Avoiding Foreclosure: Tips for Consumers

Free Counseling: For borrowers, foreclosure is a very serious legal procedure which can often be avoided. Housing counseling agencies sponsored by the United States Government offer valuable resources to help you discover special borrower programs. Most of these services are free of charge. Contact the US Department of Housing and Urban Development (HUD) at 800-569-4287 or visit the department's website at www.hud.gov for more information.

What to Ask the Lender: If you, or someone you know, cannot meet the mortgage payment, HUD recommends that any letters from the lender be answered immediately with an explanation of the circumstances. Many lenders offer assistance, but only for those who stay in the home and do not abandon it. For example, the lender may have a special forbearance program to rearrange payments, or even reduce or suspend them for a period of time. The lender may also refinance the debt or extend the term of the loan to make the payments lower.

Those with FHA loans may also qualify for a "partial claim" payment. This program provides a one-time payment from the FHA Insurance fund to bring the mortgage current. If the loan meets certain criteria, the lender can file a partial claim. The borrower must sign a Promissory Note and a lien for the amount of the partial claim will be placed against the property. The interest-free amount is due and payable when the first mortgage is paid off or when the property is sold.

Scams: Unfortunately, there are those who prey upon people in financial difficulty. Most likely, anything that sounds too good to be true probably is. To avoid scams it is important for the borrower to:

- Check with a lawyer or the mortgage company before entering into any transaction involving the property.
- Remember that the loan must be paid even if the deed is signed over to someone else. The lender must formally release the mortgage debt.
- Make sure all promises are made in writing.
- Not sign anything with blanks to be filled in later.
- Read and understand all documents before signing.

Taxes: In addition to the damage it can do to a borrower's credit rating, foreclosure can also cause major tax consequences. Most people assume that a foreclosure will automatically "cancel" taxes, but this is usually not true. That is why it is important to involve a tax attorney or advisor in all considerations of foreclosure and alternatives to foreclosure.

Loans against personal property, such as a bank loan or seller carry-back loan to purchase an owner-occupied residence, are called "non-recourse" loans. Various state laws protect borrowers from personal liability on a purchase mortgage for the home they occupy. Under these types of "non-recourse" loans, the tax liability is the outstanding amount of the loan, or sales price if higher.

A greatly simplified example: The borrower owes $100,000 on the home he lives in. Even if it is foreclosed upon or given as deed-in-lieu of foreclosure back to the lender, or the lender accepts a short sale payoff, the borrower is still taxed as if the property had sold for $100,000.

If the loan is a "recourse" loan, i.e. the borrower is personally liable if the property is sold for less than the amount owed to the lender, then the borrower has both personal liability and tax consequences. To obtain a person judgment against the borrower, the lender must instigate a judicial foreclosure. The borrower would be relieved of personal liability if the lender proceeds with a Trustee's Sale (or non-judicial foreclosure) on the property.

Again, a foreclosure, deed-in-lieu of foreclosure or short sale all involve a tax obligation which is computed as if the property were sold for its value or, in certain cases, if the debt exceeds the property's value.

Your Real Estate Agent is There to Help: Another possibility is a pre-foreclosure sale or even a short sale of the property, which avoids the foreclosure process. Some lenders also allow a deed-in-lieu of foreclosure in which the borrower signs the house over to the lender to avoid the foreclosure. This may not be as damaging to the credit rating as a foreclosure, but lenders only consider this option if a pre-foreclosure sale is not possible. A real estate agent can help with these types of sales to avoid foreclosure.