Paying in the End: Real Estate Deficiency Judgments

By Cara O'Neill, Attorney
Learn whether you'll be responsible for an outstanding mortgage balance after a foreclosure sale.

Real estate foreclosure is a serious matter that doesn’t always come to an end after the bank sells a house at auction. If your home sells for less than what you owe at the foreclosure sale, you might get stuck with a hefty bill called a deficiency judgment. In this article, you’ll learn why you could owe money after a foreclosure and how filing for bankruptcy can help.

What Is a Deficiency Judgment?

When the real estate market is down, a foreclosed house will often sell at auction for less than what the foreclosed homeowner owes on the mortgage. The difference between the sales price paid by the new owner, and the amount owed on the mortgage (plus fees and costs), leaves an unpaid mortgage balance. This figure is called a “deficiency balance.”

When a deficiency balance exists, if the terms of the contract and state law allow for it, the lender might take steps to ask the court to issue a deficiency judgment for the amount owed. Many states require the lender to file a separate lawsuit and to prove that the bank is entitled to the deficiency judgment—but not all. Each state develops its own set of rules that the bank must follow.

What Can a Creditor Do With a Deficiency Judgment?

The deficiency judgment allows the lender to collect the deficiency balance. The judgment also gives the bank a larger arsenal of collection techniques that it can use to force the borrower to pay the judgment amount.

For instance, the lender will be able to instruct an employer to deduct funds from the foreclosed homeowner’s paycheck until the balance gets paid (wage garnishment). The bank will also be able to withdraw the money from the borrower’s bank account (bank levy) without the borrower’s permission and apply the amount to the balance.

Your State Might Not Allow a Deficiency Judgment

Although the majority of states allow a bank to collect a deficiency balance, not all do. For instance, in California, a lender cannot get a deficiency judgment against a residential homeowner if the foreclosed homeowner used the loan proceeds to purchase the house (called a “purchase money loan”).

The law is not absolute, however. If, after the initial home purchase, the foreclosed homeowner took out a junior loan (a second or third mortgage, for instance) and used the funds for an unrelated purpose, such as going on vacation, the lender can collect a deficiency balance on the junior mortgage.

The states that prohibit deficiency judgments often do so if the bank elects to foreclose using a streamlined process called a “nonjudicial” foreclosure. A nonjudicial foreclosure allows the bank to avoid the court process by following steps outlined in state law.

The following states prohibit a nonjudicial deficiency judgment (other requirements might exist): Alaska, Arizona, California, Georgia, Minnesota, New Mexico (for low-income borrowers), North Carolina, Oregon, and Washington.

Deficiency judgment requirements vary by state and can be complex. It’s important to understand how the law works in your state. To find out, you should consult with a knowledgeable foreclosure lawyer.

Getting Rid of a Deficiency Judgment in Bankruptcy

If you find yourself faced with a deficiency judgment, you might be able to wipe it out (discharge it) in bankruptcy—and in the process, get rid of other debt, such as credit card balances, unpaid medical and utility bills, and personal loans, too.

For instance, if your family’s income is less than the state’s median income (after deducting allowable expenses), you’ll likely be able to get rid of many types of debt by filing a Chapter 7 bankruptcy. If your income exceeds that amount, you might find relief by completing a three- to five-year Chapter 13 bankruptcy repayment plan.

To find out if bankruptcy will help, you’ll want to meet with a local bankruptcy attorney. In many cases, the initial consultation will be free.

Questions for Your Attorney

  • Will my state allow a lender to get a deficiency judgment against me?
  • Would filing for bankruptcy be a good option for me?
  • Would it be better to file for bankruptcy before or after the foreclosure sale?
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