As time has gone by, the rights of both mortgage borrowers and lenders have changed and evolved. The basic idea of foreclosure law is to enable the lender to protect its investment in case the borrower defaults on the mortgage agreement. But at the same time, mortgage law needs to also protect the borrower against a lender who wants to take control of the mortgaged property illegally. We can all imagine the popular image of the evil lender preying upon the helpless borrower by seizing the family home at the at the first sign of financial difficulty.
However, most lenders are much more comfortable making loans than they are being property managers. They greatly prefer that borrowers simply make their payments on time. Whenever it becomes clear that a borrower has become unable to meet his or her obligation, then all any lender wants to do is to minimize losses by salvaging the maximum value possible from the mortgaged property.
Types of State Law
The specific challenges of balancing the rights of borrower and lender are encountered at the state level, because foreclosure law is governed by the state. But in general, there are two categories of legal philosophy into which the state can fall:
- Court-governed foreclosure sale (judicial)
- Lender direct power of sale (nonjudicial)
There are, of course, many differences in state laws. For example, the home foreclosure process in California would be quite different than the foreclosure process in Florida. (California foreclosure process is nonjudicial; Florida foreclosure process is judicial.) Rules for a Portland foreclosure would be different from those in Seattle.
Equity of Redemption
Once upon a time, any borrower delinquent on her mortgage would be required to surrender all rights to the property, which would then belong to the lender. This type of “strict foreclosure” has largely been replaced in most states by law that specifies that the borrower has a particular “equity of redemption” period. This means that a borrower who satisfies the outstanding debt during this time period becomes legally able to redeem the property. So when lenders foreclose, they are actually foreclosing, or eliminating, this equity of redemption. Every state gives borrowers a particular period of time during which the mortgage loan can be paid off, thereby avoiding loss of the property.
Judicial Foreclosure
Under judicial foreclosure, a foreclosing lender must petition the court in order to cut off the equity redemption period. During this time, the borrower is usually allowed to remain in the property and might even be able to sell it. When the property finally goes up for sale, the sale must be operated under the supervision of the court. This is a very expensive and time consuming process for the lender to undertake. Due to all of the extra expenses involved with the court sale, there is little chance that the lender will be able to recover the full amount of the debt owed. On the plus side, the buyer of a property at a foreclosure sale is usually guaranteed to receive the property free and clear of any prior liens or encumbrances.
Nonjudicial Foreclosure
Many states follow a different procedure governing foreclosures. Instead of conducting the sale through the courts, the mortgage contract contains a clause that allows the lender to sell the property directly. This contract is often called a “power of sale” mortgage, and since no court is involved, the foreclosure is referred to as nonjudicial.
In those states that use a deed of trust for mortgages, the law provides for a trustee who is empowered to sell the property in case of foreclosure. The state establishes very strict guidelines that govern the conduct of the trustee during the sale. However, this process of foreclosure is preferred by most lenders because it is less complicated and the results are more predictable, compared to undergoing lengthy court proceedings.
The trustee must post a public notice of the foreclosure sale, which is usually conducted at the county courthouse on a particular day each month. The courthouse usually has a bulletin board where these notices are posted for several weeks prior to the sale date.
Mortgage Liens Extinguished
The mortgage foreclosure process eliminates all mortgage liens that were created after the time of the foreclosed mortgage was recorded. As a result, the buyer receives title to the property free and clear of the foreclosed first mortgage as well as any second mortgages that might have been added later. However, any claims or liens that were recorded afterwards remain in full effect. Examples of these encumbrances might be unpaid taxes, IRS judgments, contractors or mechanics liens, or charges by local government agencies. A thorough title search will uncover any remaining liens against a foreclosed property, and a good title insurance policy might offer a good measure of protection against them.
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