What Is a Foreclosure?
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If you’re in a tight financial spot and unable to make monthly mortgage payments, you could find yourself in danger of going through the foreclosure process. The negative impact of a foreclosure—which occurs when a lender takes property from an owner who is not making the required payments—extends beyond losing your house and can have a long-term adverse effect on your credit scores.
The parameters vary from state to state, but a foreclosure is triggered by certain events, such as multiple missed mortgage payments.
The foreclosure process generally begins if you are three to six months behind on your mortgage payments. It can also be triggered if you have failed to do certain things like pay property taxes or maintain the house, which might include letting your homeowners insurance lapse or neglecting the structure of the home.
After a homeowner misses three months of mortgage payments, the lender can record a public notice that the owner has defaulted on their mortgage and thus start the pre-foreclosure process. The lender mails the notice of default—or lis pendens, depending on the state—to the homeowner, who has a grace period of another three months to bring the mortgage current or work out an arrangement with the lender. After those three months, the lender may publish for 21 days (with variations depending on the state) a notice of trustee sale and sell the home at auction.
Once a borrower is in default, their lender can initiate one of three different types of foreclosures.
- A judicial foreclosure is allowed in all states and required by some. The lender initiates the process by filing suit with the judicial system. The borrower then receives a notice demanding payment and will have 30 days to deliver the payment to avoid foreclosure. If the borrower does not pay, the property will be sold in an auction carried out by a local court or sheriff's office.
- A power of sale foreclosure (or statutory foreclosure) is permitted in many states, provided the mortgage includes a "power of sale" clause. In this scenario, the lender will send out notices demanding payment after the borrower is in default. If the borrower does not pay within an established waiting period, the mortgage company will move forward with a public auction. Nonjudicial foreclosure auctions can still be subject to judicial review to ensure proper, legal proceedings.
- A strict foreclosure, allowed in a limited number of states, involves the lender filing a lawsuit against the homeowner. If the owner cannot pay within a court-determined period of time, the mortgage holder will take over the property directly. These types of foreclosures usually happen only if the amount of debt exceeds the property value.
With the caveat that state laws and individual situations vary, here is a big-picture look at what you need to know about navigating the foreclosure process.
Contact your loan servicer at the first sign of problems
When you find yourself behind on your mortgage, the first thing you should do is reach out to your loan servicer. Explain why you’re having trouble making your mortgage payments and ask what options might be available.
Depending on your situation and the reason for your financial woes, you might be a candidate for forbearance, which allows you to skip a mortgage payment or two and add the amount to the balance of your loan. The loan servicer might consider offering forbearance if the problem was a one-time issue and you need a bit of breathing room, provided your income and expenses are steady enough that you’ll likely be able to catch up.
Refinancing your mortgage at a lower interest rate might be a viable solution if you still have solid credit scores. Another option, which doesn’t necessarily require high credit scores, is a loan modification, in which you stretch out the length of your loan to bring the payments in line with your monthly budget.
Do not move out too soon
While some homeowners want to wipe their hands clean of their house as soon as they receive a foreclosure notice, others will cling to the property until the bitter end. The process can be lengthy, so be careful when you choose to move out. For example, homeowners sometimes vacate early in the foreclosure process, only to find that months or even years later, the lender has not completed the trustee sale. In those instances, you're still responsible for expenses like homeowners association dues, and you’ll be liable if someone injures themself on the property. If, however, the home is sold in a foreclosure or a short sale (meaning the sale price is less than the amount the homeowner owes the lender), you will need to move out quickly—often with only five business days to vacate once the sale is complete.
Get help from a HUD-certified counselor
A counselor certified by the U.S. Department of Housing and Urban Development (HUD) can walk you through your options and help you figure out how you got behind on your mortgage in the first place. The good ones will look at your situation, your goals and your employment circumstances, and prepare a full financial analysis. They'll talk to you about the factors that contributed to your current situation and put together a concrete, forward-looking action plan aimed at making sure your housing expenditures are in line with your income.
Consider working with a nonprofit counselor who'll be focused exclusively on you, without any hidden self-interests. For a list of approved nonprofit counseling organizations, visit HUD’s website.
Focus on getting your finances back on track
The foreclosure process can be overwhelming, but often it doesn’t make financial sense to hold onto a property you can no longer afford. Even if you manage to stop a foreclosure and reinstate the loan by paying the overdue balance (plus fees and penalties), your credit history may already be damaged. Every late or missed payment can negatively impact your credit scores.
Unfortunately, a foreclosure remains on your record with all three nationwide credit bureaus for seven years. However, the negative impact of a foreclosure lessens over time. Depending on other elements of your credit history and the type of mortgage lender, you may even be able to qualify for a new home loan as soon as two years after your foreclosure is completed.