This legal transaction starts after the homeowner has fallen behind on his loan payments and is in foreclosure. Even if the foreclosure has not started yet, the lender can be approached and asked if they will accept a "deed in lieu of" continuing into the foreclosure process.
Sometimes the lenders regulations require the homeowner to be behind on his payments before they will consider accepting the deed, usually 90 days in judicial foreclosure states and 30 days in non-judicial states.
Unfortunately the homeowner is, or shortly will be inundated by people trying to help with his foreclosure because he has become part of the public record and usually he is getting information from well-meaning but uninformed people.
However, he will be set upon by professionals looking to sell him foreclosure services or take the equity from his home by buying his home very inexpensively.
As soon as the homeowner notifies the lender of his impending problem or when he is 30 days late on his mortgage payment, the lender orders a BPO (Broker's Price Opinion) to determine its market value.
With this information the lender can immediately determine if he wants to take the home at the foreclosure auction, take a "deed in lieu of" or work with a loan modification or forbearance agreement to stop the pending foreclosure.
The lender will make a purely financial determination about what is best for the lender, not the homeowner. By taking the home back though the foreclosure sale, there are higher legal costs, extended loss of interest on the loan, real estate market risk, carrying and closing costs, and increased reserve requirements for the Federal Reserve.
However, if there are other open liens on the property, the lender will have to get the junior liens to assign them to the primary lender or extinguish them so they don't become the burden of the first mortgage lender.
In many cases it is simpler to go through the foreclosure process to extinguish these junior liens. The lender determines if it is quicker to accept the "deed in lieu of" or continue with the foreclosure and sale.
The lender may take the deed from the homeowner and continue the foreclosure anyway for the reasons mentioned above. In this case there is no advantage for the homeowner to give the lender the deed, especially if the lender requires the homeowner to sign a personal note for the potential deficit that the lender may incur when he sells the property.
It is not entirely uncommon for a homeowner to have junior liens that are larger than the first mortgage and in these cases, the primary lender must continue the foreclosure so the junior liens either buy him out or have their interest in the property extinguished at the auction.
If the lender agrees to accept a deed in lieu of foreclosure, the responsibility for the mortgage deficit is not finished.
The lender generally has the homeowner sign an Acceptance Agreement as well as a new deed. This agreement will stipulate that if the lender sells or transfers the property for less than what is owed on the loan (including all penalties, interest, and attorneys' fees), the guarantor of the loan (usually the homeowner) will owe any deficiency.
This deficiency amount can then be pursued in the courts as a deficiency judgment or the lender can issue the homeowner an IRS Form 1099. In this latter case the deficit becomes "Phantom Income" to the homeowner.
Federal legislation enacted in December 2007 now allows the homeowner to avoid income taxes on this phantom income under certain strict circumstances.
So is a "deed in lieu of" an ideal solution for a homeowner in foreclosure?
The answer is clearly "no" since very little is accomplished by the deed transfer because the homeowner or guarantor, is still responsible for any loan deficiency after the sale. If the homeowner does nothing, he will not have to sign the Acceptance Agreement.
By not signing this agreement, the homeowner will not be opening himself to even further liability.
The terms of the Acceptance Agreement should release the homeowner (guarantor) from future liability (i.e. deficiency amount).
The bottom line is that if the "deed in lieu of" isn't a better solution for the lender, the lender has no motivation to take back the deed.
If the lender readily takes back the deed, the homeowner should be concerned there may be substantial equity in the property that the lender will receive "free and clear".
If there are additional liens on the home, the lender does not need the deed since he has to complete the foreclosure action to extinguish them.
In summary, it is a best questionable whether it makes economic sense to give back a "deed in lieu of" unless the Acceptance Agreement clearly stipulates that the homeowner does not have an obligation for the deficiency amount.
You should not sign any documents from the lender or anyone else without having an attorney review and approve your signing.
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