Six months after the historic agreement between 49 attorneys general and leading lenders, foreclosure and pre-foreclosure inventories are as high as they were in January, even as investors and first-time buyers fight over scarce discounted properties in the marketplace.

More than three and a half million homes are either 90 days delinquent on their mortgages or in the June foreclosure inventory, but not yet on the market to be sold.  That’s a five percent decline since January, according to the latest data from Lender Processing Services, but still the equivalent of nearly four years’ worth of national foreclosure sales.

One reason for the stubbornly high backlog is increased foreclosure starts. Foreclosure starts — notices of default or scheduled auctions — increased in 31 states in the second quarter in June from a year earlier, according to RealtyTrac., California had an 18 percent increase in starts, which helped boost the state’s foreclosure rate for the month to the highest in the nation for the first time since RealtyTrac began issuing its report in January 2005.  At the same time, foreclosures sales are down in Western states, especially California, where June foreclosure sales were down 13.4 percent over last month, and down 48.8 percent vs. June 2011, according to ForeclosureRadar.

Foreclosure processing continues to be slow.  The foreclosure process increased to an average of 378 days in the second quarter, the highest in records dating back to 2007, according to RealtyTrac.  In the first and second quarter of 2012, properties averaged 16 months of delinquency before getting foreclosed on, according to a survey of delinquent owners by the YouWalkAway.com web site. This reflects an increase in the number of months a borrower is delinquent before foreclosure starts are filed and foreclosures are completed and implies lenders and servicers are processing older foreclosures and homes that have been in default for over a year. Underwater homeowners in the survey who received a foreclosure start notice were 11 months behind on their payment. Last year, it took an average of 9 months of nonpayment before the foreclosure process started.

Never has there been a better time to release the backlogged foreclosures onto the market.  Interest in buying foreclosures has almost tripled among potential home buyers in the past two and half years, according to a recent survey by Move, Inc., and real estate agents report foot traffic is up among first-time buyers looking for bargains before prices rise and they miss the boat.  Investors, who buy 20 percent of all existing homes these days, are hungry for deals as many see the end of the Foreclosure Era coming.

As a result slow processing and increased demand, REO inventories are so tight that bidding wars are breaking out and not even an upsurge in short sales-caused in part by lenders and owners frustrated by dealing with the stymied foreclosure process-can satisfy the demand.  Once a rarity, pre-foreclosure sales, almost all of which are short sales are expected to as many as 400,000 by the end of 2012, about the same level as foreclosure sales, according to RealtyTrac.

The signing of the landmark Attorneys General agreement last March was supposed to relieve the backlog and speed the processing of foreclosures, yet to date it has failed to halt the confusion, delays, and legal and regulatory roadblocks that are keeping foreclosures bottled up.

The standards for foreclosure processing mandated by the agreement are still a work in progress.  In April, Joseph Smith, appointed by the US District Court to monitor the agreement, announced it will take at least six months for his office to have in place a process to oversee compliance to the new standards.  These are critical for lenders, because they will provide a degree of legal protection against lawsuits challenging their processing of foreclosures.  Those lenders who have proceeded to process and sell foreclosures from their inventories before standards are in place are taking a risk.

While government agencies work on “global” standards, several federal agencies that regulate lenders have proceeded with their own regulations governing lenders.  The Office of the Comptroller of the Currency issued standards last month for the depository institutions it regulates.  The Consumer Finance Protection Board is working on mortgage service standards and other agencies may do the same.

At the state level, legislation and litigation are changing the playing field for lenders, causing delays in foreclosure processing.  In Florida, 340,000 foreclosures are in limbo pending a ruling from the state supreme court due early next year.  The Oregon Supreme Court announced recently it will rule on the mortgage industry’s controversial loan tracking system and its role in foreclosures.  In Nevada, a new state law took effect last October 1 that, among other things, makes it a felony and threatens to hold individuals criminally liable for making false representations concerning real estate title. Individuals are also subject to civil penalties of $5,000 for each violation.  Nevada foreclosure filings have plunged as a result. Last week California passed legislation to go into effect January 1 that restricts dual-track foreclosures, where a lender forecloses on a borrower despite being in discussions over a loan modification to save the home. It also guarantees homeowners a single point of contact at their lender with knowledge of their loan and direct access to decision makers, and imposes civil penalties on fraudulently signed mortgage documents. In addition, homeowners may require loan servicers to document their right to foreclose.

The drought of lower-priced homes, especially foreclosures, is radically changing markets like Phoenix, once the hottest of all investor markets.  “Investors are being priced out of the market,” Chris Broglia of Gilbert-based Solutions Real Estate told the Arizona Republic last week. “Buyers are being enticed by lower interest rates, and more regular homeowners see they can finally sell again.”

“The distressed market is drying up; normal sales are on the rise … both great signs for the Phoenix-area market,” said Matt Widdows, founder and chairman of Phoenix-based HomeSmart.

But not everyone is encouraged. “Once this shadow inventory hits the market, housing prices may lower and create a new wave of strategic defaults and foreclosures,” Jon Maddux, CEO of YouWalkAway.com, told Bloomberg.

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