Foreclosure is a word that evokes fear in the heart of homeowners and, to many, signals a failure in realizing the increasingly distant North American dream of homeownership.
Foreclosure, as a legal process, is commonly misunderstood. This post aims to clarify what happens during foreclosure (i.e. the process), how foreclosure is triggered, and the legal rights and responsibilities of both lenders and borrowers.
What is foreclosure?
Foreclosure is a method that allows lenders to receive money owed to them by a borrower who has defaulted on a mortgage. The foreclosure process varies slightly from province to province, but usually involves two remedies available to the lender when foreclosure proceedings occur: judicial sale (colloquially referred to as foreclosure) and the power of sale.
A common misconception is that foreclosure is the most widely used remedy. It is not. In fact, in many provinces, including Ontario, the power of sale is the preferred and more common remedy because it is cheaper, faster, and does not require the involvement of the judicial system. Before diving into foreclosure and the power of sale process, however, it is necessary to discuss the event that acts as a catalyst for the foreclosure process: mortgage default.
What does it mean to default on a mortgage?
Missing a series of mortgage payments is the most prominent and obvious way a borrower can default on a mortgage; however, it is not the only way. In addition to a missed regular mortgage payment, a default can occur from violating one or several covenants in the mortgage agreement. Typical forms of mortgage default include:
· putting another mortgage on the property
· failing to keep the premises in a reasonable state of repair
· selling the property without the bank’s consent
· failing to have adequate insurance on the property
· failing to pay property taxes
In the case of a breach of a covenant in the mortgage contract, the lender must contact the borrower in writing to notify them that they are in default of the mortgage terms and allow them to remedy the default. There is no such requirement in the case of a failure to make mortgage payments.
Since the property is the lender’s security interest on a mortgaged loan (the lender can take the property and sell it if a borrower defaults), the lender has an interest in maintaining the value of the property and anything that jeopardizes the value of the property can be considered a default on the mortgage.
What happens after a borrower defaults on the mortgage?
Although a borrower is technically in default after missing just one mortgage payment, generally speaking, the lender won’t attempt to foreclose the borrower’s house for a single missed payment. Instead, they are more likely first to send a reminder letter. If the borrower remains in default, the lender will send a demand letter insisting on payment of the outstanding balance. If a borrower fails to fulfil their obligation under the mortgage after the lender takes the actions mentioned above, the lender will most likely commence foreclosure proceedings.
What are the lender’s rights upon foreclosure?
In Ontario, if a borrower defaults on a mortgage, foreclosure proceedings are not automatically commenced. As previously mentioned, the lender can elect between two remedies: (1) the power of sale or (2) judicial sale.
1. Power of Sale (Ontario)
According to Ontario’s Mortgage Act, when a borrower is in default, the lender has the legal right to take possession of the mortgaged property and sell it to a third party. The power of sale is a much quicker and cheaper process that can occur without involving the judicial system.
Read this PDF for more about the power of sale process.
Notice of Sale
The first step of the power of sale proceeding is for the lender to serve the defaulted borrower with a Notice of Sale. A Notice of Sale lists the amounts that must be paid and warns the borrower that the lender will sell the property if, by a specified final date, they do not pay the amounts. The lender must wait 15 days after default to deliver a Notice of Sale.
Next Steps: Statement of Claim
After being served with a Notice of Sale, the borrower will have a 35-day redemption period where they can bring the mortgage back into good standing. Bringing the mortgage back into good standing means that the borrower will need to repay all missed mortgage payments and penalty fees associated with the Power of Sale.
If the borrower makes all required payments, they will be in good standing with the mortgage lender. However, a borrower who fails to make all required payments will be served with a Statement of Claim for Debt and Possession from their lender, marking the end of the redemption period. At this point, the only option most lenders will allow is for the mortgage to be paid off, sell the property themselves, or allow the borrower to sell the property. Allowing the lender to sell the property is typically the most expensive option and can cost the borrower upwards of tens of thousands of dollars in fees.
Next Steps: Statement of Defence and Writ of Possession:
After a lender files a Statement of Claim, the borrower has 20 days to file a Statement of Defence. Statements of Defence are generally only successful when a severe issue with a lender exits or the mortgage is fraudulent. If, after 20 days from the serving of a Statement of Claim, the borrower does not file a Statement of Defence or the Statement of Defence fails, the lender will request the court issue a Writ of Possession. The courts almost always issue a Writ of Possession and send it to the local sheriff’s office, who will arrange for the borrower’s eviction.
Next Steps: Selling of Property:
After the borrower’s eviction, the lender will have a real estate agent place the property on the open market and sell it. The lender has a legal obligation to sell the property at fair market value and will allocate the proceeds from the property sale towards repaying the outstanding balance on the mortgage and towards any fees incurred from the judicial sale process (legal, brokerage, etc.). If there is equity in the property, the borrower will be entitled to any excess profits from the sale. If the sale does not cover the outstanding amount owed to the lender, the borrower will still be liable for the remaining balance on the mortgage.
2. Judicial Sale
What is Judicial Sale?
There is a crucial difference between a power of sale and judicial sale, where the former only confers possession to a lender.
Judicial Sale Process
The judicial sale process begins by the lender suing the borrower in court. If a lender chooses to pursue a judicial sale, it does not mean that the borrower automatically loses possession of their house. Similar to a power of sale, the borrower has the opportunity to reply by filing a statement of defence, as well as a demand for notice. There are no defences to the non-payment of a mortgage. Thus, similarly to in a power of sale proceeding, statements of defences mostly fail.
Whether a borrower replies to the statement of claim or not, the lender will apply for a remedy. The court will invariably issue an order at this point – unless the borrower did not, in fact, default on the mortgage. Typically, the order is initially a Redemption Order. A Redemption Order allows the borrower to bring the mortgage up to date or pay it off entirely; the period for the redemption order usually is six months, although the borrower can ask to extend it, and the lender can ask to shorten it. The redemption period acts as a way for the borrower to stop the judicial sale. However, if the courts believe that the borrower has no chance of bringing the mortgage up to date or paying it off entirely, the court may elect not to order a Redemption Order and issue an Order for Foreclosure instead.
Order for Foreclosure
When an Order for Foreclosure is issued, the lender will be given title to the property. Once the lender obtains title to the property, they will sell it and are entitled to keep all proceeds from the sale. The borrower is not entitled to excess profits from the sale, regardless of how much equity they have in the property or if the selling price exceeds the mortgage value. Thus, despite being a prolonged and expensive proceeding, a foreclosure provides the possibility of a considerable profit for the lender.