If a Second Deed of Trust Is Foreclosed & the First Is in Good Standing Do You Have to Move?

Homeowners can find themselves in a financial pinch if their property is "underwater."

Homeowners can find themselves in a financial pinch if their property is "underwater."

A first deed of trust is almost always the largest loan on your residence. No matter which lien-holder institutes the foreclosure, the first mortgage holder is paid off first. These two facts and the value of your house relative to all outstanding loans might determine how the holder of your second mortgage acts in the event that you fall behind on your second trust deed payments. Another factor is the recourse status of your loans.

Right of Foreclosure

Even if you're current in your payments on your first trust deed, if you fall behind in your payments on the second trust deed, the deed-holder has every right to foreclose on your house, and you must move. Were that not the case, a homeowner could keep current on the first trust deed and hold off paying the holder of the second trust deed indefinitely.

When Your House Is "Underwater"

Following the housing market meltdown that began in 2007, many Americans discovered they owed more on their houses than they were worth -- in real estate slang, the houses were "underwater." Paradoxically, when a homeowner falls behind on a second trust deed, so long as she manages to stay current on the first, being underwater may protect her from foreclosure by the holder of the second. Assume, for example, that the current value of the house is $300,000, that there's $280,000 owing on the first and $70,000 owing on the second. If the holder of the second trust deed forecloses and the house sells for $300,000, the first $280,000 goes to the first lien-holder. Only the remaining $20,000 goes to the second lien-holder -- a recovery of a little over 25 cents on the dollar.

The Second Lienholder's Decision

In this situation, the lender holding the second trust deed may decide not to begin foreclosure proceedings. It may be better to wait, hope for a housing recovery that increases the value of the house, then foreclose to get a full payoff, plus interest and penalties.

Location and Financial Ability

Under most circumstances, a second trust deed is a recourse loan, meaning that although the lender may receive only $20,000 from the sale of the house, it can still pursue the borrower's other assets until it has recovered the remaining $50,000. Two conditions, however, may deter the lender. If the borrower doesn't have many other assets, foreclosing may not yield much more than the initial $20,000. Also, as of publication, if the house is in California, Idaho, Montana, Nevada, New York or Utah, the lender may decide to wait because in these so-called "single-action" states, a mortgage lender may either foreclose on the property -- in this case receiving only $20,000 of the $70,000 owing -- or may institute a suit to collect the entire $70,000, but not both. Unless the lender is certain the debtor has net assets other than the house significantly exceeding $70,000, it might be better to wait until the housing market recovers, then foreclose.


About the Author

Patrick Gleeson received a doctorate in 18th century English literature at the University of Washington. He served as a professor of English at the University of Victoria and was head of freshman English at San Francisco State University. Gleeson is the director of technical publications for McClarie Group and manages an investment fund. He is a Registered Investment Advisor.

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