Deeds In Lieu of Foreclosure Can Help You or Hurt You
by Richard Fonfrias, J.D. Chicago's Financial Rescue & Bankruptcy Lawyer Fonfrias Law Group, LLCIf you're unable to refinance your home, you may hear lenders and other advisors recommend a deed in lieu of a home foreclosure.
And while this sounds like a good way to go - and it works, you really do avoid a home foreclosure - many homeowners discover that they are worse off than if they had filed for bankruptcy.
A deed in lieu of foreclosure is when you sign a quitclaim deed to transfer ownership of your home to your lender. In this way, your lender takes title to your home without the time and expense of a formal foreclosure action.
Sounds like a good solution, right?
Not really. The lender must first agree to accept the deed in lieu of foreclosure and getting the lender to agree is often harder than you think.
You see, in a traditional house foreclosure, all liens against your home are erased. This means the lender gets a clean title to your home, without all the problems that may arise from other parties' liens. These other liens could include second mortgages, tax liens, construction liens, homeowners association liens, mechanics' liens, judgment liens, attorneys' liens - a lien from anyone who has a legal claim against your property.
Here's what lenders hate: All of these other liens remain on your property when the lender takes title to your home through a deed in lieu of foreclosure. These liens make your home harder for the lender to sell, which is why lenders foreclose and acquire a clean title.
What's more, even if your lender agrees to accept your deed in lieu of foreclosure, you still remain liable to the lender for the difference between the balance on your mortgage and the price the lender gets from the home's sale. Your lender may agree to free you from this liability, so you need to negotiate this as part of the deed in lieu of home foreclosure transaction.
Had you filed bankruptcy, you would not be liable to the lender for this difference. And the impact on your credit would be about the same as a traditional house foreclosure or filing bankruptcy.
If your lender forgives the debt, the lender may issue a 1099-C for the amount forgiven. Then you must consider that amount ordinary income, which means state agencies and the IRS will require you to pay taxes on the amount. In some cases, if you qualify and file paperwork with the state and IRS, then you might not have to pay taxes on the amount forgiven. Also, as part of your negotiations with the lender, the lender may agree not to file a form 1099-C.
In some cases, a deed in lieu of house foreclosure is a good option for homeowners. But realize that they usually benefit the lender more than they help you.
As always, you're invited to call me with your questions.