What Happens to the Mortgage Debt During the Foreclosure Process

Does foreclosure create a debt when the bank files the lawsuit? What happens if there is a judgment -- do the homeowners owe both the mortgage and the judgment now? These are some of the questions that homeowners have when facing the loss of their homes. Due to the complex nature of credit and finance, it is quite easy to get confused about how mortgages work and what happens during foreclosure.

However, foreclosure is not a debt; it is a legal process taken by a mortgage lender when a debt secured by a property goes into default. The foreclosure itself is the method by which a mortgage company will attempt to use the local court system to take a house back from homeowners who have failed to pay their mortgage as determined by the terms of the original contract. It is not a debt in itself, but it is the legal mechanism by which a bank can collect a debt secured by real estate.

The debt the property owners owe to the bank is the mortgage balance that is currently due on the property. Homeowners take out a loan for a certain principal amount and agree to pay a set interest rate on the money borrowed, plus any other fees or charges that are listed in the loan documents. These extra charges typically have trigger effects, such as paying after the due date will trigger a late payment, or defaulting on the loan will trigger legal fees and court costs that will be added to the balance of the loan.

Taken together, the principal, unpaid interest, and other charges constitute the debt owed to the mortgage company to pay off the loan in full. The bank, when they sue for the foreclosure, are stating that the homeowners need to pay this amount in order to keep the house, or else the house will be auctioned by the government to satisfy this debt. Of course, the court has to agree to this amount -- banks can not just add fees arbitrarily or unreasonably -- but few homeowners defend against the foreclosure lawsuit, which allows banks to get away with adding any fees they wish without justification.

Thus, when a bank pursues a foreclosure on a house, the legal process does not create a debt owed by the homeowners to the lender; this debt already exists as the mortgage on the property. Suing for foreclosure only indicates that the bank is attempting to prove in court that they are unable to collect their payments which the borrowers agreed to make when they took out the loan. Because of this default and the fact that the property was pledged as collateral for the loan, the bank is requesting that the court order the property to be sold to satisfy the debt that already exists as the mortgage.

The judgment that the bank is typically granted against the homeowners is simply the judge's decision that recognizes that the lender is owed a certain amount of money and that the owners have not paid it. Even this does not create a second debt that must be paid back; it is simply a local judge agreeing with the bank and ordering that the house will be auctioned at a sheriff sale to pay off the defaulted loan. The judgment amount is always based on the total payoff amount that the homeowners would need to come up with in order to own their home free and clear.

Homeowners in foreclosure always owe only one debt per mortgage that they have on the house. The foreclosure process can not even begin without a lender or creditor showing that they are owed a specific amount of money on a debt they own, that the owners have not paid this nor made arrangements to pay, and that the property is fair game to auction to satisfy the debt. If a creditor can not prove these facts, as well as the other elements of a foreclosure case, then the homeowners can only lose by not showing up at the court date or by having corrupt government officials overseeing it.

Good Debt, Bad Debt For Real Estate Investors

The most successful real estate investors understand the difference between good debt and bad debt.

From a consumer perspective, no debt is good debt. The basic consumer goal is to be debt free.

This is not the way that the most creative real estate investors think about debt. They regard debt as an investor's best friend.

The reason for this is OPM. OPM is a short-hand way to refer to "Other People's Money." OPM is just another term for good debt.

In addition to OPM, another way that investors talk about using borrowed money is the word, "leverage." Consider using a crowbar to move a heavy object. The crowbar allows you to move the heavy object. Good debt is an example of leverage.

With a lever, you can move something you could not move without it. The lever means that you don't need as much strength to move the object as you would need without the lever.

This concept from physics is relevant to borrowed money. You can use someone else's money as a lever to accomplish a bigger task than you could accomplish with your own money.

Consider a situation when you don't have enough of your own money to buy an investment property. When you treat borrowed money as a lever, you can use the borrowed money to buy the property you could not afford with your own money. This is the power of leverage.

This is an example of good debt. You use borrowed money to create wealth. Debt is a tool you can use to buy what you could not buy with your own money. If the investment creates profit, you create profit from the leverage of good debt.

This is not what happens when you take on consumer debt. If you buy an item, such as a plasma TV for $3000, you have taken on bad debt. The TV costs you money. It does not become a means to create profit. This is the difference between good debt and bad debt.

Consumer debt does not give you leverage. It is not a tool you can use to create wealth. This is why consumer debt is bad debt.

The critical distinction between good debt and bad debt is whether or not the debt is a tool to create more money. If you borrow the $3000 and use it as a tool to create profit, this is the definition of good debt.

If you want an example of using debt to create wealth, consider Donald Trump. He carries tremendous debt, which he leverages to build properties that in turn create even more wealth. Some of the richest people on the planet have the greatest amount of debt.

This means that good debt is one of the fastest routes to creating wealth. You can call it leverage or OPM if you want, but these terms mean the same thing. You are using borrowed money to make money.