Mortgage shortfall debts

Sale by the borrower or the lender may not raise sufficient money to cover the total debt to the lender. This is usually known as a mortgage shortfall.

The borrower could end up having to pay the outstanding amount to the insurer, but note that there is no obligation on the insurer to recover a shortfall (for example if the sum involved makes recovery unviable).[1]

The Financial Conduct Authority (FCA) regulations state that a lender must make the customer aware of any shortfall, in writing, as soon as possible after the sale of the property.[2] If the lender decides to pursue the shortfall, they must notify the customer of this fact within six years of the date of the sale.[3]

In many cases the borrower will have paid for mortgage indemnity insurance, which means the lender's loss is covered but the insurer may recover the debt from the borrower.[4] The lender must inform the borrower if the debts are to be recovered by an insurer or other company, rather than the lender.[5]

Outstanding debts to the lender and the insurer after the sale can be recovered through the courts. A lender who has obtained a possession order may already have a money judgment for the balance of the mortgage. Otherwise it is possible to issue a money claim for an outstanding balance.

It may be possible to negotiate with the lender or the insurer to reach an agreement over the debt. In order to do this, a borrower may:

• explain the reasons for the mortgage payment difficulties and show what steps were taken to minimise the losses incurred

• provide an outline of the household budget showing that there is very little money available to contribute towards the repayment of the debt

• offer to repay a percentage of the debt, by affordable instalments, on condition that interest will be frozen and the balance of the debt written off

Where there is a substantial mortgage shortfall, and especially if there are other debts, the borrower should obtain advice from a specialist money advice agency. They can asses the borrower's circumstances and advise when insolvency is an appropriate option.

Action to recover mortgage debt is governed by the Limitation Act 1980, which sets time limits for the issue of court proceedings. An action to recover the mortgage principal (the actual amount borrowed) should be started within 12 years of the date the debt accrued.[6] That date will be determined by the mortgage deed. It will often be provided in the deed that the mortgage money is deemed to become due shortly after one default in payment.

Proceedings must be issued within 12 years (the limitation period). Lenders cannot argue that the limitation period starts with the date when they regain possession of the borrower's home or when there is a formal demand for payment.[7]

A claim to recover interest charges and any other costs the lender may have should be issued within six years of the date that the right of action arose.[8]

It is very common for borrowers not to be contacted in relation to recovery of any mortgage shortfall debt for many years. The FCA regulations state that a borrower must be informed of the decision to recover any shortfall within six years of the date of the sale of the repossessed property.[9]

Acknowledgment of debt

If the borrower makes a payment or acknowledges the debt within the limitation period, the limitation period starts again. The payment or acknowledgement is a fresh cause of action. To start the clock ticking again, an acknowledgment must be in writing. An acknowledgement can arise when a borrower makes an offer of payment or asks about the balance of a loan. If the Department for Work and Pensions (DWP) makes a payment of mortgage interest direct to the lender, the DWP acts as an agent of the borrower, and this is to be treated as a payment by the borrower.[10]

If a borrower intends to argue that a lender is not entitled to issue a claim because the limitation period has expired, it is very important to ensure that no correspondence with the lender can be taken to be an acknowledgement of the debt. The borrower, or agency writing on their behalf, cannot necessarily rely upon a letter made on a without prejudice basis to avoid acknowledging the debt. The effect of the without prejudice clause is dependent upon the substance of a letter. The without prejudice rule has no application if the subject of the letter was how an admitted debt was to be paid. This was to be distinguished from negotiations to reach a settlement, where the existence of a debt or amount in dispute, could be without prejudice and thus would not have stopped the limitation period running.[11]

The possible steps are to:

• look at the mortgage deed

• establish the date when the mortgage money became due

• consider whether, and if so when, the borrower has acknowledged the debt

The time limits for the recovery of a debt, as governed by the Limitation Act 1980, do not apply to charging orders.[12]