When someone takes out a single-family mortgage to purchase a home, refinances an existing loan, or borrows against home equity, he or she is entering into a contract. That contract stipulates that the borrower will make payments under very precise terms. If the borrower does not pay as scheduled, he or she is in violation of the mortgage contract.
Typically, a lender begins efforts to collect missed payments shortly after the due date in order to bring the homeowner current on the loan. After 90 days, or three missed payments, lenders generally step up efforts to recoup past-due payments, and they lay the groundwork to foreclose on the home. Depending on the state and the borrower’s circumstances, the home may then be sold at a foreclosure auction.
The foreclosure process involves several steps that differ from state to state. The following attempts to provide general guidance on how the foreclosure process and is based on information presented in the RealtyTrac Foreclosure Center.
A foreclosure is a legal action.There are two types of foreclosures: judicial and non-judicial,
The foreclosure process can end one of four ways:
The lender can take ownership either through an agreement with the borrower during pre-foreclosure, often via a short sale or deed-in-lieu of foreclosure. Properties repossessed by the lender and put in their portfolios are also known as bank-owned or real-estate owned (REO) properties. Lenders can also write-off a property or buy it back at the foreclosure auction
A short sale is an agreement between the lender and the borrower in which the lender agrees to take less than the total amount due on the mortgage when the homeowner sells the home. Short sales occur when a lender would rather recoup some of their investment while avoiding the expensive foreclosure process.
Borrowers negotiate short sales to avoid foreclosure and the negative effect is has on credit ratings.
Lenders might agree to a short sale because they do not want to have too much real estate on their books, and the foreclosure process is costly. So in some instances, agreeing to a short sale is in the lender’s best interest.
However, the homeowner must convince the lender that a short sale will benefit them more financially than foreclosing on the home.
A lender wants to keep a property off its books, but it also wants the money it’s owed. Sometimes a lender will agree to a short sale only if the homeowner signs a promissory note to make up all or part of the difference between the proceeds from the short sale and the amount owed on the original debt.
Also, any amount of debt that the lender forgives is considered taxable income by the Internal Revenue Service. The lender must submit a form to the IRS stating the amount of debt forgiven, so a borrower would be wise to find out in advance what effect a short sale would have on the amount of taxes they pay.
If a borrower decides to ask a lender for a short sale, he or she should work with a nonprofit organization or a real-estate agent who is well versed in short sales. Not all real estate brokers or sales agents know how to conduct a short sale or how to work with lenders in negotiating one.
After a property is scheduled for auction, the owner has a window of time to stop the auction by paying the amount owed to the foreclosing lender. Auctions are usually held at a public place in the same county as the property. Potential buyers can find out about foreclosure sales online, through the Multiple Listing Service, a database used by real estate agents. The classified or business sections of national or local newspapers often publish information about upcoming sales.
The opening bid at an auction is based on the total amount owed to the foreclosing lender and may include fees incurred because of the foreclosure proceedings. If no one bids above that amount, the foreclosing lender will take possession of the property.
The bidding procedure varies from state to state. In some states, bidders are required to bring the full amount they want to bid in the form of cash or cashier’s check. In other states, bidders are required to bring a certain percentage (10 percent is common) of the bid amount and pay the remainder of the amount within a certain period of time.
Buyer beware is good to keep in mind when buying homes at auction. Most well-maintained homes sell for close to their appraised value. The houses that sell for significantly lower prices are often in disrepair or in unstable communities.
In addition, foreclosed homes are sold "as is." They don't come with warranties, and sellers aren't required to disclose any problems. Buyers, particularly those who don't pay for a professional home inspector before closing on the deal, may find themselves mired in unanticipated repair bills. Buyers can also be responsible for any outstanding liens on a property.
For winning bidders, some states transfer ownership immediately or within a few days. In other states, it may take a month or more for the sale to be confirmed by a court or accepted by the lender. Some states have redemption periods for the owner, in which case the owner can buy the property back from the bidder if they pay the full amount paid at the auction, plus applicable fees.
If the trustee did not evict the current owners, the winning bidder may be responsible for doing so. If eviction is necessary, bidders typically contact a local real estate attorney or the county sheriff to begin the proper procedures.
When a loan goes into default, there are two routes a failed loan can take: it can become real-estate owned (REO) – which usually means the property has been repossessed by a lender – or a lender can write it off as a loss. (At most institutions, foreclosure proceedings and workout efforts proceed simultaneously due to the length of the foreclosure process and the imperative to foreclose as quickly as possible when the loan cannot be saved).
Lenders take property into their REO portfolios if doing so will minimize investor losses. This usually means they are higher-quality homes that justify the cost of foreclosure. If the lender takes ownership of the property, either through an agreement with the owner during pre-foreclosure or at the public auction, the lender will usually want to re-sell the property to recover the unpaid loan amount. The lender will then typically clear the title and perform needed maintenance and repair; however, the potential bargain for these REO homes is typically less than a pre-foreclosure or auction property. Bank foreclosures can become government foreclosures if the loan is backed by a government agency such as the Department of Housing and Urban Development (HUD) or the Department of Veterans Affairs (VA). In government foreclosures the government agency is responsible for selling the property.
With lower-value homes or homes with liability issues, code violations, pending court cases or other problems, the lender may simply write off the loan. In this way lenders can avoid paying property taxes, insurance, and maintenance costs. In this case, title legally remains with the borrower (although the borrower is often unaware of this and has vacated the home), making it difficult for local authorities or community organizations to deal effectively with the vacant property.