If a marital home is at risk of being foreclosed upon, the choices made in a couple's divorce process can significantly impact how that foreclosure risk is resolved. Who - if anyone - wants to remain in the house tends to affect the outcomes of these processes the most.
Written by Natasha Wiebusch, J.D..
Updated November 22, 2021
The divorce process impacts everyone's finances differently, but it tends to impact homeowners most significantly. Unfortunately, foreclosure during divorce is common. Home foreclosures can impact the terms of a divorce settlement agreement, sometimes called a property settlement. Property settlements determine how a couple’s divorce will impact any shared property, including any real estate, like a marital home or a vacation home.
Thankfully, there are ways to avoid a foreclosure sale after divorce. The best approaches to avoiding foreclosure are dependent upon who (if anyone) wants to keep the house once a divorce has been finalized.
How To Avoid Foreclosure After Divorce
Both foreclosures and divorce are regulated by state law. Because laws vary from state to state, how each process is handled really depends on the state governing the situation in question.
Who Is Responsible For the Mortgage?
The main question for most divorced couples at risk of foreclosure is: Who should be held responsible for the mortgage debt? The answer to this question can be complicated. Who is responsible for the debt depends on how the property is divided (or not divided) during the divorce process, whose name is on the mortgage, the timing of the divorce petition, and (if this process has already begun) when a foreclosure was initiated.
Generally, if you and your spouse were both named on your mortgage loan and you didn’t refinance to place the mortgage in one person’s name, you are likely still liable for the mortgage debt. Whether you’re liable for this debt depends on the circumstances. If you’re unsure about whether you’re liable for mortgage debt, or if you’re going through a divorce and you’re concerned about foreclosure, contact an attorney to seek legal advice right away.
If One Spouse Wants To Keep the House
In many divorce cases, one spouse will want to keep the house once the divorce is finalized. However, they may not be able to afford the monthly mortgage payments on their own. To keep the house and avoid late payments, they'll have to adjust their mortgage repayment plan. There are a few options available designed to make mortgage repayment more manageable:
A refinanced mortgage pays off the original mortgage that has both spouses listed as owners and replaces it with a mortgage listing only the spouse who wants to keep the home. This way, the other spouse is released from liability for the debt.
If you’d like to keep the house after divorce, refinancing is usually a good option. However, it’s best to refinance before or after your divorce is finalized only if you know that you can afford the home, you haven’t been missing mortgage payments, and your spouse is willing to give up the home.
If you want to keep the house but can’t afford the mortgage on your own, you may be able to negotiate a loan modification with your lender. A loan modification is similar to refinancing, but instead of replacing your mortgage, you’ll change the terms of the original mortgage. Through a loan modification, you may be able to lower your payments by lowering your interest rate and/or extending the life of the loan.
Either way, with lower monthly payments, your mortgage will be more manageable. You’ll need to modify the terms to release your spouse from liability as well, if you opt to take this route forward. If you’re considering a loan modification, contact a loan modification attorney for help.
Beware “Due-on-Sale” Clause Complications
A due-on-sale clause, or an acceleration clause, is a term in a mortgage contract that requires full payment of the outstanding mortgage balance if the house subject to the mortgage is sold or conveyed.
For example, if you decide to sell your house, the mortgage contract will require that you pay the mortgage holder the balance left on the mortgage using the proceeds from the sale. If you sell your home for $250,000 and a $150,000 balance remains on the mortgage, you’ll pay the mortgage holder $150,000 in sale proceeds and keep the remaining $100,000.
These clauses are straightforward when homes are sold at a profit. However, if your spouse conveys their interest in the mortgage to you (releasing them from liability and empowering you as the sole owner of the property), a due-on-sale clause could be triggered, compelling you to pay the total outstanding balance on your mortgage.
Due-on-sale Clauses and Divorce
Due-on-sale clauses aren’t always enforceable against borrowers. Generally, when both spouses own a property and one spouse would like to keep the home, transfering the property to that spouse will not trigger the due-on-sale clause. However, a due-on-sale clause may be triggered if spouses aren’t upfront about their actions. For example, if one spouse tries to give their interest in the house to someone else without the other spouse’s consent, then a due-on-sale clause may be triggered. Or, if the spouse who would like to keep the property does not intend to occupy the property, the clause may be triggered.
Because of these clauses, refinancing is usually a better option than trying to convey one spouse’s interest in the mortgage to the other. By refinancing the mortgage, the spouse who would like to keep the property can start over with a new mortgage. They are then free to keep or sell the home without worrying about triggering a due-on-sale clause.
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If Both Spouses Want To Keep the House
In some cases, both spouses want to keep the house. This is common when spouses are currently parenting young children, or the house is a vacation home. Although it is possible for both spouses to keep the home, there are some risks to doing so, especially when there is a chance that the house will go into foreclosure.
First, foreclosure can cause problems for both spouses. If the court becomes involved, the house may need to be sold quickly or for less than what it is worth. This can create significant financial struggles for the divorcing spouses. Their credit scores will be negatively impacted, which can prevent the spouses from obtaining loans, or loans with favorable credit scores. The mortgage lender may also seek a deficiency judgment if the house is sold for less than the remaining mortgage balance, creating more debt to manage in the divorce.
Although not a direct result, these financial struggles caused by foreclosure can turn a straightforward divorce process into a complicated one.
If Neither Spouse Wants the Property
If neither spouse wants to live in the property as an owner, there are a few options worth considering:
The first option is to sell the house. By selling the home, the divorcing couple can pay off the mortgage and split any remaining proceeds. This is usually the best option if there is equity in the home, meaning that the home is worth more than what is owed on the mortgage.
The second option is renting the property out. By renting the property to a tenant, both spouses can use the rental income to pay off the mortgage loan. This may be a good option if there is no equity in the house, but there is no immediate threat of foreclosure either.
If the property’s value is less than the amount the divorcing couple owes, the mortgage is considered an “underwater mortgage.” In this case, the lender might agree to a short sale instead of foreclosure. A short sale occurs when a house is sold for less than what is still owed on the mortgage.
In a short sale, the lender can either forgive the remaining balance left on the mortgage or require payment through a deficiency judgment. If you’re considering a short sale, make sure to ask the lender whether they’ll forgive the balance.
Deed in Lieu of Foreclosure
A deed in lieu of foreclosure is another option available for spouses with an underwater mortgage. As the name suggests, this option will allow the spouses to avoid foreclosure by handing over the deed to the home to the lender. In this case, the home becomes the property of the lender and you will be released from the mortgage.
Whether you want to keep your home, sell it, or generally avoid foreclosure, you have options available to you during your divorce process. For example, you can rent the property, sell it, refinance your mortgage, or agree to new mortgage terms with your lender.
If you believe that your home might go into foreclosure and your name remains on the mortgage, consider your options carefully. Discuss your situation in detail with your divorce attorney and consult a real estate or bankruptcy attorney for additional guidance if necessary.