Is it ethical to walk away from a mortgage?

Is it ethical to walk away from an underwater mortgage? The Church of England and its partners in a massive New York City real estate deal gone sour just did. By doing so the church cut its loss to $78 million or 1 percent of it portfolio.

A law professor at the University of Arizona, Brent White, has been getting a lot of press for his provocative stance that homeowners need not feel obliged to continue to pay on an underwater mortgage even they have the means to do so. He says homeowners are suffering under a “norm asymmetry.” If banks and corporation make decisions solely on economic interests, why can’t should homeowners? Homeowners, he says, have been convinced by banks that it’s immoral. White says it’s in the contract — if you walk away, the bank get the house.

The economist Richard Thayer took up White’s argument yesterday in the New York Times

Some homeowners may keep paying because they think it’s immoral to default. This view has been reinforced by government officials like former Treasury Secretary Henry M. Paulson Jr., who while in office said that anyone who walked away from a mortgage would be “simply a speculator — and one who is not honoring his obligation.” (The irony of a former investment banker denouncing speculation seems to have been lost on him.)

But does this really come down to a question of morality?

On NPR’s Talk of the Nation last week White put the answer this way:

Millions of Americans who are underwater would, in fact, be financially better off if they did walk away, just like Morgan Stanley recently walked away from five properties in San Francisco, five buildings which were underwater. Morgan Stanley just gave the properties back to the bank. But most homeowners, or homeowners as a group, don’t walk away. They don’t strategically default.

And they don’t so because of anticipatory shame and guilt and what I believe is an exaggerated fear about the consequences of waking away from a mortgage. And I argue in my paper that these emotions of fear and shame and guilt are cultivated by the government, by the financial industry and, to some extent, the media. And they do this by cultivating a double standard, a standard in which Americans, average Americans are told to have a moral obligation to pay their mortgage and to meet their financial obligations, whereas corporations freely and frequently default when it’s in their financial best interest to do so.

And, in fact, they would be obligated to protect the interest of their shareholders and walk away from an underwater mortgage if it was a financially wise decision. And my argument is that this norm asymmetry, the difference in norms between average Americans and banks leads to distributional inequalities whereby average Americans are bearing a disproportionate burden from the housing collapse.

On Monday, acting in the interests of its shareholders is exactly what the owners of another property did:

Tishman Speyer, the American property group that owns the Peter Cooper Village-Stuyvesant Town development in Manhattan, confirmed yesterday that it was turning over the 11,000-home complex, which was built by Metropolitan Life in the 1940s for returning Second World War veterans, to its creditors.

But, wait, there’s more:

The Church of England has suffered a £40 million loss [65.5 million dollars] on a disastrous investment in a New York apartment complex that was acquired by a consortium in 2006 for $5.4 billion [$4.4 billion of which was borrowed] — the biggest single residential property deal in the United States.

A spokesman for the Church Commissioners said that it had written off the entire value of its investment and added that the commissioners were “looking carefully” at the lessons to be learnt. “The investment was made in June 2007, which, with hindsight, was at the top of the property market and immediately before the credit crunch,” the spokesman said. …

The loss amounts to nearly 1 per cent of the total £4.4 billion assets held by the Church Commissioners to sustain the nationwide ministry of the Church. It follows a 19.6 per cent fall in the value of the commissioners’ investments in 2008 and comes as the Church faces criticism for allowing the build up of a £352 million shortfall in its pension fund, which is invested entirely in equities.

The spokesman for the Church Commissioners said that the episode had taught it that borrowing at such levels could be “destructive”.

Rowan Williams, the Archbishop of Canterbury — and well-known critic of the market economy, excessive borrowing and speculators — is in New York this week. Monday night he received the Campion award for letters from the Jesuits. Today at 9:00 AM he is making the opening address at the Trinity Institute’s conference Building an Ethical Economy: Theology and the Marketplace. Get video and more by following the link.

By the way, the business model for making money on the Stuyvesant property deal?

convert rent-regulated apartments to market-rate rents

More. Some things are a breach of law:

Last fall the state’s highest court ruled that the owners had improperly deregulated and raised rents on about 4,400 of the apartments while getting special tax breaks from the city.

More for U.S. taxpayers:

Also in the mix are the government-controlled mortgage giants Fannie Mae and Freddie Mac, which together hold a bond that is secured by as much as $2 billion of debt on the property.

Addendum. ENS has an excellent report on the default and says the Church of England lost $78 million.

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  1. I don’t want to deny ethical problems faced by the Church of England, but it’s a bit more complicated than this post makes it seem — and none of us is innocent.

    The C of E made this investment in Tishman Speyer, right? That is, it was an indirect investment. While that does not get them off the hook, it makes things more complicated since it was management at the property firm which is walking away, and the C of E is along for the ride. Even if the investment was direct, I’m not clear that people or corporations are compelled ethically to leave their money in a money-losing business. There are many cases in which it would be ethically OK to walk away; White just names a few cases.

    Also, I think I recall the Episcopal Church raking in a good profit from Enron. And most of us who own mutual funds or even insurance benefit from ethical gray areas. The only way to stay clear would be to avoid all sorts of financial instruments and behavior.

    My point is that this is not so clear cut. This piece makes Rowan Williams seem like he’s one notch above an absentee slumlord, and that hardly seems to be a fair characterization.



  2. They invested in a company that was turning affordable (for NYC) housing into market rate apartments — that is enough IMO. Beyond the mortgage deal – the business was bad from the beginning.

  3. I agree with Ann – it was bad from the start. Investing in Tishman Speyer at that point in time was not done without some regard to how those kind of commercial real estate deals were done.

    Fran Rossi Szpylczyn

  4. tgflux

    “Underwater” is the now widely popular (in the U.S.) slang term for “to owe more money on a mortgage, than the (mortgaged) property is currently worth.” [Because property values have depreciated so much the past few years—since one took out the original mortgage.]


    JC Fisher

  5. Jim Guthrie

    There are differences between corporate mortgages and home mortgages. To apply popular terms like “underwater” makes this seem different than it is.

    Would you say that people who “walked away” from Enron or World Com or Adelphia or Penn Central or General Motors or Federated Department Stores or any other Corporate bankruptcies without ponying up are somehow unethical? What makes Tishman-Speyer, owners of stock in a coporation formed for purchasing Stuytown and Peter Cooper somehow different?

    I’ll bet some pre-bankrupt GM stockholders read this blog, and I’ll bet they’d take some offense at the notion that not ponying up to pay the GM creditors and mortgageholders is somehow unethical. What makes this different than GM, people?

    And while we’re shedding atear for those poor people in Peter Cooper Village and Stuytown who might have to pay “market rents” instead of $4500/month for a two bedroom apartment, keep in mind these developments were created by removing people who lived there in the first place — many poor, people of color, Hispanics. Orthodox Jews — all folk who qualified for removal to make way for what was to be a lily-white enclave.

    The original premise was indefensible — the only persons known to object at “Slum Clearance” (i.e. poor people removal”) at the time was Dorothy Day & Co.

    This is more complicated in all aspects than the article lets on, and neither the history nor the economics are so cut and dried.

    There are plenty of things we could kick ++Rowan around for, but this isn’t one of them.

    Jim Guthrie

    New York City

  6. John B. Chilton

    As the writer of the post, I want to thank the commenters including those defending the Church of England.

    Apart from whether you interpret this post as a criticism of the Church of England or the Archbishops, I’m not convinced that when a corporation or group of investors walks away from an underwater property it’s any different for an individual homeowner to do so. Have we been drinking for so long drinking the Kool Aid that’s says it’s wrong for homeowners to do so that we can’t see that it’s what corporations have no qualms about doing?

    If you think it’s wrong from homeowners to do so, why isn’t wrong for corporations to do so? Is it limited liability? Don’t homeowners have the same arrangement: I don’t default on payments, you get the house and no more?

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