Deeds in Lieu of Foreclosure: Naughty or Nice?
I’d like to propose a new acronym entered into the lexicon of the U.S. housing industry: DILF, or Deeds in Lieu of Foreclosure.
Although not as vulgar as the similar pop culture acronym MILF, this new term could be equally contentious: reviled by some as a new way of painting over the fissures of distress still spidered throughout the foundation of the recent housing recovery; revered by others as a less disruptive solution than foreclosure for homeowners in trouble.
A deed in lieu of foreclosure allows a lender to take possession of a property securing a delinquent loan without going through the increasingly messy and costly foreclosure process. It allows a homeowner to walk out from under a mountain of debt without a full-fledged foreclosure on their credit history — although of course the end result is the same: they lose ownership of the home.
But as the foreclosure process has become more difficult, lengthy and less politically correct, lenders are turning to more PR-friendly alternatives to divest distressed homeowners of their homes. Thus far the primary alternative in the arsenal of lenders that has gained traction is short sales.
But deeds in lieu are becoming more popular — albeit still in much lower numbers than short sales and loan modifications and refinancing activity. RealtyTrac data shows just above 20,000 DILFs nationwide in 2012, up 39 percent from about 14,000 in in 2011.
The percentage increase was even more dramatic in some states. California DILFs increased 76 percent year over year, while Nevada DILFs were up 53 percent and Florida DILFs were up 49 percent. DILFs in 2012 were up from the previous year in 31 states.
But there were some notable exceptions. In Arizona, DILFs decreased 17 percent from a year ago and Michigan DILFs were down 27 percent annually. Why would the trends decrease in those two hard-hit states while increasing in others? While I don’t’ the definitive answer to that I can offer a couple thoughts on why this might be.
First, these two states have an average foreclosure process that is on the shorter side compared to the national average and other hard-hit foreclosure states. The average time to foreclose was 229 days in Arizona and 282 days in Michigan as of the fourth quarter of 2012 — well below the national average of 414 days.
That shorter foreclosure process means that lenders may not be as motivated to resort to DILFs; they may not seem so appealing in light of a relatively streamlined foreclosure process — especially given that a DILF may involve some sort of cash payment to the distressed homeowner, also known as “cash for keys.”
And that leads us to the second reason that DILFs may not be taking hold as much in Arizona and Michigan: if the foreclosure process is not overly onerous, the lenders and servicers I’ve talked to prefer foreclosure to DILF because the foreclosure process offers more protection against losses for the investor(s) who own the mortgage.
In a state with a very lengthy foreclosure process like Florida, where it takes nearly two and a half years to complete a foreclosure, an investor may be willing to take on some other liens just to speed up the process — particularly in a market where home prices are appreciating. But if the foreclosure process is relatively fast, there is much less motivation to take on those additional liens.