Foreclosure During Divorce

The couple going through a foreclosure at the same time they are going through a divorce should be aware of a number of issues that may arise. The divorcing spouses need to determine 1) who is responsible for the mortgage, 2) how will the debt be repaid and 3) which of them (if either) keeps the property.

First, they must determine whether the debt is the responsibility of one or both of them. Did one or both of them sign the mortgage documents? The documents include the deed, the mortgage and the promissory note.

Signing a promissory note and mortgage has significant and financial ramifications. The promissory note is an IOU between the borrow and the lender that contains the promise to repay the loan as well as the terms and conditions of repayment; it is the “ the promise to pay.” The mortgage provides security for the loan that is evidenced by a promissory note.

Foreclosure damages the credit rating of the spouse who signed the mortgage documents, but the other spouse’s credit score is not affected. Only the spouse who signed the documents is wholly responsible for repaying the mortgage loan. If there’s a deficiency after the foreclosure sale — and state law allows lenders to sue borrowers to recover the deficiency — the lender can seek payment from the spouse named in the promissory note. In most cases both spouses, the husband and the wife, co-sign the loan paperwork, and both own the family house as tenants by the entirety, so and both are liable for the mortgage debt.

One spouse sometimes can assume the mortgage when the couple part.

When the husband, for example, wants to keep the house after a divorce, he can assume the entire mortgage loan, even if the wife is the only signer on the mortgage or both he and she both co-signed on the mortgage, so long as there is no language in the mortgage that specifically forbids an assumption.

A prohibition of assumption requires a due-on-sale clause. While most home mortgages don’t specifically forbid borrowers from assigning their rights and obligations under the mortgage to a third party, most of them do include something called a “due-on-sale clause.” This type of clause states that if the property is sold or conveyed, then the entire loan balance will be accelerated (become due). Most mortgages contain a due on sale clause.

Generally, the due-on-sale clause is the only tool lenders have to prohibit borrowers from transferring the mortgage or the property. If there is no due-on-sale clause in a mortgage, one spouse can legally transfer title to the property and the mortgage to the other spouse without the lender’s consent.

However, even if there is a due-on-sale clause in the mortgage, one spouse can still assign the property and the mortgage entirely to the other spouse without the lender’s consent because of a law called the 1982 Garn-St. Germain Act. Under this federal law, lenders may not enforce an otherwise valid due-on-sale clause if a mortgage or property is transferred as a result of a divorce decree, legal separation agreement, or a property settlement agreement. 12 U.S.C. § 1701j-3(d). The lender can’t require any new underwriting, nor can it prohibit the mortgage transfer just because the mortgage is in default.

The spouse who wants to keep the house and assume the mortgage after the divorce should contact the lender’s assumption department rather than the loss mitigation department. The lender may ask for a copy of the divorce decree or a quitclaim deed from one spouse to the other.

Once the parties to a divorce decide what to do with the house and mortgage—whether one spouse wants to become the sole owner or neither spouse wants to take ownership—there are a number of options available to avoid foreclosure. If neither spouse wants the house any longer, they can attempt a short sale or deed in lieu of foreclosure.

If one spouse will take over the property and the mortgage, that spouse can then apply on his or her own for a modification or refinance, either under the federal government’s Making Home Affordable program or directly with their lender.

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