In addition to losing your home and having your credit damaged or ruined, after a foreclosure you may have to worry about something else, too: depending on your state's laws, your lender may come after you to collect a "deficiency judgment." This amount represents the difference between what the lender was able to sell your home for, and the amount you owed on the loan. Although a lender coming after you is a real risk in some states, certain laws and strategies can help you protect yourself.
Parts of a Home Loan
When you buy a home using a loan, you typically pledge your home as collateral. The mortgage or trust deed is the instrument that gives your lender the right to take your home if you don't fulfill your obligations to make payments on the loan. The promissory note is the document that outlines your promise to pay the lender back. If you fail to meet your obligation to pay, the lender can take your property to pay back what you owe. If the foreclosure doesn't generate enough money, your promise hasn't been kept, and depending on the laws in your state, the lender may be able to pursue you for the difference.
Recourse Vs. Non-Recourse
Lenders can't always come after you. Some states, usually referred to as non-recourse states, have laws that prevent the lender from coming after you after it has taken your house. Those states consider your promissory note fulfilled when the lender takes the property. Recourse states allow your lender to come after you if you owe more than the lender is able to recover from selling your foreclosed property. However, the rules are not always cut and dried. Some non-recourse states have laws that limit your protection, while some recourse states limit your lender's ability to pursue you, so it is always a good idea to talk to an attorney before the foreclosure occurs.
If the lender's sale of your house doesn't generate enough money to pay off the balance of the promissory note, it can go to court and get a deficiency judgment. Generally, if the lender uses a judicial foreclosure, it will be able to get a deficiency judgement from the same court. If they do not go to court to foreclose, they usually have to go to a separate court hearing to get a judgment recorded against you. Because of the expense and inconvenience of this, some lenders do not pursue judgments to which they are entitled.
Collecting on Deficiency Judgments
Deficiency judgments are similar to other rulings and can be used to pursue you for many years. CNN notes that because many lenders have neither the staff nor the inclination to do this, they sometimes sell the foreclosed notes to collection agencies. The collection agencies can then go to court, if necessary, and get a judgment that they then use to pursue you.
Deed in Lieu of Foreclosure or Short Sale
Instead of waiting for the lender to foreclose and file a deficiency judgement, you can work with them to get out of your house prior to the foreclosure. Whether you give the deed back to the lender through a process known as a "deed in lieu of foreclosure" or you get permission to sell it through a short sale, avoiding foreclosure may help you avoid a deficiency judgment -- but only if there's specific language in your agreement with the lender in which it waives its right to pursue you. An attorney can help you draft language that will bind the lender and let you truly walk away.
Steve Lander has been a writer since 1996, with experience in the fields of financial services, real estate and technology. His work has appeared in trade publications such as the "Minnesota Real Estate Journal" and "Minnesota Multi-Housing Association Advocate." Lander holds a Bachelor of Arts in political science from Columbia University.