Foreclosure: What Private Lenders And Hard Money Lenders Need To Know

For private lenders and hard money lenders, the thought of a foreclosure is often worrying. Heavy losses for a private lender or hard money lender could be devastating and the process itself could take a long time. Learn in this article about why you deserve to be paid and what to do when you aren’t.

In This Article

Lenders often come in for unfair criticism when things go wrong, such as a global pandemic like Covid-19 or a financial crisis, when governments decide that there should be a moratorium on foreclosure and evictions, sometimes for many months. The only consideration is for the borrower or tenant and never the lender. We are not saying this was wrong, merely that the end result is serious consequences for legitimate honest lenders.

Lenders Deserve to be Paid!

If you are a private lender or hard money lender running a fair, reputable business and meeting all your legal obligations, you deserve to be paid! No ifs or buts, you deserve to be paid on time and the right amount. It’s acceptable in society to sometimes think that lenders are the bad guys, but would you go into Publix and fill up a cart and then walk out without paying? That would be theft, but when it’s a lender wanting to be paid, there’s a lot less sympathy and that’s not right.

Borrowers will often try anything to stop or delay a foreclosure and there are many law firms dedicated to doing just that. Foreclosure delays can be costly, so it is important to get a game plan, so you don’t fall into this trap, by not knowing what you are doing.

Many factors can lead to foreclosure, such as job loss, high medical expenses, divorce, or an unexpected major expense. In investment properties, it could be having too high an LTV and property prices go down, meaning the property is in negative equity.

There are many articles online on how homeowners can avoid being foreclosed.

don’t forget that as a lender, you have a right to be paid as this affects your livelihood!

As a Private Lender or Hard Money Lender, what can I do?

Firstly, do not panic!

Secondly, find out as much as you can and be familiar with your rights and responsibilities. Foreclosure law varies by state and it’s important you do your research. If your borrower is in default and you cannot reasonably resolve the situation, with some guidance, you can successfully navigate the foreclosure process.

On our website you will find articles on how to manage your business and what to do when things go wrong. If you’re reading this article you might already be thinking that a foreclosure is likely. Keep reading and we will talk you through the key points.

1. When the Borrower Stops Paying

First things first, has the borrower stopped paying?

The lenders may begin following up with borrowers if their payments are not received within the normal 10 day grace period (or whatever your agreed grace period is). The first contact can be attempted by telephone with a follow up letter. If the borrower fails to respond to both telephone and/or written notice of the late payment, a letter is written letting them know of the Lenders intention to foreclose.

A borrower may have gone on vacation or had a medical emergency. You will likely know from previous experience if this a temporary event or serious enough that you’ll likely have no option but to start a foreclosure. It is typical that a borrower will not respond or will eventually provide excuses, such as the “check is in the mail”.

Of course people do have GENUINE emergencies and if someone has paid you on time every month for 3 years, you may want to cut them a little slack if they have a short term problem. But remember to add on those late charges. And don’t let it get too far behind. 2 months maximum. Try to get them to pay a reduced amount. But you are NOT a charity or their mother.

In your mortgage or deed of trust, there should be specific terms and conditions for what constitutes a default and how it can be remedied and what happens if it is not. Make sure you are familiar with what has been agreed in your documents.

Send a Letter of Default

A “NOD” in foreclosure stands for “Notice of Default.” It is a formal notice sent by a lender to a borrower when the borrower has failed to make mortgage payments as agreed. The Notice of Default typically marks the beginning of the foreclosure process, informing the borrower that they are in default on their loan and outlining the steps they must take to cure the default or face potential foreclosure proceedings. The NOD is a critical document in the foreclosure process, providing the borrower with notice of the lender’s intent to proceed with foreclosure if the default is not resolved. Make sure you send a Letter of Default, ideally via mail as well as email.

2. Are there any options instead of Foreclosure?

Starting a foreclosure is the “nuclear option” and may be unavoidable. Private and hard money lenders have several alternatives to foreclosure that they can consider, including:

1. Loan Modification: Modifying the loan terms, such as adjusting the interest rate, extending the repayment period, or reducing the monthly payments, to make it more manageable for the borrower to repay the loan.
2. Forbearance Agreement: Temporarily suspending or reducing the borrower’s payments for a specific period, allowing them time to overcome financial difficulties before resuming regular payments.
3. Deed in Lieu of Foreclosure: Allowing the borrower to voluntarily transfer the property back to the lender to avoid the foreclosure process, which can be a faster and less costly option for both parties.
4. Short Sale: Allowing the borrower to sell the property for less than the outstanding loan balance, with the lender agreeing to accept the proceeds as full satisfaction of the debt, avoiding the foreclosure process. This may not be a good scenario for the lender, as they will likely suffer a significant loss. There may also be tax implications for the borrower.

These alternatives provide private and hard money lenders with options to work with borrowers facing financial difficulties, potentially avoiding the foreclosure process while still protecting the lender’s interests. Remember, that as the lender you do not want to suffer losses that are greater than if you had foreclosed.

3. Understand the Two DIFFERENT Types of Foreclosure

If there is no other option than to start the foreclosure process, before you go any further, you need to understand what type of foreclosure operates in your state. Foreclosure laws vary from state to state, but in general, there are two main types of foreclosure:

1. There is a Judicial Foreclosure system in Mortgage States.
2. There is a Non-Judicial Foreclosure system in Trust Deed States.

The type of foreclosure depends on whether you have a Mortgage or a Deed of Trust. Some states allow both mortgages and deeds of trust and both Judicial and Non-Judicial foreclosures depending on the type of loan documents. Read or our article on what the difference is between a mortgage and a deed of trust and which states allow them.

4. State by State Foreclosure Rules

For up-to-date information on your state, visit foreclosurelaw.org.

For example, for the state of Florida from foreclosurelaw.org:

Quick Facts

–  Judicial Foreclosure Available: Yes
–  Non-Judicial Foreclosure Available: No 
–  Primary Security Instruments: Mortgage 
–  Timeline: Typically 180 days 
–  Right of Redemption: Yes 
–  Deficiency Judgments Allowed: Yes

This tells you that a judicial foreclosure is required, as Florida is a mortgage state and it should take around 180 days. There is also a right of redemption and deficiency judgments are allowed.

What is a Right of Redemption?

The right of redemption in a mortgage allows the borrower to reclaim their property after a foreclosure sale by paying off the outstanding loan balance and any associated fees. This right typically exists for a specific period after the foreclosure sale, known as the redemption period. During this time, the borrower has the opportunity to “redeem” the property by satisfying the debt, thereby regaining ownership. The length of the redemption period and specific rules governing the right of redemption vary by state.

What is a Deficiency Judgment?

A deficiency judgment is a court-ordered ruling that allows a lender to collect the remaining loan balance from a borrower if the proceeds from a foreclosure sale are insufficient to cover the debt. In other words, if the sale of the foreclosed property does not fully satisfy the outstanding mortgage debt, the lender can seek a deficiency judgment to recover the remaining amount from the borrower. This judgment can result in the borrower being held personally liable for the deficiency, potentially leading to wage garnishment or asset seizure to satisfy the debt. Deficiency judgments are subject to state laws and regulations, and not all states allow lenders to pursue them after a foreclosure.

How Long does it take?

The length of time from commencement of the legal action (the pre-foreclosure) to the legal sale of the property varies greatly from State to State. This is broken down into the time it takes to process the documents through the legal system and the number of days notice one must give of the sale by publication. In the example of Florida, it is around 180 days.

5. Do Private or Hard Money Lenders need a Lawyer for a Foreclosure?

Private or hard money lenders may still benefit from having a lawyer involved in the foreclosure process, especially for judicial foreclosures. The legal requirements for foreclosure apply to private and hard money lenders, just as they do for conventional lenders. A lawyer can ensure that the foreclosure process is conducted in compliance with state laws, draft and review legal documents, represent the lender’s interests in court if necessary, and navigate any potential legal challenges that may arise during the foreclosure proceedings.

6. What Costs are involved with a Foreclosure?

Costs associated with foreclosure can include:

1. Legal Fees: Costs for hiring attorneys to handle the foreclosure process, including filing legal documents, attending court hearings, and representing the lender’s interests.
2. Court Costs: Fees associated with filing court documents, serving notices, and other legal proceedings required for the foreclosure process.
3. Property Preservation Costs: Expenses for securing and maintaining the property during the foreclosure process, such as changing locks, winterizing the property, and regular maintenance.
4. Title Search and Insurance: Costs for conducting a title search to ensure clear title to the property and obtaining title insurance to protect the lender’s interest.
5. Advertising and Auction Costs: Expenses for advertising the foreclosure sale and conducting the auction, including publication costs and auctioneer fees.
6. Property Taxes and Insurance: The lender may need to cover property taxes and insurance premiums to protect their interest in the property during the foreclosure process.

These costs can vary depending on the specific circumstances of the foreclosure and the legal requirements of the state involved.

If the borrower reinstates the loan, or enters into a Forbearance Agreement, the foreclosure fees, costs and expenses are collected from the borrower. The lender(s) is/are otherwise responsible for the payment of all foreclosure fees, costs and expenses.

7. How much will the Lender Lose in Foreclosure?

Use our online calculator to evaluate your potential foreclosure losses. Our calculator can give you an idea of what your potential losses are. We give you an example to explain.

8. Other Key Foreclosure Issues to keep in mind

For lenders involved in foreclosures, it is important to be aware of key issues. Understanding the foreclosure process and applicable laws in the specific state is crucial. Having a clear understanding of the borrower’s rights and available options for resolution can help navigate the process. It is advisable to review the terms of the mortgage or deed of trust agreement, including provisions related to default and foreclosure. Seeking guidance from legal professionals experienced in foreclosure proceedings can ensure compliance and protect the lender’s interests. Maintaining open communication with borrowers and exploring alternatives to foreclosure can be beneficial for all parties involved.

Confusing messages to Borrower

Make sure that your attorney gives the borrower the same message that you do. Your attorney may be telling the borrower that the lender is proceeding with the foreclosure while you are telling them that you’ll try to work out the loan, perhaps by re-amortizing it and/or adding the late payments to the end of the loan.

The borrower won’t know what is going on!

Dealing with tenants in the house

Often the house will be rented. Your attorney should always serve papers on the tenants. if you do not know if it is rented then they should be served as “Unknown tenants” at the property address. If the tenant refuses to move after the foreclosure sale, they can be evicted by the Sheriff, (in Florida, check your state) who will execute a Writ of Possession.

We recommend making contact with the tenant during the foreclosure. They will often feel especially angry as “they” have done nothing wrong. Perhaps you can work out a deal whereby they would continue renting the house, or perhaps buy it from you. Of course if you are outbid at the foreclosure sale, you have got paid in full and it is someone else’s problem.

In the past we have come across tenants who had an agreement to buy the house from the borrower and have even paid them a deposit. Consider giving them credit for the down-payment, even though you did not receive it. A sale to a sitting tenant will save you a lot of time and money!

One thing you definitely do NOT want is for the outgoing tenant to trash the house before being kicked out.

Bankruptcies

It is common for borrowers to file for bankruptcy to stop a foreclosure. They will often do this the day before the foreclosure sale. This creates an automatic stay. You cannot proceed with the bankruptcy or even contact the borrower.

The lender now has to file with the bankruptcy court a motion to lift the automatic stay. This buys the borrower another 2-3 months of free housing. Even worse, sometimes after the stay has been lifted, they will dismiss the bankruptcy, only to file again the day before the sale is due to take place. They can do this again and again until the court gets fed up with their game playing. Usually this could take 3 or 4 times.

Bidding at the sale for Judicial Foreclosures

Laws of bidding at foreclosure sales vary from state to state. Florida for example has no right of redemption after the sale. It is common for the seller’s attorney to bid $100 if there are no other bidders. This saves on documentary stamps. But in other states that have a redemption period, this might mean the borrower could “buy the house back” for just $100. Be guided by your attorney.

After the sale

Some states, such as Florida, permit the lender to pursue a deficiency judgment against the borrower if the house does not sell for enough to cover the loan and costs. Others, such as California, do not permit this. Again check with your attorney for the applicable laws in your state.

Conclusions

If a foreclosure is required and is the only option, you will likely lose income during the foreclosure process and there could be further losses depending on your situation. The key point for private and hard money lenders is that you need to be careful who you lend to and make sure they have cash “skin” in the game and you do not lend at too high an LTV. Lending is never risk free, but there is a lot you can do BEFORE you even agree a loan to make future problems less likely. Read our article on How to be a Successful Private and Hard Money Lender.

Further Reading on Foreclosure:

• Expert Guide to the Non-Judicial Foreclosure Process
• Expert Guide to the Judicial Foreclosure Process
• What you need to know to Evaluate Foreclosure Losses
• Why are Second Mortgage Foreclosures More Risky?

DISCLAIMER: We are not attorneys and we cannot advise you regarding your particular circumstances. You must always obtain competent legal counsel and financial advice. We believe this information to be accurate, but please check with a qualified real estate attorney in your state before making any decision based on this information.