If you fall behind in your mortgage payments, you will likely lose your home to foreclosure. Foreclosure is the legal process that allows a lender to sell your property to satisfy the debt you owe. Read on to get an overview of the parties and terminology involved in a home loan transaction, find out the general steps in the foreclosure process, and learn some defenses that might be available to you in a foreclosure.
The key parties involved in most home loan transactions and foreclosures are:
The borrower. The borrower is the individual (the homeowner) who borrows money and pledges the home as security to the lender for the loan. The borrower is sometimes called the “mortgagor.”
The lender. The lender gives the loan to the borrower. Sometimes the lender is called the “mortgagee.”
The investor. An investor buys loans from lenders.
The servicer. The servicer (the company you make your monthly payment to) handles the loan account. Often the servicer is a third party that manages the account on behalf of the lender or an investor for a fee. A loan servicer’s duties include collecting and processing loan payments, as well as initiating and monitoring a foreclosure when a borrower stops making payments.
Buying a home normally involves a large amount of money so it’s common for a buyer to take out a loan, rather than pay the entire amount in cash. As part of a home loan transaction, a borrower typically signs two main documents: a promissory note and a mortgage (or deed of trust).
A promissory note is like an IOU. A promissory note is the document that contains a borrower’s promise to repay the amount borrowed.
Mortgages and deeds of trust give the power to foreclose. A mortgage—or, in some states, a deed of trust—is the contract that gives the lender the right to sell the home through a process called foreclosure if the borrower doesn’t make payments on the loan. (Learn more about the difference between the difference between a mortgage and deed of trust.) When the lender records this document in the land records, it creates a lien on the home.
Endorsements and assignments. Promissory notes are transferable, and banks often buy and sell home loans. When a loan changes hands, the promissory note is endorsed (signed over) to the new owner of the loan. The seller documents the transfer by recording an assignment of the mortgage or deed of trust in the land records. (Learn more about the difference between an assignment and an endorsement.)
If you default on your loan by falling behind in payments or breaching the agreement in some other way, the servicer will probably refer the loan an attorney or trustee for foreclosure. Foreclosure works differently in each state, but there are two basic types: judicial foreclosures and nonjudicial foreclosures.
Judicial foreclosures. In a judicial foreclosure, an attorney files a lawsuit on behalf of the lender or investor in court to foreclose the home. You’ll receive a copy of the complaint—sometimes called a petition—which starts the foreclosure. You then get a certain number of days, like 30, to respond to the lawsuit. If you don’t file an answer in court—or if you file a response, but the court decides the foreclosure should go ahead—the court will grant a judgment of foreclosure in favor of the foreclosing party and set a sale date. The foreclosure sale is typically an auction where the public, as well as the foreclosing party, may bid on the property. The highest bidder becomes the new owner of the home.
Nonjudicial foreclosures. All states allow judicial foreclosures, but about half also permit nonjudicial ("power of sale") foreclosures. In a nonjudicial foreclosure, an attorney or trustee—again, on behalf of the lender or investor—completes certain out-of-court steps. Typically, a nonjudicial foreclosure involves one or more of the following steps, depending on state law:
Depending on state laws, a borrower might get a combined notice of default and sale, a notice of sale, or notice by publication in a newspaper and posting on the property or in a public place.
You own your home up until the foreclosure sale. This means you may legally stay there until this time. In addition, depending on state law, you may be able to stay in the home until the redemption period expires or until some other action, such as ratification of the sale, occurs. (Learn more about when you need to move out after a foreclosure.)
What’s a redemption period? Certain states have laws giving a foreclosed homeowner the right to regain ownership of the home—called “redeeming” the property—after a foreclosure sale by reimbursing the buyer for the amount paid at the sale or by repaying the full amount of the mortgage debt.
What’s a deficiency judgment? Sometimes, a foreclosure sale doesn’t bring in enough money to fully repay the home loan. When this happens, the difference between the sale price and the amount owed is called a deficiency. In certain states, the foreclosing party can get a personal judgment—a deficiency judgment—against the borrower for this amount.
Depending on state law and your individual circumstances, you might have a defense to a foreclosure. A few potential foreclosure defenses include:
While this article provides a general picture of how foreclosure works, laws vary from state to state. To get specific information about your state's foreclosure procedures and how they apply to your particular situation, consider talking to a local foreclosure attorney.