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Deed in lieu of foreclosure may have expensive consequences

All too often, mortgage loan work-outs do not work out as planned, and a homeowner makes the tough decision to leave the home. Frequently, this is because the mortgage payments are not affordable and the owner has been unable to sell the home at a price that would pay off the mortgage balance.

Allowing a foreclosure to take place is an option, but one that can be messy. In addition, because it is a legal action in court filed against the homeowner, it can cause additional stress on the already stressed homeowner.

Deed in lieu of foreclosure alternative

One option available may be giving the mortgage lender the deed or title to the home in lieu of having foreclosure instituted against the homeowner. In exchange for giving the lender the deed without forcing the lender to pursue a foreclosure action against the homeowner for defaulting on the mortgage, the lender may agree to cancel the mortgage debt balance.

It may sound very enticing, particularly if one is looking forward to moving to a new area. If one does not wish to stay in the home, the appeal to a deed in lieu may gain some traction.

Unexpected disadvantage to a deed in lieu

That said, a deed in lieu alternative is not necessarily as clean as it may seem. First, it may not even be possible if the home has liens filed against it. If a deed in lieu is a possible option after considering if there are other liens standing in the way, a subsequent repercussion may be surprising to an unwary homeowner is a 1099 after year end.

Namely, the lender may file the 1099C with the taxing authority, such as the IRS. The amount of the outstanding mortgage balance that the lender canceled may count as income to the homeowner. That income may be taxable, causing a substantial tax burden on the homeowner that may be as difficult to overcome as the mortgage itself.

It is possible that a short sale is an option for the homeowner, or that bankruptcy may be the quicker and less burdensome option. However, each situation is very fact-specific to that homeowner, and there is no one-size-fits-all solution.

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