Property Law: Mortgage Defaults
If the mortgagor defaults, the mortgagee can foreclose, meaning the mortgagee can sell the mortgaged property and keep as much of the proceeds as needed to pay off the mortgagor’s debt. The mortgagee may initiate a judicial action to have a public official sell the property at auction.
Or, if the mortgage or deed of trust authorizes it, in some states the mortgagee may have the property sold without a judicial action. State statutes specify required notices and sale procedures for such private, nonjudicial foreclosure sales. This is the process of selling property in foreclosure.
Before a foreclosure sale can occur, the mortgagor must have defaulted and not permissibly cured the default or exercised the equity of redemption. The following sections talk about these legal issues preceding foreclosure.
Defaulting on a mortgage
The mortgagee can foreclose only if the mortgagor materially breaches the contract, which is called a default. Not all breaches of the contract are acts of default; the mortgage agreement generally specifies what constitutes a default. Typical acts of default include the following:
Failure to make a required payment of principal and interest when scheduled: Commonly mortgages allow a grace period after the due date, such as 15 days, but after that time, the mortgagor is in default.
Failure to pay property taxes and public assessments on the property: These unpaid taxes and assessments may result in liens that allow the government to sell the property to satisfy the unpaid taxes and assessments.
Failure to maintain property insurance: The lack of insurance creates the risk that the property will be damaged with no source of money to repair it.
Significantly damaging the property: Damage obviously reduces the property’s value as security for the mortgagee.
Accelerating the debt
A foreclosing mortgagee virtually always starts the process by accelerating the debt, although doing so isn’t technically necessary to foreclose. Before default, the mortgagor’s obligation typically is to pay an installment of principal and interest each month.
But the mortgage usually provides that, if the mortgagor defaults, the mortgagee can accelerate the debt, which means demanding immediate payment of the entire unpaid principal and other amounts owed under the parties’ agreement. Then the mortgagee can foreclose and use the sale proceeds to pay off the entire debt and not just unpaid monthly installments.
However, regardless of what the mortgage says, most courts don’t allow the lender to accelerate if it would be unconscionable because the harsh consequences are unjustified by the mortgagor’s default. Here are some circumstances in which courts may consider acceleration unconscionable:
The default was technical and minor, not causing any real injury to the mortgagee or jeopardizing the mortgagee’s security.
The mortgagor tried in good faith to perform her obligations but unintentionally and innocently committed the default.
The default was brief, and the mortgagor promptly tried to cure the default.
The default was caused by fraud or conduct in bad faith by the mortgagee.
One thing that isn’t on this list is the personal or financial circumstances of the mortgagor. The mortgagor’s circumstances don’t make acceleration unconscionable even though one might empathize with her plight.
The mortgagee also may not accelerate the debt if it has waived the right to do so. Probably the most common waiver occurs when the mortgagee has previously accepted late payments from the mortgager, resulting in waiver of the right to accelerate the debt when a payment is late. The mortgagee also may waive the right to accelerate the debt, or be estopped from doing so, by assuring the borrower that it won’t accelerate the debt for a particular reason.
To avoid waiver of the right to accelerate, mortgages often contain anti-waiver clauses that say the mortgagee’s acceptance of late payments or other acts of forbearance won’t waive the mortgagee’s right to accelerate the debt for such reasons in the future. Courts generally enforce such anti-waiver clauses.
The mortgagor has the right to cure the default up until the mortgagee effectively accelerates the debt. So if the mortgagor defaults by not making a couple of monthly payments, the mortgagor can prevent acceleration and foreclosure by tendering the late payments to the mortgagee any time before the mortgagee accelerates the debt.
At the very least, the mortgagee must take some action, such as giving notice to the mortgagor or filing a foreclosure action, in order to accelerate the debt. Often, state law or the mortgage agreement requires the mortgagee to give notice of its intention to accelerate the debt 30 days or some other time before actually accelerating, giving the mortgagor time to cure her default.
Some state statutes and mortgage agreements also allow the borrower to cure default even after acceleration, sometimes even up until the moment of a foreclosure sale.
Exercising the equity of redemption
Even if the debt is accelerated and the mortgagee begins foreclosure proceedings, the mortgagor always has the right to exercise the equity of redemption, which is the right to pay off the entire outstanding debt and thereby extinguish the mortgage and avoid a foreclosure sale.
The mortgagor always has this equitable right, no matter what the mortgage agreement says. Anything inconsistent with the equity of redemption is simply invalid. The mortgagee’s only interest is in being fully repaid, so if the mortgagor pays the entire debt, along with any other damages and charges she agreed to pay, then the mortgagee has received everything it bargained for and has no further interest in the property.
The mortgagor can exercise the equity of redemption at any time up until the moment the property is sold by a foreclosure sale.