Can a bank legally make a profit from a foreclosure?

As banks foreclose on hundreds of thousands of properties nationwide, the question keeps popping up, “Can banks make a profit on foreclosed properties?” The simple answer is yes, but it takes some special circumstances for that to happen. If the homeowner knows how to protect their equity, they can get paid even if they lose their home to the bank.

If the lender persuades the homeowner to give up their property in exchange for a deed in lieu of foreclosure, the bank can make a profit on the sale and not have to incur the additional costs of foreclosure. It is widely accepted in the banking industry that a foreclosure costs an average of over $40,000. These costs include lost interest, loss of additional lending power, increased Federal Reserve requirements, costs of selling, maintaining the property, and commissions for a sales agent.

The key to whether the bank can make money depends on whether the property has equity. Likely 20% to 35% of the time a foreclosure occurs, there is equity in the property and no second or subordinate liens exist. Many homeowners simply abandon their homes believing they have no equity or cannot sell their home while it is in foreclosure.

If the bank forecloses on the property and clears subordinate liens, it will create equity in minutes. However, if the property has subordinate liens, the lender will not accept a deed in lieu of foreclosure as the subordinate liens remain attached to the property. So be careful, if a bank offers a homeowner a deed in lieu of foreclosure, there may be equity in the property.

Once the property is auctioned off and bought by the bank, the deed of the property is transferred to the bank after a repayment period. At this point, the bank can sell the property at whatever price it can get. If there is a profit, the bank is entitled to it.

In summary, once the bank has foreclosed on a property, it is entitled to make a profit. Before their ownership they cannot sell the property, only the deed holder (homeowner) can sell it. This happens all the time with short sales as the bank has to agree on the selling price but the homeowner has to sign the deed of transfer. In these cases, the bank takes a significant discount on your mortgage in order to sell the property and get it off their books. If the bank is outbid at the auction, which comes close to their final judgment amount, they receive their money owed but lose any additional profit.