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Posted by: Walter Metzen
A common misconception among consumers is that after foreclosure they will not owe their mortgage lender.
Many homeowners who go through foreclosure are surprised to learn that they still owe money on their house, even though they no longer own it!
Most mortgage lenders require borrowers to personally guarantee the amount of the note, leaving the lender with two avenues of collection in the foreclosure scenario. Lenders can take back the real estate, and in many vases, sue the borrower personally if the house doesn’t sell for the full value of the money that was lent.
- What is a deficiency judgment?
- Homeowners’ responsibility after foreclosure
- Non-recourse mortgage states
- Judicial and non-judicial foreclosures
- Key takeaways
What is a deficiency judgment?
When a borrower loses their home to foreclosure and still owes their lender money after the sale, the remaining debt is usually referred to as a deficiency. Lenders can sue to recover this amount.
For example, if you owe $500,000 on your mortgage and can no longer afford to make payments on the note, your lender will institute foreclosure proceedings against you and will eventually sell your home at a public sale. If the home sells for $400,000 and your state allows lenders to collect deficiency judgments, you will owe your lender $100,000 once they obtain a judgment for the deficiency.
In many cases, this deficiency judgment is a tough pill to swallow for the borrower who just lost their home and yet still owes their lender after foreclosure.
Homeowners’ responsibility after foreclosure
Borrowers who are left facing a large deficiency judgment after foreclosure often turn to bankruptcy in order to protect their assets. In order to determine whether you will owe money to your lender after a foreclosure sale of your home, it is important to get a handle on two important items of information:
1. How much is your home worth?
Regardless of your state’s deficiency laws, if your home will sell at a foreclosure sale for more than what you owe, you will not be obligated to pay anything to your lender after foreclosure. Your lender is obligated to apply the sale price of your home to the mortgage debt. Only when a home is “underwater” — meaning the borrower owes more on the mortgage than the home is worth — will he or she potentially face a deficiency judgment after a foreclosure.
2. Does your state have an Anti-Deficiency Statute?
Not all states allow lenders to collect on the note after a home has been foreclosed on. These states are referred to as “non-recourse” states because they only allow the lender to take back the collateral for the loan (your home). They do not allow the lender the additional remedy of going after the borrower’s personal assets if the sale of the home does not satisfy the mortgage.
Non-recourse mortgage states
In a non-recourse mortgage state, borrowers are not held personally liable for their mortgage. If the foreclosure sale does not generate enough money to satisfy the loan, the lender must accept the loss.
Some states that have anti-deficiency legislation qualify it by only making it applicable to seller-financed or “purchase-money” mortgages. North Carolina is a good example. North Carolina’s anti-deficiency statute applies when the seller of real estate provides the financing for the purchase. In such a situation, the legislature has prohibited the seller/lender from seeking a deficiency judgment after foreclosure. The purchase-money lender has recourse only against the collateral for the loan and not against the purchaser/borrower in her individual capacity. Banks who have made mortgages in North Carolina are allowed to seek deficiency judgments against borrowers.
The lesson to be learned is that if you owe more on your mortgage than your house is worth and the property is in a state that allows lenders to seek deficiency judgments, you may still owe money even after foreclosure.
Judicial and non-judicial foreclosures
A lender that wants to foreclose on your home has two foreclosure options: judicial and non-judicial. A judicial foreclosure is processed through the courts; some states require lenders to use this process. A non-judicial foreclosure is handled outside the court system.
You are not liable for the deficiency in a non-judicial foreclosure, but you may be liable for the deficiency in a judicial foreclosure.
You are not liable for the deficiency if the home is a single one-family or single two-family home on a plot of less than 2 ½ acres. You must have lived in the home for at least 6 months.
You are not liable for the deficiency for purchase-money loans in non-judicial foreclosure. You are not liable for the deficiency in judicial foreclosure for property with four units or less, seller-financed loans, or refinances of purchase-money mortgages executed after January 1, 2013.
Under a “strict foreclosure,” you may be sued separately for the deficiency. If your home is sold under a “decree of sale,” you will liable for only half of the deficiency.
The lender must sue you for the deficiency, and whether you are liable is left to the discretion of the court. You will be given credit for the greater of the foreclosure price or the fair-market value of the home.
You are not liable for the deficiency in a non-judicial foreclosure if the property is residential and you live in it. You are liable for the deficiency in a judicial foreclosure.
Your deficiency is limited to the difference between the fair-market value of your home and the foreclosure price.
For a non-judicial foreclosure, you are not liable for the deficiency. In a judicial foreclosure, you are liable but the jury will determine the fair-market value of your home and you will have to pay the difference between that and the foreclosure price.
You are not liable for the deficiency in a non-judicial foreclosure.
You are not liable for the deficiency if your lender is a financial institution, the loan originated after October 1, 2009, the property is a single-family owner-occupied home, the mortgage debt was used to purchase the property, and you haven’t refinanced the mortgage.
You are not liable for the deficiency in a non-judicial foreclosure on the primary residence of a low-income household.
If the seller is finances your mortgage, you are not liable for the deficiency.
You are not liable for the deficiency if the property has less than four units and is on a plot of less than 40 acres.
You are not liable for the deficiency if you notify the lender in writing at least 10 days before the foreclosure sale that you live in the home and opt out of deficiency judgment.
You are not liable for the deficiency in non-judicial foreclosure or in judicial foreclosure on property with four or less units as long as you or a direct family member lives in one of the units.
You will receive credit for the fair-market value of the home. You are liable for the difference between your mortgage loan amount and the fair-market value.
You are not liable for the deficiency in a non-judicial foreclosure. You are liable for the deficiency for a judicial foreclosure.
Whether you owe a deficiency after foreclosure often hinges on your state’s mortgage laws.
The first thing to determine if you are facing the potential of a deficiency judgment is whether your state has an anti-deficiency statute, and whether you are facing a judicial or a non-judicial foreclosure.
Walter Metzen is a Board Certified Specialist in Consumer Bankruptcy with over 28 years of experience. He’s represented more than 20,000 bankruptcy clients in and around Detroit where his firm is located. View his profile here.