Definition
The term foreclosure is used to describe the legal process by which a lender forces the sale of an asset used as collateral on a loan. The foreclosure process is initiated when a borrower fails to meet their repayment obligations for a loan.
Explanation
While the term foreclosure can apply to any asset, it is most commonly used to describe a process that involves home mortgages. When a mortgage is created, the home is used as collateral to secure the loan. Through the creation of a mortgage, the borrower guarantees repayment of the loan's outstanding balance. The home itself is a part of that guarantee, which reduces the risk of non-payment to the lender.
If payment on the mortgage stops, the lender is legally allowed to take the home from the borrower. During foreclosure, the borrower is required to move out from the home, and the property will be sold by the lending institution or an agent of that institution. The money received through the sale of the asset is then used to repay the outstanding principal of the loan.
The borrower can avoid foreclosure by making timely payments to the lender. The foreclosure process itself can have significant impact on the borrower's credit history, credit report, and credit score; making it difficult to obtain new credit or loans in the future.
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