Facing Foreclosure In California? The Pros & Cons of Loan Modification, Short Sales and Foreclosure
By: Richard E. Korb[1] 
You’re likely reading this because you or someone you care about is experiencing financial hardship. You’re also likely a property owner, and like many from your generation saw home ownership as living the American Dream. But now, you like so many others face some very stressful decisions concerning the future of your home.
From 2006 to 2009, the US housing market witnessed a 30% decrease in real estate values and is expected to continue to drop by another 5% in the upcoming year.[2] Not only has this recession been the worst in recent memory, causing many individuals losing their jobs, but it has been compounded by unethical lending practices – resulting in you the homeowner coming up short when the mortgage payments are due. So what do you do when you can’t meet your mortgage?
At this point, you are left with three options: (1) refinance your mortgage, (2) short sale your property or (3) to foreclose. These options can be confusing and intimidating so let’s take a moment to go through them one at a time, discussing what they mean, the pros and cons, and the next steps to get you started down that road.
LOAN MODIFICATION
Loan Modification is an attempt to change one or more of the terms of your mortgage because of an inability to meet current payments due to job loss, injury, variable interest rate reset, etc. The goal is to allow you to continue paying your mortgage but at a different interest rate, reduced monthly payment or a principal reduction of the loan. Most people refinance or modify their loan to lower their monthly payments in order to free up some cash. This can be accomplished many different ways (some of which are listed under How it Works).
Who can refinance? Really anyone with enough equity can modify their loan, and many people do. But what about those whose house prices have gone down, or whose income has decreased, or whose debts have multiplied? Refinancing for some will be more difficult than it is for others, and depends a lot upon homeowner priorities and market conditions. If your house is still an investment you’d like to keep and you have the means of repaying your mortgage, take some time to look at the following information regarding loan modification.
Certain factors in today’s market make refinancing more difficult than it once was. For starters, many people have a hard time refinancing because they have insufficient equity. Housing prices have dropped significantly and banks often require homeowners to have at least 5-10% equity in their home. Additionally, many individuals have lower incomes than before and your lender may decide that you do not have the means to afford your home. But do not lose hope; Congress and the Obama administration have attempted to make loan modifications easier through the HOPE for Homeowners Act and the Homeowner Affordability and Stability Plan. Please visit the links for more information.
| Option 1: Refinancing/Loan Modification | |
| How it Works | There are various types of loan modifications, and a lender can modify a California homeowner’s mortgage in the following ways:
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| The Good |
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| The Bad |
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| Example | My family income is not what it used to be and I’m worried that in a few months I will run out of enough savings to continue paying my mortgage. Keeping my home is a priority, but I need a way to lower my monthly payments in order to get my finances back on track. |
| What’s the next step? |
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If you are behind on your mortgage, want to keep your home and have equity, refinancing is the best option for keeping your home and credit score. But be wary, not only is refinancing up to the discretion of your lender but make sure that you can continue to make your payments with the new terms of the loan in order to prevent a similar situation in the future.
SHORT SALE
A short sale is an alternative to refinancing and similar to a voluntary foreclosure. In lieu of keeping your property, a short sale requires a real estate transaction in which a realtor sells the property to a buyer. Although your lender sells the property for a loss, this process is still cheaper and more pleasant than a foreclosure. The primary difference between a short sale and refinancing, for you, is that keeping the property is not necessarily a priority.
A major problem for short sales has been the inability of realtors to sell houses in the current market. Your lender may decide to foreclose instead, gaining ownership of the house in order to sell it later when prices are more favorable. Therefore, short sales are preferable if your house is both marketable and is currently worth a large part of what you owe to your lender.
What if you have more than one loan? If you have two or three mortgages on your home, a short sale will require approval of each lender. Unfortunately, when multiple loans exist a short sale is nearly impossible, as these other lenders have little financial gain.
For tax purposes, the IRS sees a short sale as income. When you first got the loan, you didn’t have to pay taxes on it because you were obligated to repay the loan. However, because some of your debt was forgiven, this is seen as income on which you owe tax.
| Option 2: Short Sale | |
| How it Works | Once you and your lender have agreed that a short sale is the best option, the next step is to find a suitable realtor to represent you. While the realtor is attempting to sell the house, you are likely to take the following steps with your lender:
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| The Good |
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| The Bad |
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| Example | I can see that I won’t be able to afford my mortgage in the future and I am looking for a new property that I know I can afford. My home is in good condition and marketable. I want to cut my losses on my current property and start fresh somewhere new. |
| What’s the next step? |
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After agreeing to a short sale with your lender, the most important decision you can make is in choosing the right realtor to execute the short sale. In many cases, the successful execution of the short sale rests squarely on the shoulders of an experienced realtor. With that in mind, there are many realtors who specialize in short sales so put in your due diligence in order to find the right representative.
NON-JUDICIAL FORECLOSURE[3]
In California, your lender is the legal owner of your home until you have satisfied your loan. Thus, a foreclosure occurs when you default on your mortgage and your lender decides to seize or sell the property. Guidelines for execution of the foreclosure are based on the power of sale clause found in the mortgage, or are otherwise carried out according to state law (see How it Works in the table below). Unlike refinancing or a short sale, your lender has the final say on the foreclosure and it is their goal to satisfy the loan balance. See the power of sale clause in your mortgage for more information. Remember, you can generally stop the foreclosure if the loan and the bank’s foreclosure costs are paid off anytime during the proceedings.
What are your options? Talk to your lender and explain your situation. It’s never too late to stop the foreclosure. In the mean time, it helps to put your house up for sale in order to get the best offer possible. This simple maneuver may also help you negotiate a short sale with your lender instead of a foreclosure. If a temporary problem is preventing you from paying your mortgage (e.g. injury or job loss), forbearance allows you to postpone these payments until you are able to pay. Another option of last resorts is to declare bankruptcy. Make sure to seek counsel if interested in this route.
| Option 3: Non-Judicial Foreclosure | |
| How it Works | The power of sale clause often specifies the time, place and terms of the sale and that procedure must be followed. If not specified then the foreclosure is to be executed according to California law. Power of saleclauses are similar to state law, which requires:
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| The Good |
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| The Bad |
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| Example | A few months ago I stopped all my mortgage payments because they became overwhelming. I’m getting letters and phone calls from my lender who’s threatening foreclosure. I’m worried, panicking and not sure what to do. |
| What’s the next step? | Avoid succumbing to bankruptcy. Deal with the foreclosure in a responsible manner and in accordance with state law. If it’s of any consolation, California law is consumer oriented and protective of the end user. |
If you are threatened with foreclosure, time matters and you need to get legal help. Legal counsel can determine if you have legal defenses against a foreclosure and can also aid with negotiations between you and your lender. Remember, foreclosures are governed by state laws that work on a timetable, and your options become increasingly limited as time progresses. Should you find yourself being foreclosed on, don’t hesitate to act. The longer you wait, the less opportunities both you and your attorney have.
[1] RICHARD E. KORB is a seasoned attorney with 30 years of business, real estate litigation and foreclosure experience. Over his legal career, Richard has successfully litigated and resolved over 300 court cases in the fields of contract law, real estate, employment, unfair competition, bankruptcy and general civil law and he has drafted and negotiated over 250 contracts and licenses for large and small companies alike. Richard leverages his experience as a former partner in a 100-person law firm and chief counsel for a public software company to assist individuals and companies, from start-ups to multi-nationals, with a broad spectrum of legal matters. In addition to his legal practice, Richard is a court-approved mediator and serves on the Alternative Dispute Resolution (ADR) panel for both the Alameda and Contra Costs County Superior Courts. ©2011
[3] When people say ‘foreclosure’ they typically are experiencing a non-judicial foreclosure, as opposed to a judicial foreclosure. A judicial foreclosure involves filing a lawsuit in order to for the lender to obtain the power of sale
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