How Does Foreclosure Work?

Even if you are facing foreclosure, you may be asking yourself how does foreclosure work? The thought of foreclosure frightens homeowners, and it's unsettling to lenders as well. Knowing what happens at each stage of the process will help you set emotion aside and understand your options.

Preforeclosure
When a homeowner signs a mortgage agreement, he or she promises to make regular payments on the loan and agrees that if those payments fall behind (or are missed altogether) that the lender may take the home back through legal action. Preforeclosure occurs as soon as the borrower misses a loan payment and the lender files a notice of default. This first stage gives borrowers time, typically three months, to catch up on late payments, refinance the mortgage or sell the home before it heads to public auction.

Preforeclosure marks the beginning of the foreclosure process. In this stage, the lender orders a document called a Notice of Default, also referred to as a Lis Pendens in some states, that tells the general public that the foreclosure process has begun for a given property. In addition to giving the borrower time to catch up on late mortgage payments, it also lets the public know there is a preforeclosure property that may be available for purchase.

For lenders and homeowners, this is a critical time. Nobody wants the property to go into foreclosure. For the homeowner, it means a black mark on their credit rating or the possibility of filing for bankruptcy. For the lender, there is the chance of losing some or all of the value of the mortgage if the property is sold at auction.

Most lenders want to avoid a foreclosure. For homeowners, the best advice is to avoid preforeclosure by notifying your lender as soon as you realize that you might miss a payment. You may be able to negotiate a new payment plan with your lender. Some states also offer assistance for mortgage payments to low-income families.

Once the foreclosure process has begun, you can still try to renegotiate your mortgage, though finding someone to buy your property may be the only solution left to you. In this arrangement, an investor buys the property from you, freeing you of your obligation to the lender. You lose the property and any investment in it, but your credit history is safe, allowing you to get a fresh start.

The Sheriff's Sale
If the borrower doesn't bring the mortgage up to date within the specified timeframe, the lender will usually schedule an auction to sell the property. Once the lender chooses a time, date and place for the sale, a Notice of Sale will be issued. Like a Notice of Default, a Notice of Sale is widely published. The notice is mailed to the borrower, posted on the property itself and published in local newspapers.

The sale itself is called a Sheriff's Sale, and it is the second major stage of the foreclosure process. A Sheriff's Sale is very similar to any other kind of auction. A typical scenario proceeds as follows:

1. The auctioneer reads a description and any legal notices for the property in question.
2. Bidding begins. Often, bidders must prequalify by providing a deposit check up front. Bidding continues until the auctioneer accepts the highest bid.
3. The paperwork is drawn up for the highest bidder to sign. He or she is often given a grace period to arrange financing for the property. Once this is in place, the property title officially belongs to its new owner.

As a homeowner, you should understand that a foreclosure is not an eviction. The Sheriff's Sale simply transfers ownership of your property. Once the sale is complete, the new owner is free to pursue an eviction from the courts. If you're evicted, you could have as little as 72 hours to vacate the property. However, since the foreclosure is complete, your credit rating will suffer for several years because you defaulted on the mortgage.

Real Estate Owned Properties (REO)
In the event that there is no bidder at the Sheriff's Sale other than the lender, the property becomes Real Estate Owned (REO) and ownership goes to the lender. This usually happens because bidders judge the property to be worth less than what is still owed to the lender.

The REO stage can sometimes occur earlier in the foreclosure process if the borrower and the lender reach an agreement to sell the property to the lender during preforeclosure.

In either case, once someone either the lender or the highest bidder signs the paperwork the major parts of the foreclosure process have come to an end.