Those Pesky Deficiency Judgments

At this time there are 13 states with non-recourse laws on the books that protect walk-away Homeowners from being pursued at least by the first mortgage-holder after a Short Sale or foreclosure.  They are: Alaska, Arizona, California, Connecticut, Florida, Idaho, Minnesota, North Carolina, North Dakota, Oregon, Texas, Utah, and Washington.

Those with HELOC second mortgages, or who own second homes or investment property with delinquencies, however, may not be protected for these loans.  In addition, loans made for properties in the other 37 states may face a nasty surprise at the completion of a Short Sale or Deed-in-Lieu as the Lender may go after the deficiency with a judgment, or they may sell the deficiency to a third party collection company to go after the remainder of the loan.

In addition, it is not just the original Lender who may decide to obtain a judgment for the deficiency.  If the mortgage includes private mortgage insurance, the pmi company may decide to sue for the deficiency.

So, even when the mortgage company agrees not to pursue a deficiency judgment with the Short Sale or Deed-in-Lieu of Foreclosure approval, your clients can’t be absolutely sure that no one will come after them for the loss. The mortgage insurance may come after at least a part of the loss, since they will most likely be required to pay out for at least some of the loan loss.

The decision whether to pursue a deficiency will often depend on the Lender’s assessment of whether the Homeowner has resources to go after.  This is more likely the case when the default is on an investment property or second home, but average Homeowners can be targeted as well, especially in states where there is recourse.

The moral of the story for Agents and Investors is to never promise the Homeowner that they can negotiate away a deficiency judgment.  Unless the Homeowner has been discharged from a bankruptcy listing the property as one to be given up in the bankruptcy, there just is no guarantee that some lien holder won’t come after the difference between the mortgaged amount and the sale price.  Even for those properties in a non-recourse state, it is best not to make promises you might not be able to keep.   In many cases a short sale is the best option for the homeowner, but make absolutely sure you are open and honest about the deficiency with your prospective short sale clients.