Bankruptcy After Foreclosure
The primary reason that a consumer would file bankruptcy after going through foreclosure is to protect against a deficiency judgment. With foreclosure rates at an all time high, many homeowners have heard that losing a home in foreclosure is not necessarily the end of the road and unfortunately, they’re right.
In theory, the proceeds from a foreclosure sale are supposed to satisfy the underlying mortgage debt. The bank sells a home at foreclosure because the borrower can no longer make payments and they want their money back. If the foreclosure sale price meets or exceeds what the bank is owed, the process ends there. However, with home equity so rare in today’s market, selling a home at foreclosure is not always good enough to satisfy the mortgage balance. There is often a significant shortfall between the loan amount and the property value. In cases where a foreclosed upon home does not sell for a price that is higher than the outstanding mortgage, the lender will often come after their former customer to recoup their losses after the foreclosure goes through. This is known as a deficiency lawsuit, where banks sue borrowers to hold them personally liable for their mortgage debts.
It is important to note that some states such as Arizona and California have anti-deficiency laws on the books that prevent banks from suing borrowers for a deficiency after foreclosure. Although an anti-deficiency statute can be a shield against post-foreclosure collection activity, it is important to have an attorney review the facts of your case. Each anti-deficiency law applies slightly differently and to different sets of facts.
Dealing With a Foreclosure Deficiency
Assuming your state allows for deficiency judgments (and most do), facing down a deficiency lawsuit is a scary proposition. No one wants to make payments on a house they no longer own and when a bank gets a judgment they can get tougher with collections. To make matters worse, consumers often face an uphill battle in defending against a deficiency suit filed on a debt validly owed that stood up to the scrutiny of the foreclosure process (assuming a foreclosure defense lawyer was hired). When all is said and done, is bankruptcy the best option for dealing with deficiency lawsuits? Should you file bankruptcy after foreclosure?
Maybe, but not necessarily. To be sure, filing for bankruptcy will stop a deficiency lawsuit and discharge any remaining liability on your mortgage but it is always wise to explore other options as well. Especially after the 2005 bankruptcy reforms, it has become harder to qualify for chapter 7 bankruptcy and some folks have too many assets to try. Whatever the case, your attorney’s first call should be to your mortgage lender.
Try Negotiating With Your Lender
As we’ve discussed before on the forum, past due debts can provide unique opportunities for settlement. By the time your bank has actually taken the trouble to foreclose on your home, they have written off the mortgage as a non-performing asset. This means that anything they’re able to recover going forward is a boon to their balance sheet. For this reason, you may be able to settle a post-foreclosure deficiency for far less than what is owed. Especially in the case of a mortgage that has been sold, the note holder may agree to write off 90% or more of the loan balance. In these cases, a small cash settlement can help avoid bankruptcy, which is always a good thing. Be aware that lenders will usually require that you turn over financial information as part of the negotiation process and your balance sheet will have something to do with the offer you receive. Having said that, even borrowers with ample liquidity should be able to cut a deal.
Bankruptcy Will Eliminate a Deficiency Judgment
If you’re unable to work out a satisfactory deal with your lender, or if the outstanding debt owed is just too high, bankruptcy can be a very attractive option. Filing for bankruptcy will extinguish your liability for any remaining mortgage debt as well as get rid of other unsecured debt such as credit cards and medical bills.
Image Credit: Simon Volkov