If you have missed mortgage payments because of a financial change, you may be at risk of foreclosure. However, if you realize that you simply cannot keep up with your mortgage payments, a deed in lieu of foreclosure may be an appropriate option. A deed in lieu is an agreement in which you give the deed to the home to your mortgage lender in exchange for cancellation of the debt. This transaction gives the lender ownership of the home, and allows the lender to sell the home to recoup some of your forgiven mortgage balance.
Foreclosure Prevention
Negotiating a deed in lieu typically involves a promise from the lending institution that it will not initiate foreclosure proceedings on your mortgage. If you are already in foreclosure, the lender will typically halt the foreclosure proceedings after accepting a deed in lieu agreement. Although a deed in lieu will negatively affect your credit, the effects may not be as severe as those caused by a foreclosure entry. This may make it easier to buy another home or obtain other credit in the future.
Deficiency Forgiveness
When a lending institution forecloses on your home, it will typically sell the home at a public auction or through a realtor. The sale price of the home may not be enough to cover your mortgage balance. If your loan balance exceeds the sale price, you are responsible for the difference, called a foreclosure deficiency. However, if you negotiate a deed in lieu, you can ask the lender to forgive any deficiency resulting from the sale after you transfer the deed to the lender. This prevents you from having to continue to make payments on a home you no longer own.
No Taxation
Unlike most types of forgiven debt, a mortgage debt cancelled pursuant to a deed in lieu agreement is not subject to federal taxes if the debt was for your primary home. This prevents the cancellation of your mortgage debt from increasing your tax liability, since the Internal Revenue Service does not consider the canceled debt as earned income. However, if the lender cancels debt for a second home or equity loan, you will have to pay taxes on the forgiven amount.
Considerations
Although a deed in lieu can offer advantages, it can also pose disadvantages. You will no longer have possession of the home, which means that you cannot build equity or take advantage of mortgage interest, property tax or homeowner's insurance deductions. Even though a deed in lieu is better than foreclosure, it can still negatively affect your credit, which can limit your ability to obtain loans and credit cards in the future.
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