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What Is a Deed in Lieu of Foreclosure?

Oct 11, 2019 by Maurie Backman
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Many homeowners can't keep up with their mortgage payments. This could happen if your income drops, your property taxes rise, or your general expenses increase to a point where something has to give. If you're in this position, a deed in lieu of foreclosure might be right for you.

What is a deed in lieu of foreclosure?

As the name implies, a deed in lieu of foreclosure lets you avoid a full-fledged foreclosure, lessening (though not eliminating) the damage to your credit. When you go this route, you voluntarily transfer your property's title to your lender, as opposed to having your lender come after you for the title.

Of course, if you're not underwater on your mortgage -- meaning your home is worth at least as much as your remaining mortgage balance -- there's always the option to sell it and unload those unaffordable payments. But when your home is worth less than your remaining mortgage balance, things get trickier. At that point, you have a couple of options to pursue with your lender: a short sale or a deed in lieu of foreclosure.

Many people are familiar with short sales -- your lender agrees to let you sell your home for whatever the market commands and effectively lets you off the hook for the amount it’s short (hence the name). A deed in lieu of foreclosure is a less common transaction, but it may be worth considering if you just can't pay your mortgage.

Why might a bank agree to a deed in lieu of foreclosure?

The foreclosure process can be lengthy and costly to lenders who have to hire attorneys and pay for legal fees. A deed in lieu of foreclosure is voluntary on the homeowner's part, so there's less drama and fewer expenses involved. Also, homeowners who fall behind on their mortgages tend to fall behind on property maintenance. With a deed in lieu of foreclosure, lenders can generally get their hands on delinquent properties sooner, thereby lowering the risk of extensive neglect.

What's in it for you?

Clearly, banks have plenty to gain by agreeing to a deed in lieu of foreclosure. But what do homeowners have to gain?

For one thing, you'll likely face less damage to your credit score. Though a deed in lieu of foreclosure remains on your credit record for up to seven years, just like a regular foreclosure, your credit score may not drop as far as it would with a regular foreclosure.

Furthermore, a deed in lieu of foreclosure could protect you from further financial losses. With a regular foreclosure, in many states, your lender can come after you for whatever balance isn't paid on your mortgage, but with a deed in lieu of foreclosure, there's the option to negotiate the delinquent balance down to a lower amount or even eliminate it (though you may be liable for taxes on the amount of your mortgage that's forgiven).

Also, in some cases, a lender might agree to give you some money to help you vacate your home and find a new one as part of the deal, sparing you that added expense when you're having financial difficulty.

Remember, your lender wants you out of that property as soon as possible once it's clear you can't keep up with it. Throwing some money at you is a good way to achieve that.

Is a deed in lieu of foreclosure the right solution for you?

If you're underwater on your mortgage, your best solution is generally to get your lender to agree to a short sale. This way, your lender writes off your remaining mortgage balance and you don't have to worry about being sued for the difference. But if your lender refuses to agree to a short sale, a deed in lieu of foreclosure may be a better route to take than sitting back and waiting for foreclosure.

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