What is Foreclosure?
Foreclosure is the legal right of a mortgage holder or other third-party lien holder to gain ownership of the property and/or the right to sell the property and use the proceeds to pay off the mortgage if the mortgage or lien is in default. It is a concept that has existed for centuries.
Initially, the law had it that a mortgage default resulted in the automatic ownership of the property by the holder of the mortgage (sometimes referred to as the mortgagee). But the law developed over the years so as to allow mortgagors time to pay off mortgages before their property was taken away. This process of taking away the mortgagor's property because of default is what constitutes foreclosure.
Today, numerous state laws and regulations govern foreclosure to protect both the mortgagor and the holder of the mortgage from unfairness and fraud. In the United States, although states have their own variations, the basic premises of foreclosure law remain the same. For a basic introduction, download FindLaw's Guide to Foreclosure [pdf].
Types of Foreclosure
The mortgage holder can usually initiate foreclosure anytime after a default on the mortgage. Within the United States, there exist several types of foreclosure. Two are widely used, with the rest being possibilities only in a few states.
The most important type of foreclosure is foreclosure by judicial sale. This is available in every state and is the required method in many. It involves the sale of the mortgaged property done under the supervision of a court, with the proceeds going first to satisfy the mortgage, and then to satisfy other lien holders, and finally to the mortgagor. Because it is a legal action, all the proper parties must be notified of the foreclosure, and there will be both pleadings and some sort of judicial decision, usually after a short trial.
The second type of foreclosure, foreclosure by power of sale, involves the sale of the property by the mortgage holder not through the supervision of a court. Where it is available, foreclosure by power of sale is generally a more expedient way of foreclosing on a property than foreclosure by judicial sale. The majority of states allow this method of foreclosure. Again, proceeds from the sale go first to the mortgage holder, then to other lien holders, and finally to the mortgagor.
Other types of foreclosure are only available in limited places and are therefore considered minor methods of foreclosure. Strict foreclosure is one example. Under strict foreclosure, when a mortgagor defaults, a court orders the mortgagor to pay the mortgage within a certain period of time. If the mortgagor fails, the mortgage holder automatically gains title, with no obligation to sell the property. Strict foreclosure was the original method of foreclosure, but today it is only available in New Hampshire and Vermont.
The concept of acceleration is used to determine the amount owed under foreclosure. Acceleration allows the mortgage holder the right when the mortgagor defaults on the mortgage to declare the entire debt due and payable. In other words, if a mortgage is taken out on property for $10,000 with monthly payments required, and the mortgagor fails to make the monthly payments, the mortgage holder can demand the mortgagor make good on the entire $10,000 of the mortgage.
Virtually all mortgages today have acceleration clauses. However, they are not imposed by statute, so if a mortgage does not have an acceleration clause, the mortgage holder has no choice but to either wait to foreclose until all of the payments come due or convince a court to divide up parts of the property and sell them in order to pay the installment that is due. Alternatively, the court may order the property sold subject to the mortgage, with the proceeds from the sale going to the payments owed the mortgage holder.