Foreclosure Buyout

A foreclosure buyout is a refinancing program that allows a homeowner to avoid foreclosure on their home via an additional loan to cover the amount currently in default.

Foreclosure buyouts typically involve refinancing a mortgage with enough extra funding to pay off any amounts currently in default. By definition, this means a lender needs to offer a distressed homeowner a new loan, which represents a risky proposition. That risk makes such loans difficult to obtain and virtually guarantees a high interest rate. However, in cases where borrowers have built up enough equity in their home to cover a substantial portion of the default amount, such a refinance may represent the best way to avoid the actual foreclosure process.

The financial crisis and subprime meltdown of 2008 caused a spike in defaults and a concomitant increase in the number of foreclosure buyouts offered by lenders. Lenders typically require that borrowers have at least 25 percent equity in their home before they will consider underwriting such a risky loan. A typical foreclosure buyout does not exceed 65 percent of the property's overall value. Lenders usually require a current appraisal to determine that value, the cost of which adds up alongside attorney and lending fees.

Borrowers who qualify for foreclosure buyouts may find that, despite the high interest rate associated with the loan, they can re-establish good credit over time. That could lead to the possibility of a further round of refinancing down the road to achieve better terms and a lower rate.

For borrowers with too little equity in their home to qualify for a standard foreclosure buyout, the Home Affordable Refinance Program (HARP) has offered an alternative since its establishment in 2009. Low equity became a significant problem for many borrowers as home values plummeted following the subprime meltdown. This left some borrowers in a situation where the value of their house fell below the amount owed on their mortgages, providing an incentive for them to simply walk away from the mortgage since they would never recoup their investment, nor would the banks that would be forced to foreclose on those mortgages.

For mortgages guaranteed by Fannie Mae or Freddie Mac, HARP provided an opportunity to refinance to lower-interest-rate loans under favorable conditions and without requiring mortgage insurance. Homeowners who refinance through HARP may find that they can achieve lower monthly payments or interest rates. They also may move from adjustable-rate loans to fixed-rate ones, reducing their overall borrowing costs.