What is the role of the recourse loan?
A loan is termed recourse if the borrower is personally liable for its repayment and nonrecourse if he is not. After a foreclosure, a lender can go after a recourse loan borrower for the difference between the market value of the home at sale and the outstanding loan balance by suing for a deficiency judgment. It is barred from going after a nonrecourse loan borrower. State law often affects the classification of a loan as recourse or nonrecourse. In Nevada, any mortgage taken out to purchase a property is considered nonrecourse. Any refinanced loan or loan taken out after the purchase is recourse. Many, but not all, second mortgages are recourse.
Nevada’s One-Action Rule
Under Nevada rules, if a foreclosing lender wants to collect a deficiency judgment, it must use the judicial foreclosure process because state law limits it to one action against the borrower. A deficiency judgment may be wrapped into a judicial foreclosure but not with a non-judicial foreclosure. If the foreclosing lender owns both the first and second mortgages, then it must use the judicial foreclosure process to collect any remaining debt associated with either the first or first or second mortgages.
Lien Wiped Out But Not Debt
If the lenders of the first and second mortgages of a Nevada mortgage are different, the first mortgage holder will foreclose and the second will not. The second mortgage is wiped out as a lien in the foreclosure. However, the underlying debt and agreement between the borrower and lender remains if the mortgage was a recourse debt. Because the second mortgage holder did not participate in the foreclosure, it is still allowed its “one action” against the borrower to recover the debt. The second mortgage holder is able to file a lawsuit against the borrower for his failure to repay the debt. This is an action unrelated to foreclosure.
A second mortgage is a loan that was obtained after another mortgage loan secured by the same property. The general purpose of providing mortgage security on a loan is to give the lender the right to foreclose if the borrower stops making payments. The problem with second mortgages is that the foreclosure rights under a second mortgage are inferior to the foreclosure rights of the first mortgage loan. Foreclosure on a first mortgage loan may eliminate the second mortgage loan.
The first mortgage lender and second mortgage lender each has a mortgage lien on the same piece of property. When a mortgage lender forecloses, the lender has to involve all parties holding an ownership or lien interest in that property. Therefore, if the first mortgage lender initiates foreclosure on the property, it must involve the second mortgage lender in that foreclosure process. In judicial foreclosure, this means the second lender must be a party to the foreclosure lawsuit, while in nonjudicial, or power of sale, foreclosure, this means the foreclosing lender has to provide notice to the second lender.
When a mortgage lender forecloses, the lender causes the secured property to be sold at a public auction. The purchaser at the auction acquires whatever right the foreclosing lender had in the property at the time when the mortgage loan first attached to the property. By definition, a second mortgage lien does not attach to the property until after the first mortgage lien has attached to that property. Accordingly, foreclosure on a first mortgage loan results in the discharge and elimination of the second mortgage lender’s lien on the property.
Right to Proceeds
A foreclosure sale produces sales proceeds that can be used to pay off liens on the property sold. In some foreclosures, the sales price may be high enough to pay off the first mortgage lien, but not any other liens in the property. In fact, most foreclosure sales result in the mortgage lender making a credit bid equal to the amount due on the mortgage loan, which means the sales price is exactly equal to the payoff balance on the first mortgage. As a result, there is no extra money to pay off the second mortgage lender, so the second mortgage lender remains unpaid and loses its lien on the property. But, if the sales price is high enough, there may be enough money to pay off the first mortgage plus some or all of the second mortgage.
A second mortgage lender’s only option to protect its lien on the property is to pay off the first mortgage before the foreclosure sale. The second mortgage lender has the right to pay the first mortgage lender the total balance due on the first mortgage loan. If that happens, the first mortgage lien is paid off, thereby causing the second mortgage lien to move into the position of first mortgage lien. However, this option requires the second mortgage lender to come up with the cash necessary to pay off the first mortgage.