A second lienholder -- the individual or institution holding a second deed of trust -- is typically in an inferior position to the first lienholder that owns the first deed of trust. The second lienholder can initiate a foreclosure proceeding if the borrower defaults on the note, but someone, then, still has to pay the first deed of trust. The foreclosure process varies somewhat by state, but there are typical scenarios in which the second lienholder attempts to foreclose on the property, securing his deed of trust.
According to attorney Michael Murray, the person or entity that purchases the property at a foreclosure sale initiated by the second lienholder takes the property subject to the first lien. “The purchaser may simply be able to pay off the first lien note. However, the lender holding the first deed of trust, or first lien, is not obligated to allow the purchaser to assume the note, so the failure of the original borrower to continue to pay the principal loan would be a default." Thus, the first lienholder can foreclose against the purchaser, which “wipes out the ownership rights of the second lien note.”
When Default of the Second Lien Triggers Default of the First Lien
Read your deed of trust carefully; the lender may have inserted language in there that clearly says defaulting on any second lien note, resulting in a threat of foreclosure, automatically triggers a default of the first lien. This means the first lienholder can initiate foreclosure proceedings. In that case, the second lienholder would only get any proceeds from the foreclosure sale left over after paying off the first deed of trust. In a depressed market, in which property values have fallen, it’s likely the second lienholder would get nothing from the foreclosure sale and would have to pursue the borrower separately for the amount owed.
Waiting in Lien Line
Deeds of trust are paid in the order in which they are recorded in the property records. That’s why a mortgage to purchase a property is typically the first lienholder. Any subsequent deeds of trust, or other liens, fall in line based on each recording date. The exception to this is if the property owner has unpaid taxes. All tax liens -- federal and state, as well as property taxes -- typically take priority over other liens or deeds of trust. That means the county tax office, for example, could initiate foreclosure proceedings for unpaid taxes. The property owner has an opportunity to stop the foreclosure proceedings by paying the taxes prior to the sale, in addition to any related costs, such as attorneys’ fees.
Judicial and Non-Judicial Foreclosure
States operate under either a judicial or non-judicial foreclosure process. In states that use a judicial foreclosure, the lienholder must get a court order before the foreclosure takes place. Texas, for example, is a non-judicial foreclosure state. As long as the state laws are followed, the lienholder doesn’t need a judge to sign a court order to seek a foreclosure. Depending on which process your state uses, it can alter what happens with each deed of trust tied to the property, so consult with a real estate attorney to explore your options.
- W. Michael Murray; Attorney at Law, Murray & Associates; Austin, Texas
- Swedelson Gottlieb Community Association Attorneys, HOALawBlog: Lien Priority Explained -- Who Gets Paid After a Foreclosure?
- Law Office of David Serafin J.D.: Will a Second Mortgage Holder Foreclose in Colorado?
- National Consumer Law Center: Excerpt From the Other Foreclosure Crisis: Property Tax Lien Sales, July 2012, Executive Summary
- David Sacks/Photodisc/Getty Images