A deed in lieu of foreclosure is a loss mitigation (foreclosure avoidance) option, along with short sales, loan modifications, repayment plans, and forbearances. Specifically, a deed in lieu is a transaction where the homeowner voluntarily transfers title to the property to the holder of the loan (the bank) in exchange for the bank agreeing not to pursue a foreclosure.
In most cases, completing a deed in lieu will release the borrower from all obligations and liability under the mortgage contract and promissory note.
The first step in obtaining a deed in lieu is for the borrower to request a loss mitigation package from the loan servicer (the company that manages the loan account). The application will need to be filled out and submitted along with documentation pertaining to the borrower's income and expenses including:
Sometimes, the bank will require the borrower to attempt to sell the home for its fair market value before it will consider accepting a deed in lieu. Once the listing period expires, assuming the property hasn't sold, the servicer will order a title search. The bank will generally only accept a deed in lieu of foreclosure on a first mortgage, meaning there must be no additional liens—like second mortgages, judgments from creditors, or tax liens—on the property. An exception to this general rule is if the same bank holds both the first and the second mortgage on the home. Alternatively, a borrower can choose to pay off any additional liens, such as a tax lien or judgment, to facilitate the deed in lieu transaction. If and when the title is clear, then the servicer will arrange for a brokers price opinion (BPO) to determine the fair market value of the property.
To complete the deed in lieu, the borrower will be required to sign a grant deed in lieu of foreclosure, which is the document that transfers ownership of the property to the bank, and an estoppel affidavit. The estoppel affidavit sets out the terms of the agreement between the bank and the borrower and will include a provision that the borrower acted freely and voluntarily, not under coercion or duress. This document might also include provisions addressing whether the transaction is in full satisfaction of the debt or whether the bank has the right to seek a deficiency judgment.
A deed in lieu is often structured so that the transaction satisfies the mortgage debt. So, with most deeds in lieu, the bank can't get a deficiency judgment for the difference between the home's fair market value and the debt.
But if the bank wants to preserve its right to seek a deficiency judgment, most jurisdictions permit the bank to do so by clearly stating in the transaction documents that a balance remains after the deed in lieu. The bank generally needs to specify the amount of the deficiency and include this amount in the deed in lieu documents or in a separate agreement.
Whether or not the bank can pursue a deficiency judgment following a deed in lieu also sometimes depends on state law. Washington, for example, has explicit case law that states a loan holder may not obtain a deficiency judgment after a deed in lieu, even if the consideration is less than a full discharge of the debt. (See Thompson v. Smith, 58 Wash. App. 361 (1990)). In the Thompson case, the court ruled that because the deed in lieu was effectively a nonjudicial foreclosure, the borrower was entitled to protection under Washington’s anti-deficiency laws.
If Fannie Mae owns your mortgage loan, you might be eligible for its Mortgage Release (deed in lieu) program. Under this program, a borrower who is eligible for a deed in lieu has three options after completing the transaction:
For more information on requirements and how to partake in program, go here. (Similarly, if Freddie Mac owns your loan, you might be eligible for a special deed in lieu program, which might include relocation assistance.)
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, state 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 doing a deed in lieu of foreclosure that leaves you liable for a deficiency.
Generally, it's not worth doing a deed in lieu of foreclosure unless you can get the bank to agree to forgive or reduce the deficiency, you get some cash as part of the transaction, or you receive extra time to stay in the property (longer than what you'd get if you let the foreclosure go through). (For specific advice about what to do in your particular situation, talk to a local foreclosure lawyer.)
If you need help understanding the deed in lieu process or interpreting the documents you’ll be required to sign, you should consider consulting with a qualified attorney. An attorney can also help you negotiate a release of your personal liability or a reduced deficiency if necessary.