Deeds in Lieu of
Foreclosure in Arizona
Several years ago, a “deed in lieu of foreclosure” was a common way for
financially strapped borrowers to convey their real property interest to their
lender without having to go through a foreclosure or trustee sale.
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deed-in-lieu offered benefits to both parties: For the lender, it was quicker
and cheaper than foreclosure; for the borrower, it often inflicted less damage
to his or her credit rating and generally waived any deficiency.
lenders largely abandoned the deed-in-lieu option, due prominently to the risk
to the lender resulting from the doctrine of “merger of title.” The merger
doctrine essentially holds that a “lesser title” merges into the “greater
title”; upon a transfer of ownership interest to the lender via a deed-in-lieu:
the lender’s secured
interest merges up into its title ownership interest;
the lender’s secured
interest is dissolved; and
any junior liens -
such as IRS liens, judgment liens or mechanics’ liens - move up in priority
while still encumbering the property, offering these lien holders equity
against which to foreclose.
In contrast, a formal
foreclosure or trustee sale wipes out any junior liens against the property, and
the trustee’s deed conveys free of those liens. Clearly, this scenario is far
more advantageous to the lender.
have made deeds-in-lieu less attractive to borrowers as well. The use of a
deed-in-lieu potentially eliminates anti-deficiency protection under
33-814, which requires the conducting of a trustee sale in order to be
Notwithstanding these impediments, deeds-in-lieu seem to be making a resurgence
among some lenders, under certain circumstances. On June 27, 2010, the Los
Angeles Times reported that Bank of America had mailed out 100,000
deed-in-lieu solicitations in the previous 60 days, and that other lenders were
receiving positive borrower responses to similar solicitations.
Whether a deed-in-lieu is
a favorable option varies from one situation to the next. Any borrower
considering a deed in lieu of foreclosure should thoroughly review all relevant
documentation associated with the loan and the lender’s offer, and they should
carefully consider the legal concepts at work as described above.
Even if a deed-in-lieu
appears to be a sound legal option, financial considerations – such as the cost
of lender-required title insurance and reports – should be factored into the
decision as well. (Lenders would insist on title reports and title insurance to
protect them against potential liens.) Responsibility for any such costs should
be fully disclosed and understood before conveying.
Finally, borrowers should
be certain that any potential deficiency is waived or released in writing by the
lender. Even with a written waiver/release, there is still the potential for the
lender to issue a Form 1099 to the IRS. This could lead to tax liability
stemming from cancellation-of-debt income, depending on numerous factors that
require analysis outside the scope of this article. ●