Rentals in foreclosure

A landlord whose property is in foreclosure has a duty to his lender to devote any rents to supporting the property. Spend those rents on some unrelated expense and you open yourself to a charge of misusing the lender’s collateral.

The mortgage instrument invariably gives the lender a security interest in the real estate, the improvements, and any rents. Once a property goes into foreclosure, however, the lender typically stops accepting payments. So, the defaulting landlord is left holding the rents, which have the potential to be a hot potato.

I’m seeing lots of clients who are walking away from investment property. Whether it’s falling values or escalating interest rates, the properties no longer make economic sense.

My advice, to those lucky enough to have rent paying tenants, is to spend rents on maintaining the property or on the property tax. Any remaining money should be held in a separate interest bearing account, since it, as well as the property, forms the lender’s collateral.

In a California foreclosure, the one-action rule may prevent a later suit by the foreclosing lender with respect to the rents (but not certainly a suit by a cut off junior lien holder), but until that is clear, I want my clients to be safe rather than sorry.