Wondering about a deed in lieu of foreclosure?

Real property foreclosures are still front page news.  The pace of foreclosures may be slowing a bit, but there’s no doubt that we’re going to continue to see a historically disproportionate number of property owners who are unable to meet the requirements of their mortgages in 2010.  There are those who barely managed to survive ARM resets in 2008 and 2009 who are approaching the end of their ropes.  Then, there are those who are struggling with prolonged periods of unemployment thanks to our record unemployment levels.

No one wants a foreclosure.  Even if you divorce the matter from issues of personal pride and the strong desire to experience the home-owning element of the American dream, foreclosures are a rotten prospect.  They’re stressful and they can gut your credit like a professional fishing guide attacking a walleye with an electric knife.

That’s why so many people are interested in finding alternatives to foreclosure when it becomes clear that they’re not going to find a way to meet the requirements of their loan and discover that they’re not able to refinance or engage in some kind of productive mortgage renegotiation.  The deed in lieu of foreclosure is one option.

What is a deed in lieu, anyway?

In a traditional foreclosure, the lender (usually the bank) eventually reaches their wits’ end with the homeowner who is unable to make his or her payments.  The bank opts to legally assert ownership of the property in hopes that they may sell it it as a way of recouping some or all of the moneys advanced on the loan.  Foreclosure is a carefully governed legal process.  It’s time consuming and it can cost lenders a great deal of money.  One estimate maintains that it can cost a lender between $40,000 and $90,000  to foreclose on a property.

This creates an incentive to find a more efficient solution to the problem.  That’s what the deed in lieu of foreclosure represents.  HUD defines a deed in lieu (DIL) like this:

A Deed in Lieu of foreclosure (DIL) is a disposition option in which a mortgagor voluntarily deeds collateral property in exchange for a release from all obligations under the mortgage. A DIL of foreclosure may not be accepted from mortgagors who can financially make their mortgage payments.

In simple terms, it basically means that the defaulting home owner voluntarily relinquishes ownership of the property to the bank instead of forcing the prolonged legal process of foreclosure.

Why would a homeowner consider a DIL?

It’s easy to see why a lender might be receptive to the deed in lieu.  They don’t need to follow through on the foreclosure process and they save time and resources in the process.  Why would the defaulting homeowner be interested, though?

There are a few reasons.

One is efficiency.  There’s a benefit to biting the bullet and getting things resolved quickly instead of letting them linter.

The second is credit rating protection.  A DIL will punch your FICO in the stomach, but it won’t deliver the knockout punch of a foreclosure.

Finally, a deed in lieu offers some additional flexibility.  One may be able to negotiate renting the property on an interim basis, securing the time necessary to find alternate housing and to move and other benefits to which one won’t usually have access during a foreclosure.

More than sending your keys to the bank…

A DIL is simpler than a foreclosure, but you can’t just mail your house keys to the bank with a note that says, “Take it, it’s all yours, Mr. Moneybags!”

A deed in lieu is a legal process and the right paperwork must be completed.  Additionally, not everyone who may be otherwise facing foreclosure will automatically qualify for the option.  Some lenders don’t like the idea, because it leaves them vulnerable to junior leans in ways that a foreclosure does not. Additionally, the lender may have special requirements for a deed in lieu:

Typically your Mortgage Company will require that your home has been listed with a Real Estate Agent for at least 30 days and there are no other liens on the property for them to approve you. Some Companies may also require that the property be vacant, an interior appraisal of the property and a minimum of 60 days prior to a Foreclosure sale.

A deed in lieu isn’t a solution for foreclosure, it’s an alternative.  It has advantages to both parties, but it isn’t always easy to arrange.