What Is Foreclosure?

Foreclosure is the legal right of a creditor to take back a property when a borrower stops making mortgage payments. Through the foreclosure process, a mortgage lender or other third-party lien holder gains ownership of a property. They may have a right to sell the foreclosed property and use the proceeds to pay off the mortgage. This usually happens if the mortgage or lien is in default, meaning the homeowner has missed payments.

Foreclosure proceedings have existed for centuries. Initially, the legal process gave automatic ownership of the property to the holder of the mortgage loan (the “mortgagee") upon default. Today, foreclosure works differently. The law has developed over the years to allow borrowers (“mortgagors") time to pay off mortgages before their property is taken away.

Today, numerous state laws and regulations govern foreclosure to protect homebuyers from unfairness, scams, and fraud. In the US, although states have their own variations, the basic premises of how it works remain the same. For a basic introduction, download FindLaw's Guide to Foreclosure [pdf].

Types of Foreclosure

The mortgage holder can usually initiate foreclosure any time after a default on the mortgage. In pre-foreclosure, the lender will typically issue a notice of default to the borrower. The borrower's credit report and credit score may be affected absent timely repayment.

In the United States, there are several types of foreclosure that affect homeownership. Two are widely used, with the rest being possibilities only in a few states.

Judicial Foreclosures

The most important type of foreclosure is foreclosure by judicial sale. This is available in every state and is the required method in many. It involves the sale of the mortgaged property under the supervision of a court. The proceeds go in order to:

1. Satisfy any senior, secured government liens, such as unpaid property taxes
2. Satisfy the mortgage 
3. Satisfy other lien holders 
4. To the mortgagor

Because it is a legal action, all the proper parties must be notified of the foreclosure. There will be both pleadings and some sort of judicial decision, usually after a short trial.

Nonjudicial Foreclosures

The second type of foreclosure is foreclosure by power of sale. Also known as nonjudicial foreclosure, it involves the sale of the property by the mortgage holder without the supervision of a court. Where it is available, foreclosure by power of sale is a more expedient way of foreclosing on a property than foreclosure by judicial sale. The majority of states allow this method of foreclosure. Again, proceeds from the sale go first to the mortgage holder, then to other lien holders, and finally to the mortgagor.

Other Foreclosures

Other types of foreclosure are only available in limited places and are therefore considered minor methods of foreclosure. Strict foreclosure is one example. Under strict foreclosure, when a mortgagor defaults, a court orders the mortgagor to pay the mortgage within a certain period. If the mortgagor fails, the mortgage holder automatically gains title. The holder will have no obligation to sell the property. 

Strict foreclosure was the original method of foreclosure, but today it is only available in Connecticut and Vermont.

Acceleration

The concept of acceleration is used to determine the amount owed under foreclosure when the mortgagor defaults on the mortgage. Acceleration allows the mortgage holder the right to declare the entire debt due and payable. Suppose a mortgage is taken out on a property for $100,000 with monthly payments required. If the mortgagor fails to make the monthly payments, the mortgage holder can demand the mortgagor make good on the entire $100,000 of the mortgage.

Almost all mortgages today have acceleration clauses. However, they are not imposed by statute (codified law). If a home loan contract does not have an acceleration clause, the mortgage holder has no choice but to accept one of the following:

• Wait to foreclose until all of the payments come due
• Convince a court to divide up parts of the property and sell them in order to pay the installment that is due
• Negotiate for loan modification, forbearance, refinance, or a deed in lieu of foreclosure instead of refinancing

Alternatively, the court may order the property sold subject to the mortgage. The lender will subsequently issue a notice of sale. The property may be:

• Sold through a trustee sale, via a power of sale clause in a deed of trust
• Sold at a public auction/foreclosure auction to the highest bidder
• Sold through a real estate agent, also referred to as a  Realtor
• Sold through a short sale

The defaulting borrower will face eviction from their foreclosed home. The proceeds from the foreclosure sale will then go to the payments owed to the mortgage holder. In states that allow it, the lender may obtain a deficiency judgment in case the proceeds are insufficient to cover the money owed.

If a lender is unable to sell a home in foreclosure, it will be designated as a real estate owned (REO) property. This will give private investors an opportunity to negotiate a lower price for their purchase. Whether or not the home is sold, a borrower may have a limited time period to buy the property back in places with right of redemption laws.

Contact a Foreclosure Attorney

If you're struggling to make your house payments, you're not alone. Many Americans face financial hardship during challenging times, but facing foreclosure doesn't have to mean you're out of options. Speak with a real estate foreclosure attorney to get help regarding your specific situation. They can give you legal advice to delay or prevent foreclosure altogether.