Foreclosure Help Blog

How Deed in Lieu of Foreclosure Works

If you are facing foreclosure one option to avoid it is known as deed in lieu of foreclosure.  Deed in lieu of foreclosure is where the lender agrees to take over ownership of the your property and you voluntarily deeding the property to the lender.  So basically you give up your home and land to avoid foreclosure.

How A Deed In Lieu Works
When you decide to go with a deed in lieu to avoid foreclosure, you will need to sign some legal documents, such as the agreement in lieu of foreclosure and a warranty deed, quit claim deed or a grant deed.  The Agreement in lieu of foreclosure shows the terms and conditions of the deed in lieu and will be signed by both the lender and borrower.  The warranty deed with will show legal ownership of the property to the lender.

The lender will then mark that you (former homeowner/borrow) a not stating “paid” and provide you with the latter with two forms.  The first from will state that the debt is canceled and the other which refers to the waiver of the right to deficiency judgment.

The agreement for deed in lieu of foreclosure is executed through an escrow company, which receives the borrower’s note, the one that is marked “paid,” from the lender.  The escrow then records the deed used for transferring legal ownership of the mortgaged property and sends the not to the borrower.  The borrower is then released from the liability of the mortgage payments.

Tax consequences with a Deed of Lieu
There may be two types of taxes that you may have to pay when you file for a deed in lieu.

1.    Deed Tax- Because the deed in lieu of foreclosure involves the transfer of property, you will need to pay state deed tax upon the transfer of the property to the lender.  The tax is calculated on the difference between the fair market value of your property and your mortgage balance plus liens removed from the property due to the deed in lieu.

2.    Income tax on canceled debt- The Mortgage Debt Forgiveness Tax Relief Act (which is in effect until the end of 2009) states that one need not pay tax on canceled debt (unpaid loan balance which is forgiven by the lender) resulting from deed in lieu.  You will however need to satisfy certain conditions.

Getting Approved For A Deed Of Lieu
There are 4 main conditions for a lender to consider a deed in lieu of foreclosure:

1.    Foreclosure is imminent and unavoidable
2.    The borrower is unable to sell the property
3.    There should be no other liens or attachments to the property
4.    The property needs to be left in broom clean conditions

These conditions need to be met before most lenders will consider a deed in lieu of foreclosure.  Although keep in mind that it is still one of the least preferred alternatives to foreclosure and should be the last option explored.