I frequently receive calls from prospective clients who have friends in California that simply walked away from an underwater home. This may work in California, but it does not work in Illinois.
Foreclosures vary from state-to-state. Some states, like California, are known as non-recourse states. These states have laws that prevent lenders from pursuing a homeowner for a deficiency judgment after a foreclosure is completed. This means that if the house sells for less than the loan balance, the lender cannot pursue the former home owner for the difference.
Illinois does not have such a law. In Illinois, lenders can pursue homeowners for the difference between the sale price of a home and the value of a loan secured against it. This means that a strategic default or strategic foreclosure in Illinois requires more planning and predictability than one performed in a non-recourse state. If you quit making mortgage payments, move out of the home, and forget about it, then you may one day face a rather large deficiency judgment.
In Illinois, homeowners have three primary means of walking away from an underwater home with minimized risks.
1. Deed in lieu of foreclosure
A deed in lieu of foreclosure is when the homeowner deeds his home to the bank, and the bank agrees to waive any deficiency, should one arise. Every bank is different, but most will refuse to do a deed in lieu of foreclosure if there are any other mortgages on the property. Most banks will require that the homeowner list the property for 90 days and submit a financial package demonstrating a financial hardship.
Homeowners with significant assets are less likely to receive a deed in lieu of foreclosure because the banks see a borrower who can afford to pay.
2. Consent foreclosure
A consent foreclosure becomes available once a lender has filed a foreclosure lawsuit. Like the deed in lieu of foreclosure, the lender agrees to waive any deficiency. In a consent foreclosure, a judgment of foreclosure is entered against the homeowner, and title automatically vests in the lender. Although consent foreclosures were once granted based on a simple written request, some lenders are now requiring financial disclosures similar to those for a deed in lieu of foreclosure.
3. Chapter 13 Severance
In a Chapter 13 severance, the homeowner files a Chapter 13 bankruptcy case and elects to surrender the property as part of the Chapter 13 repayment plan. This can be an effective method of severing liability for an underwater property that also allows the homeowner to eliminate other debts at the same time. A Chapter 13 severance is not right for every homeowner, and any homeowner seeking such a solution should consult with an experienced bankruptcy attorney before attempting such a maneuver.