Foreclosure Avoidance

Most secondary lenders wisely limit their loan balance on any residence to an aggregate total that amounts to no more than 70%-75% of the appraised fair market value of the secured property. That 30% equity buffer is generally a sufficient cushion, in a normal market, to protect the lender in case of a default and eventual foreclosure.

However, our currently falling real estate market is anything but "normal". Property values have fallen so low that they have stripped away that protective equity cushion. Most foreclosures are now ending up in the lender's lap . . . after a costly and prolonged detour through a bankruptcy procedure. Both borrowers and lenders are being devastated by the ordeal.

However, sometimes there's an alternative solution that can be beneficial to both parties. That's the instance where the borrower deeds their unaffordable property to the lender via a deed-in-lieu of foreclosure. The qualifier is that the property can't have any additional liens (including general liens such as federal tax liens, abstracts of judgment, etc.) against it that are junior to the lender's original loan. Otherwise the lender might as well foreclose and wipe all the junior liens off the title rather than assuming such extra liabilities.

The benefit to the defaulting borrower is that their credit record isn't ruined for years by a foreclosure. Without a foreclosure on their record they can buy another house whenever they get back on their feet. The benefit to the lender is that they can effectively sidestep the costly delay and expense of a foreclosure and the almost inevitable bankruptcy filing by the borrower. In a deed-in-lieu situation the borrower peacefully and quickly hands over title and possession of the premises to the lender. The property will usually be in clean, decent condition because the deed-in-lieu is done so early on and the borrower is in a friendly frame of mind and thankful for the lender's cooperation – they're not the vengeful losers that a long, drawn out foreclosure can produce.

Secondary lenders would be smart in taking the initiative in this area and approach their defaulting borrower on the possibility of doing a deed-in-lieu transaction (once the lender knows that the borrower's financial predicament is intractable). If the loan balances are lower than the fair market value of the property the borrower will need to be convinced that their gross equity will not yield any net equity after deductions for repairs, taxes, sales costs, etc. A lender would have to use a seller's net worksheet to list all deductions and expenses to determine the owners' true net, if any. Then they'll really understand why there's little or none available and more apt to agree that the smartest thing for them to do is to deed the house over to the lender and move on with a clean slate. The lender also has to have them execute an Estoppel Affidavit that most title companies will require to safeguard themselves and the deed-in-lieu grantee when issuing a title policy in the subsequent resale of the property.

Now, at this point all the lender has to do is put a new buyer in the property. In a "down" real estate market the lender would be smart to find a strong buyer with a solid job (fireman, cop, nurse, etc.) and let them buy the property for just the amount of their unpaid loan and the senior loan balances. For such a good price the lender could sell the property in its "as is" condition and even require that the buyer pay the costs of escrow, title insurance, termite work, etc. If the buyer waives the need for an escrow, etc. they'll only need enough money to bring the loans current, pay the delinquent property taxes, and buy fire insurance for the property.