Buying a foreclosure could get you a home at a bargain price. But beware of debt that could be lurking on the title as well as bank documents that facilitate the purchase of a home but could land you with additional debt from unknown liens.
Standard Home Purchase
When you purchase a home, the mortgage lender files a real estate lien against the property. This lien gives the lender a legal right to your property for the amount mortgaged, should the house sell or foreclose. You can't sell your home without this lien being paid off because the property must transfer with “clear title." All liens, including second mortgages, lines of credit, judgments and more, require payment before the property can be legally transferred to the buyer. This is one of the many functions of escrow. Liens are prioritized by who is first in line on the title and paid off in that order. A first mortgage would be paid first and so on.
With a foreclosure sale, if the sale price does not cover all liens, the unpaid debt remains on the title of the property until satisfied, depending on the priority it holds. For example, even if a second position lien forecloses, the first position would still have to be paid before a transfer could occur. Most liens remain the seller's responsibility because the seller did, after all, sign the lien document. However, in rare cases, when purchasing property at a real estate auction, unsatisfied liens could be in a position to require payment.
Memorandum of Sale
At a real estate auction, when the sale price only covers the default loan, the bank might require a “Memorandum of Sale” to be signed by the buyer before transferring the property. It is a legal document that accompanies the contract and says that the foreclosing bank makes no warranties against the property other than its interest and that the property is transferred subject to any liens, obligations or other rights senior to the foreclosing mortgage. In layman's terms, this document releases the bank from all existing liens, other than its own, and places any remaining debt in the hands of the buyer. This should be a huge red flag. Yes, the property might be going for a bargain price, but this document may land you in serious debt if you have not done your homework.
You can avoid this danger when buying a foreclosure at an auction by doing the required research prior to bidding. The chain of title can be obtained, sometimes for free, through a title or escrow company. A title search will give you the complete background of the property, including current and previous owners, all liens and their order, tax debt, easements, covenants and more. Be certain you review these documents thoroughly, because if the home you want to purchase has any liens attached, there is a possibility of becoming liable for them.Your best protection may be to speak with a qualified real estate attorney prior to the purchase. That way legal advice is there to guide you through the process, protect your legal rights and ensure a smooth and fair transaction.
Tina Volpe is the author of "The Fast Food Craze: Wreaking Havoc on Our Bodies and Our Animals" and the co-author of "The Missing Peace: The Hidden Power of Our Kinship With Animals," a Silver winner in the 2010 Nautilus Book Awards. She is also a columnist for various online publications.