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What Is Voluntary Foreclosure?
Let me explain voluntary foreclosure directly: it's when you, as the borrower, start the foreclosure process yourself because you can't keep up with loan payments on your property. You're doing this to skip out on more payments and dodge an involuntary foreclosure and eviction. You might go this route if your mortgage is way underwater, meaning you owe more than the property's worth.
This isn't the same as involuntary foreclosure, where the lender steps in to seize the property and recoup their losses— that's usually the final step when you're failing on payments. You can request voluntary foreclosure from your bank or lender for either residential or commercial properties.
You'll hear similar terms like strategic default, walking away, jingle mail, or friendly foreclosure—they all point to the same idea.
Key Takeaways
Here's what you need to know: voluntary foreclosure happens when you can't make loan payments anymore and you choose to avoid lender-initiated foreclosure. It will hurt your credit ratings, but it's generally not as bad financially as an involuntary one. The subprime mortgage crisis in the late 2000s caused a big spike in these because so many mortgages went underwater. Sometimes, debtors even plan ahead by racking up more debt before their credit tanks.
Understanding Voluntary Foreclosures
Voluntary foreclosure hits your credit hard and can make renting, buying a home, or getting loans tough for years, but it's still less damaging than the involuntary kind. For some of you, it might be a smart move if you're done struggling with monthly payments and realize you can't keep going.
Many debtors prepare by opening new credit cards or taking out car loans and mortgages before their score drops. Lenders often agree because it speeds up reclaiming the property and collecting debts—cheaper and faster than forcing it.
Reasons for this include sudden job loss, realizing you're overextended financially, or shifts in the housing market combined with variable rates on things like adjustable-rate mortgages (ARMs).
One common type is a deed in lieu of foreclosure. Rules, laws, and penalties differ by lender and state, so check yours.
Pros and Cons of Voluntary Foreclosures
If you're thinking about voluntary foreclosure, weigh the pros and cons carefully. Consider how it affects your credit, losing your home, the financial relief it gives, and any other options like loan modifications or short sales. A deed in lieu might ding your credit less than an involuntary foreclosure.
Pros
- Less impact on credit scores: A deed in lieu could hurt your scores less than an involuntary foreclosure.
- Faster than involuntary foreclosure: It's quicker and simpler to get out of debt, letting you cut losses.
- Less social stigma: You're proactive, so it might not carry as much negative judgment as waiting for the lender.
Cons
- Still may be subject to deficiency judgment: In some states, lenders can chase you for the difference between what you owe and the sale price—know your state's laws.
- Credit still suffers: Getting new credit like car loans or cards will be harder, with higher interest rates.
- Makes finding new housing difficult: Landlords might turn you away or charge more, and you could wait years for a new mortgage—Fannie Mae has a four-year hold after a deed in lieu.
Voluntary Foreclosures and the Housing Crisis of 2007–2009
Before the U.S. housing bubble and subprime crisis in the late 2000s, voluntary foreclosure was rare for struggling borrowers. But it's become more common since. In 2007 and 2008, home prices dropped sharply, often by double digits.
By early 2010, underwater mortgages—where you owe more than the home's value—skyrocketed. In places like California, Nevada, and Florida, over 20% of mortgages were underwater.
What Does a Voluntary Foreclosure Do?
When you voluntarily foreclose on your house, it's typically because you can't handle the loan payments. Instead of waiting for the lender, you take the initiative.
What Happens If You Foreclose Your Own House?
If you choose to foreclose voluntarily, your lender lets you give up the home in return for canceling the debt. You agree to leave it in good shape and move out by a set date. Your credit takes a hit, but you control the exit terms, and sometimes the lender even pays for your move.
What Is a Deed-in-Lieu?
A deed-in-lieu is a form of voluntary foreclosure. You agree with your lender to hand over the property to avoid them forcing foreclosure on you.
The Bottom Line
If you can't afford your mortgage anymore and involuntary foreclosure seems unavoidable, voluntary foreclosure lets you take some control, like deciding when to hand over the property. Any foreclosure hurts your credit, but this might soften the blow a bit.
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