What Does Foreclosure Mean?

The first step to working through a possible foreclosure is to understand what a foreclosure means. When someone buys a property, they typically do not have enough money to pay for the purchase outright. So, they take out a mortgage, which is a contract for purchase money that will be paid back over time.

A foreclosure consists of a lender trying to reclaim the title of a property that had been sold to someone using a loan. The borrower, usually the homeowner living in the house, is unable or unwilling to continue making mortgage payments. When this happens, the lender that provided the loan to the borrower will institute a legal process to take back the property.

The economy’s collapse in ’07 and ‘08 led to 2.9 million foreclosures in 2010, the high for as long as these records have been kept. By 2019, numbers were at 493,066, a 15-year low and dipped even further in 2020 to 214,000.

Some of that drop in numbers can be attributed to the moratorium on foreclosures that the government imposed after millions of homeowners lost their jobs as a result of COVID-19. There was, however, another factor in play, says Ben Hillard, a foreclosure attorney for The Castle Group in Largo, FL.

“In 2007-2013, most people were upside-down on their homes,” Hillard said. “Now almost everyone has equity. Even if you’re a year-and-a-half delinquent, you probably still have enough equity that you can sell the home, pay off the mortgage and go rent somewhere for a year or two.

“I don’t think we will see the kind of crisis (from 2008) again. People can recapture equity, and home prices are rising everywhere.”

Facing a foreclosure can be daunting prospect, especially when those having trouble handling their mortgage are unsure what to do. Across the country, six out of 10 homeowners questioned said they wished they understood their mortgage and its terms better. The same percentage of homeowners also said they were unaware of what mortgage lenders can do to help them through their financial situation.

“How it affects people depends on the individual, like human nature,” Hillard said. “Some folks freak out. They care about their particular house. They’ve been there 25 years, raised their kids there and they don’t want to leave. Others have the attitude that they’ll go buy another house.

“It can be traumatic, or it can’t be, but having a lawyer who is good helps with that. A lot of my time is spent with people telling them they will be OK. I try to make them mentally comfortable, let them know that, yes, this is the situation you’re in, but it’s not life or death and you’ll get another house.”

Why Does a Property Go Into Foreclosure?

A variety of financial problems lead to foreclosure. Any are serious enough to cause difficulty in making mortgage payments. Most are unforeseen. It’s not always easy for a homeowner to maintain consistent financial status. Unforeseen problems can lead to financial struggles that may affect a borrower’s ability to make regular monthly payments.

Among them:

• Loss of employment – Losing a job is mentally and financially traumatic.
• Excessive debt – Which emphasizes the importance of keeping the credit card bills manageable.
• Medical debt – Few envision a serious illness or surgery.
• Divorce – Division of property and assets can lead to financial struggles.
• Relocation before selling the home. Managing one mortgage is tough. managing two can be overwhelming.
• Natural disaster – Floods, fires, hurricanes and earthquakes are painful experiences.

What Is the Foreclosure Process?

There are three main kinds of foreclosures: Judicial, non-judicial and strict.

• Judicial foreclosure: A court process that allows the homeowner to fight the foreclosure.
• Non-judicial process: Allows lenders to foreclose on property without a court order; this process is not available for traditional mortgages, and is available only in certain areas and states, where local laws apply.
• Strict foreclosure: The lender goes to court and asks it to declare you are in loan default on the mortgage; the court can immediately approve the foreclosure and give the property to the lender.

Lenders must comply with the Fair Debt Collection Practices Act, a law that is meant to ensure lenders or third-party collectors do not harass homeowners who may be in default. It restricts the way collectors can contact debtors, along with the time of day and number of contacts that can be made. Violators can be sued by the debtor for damages and attorney fees, meaning if you win in court the lender or debt collector pays for your lawyer.

There are five steps in foreclosure:

1. Missed payments: When a homeowner misses payments, the lender’s sensors go off. Once the buyer stops living up to the terms of the mortgage contract he signed, the lender can take steps to collect. Keep in mind, though, that banks and lenders don’t necessarily want to foreclose. They can’t always sell post-foreclosure property for a profit, so their incentive is to make it work with the original borrower. In many cases, lenders will work with borrowers to find a way to make the original mortgage work.
2. Public notice: If the situation is not fixable and the homeowner does not work to resolve the issue, the lender issues a public notice, a written notification to the homeowner that the lender will pursue legal action on the debt.
3. Foreclosure: This phase begins once the public notice is filed. The home now is in the early stages of repossession, and the homeowner has 90 days to avoid being foreclosed and evicted. Among the actions the homeowner can take: Pay the balance due; sell the property and use the equity in the home to pay the loan; sell the property at a loss; or simply sign the deed to the lender in lieu of foreclosure.
4. Auction: Once the lender has possession of the home, it can put it up for auction. This foreclosure sale makes your house available to anyone who wants to buy it. It is done by bid, with the minimum typically the balance due on the loan. The buyer usually must pay cash or make a hefty down payment right away.
5. Post-foreclosure: The home is now sold by auction, so the homeowner has to vacate the premises. The new owner could rent the home to you, but it’s unlikely that will happen because you’ve already shown you can’t keep up with mortgage payments. If the home is not sold by auction, the bank owns it and it is called a Real Estate-Owned Property (REO). The bank then must pay for upkeep and property taxes. This typically leads to the bank trying to sell the REO.

Foreclosure’s Effect on Your Credit

Foreclosure has a very damaging effect on your credit for seven years, but there are opportunities to regain a lender’s trust.

Foreclosures are the result of missed payments, typically on credit cards, but also auto loans, student loans and, of course, mortgages. Missed payments of any kind are the primary reason a credit score dramatically drops.

How many points you lose depends on where your credit score was when your home was foreclosed. If it was above 700, you can anticipate a drop of 100 to maybe as many as 150 points. If was below 600, the drop would be closer to 75-100 points.

In either case, the result is that likely you fall into the “poor” category for credit scores and you will be fighting to overcome it. Foreclosure stays on your credit report for seven years and it can’t be removed at any point before then.

Along the way, however, you could help your credit standing by making on-time payments to all creditors. It may take a few years, but the on-time payments improve your score, while the negative impact of foreclosure gradually wears off.

By the time a foreclosure is removed from your credit report, you could regain all of your previous standing.

Avoiding Foreclosure

The easiest way to avoid foreclosure is to make mortgage payments on time. The second easiest way is to communicate with your lender. Banks and lenders will work with you if there are serious issues affecting your ability to pay.

If you’re at risk of foreclosure the first thing you can do is to go through foreclosure prevention counseling. It’s free and will help you determine your options.

Foreclosure is a legal, time-consuming and expensive process that typically benefits nobody. A lender would much rather work with a borrower to come up with a solution and avoid the process. Don’t ignore the situation and hope the bank does not notice it. Communicate with the bank or lender and try to work out a solution.

Among the potential solutions that could be pursued are:

• Loan modification: A lender may recognize that but for unfortunate circumstances, you would be making timely payments. So the lender could seek to modify the loan with a lower interest rate or by extending the loan terms, which may allow the homeowner to afford payments.
• Forbearance: A lender with belief in the homeowner, offers to pause payments for a time, or offers reduced payments for a time period. This signals good faith, that the lender believes once the borrower is back on his or her feet, payments will resume.
• Repayment plans: The lender agrees on a plan that will increase monthly payments and allow the homeowner to catch up on what is owed.
• Refinancing: The borrower obtains a new loan that pays off the mortgage and includes a lower interest rate, which reduces the monthly payment. A refinance probably costs the lender less than it would to foreclose.
• Chapter 13 bankruptcy: Filing Chapter 13 means setting up a payment plan for debt over three-to-five years. This gives the homeowner that amount of time to catch up on missed payments.

There are ways to stop foreclosure or avoid it even after the process has started. One is a short sale, in which the homeowner sells the property for less than remains on the mortgage. The proceeds go to the lender, who can forgive the difference or seek a deficiency judgment. The less the deficiency, the less likely the lender will take that court action. The benefit of a short sale: You get out of the mortgage, and the credit score is not affected as much as it is with a foreclosure.

Another option is to pursue a deed in lieu of foreclosure. The borrower basically gives the property to the bank and the bank waives the right to foreclose.

Hillard says that the best option once foreclosure starts is a regular sale. This simply means selling the house for more than what is owed on the mortgage. This can happen if there is enough equity in the home. In a regular sale, the homeowner pays the lender what is owed and keeps the rest, with no foreclosure. The key: Complete the sale before foreclosure is filed.

“For anyone who has equity in the home, I would say sell it prior to the foreclosure case being filed,” Hillard said. “Once it’s filed, they won’t be able to refinance because Fannie Mae and Freddie Mac guidelines won’t allow lenders to make a loan modification to get you out of it. Once it’s started, most people are screwed.

“If you can’t write the check or borrow the money to catch up on missed payments, then go ahead and sell it and let the bank know. That is very important. Communicate with the bank that you are selling the property.”