Renting in the Shadow Market

American Dream, after Grant Wood
Creative Commons License photo credit: Mike Licht,

In real estate, the term “shadow market” refers to foreclosure-eligible houses. Although owners have not made payments, the lenders have not begun the foreclosure process yet. Some owners would sell their homes if they thought they had a chance of selling them. Others rent the houses. Both of these situations are fraught with peril. In a rental situation, a shadow market makes it uncertain that the renters will be able continue living in the home from one month to the next. If a lender forecloses, it could mean the renter will lose the security deposit and any advanced rent payments.

This uncertainty is one of the reasons that some renters, put in this unenviable position, decide to stop paying their rent altogether. Some renters may not know whether to pay a property manager, the landlord, or the lender. As there is a contract in place between the renter and the property owner, experts say renters must pay rent to the property owners, according to the contract. Some critics attribute renters’ reticence to a desire to exploit a loophole; however, it seems more likely that the renters worry more about protecting themselves rather than cheating the system.

When a homeowner files bankruptcy and includes a rented foreclosure in it, bankruptcy law almost gives the homeowner a free pass, because the bankruptcy will discharge the debt, such as the security deposit and advanced rent payments. Once the lender forecloses on the property, it can evict the renter.

Fortunately, new legislation by the Obama administration combined with the diligent work of bankruptcy lawyers and judges have forced many landlords to treat their renters fairly. These efforts have more or less secured renters the right to 90 days to move out or to live in the house in question until the end of the lease. Yet, even with these protections, renters may still worry about the shadow market.