If you're behind on your mortgage payments, one way to avoid a foreclosure is by completing a deed in lieu of foreclosure (deed in lieu). With a deed in lieu, you agree to give up the home, and the lender agrees not to foreclose. As part of the transaction, you might even receive relocation assistance, which could be a thousand dollars or more when available.
Read on to get basic information on deeds in lieu, including how the process works and what happens to any deficiency afterward.
In a deed in lieu transaction, a homeowner who’s facing a foreclosure gives up all legal rights to the home in exchange for being absolved of all obligations associated with the loan. In other words, the lender agrees to take ownership of the home in exchange for agreeing not to foreclose. The mortgage loan goes away, and the lender gets title to the house without having to foreclose. (To learn more about how deeds in lieu work, see Basics of a Deed in Lieu of Foreclosure.)
The process for completing a deed in lieu will vary somewhat depending on who your loan servicer is and who the lender (or current owner of your loan, called an “investor”) is. Generally, you'll have to try to sell the property for at least 90 days at fair market value before the lender will consent to accepting a deed in lieu. Also, you usually must have clear title, which means there can't be other liens on the property. You might have to provide details about your finances and show that the home won't sell for what's owed.
As part of the deal, the homeowner usually agrees to vacate the home, leaving it in good (“broom swept”) condition, and sign over ownership to the lender. In some cases, the borrower will have to submit an affidavit indicating that the process was voluntary. (To learn how to start the deed in lieu process, what to expect along the way, and whether you'll face a deficiency judgment, see Steps to Complete a Deed in Lieu of Foreclosure.)
In some cases, the lender will allow the homeowner to rent the home even after turning over the deed. Fannie Mae, for example, offers this option to borrowers who have Fannie Mae loans. Also, in some cases, the departing homeowner will receive relocation money after completing a deed in lieu.
Some people think that completing a deed in lieu will cause less damage to their credit score than a foreclosure. But the difference in how a foreclosure or deed in lieu affects your credit is minimal. For this reason, it might not be worth doing a deed in lieu unless the lender agrees to forgive or reduce the deficiency, you get some cash as part of the deal, or you get some extra time to live in the home (longer than what you'd get if you let the foreclosure go through). In some cases, the lender will agree to one or more of these conditions to avoid the expense and hassle of foreclosing.
Also, you should take into consideration how long it will take to get a new mortgage after a deed in lieu versus a foreclosure. Fannie Mae, for instance, will buy loans made two years after a deed in lieu if there are extenuating circumstances, like divorce, medical bills, or a job layoff that caused you economic difficulty, compared to a three-year wait after a foreclosure. (Without extenuating circumstances, the waiting period for a Fannie Mae loan is seven years after a foreclosure or four years after a deed in lieu.) On the other hand, the Federal Housing Authority (FHA) treats foreclosures, short sales, and deeds in lieu the same, usually making its home loan insurance available after three years.
If you have a lot of equity in the property, however, a deed in lieu is usually a poor choice. You'd be better off by selling the property and paying of the debt. If you don't have a lot of time and a foreclosure is imminent, you might consider filing for Chapter 13 bankruptcy with a plan to sell your home.
With a deed in lieu, the homeowner may negotiate what will happen to the deficiency, if one exists. Because a deed in lieu is a voluntary agreement between you and the lender, it’s possible to negotiate a deal in which:
Be aware that, if the lender forgives all or part of the deficiency, you might face tax consequences.
In some states, a bank can get a deficiency judgment against a homeowner as part of a foreclosure or thereafter by filing a separate lawsuit. In other states, an anti-deficiency law prevents a bank from getting a deficiency judgment following a foreclosure.
If the bank can't get a deficiency judgment against you after a foreclosure, you might be better off letting a foreclosure happen rather than agreeing to a deed in lieu of foreclosure that leaves you responsible for all or a portion of a deficiency. (For specific advice about what to do in your particular situation, talk to a local foreclosure attorney.)
If you're considering completing a deed in lieu, consider talking to a lawyer. Many different foreclosure avoidance options exist, including loan modifications and short sales, and some options might be better than others, especially for specific situations. To find out if a deed in lieu might be right for you or to explore other possible options, contact a lawyer.