Pre-signed deed in lieu?

Question

Wondering if anyone has executed a loan or extension backed by a pre-signed deed in lieu?

We have a borrower that has requested an extension on his mortgage before his balloon is due. He's current but unable to make the upcoming balloon. We're willing to extend, but want to make sure that we're out of the property within our planned investment horizon and with minimal risk of payments stopping and having to FC.  Borrower has agreed conceptually with the idea of an extension coupled with a pre-signed / notarized DIL that we'd contractually agree to not record unless he defaults. Any reason why this wouldn't work?  Has anyone done something like this before?

Tom Gimer · Answer

You’ll want to review local law on this topic in the context of violating the borrower’s right or equity of redemption.

Borrowers typically have the right to pay off in full before auction (redemption) or take surplus from a foreclosure sale. What you are proposing violates both and could be the subject of future litigation.

Jeff S. · Answer

One of the premises behind a deed in lieu is that it’s completely voluntary, @Bryan Hartlen.  It appears you are making it a condition to provide a loan extension.  That’s not voluntary.  You are subverting the foreclosure protections afforded your borrower and this is unenforceable.  It’s not even safe for you since you’d be subject to any loans behind yours and you’d be screwed if there were any title issues.

Instead, assuming it’s legal in your state, you could include a “Due on Encumbrance” clause in your note via a loan modification.  This effectively says that if your borrower obtains a loan subordinate to yours, you’d have the right to foreclose.  It doesn’t prevent a second, any more than the more well know “Due on Sale” clause can prevent a sale, but it discourages
subordinate loans and makes it safer for you to properly negotiate a DIL if you choose.

Deeds in lieu are done through a lawyer.  They involve a contract to protect both parties, obviously the deed, and handled through Title to confirm clean ownership, so you know what you are taking over.

A DIL is not a DIY job. 😉

Chris Seveney · Answer

I have asked 3 different attorneys on this as we buy a good amount of notes. Everyone has told me it will never stand up in court.

Also look at it this way, what if the borrower comes back and says you owe them all the monies paid post signature on deed in lieu?

Note: just because it’s in a contract does not make it enforceable it is is not in compliance with the law.

Aaron Poling · Answer

I have never seen this but could be a good idea. I would be very careful if this is his primary residence though, as there are very strict rules for how these can be handled and would consult a real estate attorney to structure it.

Also, with a deed in lieu make sure that the buyer has clean credit otherwise as you may end up accepting his debt as part of the deed in lieu acceptance. Those liens that typically the foreclosure would clear out.

Good Luck! Thanks Aaron

Tom Gimer · Answer

@Chris Seveney Good question. And further, what if the borrower significantly improves the property after the extension and the lender strips all the equity by recording the pocket DIL upon the next default?

DIL should be negotiated upon default via written agreement. On my end we need to see that agreement and confirm it was executed voluntarily at that time.

Bryan Hartlen · Answer

Tom, if the DIL was signed, notarized and recorded why would it be uninsurable?  What flag would be raised?

Is there a better way to structure this and achieve the same end?

Tom Gimer · Answer

Title would be uninsurable. Big red flag on the DIL checklist.

Bryan Hartlen · Answer

With it being called out explicitly in the extension we hoped that it could be argued to be a mutually beneficial decision rather than having the borrower sign over DIL now (which he would be willing to do rather than have a FC recorded).  Thanks

Wayne Brooks · Answer

@Bryan Hartlen This would likely never stand up, if they knew enough to challenge it.  There are state and federal laws dealing with DIL’s and circumvention of foreclosure procedures.

Pre-signed deed in lieu?

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