A foreclosure usually means a previous owner fell into default on the mortgage. When there’s an unpaid mortgage debt, the lender can put a lien on the property, and ultimately claim the property itself. Foreclosures can also happen due to a neglected tax lien, or some other kind of lien.
But there’s just one question we’re going to explore here. If you decide to purchase a foreclosed home, what problems could arise later? Let’s dive right in and look one of the stickiest situations: a legal challenge from the former owner.
Receiving a Summons From a Previous Owner
After getting a great deal on a bank-owned home, the new owner settles in, makes repairs, pays the taxes and insurance, and lives happily ever after. Until, some years later, a summons arrives at the door. The former homeowner has a lawyer, and is filing a claim on your title.
The home’s current owner and mortgage company, and the bank that sold the home, are all named in the summons. The former owner claims to still have an ownership interest in the home, insisting that the foreclosure and sale involved an unauthorized agency, or the prior owner never signed off on a key document.
Such startling scenarios — which do happen now and then — show why an owner’s title insurance policy is a must-have. The current homeowner, as a bona fide purchaser, should prevail over the former one. Still, problems like this one can be tricky to solve.
If you own a previously foreclosed property, and find your title challenged, the title insurer should provide legal representation for you, and shield you from responsibility for any monetary damages the claimant could win. Perhaps a lawyer who worked on that prior foreclosure made errors on the title documents or the recording application, or there was some other lapse of that kind. In these situations, the title company might connect with that same lawyer to issue a quitclaim deed to clear the title. In other cases, current owners endure long and tangled processes until new documents can be created.
The Relationship Between Foreclosure and Good Title
Before a bank markets a foreclosed home, it orders a title search, looking for judgments, liens and encumbrances. Anyone holding claims will be named in the foreclosure action, so the claims can be discharged. Cleared of title defects, the house can then be sold. As our hypothetical case shows, though, procedural mistakes can be made in the foreclosure action — or actual clouds on the title can sometimes be missed.
Unless the bank catches the errors and amends its foreclosure documents prior to the sale, the unresolved issues, depending on their nature, could survive the foreclosure. If they do, will the interested parties agree to release their claims or quitclaim their interests? If not, a court might have to step in to clear the title through a quiet title action to address the lingering clouds and clear the title for a potential transfer to the next owner at some future time. This is a time-intensive project, but necessary if all else fails, as we’ll explain in a little more detail below. When you speak with a local lawyer, you’ll be able to map out the legal process.
☛ Important note to those thinking of buying a foreclosed home: The buyer of a foreclosed home will often receive a quitclaim or special warranty deed rather than the broader coverage of a general warranty deed. This makes it especially important to secure title insurance when you’re looking to buy a foreclosed home. And each foreclosed home comes with a unique set of risks. Moreover, states vary in their approaches to creditors’ rights and foreclosure law and policy. We recommend hiring an attorney admitted to the Bar in your state before you sign an offer document.
Getting Title Insurance for Foreclosed Homes
Homes foreclosed for unpaid taxes can be sold at sheriffs’ sales and courthouse auctions. Quitclaim deeds are the norm in these circumstances, so the buyer is getting the title as-is. It will be up to the new owner to grapple with any surviving liens or other clouds on the title. Homes acquired through a real estate agent by bidding on HUD foreclosures, though, have cleared titles.
In the most common kind of case, if you are looking at a foreclosed home on the market, you’ll be buying from a bank after a mortgage foreclosure. These homes are called real estate owned (REO) properties. Buying an REO is less risky than buying at a courthouse auction, so it’s easier to get a title policy for the property. As the experts at Title Partners of South Florida point out, the title company can get indemnification from the bank on an REO property if a title challenge occurs later. Your purchase agreement with the bank might include assurances that they are delivering clear title to you — optimally, with a warranty deed.
The title experts urge buyers who are interested in a foreclosure property to:
- Review the county records (not just real estate websites) to understand the ownership of the property. Failure to do so could be a serious mistake. For example, what buyer would want to learn after a purchase that they co-own, rather than own, the property they bought?
- Have your real estate agent check the property with a title company. Look for liens, judgments, and administrative orders to determine whether violations and fines have survived foreclosure.
- Be on the lookout for any restrictions, leases, easements, or other agreements that the foreclosure doesn’t wipe out.
- Be sure that the deed to be conveyed to you is insurable under the law of the property’s state.
- Request a title search and commitment in advance. With the commitment, a title insurer can determine who has an interest in the property, the valuation of that interest, and what responsibilities the buyer assumes.
State law might say foreclosures extinguish liens with lower priority than the foreclosing lien — but even then, a higher-priority lien could survive. Particularly for homes sold “as is” and quitclaimed to buyers, liens can survive for the buyer to settle with the creditors. Be sure that massive creditor payoffs are not part of your side of the bargain.
☛ Thinking of buying in an REO sale? Learn more about What You Should Know Before Buying a Foreclosed Home.
Finally… Some Peace and Quiet
Sometimes a title seems impossible to clear. Owners might attempt to negotiate payoffs of liens and claims. Ultimately, they could go to court with a quiet title action to clear the title.
Suing to quiet the title isn’t cheap; but in some cases, it may be the least expensive — or the only — option. Discuss the situation with your real estate lawyer to determine what will work best in your own set of circumstances and locale.
If you do not have a real estate lawyer, ask your real estate agent or mortgage specialist for recommendations. As the first consultation is usually free of charge, you’re not bound to sign a legal agreement with the first professional you meet. It could make sense to converse with several local attorneys, go over the basic facts, and get an understanding of how each lawyer would approach your case. Discuss the likely costs, and get a sense of the energy and care that will go into the work.
There’s no better time for zealous advocacy than when your title is on the line.
Title Partners of South Florida: Can I Get Title Insurance on a Foreclosure? (undated).