If you own rental property that's in danger of foreclosure, you might be wondering if any issues are unique to rental property that you should be aware of. While the process of foreclosing on a rental property and a homeowner's primary residence will generally be the same, some important differences exist in the help that could be available and the outcome.
Many loss mitigation options are available only for a borrower's primary residence. But some lenders offer programs to modify or refinance the loan on a rental property. If you have a rental property and you're struggling to make your mortgage payments, call your loan servicer to find out if any options are available to you.
When a property is sold in foreclosure for less than the outstanding amount due on a mortgage, that difference is called a deficiency. In many states, a lender may sue a borrower to recover the deficiency. If the court finds for the lender, the court will grant the lender a deficiency judgment. With a deficiency judgment in hand, the lender can pursue a number of methods to collect the deficiency from the borrower, including garnishing the borrower's wages, freezing the borrower's bank accounts, and placing liens on the borrower's other property.
In some states, lenders are prohibited from pursuing a deficiency judgment after the foreclosure of a mortgage secured by the borrower's primary residence so long as certain conditions are met. These protections, of course, would not apply to the foreclosure of a mortgage secured by a rental property. (For a summary of each state's laws covering deficiency judgments, see State Anti-Deficiency Laws.)
The foreclosure of rental property is complicated by the fact that, in addition to the borrower and the lender, there is also a tenant that will be affected by the foreclosure. A landlord needs to be aware of the following rights and obligations of tenants living in properties in foreclosure.
Under the federal Protecting Tenants at Foreclosure Act of 2009, tenants living in foreclosed properties no longer have to worry about the termination of their leases upon foreclosure. This federal law allows tenants to stay in their homes until the end of their lease terms and gives month-to-month tenants the right to receive 90-days' notice before having to vacate.
But this doesn't mean that you can quickly execute a lease renting the property out to yourself or your family before the foreclosure is finalized. There are two exceptions to the Protecting Tenants at Foreclosure Act: If the buyer of the foreclosed property intends to occupy the property, a lease may be terminated with 90-days' notice. Also, only bona fide leases are protected under the act. A bona fide lease is a lease in which the tenant is not the borrower or the borrower's spouse, parent, or child; that was the result of an arm's-length transaction; and in which the rent is not substantially lower than the fair market rent.
State and local laws might also provide protections to renters.
Even before your property is sold at a foreclosure auction, you might lose the right to collect rent from your tenants. When you signed your mortgage loan documents, you probably signed a standard document called a 1-4 Family Rider (Assignment of Rents). This document gives your lender the right (except in Michigan) to collect rent directly from your tenant after giving you a written notice of default and notifying your tenant in writing.
Tenants whose leases are terminated prematurely due to a foreclosure sale might decide to sue you to recover the cost of having to move and pay any increase in rent. Their lawsuits may be filed under two different theories. First, when you signed the lease with your tenant, you basically promised to the tenant that you would deliver the property for a certain period of time (this is called the covenant of quiet enjoyment). By defaulting on your mortgage and allowing your property to be sold in foreclosure, you reneged on this promise, giving your tenant the right to sue you for any damages suffered. Second, if you knew that your property would be lost in a foreclosure and rented out to the tenant anyway, your tenant might sue you for fraud.
If you have any questions about federal, state, or local laws that apply in the foreclosure of a rental property, consider talking to a landlord-tenant attorney or a foreclosure attorney.