A worrisome trend is emerging in the midst of this tough economy: consumers have begun skipping mortgage payments in favor of paying their credit card bills.
The trend: get out of household debt while letting the mortgage slide. Perhaps it is the fact that lenders have been slow to act on foreclosures; perhaps it is the consumer deciding to stay afloat where he can in an increasing tide of debt; perhaps it is yet another symptom of the anger and mistrust of the mortgage industry, and the confidence that a mortgage rescue will be in the offing for underwater homeowners.
In an unprecedented shift, for some consumers having a credit card in good standing appears to have taken priority over making mortgage payments. This is yet another clear illustration of the impact this recession has had on consumer preferences and behavior.
While overall consumer debt rose unexpectedly in January 2010, consumers continued to pay off their credit cards that month—a record 16th straight month of lower credit card debt — with such debt dropping about $1.7 billion to $864.4 billion, according to the Federal Reserve.
But a small slice of those consumers are paying down credit cards to the detriment of their mortgage loan. The number of consumers delinquent on their mortgages but current on their credit cards rose to 6.6% in the third quarter of 2009 from 4.3% in the first quarter of 2009, according to a TransUnion study of 27 million consumer records pulled randomly from its database. Meanwhile, the portion of those who fell behind on credit card payments but paid their mortgage dropped to 3.6% from 4.1%.
TransUnion calls it the new “payment hierarchy” and first began noticing the shift in the fourth quarter of 2007. Experts thought the pattern would reverse itself once the worst of the recession passed, but TransUnion’s latest study confirms that the new behavior is becoming more prevalent and stretches across all income groups.
The trend is more common among consumers with the lowest credit scores. The percentage of consumers with low scores who paid credit cards rather than home loans rose a full 10% in the last quarter of 2009, from 19% in the third quarter to 29% in the fourth quarter. And in that low credit score group, consumers falling behind on credit cards but keeping pace with mortgage payments declined to 14.5% in 2010 from 18.1% in 2009.
But mortgage payment problems are moving up the credit score ladder, according to FICO, the credit score company. A recent FICO Score Trends report found that mortgage default risk for consumers with high scores now exceeds their credit card default risk, reversing a long historic trend.
You can blame those trends on a deep economic slump that’s pulled the rug out from under long-held jobs, home values and retirement accounts. And, in the wake of a new credit card law as banks credit and how much they get, some consumers are getting more protective of their credit cards. Plus, with the unemployment rate hovering at double digits, people are worried about losing their job and perhaps needing their credit cards to get by. On top of that, home values have declined, and many homeowners now find themselves with a mortgage larger than the current value of the real estate. For some, holding on to the undervalued house suddenly doesn’t look like the smartest thing to do. Nor does continuing to make payments on a property where the equity is shrinking, or gone altogether.
Savvy consumers have learned that you can lose your credit card far faster than you get evicted from your home. It could take a year or longer to complete a foreclosure; a bank can pull a credit card in default in 90 days, or even less if payments are habitually late.
Here’s the good news: This shift in payment hierarchy is unlikely to turn into another “new normal.” It’s simply the effect of the cause of high unemployment and depreciating housing values. When those two factors abate, there will almost certainly be a return to the traditional payment-default hierarchy.