We have seen or heard about banks taking our properties or our assets. For anyone who does not quite understand what foreclosure means or why that happens, you have come to the right place.
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What is Foreclosure?
The process of lenders taking back a house from borrowers who are not able to pay their mortgages. The lenders, usually banks, take action against borrowers who have stopped making payments in order to try to get their money back.
For example, the lender can choose to take ownership of your house and do whatever they wish with it. They can sell it if they like and use the proceeds from the sale to pay off the loan you took for the house. In order to avoid foreclosure since no one likes their house being taken away from them, you need to fully understand what is the foreclosure process and why it occurs.
What Happens in Foreclosure And Why Does it Occur?
When buying an expensive property, it might be difficult to have enough money to pay off the entire purchase value at once. This is why the concept of mortgages was invented where you can pay a small percentage of the price upfront which is usually somewhere between 3% to 20% of the price, along with a down payment after which you can borrow the rest of the money that will be repaid in the future years.
Even though we say “the rest of the money” so lightly, it can still amount to hundreds of thousands of dollars which most people would not be able to pay off so easily as not many people earn that much annually.
Therefore, you agree to put the property you are buying as collateral for the loan as part of the agreement. And if you stop making the payments due to whatever reason, the lender can foreclose on the property which means repossess it and evict you. They can also sell the property that has been used as collateral in the loan agreement, in our case, the home you bought, so that they are able to recover the funds they lent you that are not being repaid anymore.
In order for the lender to secure this right, they place a lien on your property. Lenders usually ensure that they will be able to recoup the money they lent to you, they usually only lend to individuals who have a good loan-to-value (LTV) ratio. This number represents the risk that the lender is taking on when granting someone a secured loan such as a mortgage.
The loan-to-value ratio is calculated by dividing the loan amount by the value of the home. This value is then multiplied by 100 to get a percentage. An LTV ratio of 80% or less is ideal in the eyes of the lenders.
However, if your LTV ratio exceeds 80%, you will need Private Mortgage Insurance (PMI) which can end up adding tens of thousands of dollars to the amount you pay over the course of the loan.
When Can a Bank Foreclose on a Mortgage?
Foreclosure is typically a slow process. If you make a payment only a few days or weeks late, you are not likely to face eviction. However, you may face late fees if you take 10 to 15 days to make the payments.
This is why it is important to communicate with your lender if you are going through a financial crisis or expect to go through one in the near future as they might understand and give you an extension instead of foreclosing on the property.
The foreclosure process can vary lender to lender, more so since the laws in each state are different. However, the process usually is the same. Keep on reading for a foreclosure example.
The bank or any lender you have borrowed mortgage from will generally start sending you notices as soon as you miss one payment. These notices may include a notice of intent to move forward with the process of foreclosure.
Generally, this process begins three to six months after you miss your first mortgage payment. Once you have missed payment for three months, you will be served with a Demand Letter or Notice to Accelerate which will request you for payment within 30 days.
If you fail to pay in those 30 days, your loan will be considered to be in default by many lenders and you will be referred to the lender’s attorney which is when things will get critical and legal.
However, when it comes to foreclosure, there are two types of states: judicial and non-judicial states.
In judicial states, the lender is required to bring legal action against the borrower in order to foreclose. This process can take very long as you might have 30 to 90 days between each court proceeding.
Whereas in non-judicial states, lenders only need the “power of sale” clause in the agreements you have signed in order to foreclose. This way neither the court nor the judge is involved and because of that, things tend to move much faster.
However, in either type of state, the borrower will be given a written notice to make payment that will be followed up by a “Notice of Default” and a “Notice of Sale.” You can choose to fight the foreclosure in court where you will be served with summons or you can bring legal action against your lender in a non-judicial state in order to stop the foreclosure process.
Certain states also offer borrowers the option to reinstate the loan and stop the foreclosure process. Although, this option may not be realistic or feasible in the practical world.
Lenders will tell you that the loan can be reinstated anytime after the “Notice of Sale” has been served up until the foreclosure date. You can also stay in the home if you make either all or a significant portion of your missed payments as well as cover the legal fees and penalties that have been charged so far. You might also have the opportunity to pay off the entire loan but this would only be an option if you manage to refinance the home or find a source of money.
If you were not able to prevent foreclosure, your property will be made available to the highest bidder at an auction. This auction will either be run by the court or a local sheriff’s office runs.
Many states usually offer a redemption period after the foreclosure sale has occurred. During this redemption period, you can still reclaim your home. The “Notice of Sale” will generally inform you about the redemption period.
You should be willing to pay the remaining loan balance that you owe. There might also be costs associated with the foreclosure process in order to reclaim the home.
Consequences of a Foreclosure
The main consequence of a foreclosure if being evicted from your home and it being forcefully sold. You will then have to find another place to live and the entire process can be extremely stressful for you and your family.
Foreclosures can also be expensive. Your lender might charge you with late fees if you stop making payments. Moreover, you might have to pay legal fees out of your pocket in order to fight foreclosure. You can also have a deficiency as you might still owe money after your home is taken and sold if the sale proceeds are not enough to cover what you owe.
A foreclosure can also hurt your credit scores which means your credit reports will show the foreclosure starting a month or two after your lender starts the process. Yet it will stay on the report for seven years.
You will have difficulty in borrowing to buy another home and have a hard time getting affordable loans of any kind. Your credit scores can also end up affecting other areas of your life such as your ability to find a job.
The Bottom Line
The bottom line is, you now know what causes a mortgage foreclosure. Which means you can make sure you do everything to prevent it from happening. A few things you can do to avoid foreclosure is keep in touch with your lender so they know if a financial crisis is happening, explore other alternatives to keep your home, look into alternatives for leaving your home, avoid scams and file for bankruptcy. However, before you take any drastic steps like filing for bankruptcy, you should speak to a mortgage agent or local attorney to figure out your options.