How does deed in lieu affect credit

If you find yourself falling behind on your mortgage payments, you could be at serious risk of foreclosure. In certain instances, a deed in lieu of foreclosure — or, simply, a deed in lieu — may be a better option than putting yourself through the foreclosure process.

A deed in lieu can benefit both the borrower and lender, specifically by sparing both parties from an expensive and time-consuming foreclosure process. For this reason, you should look at all other options and only use a deed in lieu of foreclosure as a last resort. Before considering a deed in lieu, you should think about one of two other options that have less impact on your credit and future mortgage prospects: a loan modification or a short sale. The first thing to take a look at is a loan modification.

These can be permanent or temporary. If your financial situation is temporary, you may be able to work out a repayment plan with your lender or go into temporary mortgage forbearance before fully paying off the debt when you get back on your feet.

If your issue is more long-term or permanent, you may have to talk to them about a type of modification involving forgiving a portion of the mortgage balance, lowering the interest rate or lengthening the term. Others will report a debt settlement, which will hurt your credit score, though not as negatively as some other options. Meanwhile, some lenders may offer special programs to help clients in this situation, so you should talk to a Home Loan Expert.

Short sales occur when a homeowner works with a lender to execute a managed sale of the property for less than the balance owed on the mortgage. The lender typically covers closing costs. You will take a major credit score hit from completing a short sale. This could drop your credit score by as much as points, depending on your starting score before the sale and the model being used.

However, the real advantage of a short sale comes in terms of your short-term mortgage prospects. Assuming your credit is back in shape, those eligible for a VA loan may be able to get a new loan within 2 years of a short sale.

A deed in lieu of foreclosure should still be avoided whenever possible due to having several negative impacts, some of which can be long-lasting. A deed in lieu still damages your credit quite a bit. Some lenders may have loan options that allow you to get into a home sooner, so you should research alternative options and contact your lender for more information. You lose any existing equity in the property. Your lender is under no obligation to pay you for any existing stake you might have built up over the years.

All the terms and conditions of the lieu deed transaction should be set forth in a written agreement between the parties, commonly referred to as a settlement agreement. Lenders generally have the upper hand in negotiating the agreement, since the lender has the power to refuse to take the property back or to release the borrower from personal liability on the mortgage debt. The agreement should not be structured so that a deed is placed in escrow until certain conditions are met, as this may be challenged as an equitable mortgage, and the borrower might claim that a foreclosure is required to enforce the provisions of the agreement.

In addition, title insurance coverage may not be available for such an escrow arrangement. The agreement should describe the consideration for its execution, which usually consists of the lender's agreement to cancel the borrower's indebtedness, waive any right to immediately foreclose the mortgage and to exercise any other remedies, and release the lien of the mortgage unless no merger is intended.

The agreement should contain an acknowledgement by both parties that the value of the property plus any additional consideration the borrower may deliver to the lender is less than or equal to the outstanding indebtedness plus any additional consideration the lender may provide to the borrower. Under certain circumstances, a voluntary conveyance may be accepted even if the value of the property exceeds the debt; however, there is a greater risk to the lender in such a situation that the transaction will be set aside if the borrower subsequently files bankruptcy or makes a claim of duress or unfair advantage.

In addition, the title insurance company will likely raise exceptions for those matters. If the lender intends for any person liable for the mortgage debt to remain liable after the lieu deed transaction, the settlement agreement must expressly so provide. If the borrower is not released from personal liability, the borrower, and any guarantor, will remain liable for the mortgage debt or even for a deficiency when the lender later sells the property. Under the Illinois Mortgage Foreclosure Law, a deed in lieu of foreclosure does not automatically cause a merger of the lender's interest as lender and the lender's interest as purchaser of the property.

The intention and interest of the lender will determine whether a merger takes place. The borrower ordinarily prefers a merger, since that extinguishes any outstanding liability on the mortgage debt. The lender, however, usually seeks to avoid a merger in order to preserve the priority of the mortgage as to mechanics' liens and other encumbrances, and to preserve the lender's first lien position if the deed is later set aside.

A provision as to the parties' intent concerning merger should therefore be included in the settlement agreement and the deed.

In order to protect itself, the lender may refuse to release the mortgage of record after the voluntary conveyance until the property is subsequently conveyed or transferred by the lender. Or, the lender may insist that instead of stating that the mortgage debt is extinguished, the settlement agreement and the deed must state that the lender agrees not to bring a personal action on the debt against the borrower. To constitute a preferential transfer, the transfer must be made to or for the benefit of a creditor, for or on account of an antecedent debt which will always be the case with a lieu deed , be made while the debtor was insolvent, and enable the creditor to obtain more than it would have received had the borrower's property been liquidated before the transfer was made.

A lieu deed may also be set aside as a fraudulent conveyance if made within one year prior to the filing of a petition in bankruptcy. To constitute a fraudulent conveyance, the conveyance must have been made with actual intent to hinder, delay, or defraud a creditor, or the borrower must have received less than reasonably equivalent value for the property.

In addition, the borrower must have been insolvent on the date of transfer or must have become insolvent as a result of the transfer.

If a court finds a voidable preference or fraudulent conveyance, it may set the conveyance aside and return the mortgagee to the status quo ante as a secured creditor, or it may order the mortgagee to pay the difference between the value of the property, as determined by the court, and the sales price. In certain circumstances based on lender misconduct, the court may even subordinate the lender's interest to other claims, transfer the lien to the estate, or disallow the claim completely.

See also Re Werth , 37 BR BC DC Colo bank had terminated all funding under loan without notice; debtor-guarantor claimed bank had breached oral loan commitment to loan additional money; court disallowed bank's claim in full ; Re American Lumber Co , 5 BR DC Minn bank took control of borrower's plant and cash disbursements; court held bank had received preferential transfer and voidable preference; judgment entered against bank and bank's claim was subordinated. Equitable subordination may be ordered even if the particular transaction is not a fraudulent conveyance or a preferential transfer.

Therefore, the lender should be sure to obtain a financial statement from the borrower showing that the borrower is not insolvent, obtain an appraisal establishing that the value of the property is less than or equal to the outstanding mortgage debt, and release the borrower from all personal liability or give some other valid consideration. A deed in lieu of foreclosure can be very beneficial to both a lender and a borrower, enabling both to avoid the time and expense of foreclosure.

However, the lender must be careful and provide sufficient consideration to ensure that the transaction is upheld against any potential claims of duress, fraud, or unconscionable advantage. The lender must make sure that accepting a lieu deed is a good choice in the given situation. A loan modification means your lender changes the interest rate on your loan to match current market rates. In that case, your lender may be able to put the excess principal in a forbearance account.

This can stop you from falling further into debt while you pay off what you owe. The amount in forbearance is due when you pay off the rest of the loan. Like a deed in lieu agreement, a lender has no obligation to modify your loan. Most short sales take place because property values have gone down in your area.

During a short sale you communicate with buyers, show your home and talk to real estate agents just like a normal sale. However, unlike a normal sale, your lender needs to approve the short sale before it goes through.

You may or may not still owe money after a short sale. Some states like California have laws that ban deficiencies after a short sale. If you have a deficiency, your lender may sue and take you to court to get a deficiency judgment. A deed in lieu agreement might help you move out of your home and avoid foreclosure. In exchange, the lender agrees to forgive the amount left on your loan.

You can improve your chances of acceptance by keeping your home in good condition. Have questions or need some help with your mortgage? Speak with a Home Loan Expert today. Andrew Dehan is a professional writer who writes about real estate and homeownership. He is also a published poet, musician and nature-lover.

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