provides cash in exchange for the borrower’s promise to repay the debt under certain terms and conditions.

But while the concept of a “contract” can be generally explained in just a few words, the actual mechanics of contract law fill large libraries. It’s not enough to just sign on the dotted line, a host of other factors potentially come into play.

“The case for personal responsibility is surely attractive,” says Jim Saccacio, Chairman and CEO at RealtyTrac.com, the nation’s largest source of foreclosure data and listings. “But our legal system plainly recognizes that personal responsibility does not exist in a vacuum. To look only at personal responsibility when considering mortgage issues is to miss the larger picture.”

As an example, in California the Fourth Appellate District Court of Appeal heard a dispute between a builder and a home buyer. The issue in Baker v. Osborne Development: Was the buyer obligated to use binding arbitration in the event of a dispute with the builder?

The written agreement between the parties was clear: Buyer Baker had agreed to use an arbitration service named by Builder Osborne. But the appeals court ruled in January that the requirement could not be enforced. Why? Because the terms of the agreement were unconscionable.

It’s not enough to bury “overly harsh” and “one-sided” clauses in a complex legal document and then expect them to be enforced. Fairness and balance also count, said the court, which ruled for Baker the borrower.

There are other elements required to create a valid agreement besides a signature. First, said the court, there is the matter of oppression. “Oppression arises when the parties have unequal bargaining power, leading to no real negotiation and lack of meaningful choice.”

Element of Surprise

Also, said the judges, the agreement failed because it contained an element of “surprise.”

“Surprise may arise when challenged terms are hidden in a prolix printed form drafted by a party in a superior bargaining position.” (The term “prolix” means lengthy and complex.)

Hmm — a prolix printed form. That sure sounds like a toxic mortgage agreement

The Role of Lenders

But what about lenders? Can’t borrowers rely on them for advice? Don’t lenders universally try to get the best rates and terms for borrowers?

“Some have proposed,” Harry Dinham, a former president of the National Association of Mortgage Brokers told Congress, “that a fiduciary duty standard should be implemented and mortgage originators and their loan officers should act in the ‘best interests’ of the consumer. NAMB remains opposed to any proposed law, regulation or other measure that attempts to impose a fiduciary duty, in any fashion, upon a mortgage broker or any other originator.”

Another leader of the lender community, John Robbins, former chairman of the Mortgage Bankers Association, has said that “a lender underwrites, approves and funds the loan. The lender does not hold himself out as an agent of the borrower. While a lender must serve its customers fairly, and the industry has done much to assure high professional standards, a lender owes a duty to its shareholders and investors. A borrower knows a lender offers its own products and does not offer to shop for borrowers.”

While some lenders — such as those who belong to the UpFront Mortgage Brokers Association — feel they have a fiduciary obligation toward borrowers, much of the lending industry does not. How can borrowers tell the difference? It’s virtually impossible because no lender advertises that “we’re not here to get you the best possible rates.”

While there’s an important standard of personal responsibility which ought to be recognized, it’s obviously a standard which is not absolute. This should not be seen as a surprise: As Supreme Court Justice Antonin Scalia — a principled conservative by any measure — has explained, “you can make an exception without the sky falling.”

(Update: If passed, the Wall Street reform bill will finally assume that lenders have a baseline obligation to treat borrowers fairly. In fact, the bill actually allows borrowers to collect big damages for lender abuses. Stay tuned to see if it passes and if the consumer protections remain in place.)


Published originally by RealtyTrac.com in 2008 and posted with permission.

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Posted in: Mortgages

8 Comments on "Real Estate: But Didn’t The Borrower Sign The Mortgage?"

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  1. Peter G. Miller says:

    JP Morgan is now being sued by a mortgage investor. Reuters reports that “Dexia alleged it was misled about the quality of 65 residential mortgage-backed securities certificates it bought from 51 offerings between 2005 and 2007 by JPMorgan, Bear Stearns Cos and Washington Mutual Inc.”


    If huge investors can allege they were misled in the purchase of securities worth billions of dollars, then why not mortgage borrowers?

  2. another citizen says:

    Yup, I don’t agree with the article either. Borrowers bought an investment as well as a shelter…I don’t get reimbursed if I lose money in the stock markets, right? Would the homeowner have shared the gains with us if the house went up? If the homeowner agreed to pay X amount, and that contract did not change, how come they can’t pay X now?

    In fact most of these contracts did not change. The homeowner signed up for an exploding ARM loan because they were going to only hold the home a few years, and then make a lot of money selling to somebody else. Bad prediction.

    Ask the homeowner: how about we help you stay in your home, but 100% of any future gains in value go to the government, your benefactor. Answer: nuh-uh. This is how you can tell it’s an investment, not just a place to live. I’m willing to help to pay for their shelter if they are among the less fortunate, but why pay for their investment?

    What really gets me is that foreclosure (non-recourse) and bankruptcy are benefits – not penalties. The alternative is debtor’s prison and defaults that follow you around for the rest of your life. If you borrow a lot then you get these benefits; but if you save a lot you have no such benefit.

    I agree there are tragedies when people lose jobs, but I don’t own a home either. We should focus our resources on getting these people a place to rent like the rest of us.

    Why aren’t any of the victims pushing for a law banning the loaning of so much money to people like themselves? Maybe they should mandate that banks check IRS records before loaning, huh? The victims are fairly quiet about this one, because they want the opportunity to borrow money on the taxpayer’s back again.

    If we agree that lenders are responsible, let the borrowers sue them and settle the matter in a court of law. If the banks are responsible, let the borrowers take legal action against the banks. This way those that gained from the illegal action will pay those hurt by the action. If this doesn’t make sense to you, perhaps you can pay the owner when the local liquor store gets robbed. After all, it wasn’t his fault either.


  3. Responsible citizen says:


    For me to be “wrong on two counts”, I would have had to actually make those two points you are falsely attributing to me, which I did not.

    First, I did not say the banks never did anything “shady”. In fact, I specifically said there WAS a lot of predatory lending going on.

    Second, I said absolutely nothing even resembling the statement that people shouldn’t be allowed to walk away. In fact, I am all for people walking away. What I am against is people getting to KEEP a free or discounted house when it is being paid for by the taxpayers. That is patently unfair. Please tell me why I should have to cover the debts of people who can’t manage their own finances. I’m sorry they are in trouble, but my sympathy ends when I am expected to pay for it out of my own pocket.

    Having said that, your contention that the banks are the ones who lied about income is preposterous. The borrowers signed their names to the documents, which indicated what their income was. They knew perfectly well that they were lying about their own income. They are just as culpable as the bank in that regard. To suggest that they somehow did not know that the bank lied about their income is absurd.

    I have no doubt that SOME cases of out-and-out fraud occurred, i.e. outright falsification of documents without the borrowers knowledge or presence. And these cases should be prosecuted to the full extent of the law. But the VAST MAJORITY of these borrowers signed the papers, knew they were lying about their income, and knew they were getting themselves into more debt than they should have felt comfortable doing.

  4. Cary says:

    2nd the notion- dumb article.

    The author begins by writing that due diligence from the borrower should be a necessary step carried out by all prospective homebuyers in the homebuying decision and endless bailouts are a moral hazard-True.

    Then the author wants to readers then to sympathize for the “reckless borrower” because most people simply do not understand the legal documents attached to the homebuying process.

    So here’s the equation in a nutshell:

    “Reckless Bwr” WILLINGLY decides to purchase a home (but for example secretly knows he is lying about his income- hush, hush).

    Market reality causing a depreciation in the value of subj property.

    Author’s Intended Response: We the public should now look beyond the Bwr’s mistake because well those pesty legal documents can be a bit confusing and well let’s just all make nice again. ;)

  5. Mike Litoris says:

    Most borrowers acted fraudulently by willingly assuming debt levels that they KNEW they could never afford if not for the continuously rising prices of America’s RE Ponzi scheme.

    Most lenders acted fraudulently by granting loans to the aforementioned DEADBEATS, knowing full well that these worthless loans would be sliced & diced, stamped with fictitious AAA ratings and sold out to unwary investors worldwide.

    Fraud in and fraud out: it’s the new definition of America these days, with the smaller fraudsters pointing the finger of blame at the bigger fraudsters whilst the latter point right back at the former.

    Here’s the word that describes America’s situation: CLUSTERF@CK!: A chaotic mess in which multiple complicated problems mutually interfere with each other’s solution.

    Congratulations to all: we are now Lithuania.

  6. JH says:

    I agree that if there is a non-recourse contract, then should not feel obligated to repay the loan. This is a risk the bank took.

    But people still need to be responsible from the beginning. A mortgage is the single most costly expense for many people. Why wouldn’t you get a lawyer to review the contract first? This is the most expensive thing you’ll ever buy. A few hundred for the lawyer fees is a drop in the bucket.

  7. RCharles says:

    Dear Responsible citizen,

    You are wrong on two counts. First, the banks often used shady mortgage brokers who lied to buyers, and/or who put down fictitious earnings to enable the mortgage. Many people were scammed by fraudulent banks.

    Second, even if the bank was above board, the mortgage and loan is a contract with specific terms and conditions. In a non-recourse state, one of the conditions is that if the owner does not pay the bank gets the house back. Period. These rules were written by the state governments so banks would think long and hard about to whom and how much they would lend. Then the banks learned how to sell the mortgages, dumping that SAME CONTRACT RISK on whoever bought the mortgage. Any non-recourse owner who is seriously under water absolutely has the right to walk and absolutely should do that rather than pay thousands every month and financially ruin his/her family. Your argument that “they should have read the contract” applies to the BANK and not the owner.


  8. Responsible citizen says:

    Stupid, stupid article. You seriously want us to believe this is analogous to a dentist using dirty instruments? Really? Did your dentist hand you a paper to sign that plainly said he was using dirty tools? Did you sign it? Did you not only have to sign it, but specifically initial the part that said he was using dirty tools? No, that didn’t happen.

    This is the same old story where we’re supposed to believe that millions of people signed their lives away and didn’t even know what “ARM” stands for. If you don’t know what “ARM” stands for, maybe you ought to ask.

    Having said that, let’s go ahead and grant that there was a lot of predatory lending going on. O.K., sure, I’ll buy that. Now, it would be nice if everyone who got taken advantage of gets to keep his house for free. Here’s the problem: Who exactly is going to pay for that? The plan right now seems to be that responsible taxpayers who didn’t buy more home than they can afford and didn’t default on their loans, are expected to foot the bill for everyone else. In what universe is that fair in any way? I’m sorry that people got themselves into financial trouble, but if the “solution” is for me to bail them out, I am not in favor of that.

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