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Part 4: If You’re on the Other End of a Foreclosure,

Should You Simply Walk Away From Your Home?

If you’re a homeowner who’s looking at foreclosure, should you just walk away from your home and let the bank take it back?

If you do, for sure, your credit rating is going to be severely damaged, which is going to make it virtually impossible to get another home loan for, at a minimum, several years. Not to mention, the interest rate on your credit cards is going to go as high as the law allows. Working in your favor though is the reality that the bank doesn’t want your property. It takes a substantial loss when it has to resell it. So you’ve got some leverage in negotiating for time to stave off foreclosure.

Even Ben Bernanke, Federal Reserve Chairman, is encouraging lenders to reduce the principal amount of individual home loans -– which is a remarkable thing.

There are downsides for distressed borrowers who just walk away from their homes: First and foremost, in many states a lender can seek a deficiency judgment, that is, a court judgment for the difference between the outstanding balance of the loan and what the bank recovered from the foreclosure sale. This is usually attenuated somewhat by the so-called “one-action rule” which also fits into the equation.

The one-action rule requires a lender with a deed of trust recorded against real estate securing the loan to foreclose on the property first, before seeking any other remedy. In Nevada , for instance, a lender may, after the sale, file an action against the debtor to collect the deficiency. But it must be filed within six months of the foreclosure.

California law, on the other hand, is entirely different. If it’s a purchase money loan/deed of trust, i.e., the bank that loaned you the money to purchase the real estate is foreclosing, the bank may not seek a deficiency judgment against the borrower. The policy of the State is that the suffering of foreclosed debtors’ ought to be limited to the loss of the home; and they ought not be subject to multiple claims for recovery. What’s more, if the lender makes a risky loan, it ought to suffer the consequences of its laxity.

The rule, logically, doesn’t apply to second and third “junior lienholders,” whose deeds of trust were extinguished by the foreclosure of the first deed of trust holder, from filing an action to recover the amount owed. They haven’t had their “one-action.”

Even then, suppose an inferior lien holder cures the borrower’s default on the first deed of trust, avoiding the foreclosure and the extinguishment of its security. It could foreclose on its second, pay off the first and own the property. Another reality of California law is that the lender cannot obtain a deficiency judgment in a private sale -– 99 percent of foreclosures are done through non-judicial, private sales. It has to jump through the hoops of the judicial foreclosure process, which is expensive; and then the property is subject to a 1-year period of redemption whereby the foreclosed owner is entitled to repurchase the property. Thus, the foreclosing lender will then have to discount the sale price to a third party purchaser who will demand it inasmuch as she takes the property subject to the right of redemption.

Is it likely a bank would seek to obtain a deficiency judgment? All things considered, probably not -– particularly if the borrower is broke and has no other assets. Any court action is time-consuming and expensive insofar as it requires a lawyer to prosecute it. It could take a year, as in any other civil case, to get a judgment through the courts.

And when you think about, the easiest way to collect a judgment is to record it in the county where the debtor has real estate; when the property is then sold, the judgment has to be paid. So, for the bank, the easiest asset to attach has already been taken. By the bank. Getting a judgment is comparatively easy; collecting it is extremely difficult. For instance, the heirs of Ron Goldman and Nicole Brown Simpson obtained a judgment against O.J. Simpson for $33 million dollars. Do you think they’ve recovered one dollar? Doubtful. But O.J. lives in a mansion in Florida and his retirement income and pension funds are exempt from execution.