A deed in lieu is one alternative for homeowners looking to avoid foreclosure. In a deed in lieu, a borrower surrenders the deed to his property and is forgiven the entire mortgage amount. While a deed in lieu relieves homeowners of their mortgage debt, it also comes with its own problems and complications.
The first step in attaining a deed in lieu is to get approval from your lender. If you have second or third mortgages, home equity loans, or tax liens against your property, you will most likely be ineligible for a deed in lieu. Even if you are eligible, your lender may be reluctant to accept your request. Many lenders are hesitant to take on more foreclosed properties as opposed to cash, especially if they already own many.
Many homeowners believe that a deed in lieu of foreclosure will have less of an effect on their credit score than an actual foreclosure. In fact, short sales, deeds in lieu and foreclosures all have approximately the same impact on credit scores. Like a foreclosure, a deed in lieu will remain on your credit report for seven years, but you may be eligible for a new mortgage after a deed in lieu sooner than you would be after a foreclosure. You can acquire a mortgage within two to three years following a deed in lieu, as long as you take the proper steps to improve your credit .
If you opt for a deed in lieu, you may be required to pay two different types of taxes. The first is a deed tax, which applies when any property is transferred between owners. Deed taxes vary depending on the state. The second is income tax on your forgiven mortgage debt. When a lender forgives debt, the forgiven debt is considered income for tax purposes and is taxed accordingly. Following the Mortgage Forgiveness Debt Relief Act of 2007, homeowners with forgiven debt may be able to exclude as much as $2 million of their debt from income tax. The act, originally intended to end in 2010, was extended through 2013.
When a lender agrees to a deed in lieu, it is agreeing to forgive the mortgage still owed on the property, but the lender does not necessarily release its right to legally pursue the homeowner for the remaining amount. A lender may go after a borrower to obtain the "deficiency," or whatever is still owed on the mortgage when the homeowner surrenders the property. In many states, homeowners are protected by anti-deficiency laws following a foreclosure, but some states do not have anti-deficiency laws following a short sale or deed in lieu. To protect yourself from a deficiency lawsuit, it is vital to understand your state's anti-deficiency laws before requesting a deed in lieu.
- NOLO: Short Sales and Deeds in Lieu of Foreclosure
- Washington Post: What’s worse for credit score — foreclosure, short sale or deed in lieu?
- Mortgage Fit: How Deed in lieu of foreclosure affects credit score
- Mortgage Fit: Deed in lieu: Helps you stay away from foreclosure
- Udall Law Firm: Seller Beware: Hidden Pitfalls in Short-Sales& Deeds in Lieu of Foreclosure
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