What is a mortgage foreclosure?

With the recent increase in interest rates over the past few years, many borrowers have found themselves in difficult situations with the rise of their mortgage repayments. While some borrowers are able to take steps to get themselves out of the red, others slip further behind with their mortgage repayments. If they’re not able to get back on track with their loan, they could be faced with a mortgage foreclosure.

Firstly, let’s dive into foreclosure's meaning.

What does foreclosure mean?

So, what is foreclosure? Foreclosure is an American term for a situation in which a borrower defaults on their home loan and is unable to make their mortgage repayments. In this instance, the lender is forced to sell the borrower's home to recover the outstanding loan balance.

Foreclosure vs mortgagee in possession

While mortgage foreclosure is often used interchangeably with mortgagee repossession, there are slight differences between these two terms.

When it comes to foreclosure, the lender takes possession of a property, replacing the borrower as owner on the title deed before it’s sold. Alternatively, with a mortgagee in possession, the borrower's name remains on the title deed up until the property is sold.

Mortgage foreclosure is a long-winded legal process, so it’s uncommon in Australia. Because of this, lenders tend to pursue a mortgagee in possession thanks to its simplicity and cost-effectiveness.

How does a foreclosure work?

In Australia, the foreclosure process is typically governed by state and territory laws, but the basics are often the same. Here’s a quick breakdown of the steps to foreclosure.

1. Missed payments

The foreclosure process begins when a borrower misses one or more mortgage repayments. At this point, the lender will usually contact the borrower to discuss the missed payment and explore options to get the loan back on track. This can involve negotiating a repayment plan, a temporary reduction in payments or other arrangements to help the borrower manage their financial situation.

Borrowers experiencing financial difficulty can apply for hardship assistance. Lenders must consider these applications and may offer alternative options, like loan restructuring, temporary payment reductions or payment deferrals.

If the borrower fails to repay the outstanding loan repayments within the timeframe, the loan is declared an impaired loan or a delinquent debt.

2. Default notice

From here, the lender will issue a formal notice of default. This notice informs the borrower that they’re in breach of the mortgage agreement and provides a specific period (usually 30 days) to rectify the default by making the overdue payments.

3. Legal proceedings

If the borrower doesn’t remedy the default within the specified period, the lender may initiate legal action to take possession of the property. Although this process varies by state and territory, it typically involves filing a statement of claim or summons in the relevant court. The borrower will receive a copy of the claim and has the opportunity to respond.

At this point, seeking legal advice can be a good idea. Borrowers have a short amount of time to file a defence, go to court or lodge a dispute with the Australian Financial Complaints Authority (AFCA). If you fail to respond, your lender can start legal proceedings to take your home.

4. Court hearing

A court hearing will be scheduled to consider the lender's application for possession of the property. If the court is satisfied that the borrower is in default and hasn’t rectified the situation, it may issue an order for possession, allowing the lender to take control of the property.

5. Taking possession

Once the lender gets a court order, they can take possession of the property. If the lender decides to evict you, they’ll give you a court-issued Notice to Vacate. You’ll usually have 2 to 4 weeks to move out after receiving the notice. When that time is up, a sheriff, a locksmith and a representative from the bank will come to the property. If you haven’t moved out, they might escort you off the premises and put your belongings up for sale.

6. Sale of property

The lender will typically appoint a real estate agent to sell the property, which is often auctioned off. The sale proceeds are then used to repay the outstanding mortgage debt, legal fees and other associated costs.

Any surplus funds from the sale are returned to the borrower. If the sale proceeds are insufficient to cover the debt, the borrower could still be liable for the shortfall.

If you took out a high LVR loan, you would have paid lenders mortgage insurance (LMI) to protect your lender if you could no longer make your mortgage repayments. LMI is there to protect the insurer if you default on your home loan and there’s a ‘shortfall’ from the sale. That means that the proceeds from the sale of your home aren’t enough to cover the outstanding loan amount that you still owe your lender. In this instance, your lender might be able to recover the difference from the LMI provider, but even if they can recover the loss, that doesn’t mean that you’re off the hook completely. The LMI provider could then come after you to recover their loss.

The specific details and legal requirements of the foreclosure process can vary by state or territory in Australia, so borrowers need to understand their rights and obligations under local laws. If you’re experiencing financial hardship, it’s essential to reach out to your lender for help as soon as possible. The last thing they want is for you to lose your home, so they’ll work with you to understand your situation and help you get back on track with your mortgage repayments. Read our blog on when to apply for financial hardship assistance to learn more.

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This article is intended to provide general information only. It does not have regard to the financial situation or needs of any reader and must not be relied upon as financial product advice.