For those behind or who are about to fall behind in their mortgages, they often hear the regular options, mainly short-selling, staying and paying, and defaulting. The easiest option of these three is usually short-selling their homes and dealing with the deficiency, if there is one, later.
There’s another, similar option that many homeowners may not know about called “deed in lieu of foreclosure.” In this option, the homeowner offers the lender the deed to the property, and in exchange the creditor cancels the mortgage agreement. If the bank resells the property, it may seek a deficiency from the former owner if it sold the property for less than the remaining value of the mortgage.
There are five requirements for a successful deed in lieu agreement in most circumstances:
(1) The homeowner must have listed the residence for sale for a certain time period (usually 90 days). The point is to make ensure that the house can’t be sold under normal market conditions.
(2) There can be no liens or encumbrances on the property.
(3) The bank must not already be foreclosing on the property. One cannot have a deed in lieu of foreclosure if it’s already in foreclosure.
(4) Both parties must enter the deed in lieu agreement voluntarily and in good faith. This usually means the homeowner makes the first offer.
(5) The agreement must equal the fair market value of the property. This is to prevent fraud and other shenanigans.
Both parties gain from deed in lieu agreements. The borrower no longer pays on a defaulted mortgage and does not suffer the adverse affects of foreclosure, especially the hit to his or her credit score. The borrower also usually receives better terms than if it initiates foreclosure. Banks benefit by coming into possession of the property more quickly and efficiently than by foreclosure, and it is less likely to endure acts of vandalism and revenge by the former homeowner, such as selling the copper pipes for scrap, etc.
The biggest question for homeowners is what terms the bank asks for in a deed in lieu agreement, and looming largest among them is what happens to a deficiency after resale if there is any (which there probably will be). Banks prefer more money to less, so it will likely pursue borrowers for the deficiency after it resells the home.
The alternative isn’t necessarily better: if the bank decides to forgive the deficiency, and it’s greater than $600, then it must file a 1099C form with the IRS telling it that it forgave the borrower’s loan, which counts as income for the borrower’s tax year. Fortunately, the Mortgage Forgiveness Debt Relief Act of 2007 eases the income tax burden from forgiven deficiencies.
Offering a bank a deed in lieu of foreclosure isn’t necessarily the best option for all New Yorkers, so consulting with a bankruptcy attorney before deciding how to resolve a poor mortgage situation is important.
For more questions about deeds in lieu of foreclosure, short sales, bankruptcy, the automatic stay, effective strategies for dealing with foreclosure, and protecting your assets in bankruptcy please feel free to contact experienced Brooklyn bankruptcy attorney Bruce Weiner for a free initial consultation.