When a property is sold in foreclosure or short sale for less than the outstanding mortgage balance, the lender may pursue a deficiency judgment against the borrower for the shortfall. Not all states allow deficiency judgments, and not all lenders pursue them, but when they exist they create a lien against the borrower's future assets and affect their ability to qualify for a new mortgage.
State Law Controls Whether Deficiency Judgments Are Allowed
Several states are anti-deficiency states -- they prohibit lenders from pursuing the borrower for the difference between the foreclosure sale price and the loan balance. California is one of the most protective: California Code of Civil Procedure 580b prohibits deficiency judgments on purchase money mortgages for 1-4 unit residential properties. Arizona, Nevada, and North Carolina also have anti-deficiency protections. In recourse states like Florida and New York, lenders can pursue deficiency judgments, and borrowers who went through foreclosure may have outstanding judgment liens against them.
How FHA, VA, and Conventional Programs Handle Deficiency Judgments
- ✦FHA: an outstanding judgment against the borrower must generally be paid in full or on a payment plan with 12 months of on-time payments before FHA will approve a new mortgage; this applies to deficiency judgments
- ✦VA: outstanding judgments must be paid or the veteran must establish a satisfactory payment arrangement; the VA underwriter will evaluate the circumstances of the deficiency
- ✦Conventional Fannie Mae: judgments must be paid or a payment plan documented with 12 months of payments; the waiting period after foreclosure applies separately from the judgment question
- ✦Non-QM lenders may allow outstanding judgments above certain thresholds with higher down payment or rate adjustment; each lender's overlay differs
What MLOs Can Do
When a borrower discloses a prior foreclosure or short sale, always ask whether a deficiency judgment was entered and whether it has been satisfied. Pull a title search on the borrower's name in the county where they previously owned property if you can. An unsatisfied judgment discovered at underwriting is a file killer. Better to know at intake and address it than discover it in conditions.
Aria at vicariointel.com can walk through how specific programs handle outstanding judgments and what documentation is required to demonstrate resolution or an acceptable payment plan.
7-day free trial. No credit card required.
Ask Aria About Deficiency Judgments and New Mortgages →