Real estate column: California’s anti-deficiency law
| Friday, Sep 04 2009 09:00 AM
Last Updated Friday, Sep 04 2009 09:00 AM
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Teri Bjorn
More than 50 percent of the mortgages in Kern County are now reportedly “upside down,” with the house worth less than the loan. During the heyday, many “second” mortgages were made at closing to cover down payments and closing costs, or to do home improvements and more.
Here are three couples’ problems: They have first and second mortgages, and are upside down. Each must find a solution for that “second.”
Couple No. 1: Want to make a deal with the second and stay in their home, hoping for an eventual upswing.
They both have good jobs, but are struggling to pay the second mortgage. This is their dream house, and they don’t want to walk away. In fact, they want to stay for at least another 10 years.
They offer to make a deal with the holder of the second mortgage — pay 15 percent of its balance to make it go away (“short pay”). The second lender should be happy to get any money, since the first lender could foreclose and “wipe out” the second lender (legal term meaning the second gets nothing).
The second lender says “deal,” but its pay off documents call for additional but unspecified fees and don’t clearly release the couple from future liability to the second if the first starts foreclosure or property values go up again.
A real estate attorney-friend recommends they take the deal if the lender properly clarifies its documents. Lender says “no changes” to its standard documents.
Couple No. 2: Want to make a deal with the second and leave, in good graces.
They both have good incomes and good credit, their upside down house is too small and they can afford their dream house at today’s prices. A real estate attorney-friend recommends a “deed in lieu of foreclosure”: borrower gives title to the lender, if the lender agrees, saving the lender from going through foreclosure.
In return the couple will keep all in good shape, and even tell the lender about an interested buyer.
Lender rejects the offer: They must list the house for 90 days and prove financial distress. The couple says “no deal” (already have buyer; aren’t in distress). They now receive foreclosure notices.
Couple No. 3: Ex-wife had walked away from the second eight years ago. Then she got a call at work.
She was a divorced single mother, and had to walk away from the house. The lender foreclosed. Eight years later, a debt collector for the second calls her at work. He demands $20,000 to pay off the second loan or threatens to have an attorney garnish her wages. She cries.
Her real estate attorney-friend is enraged by this clear violation of California law. She pens a response, educating the East Coast lender on California’s “Anti-Deficiency” law… Huh?
Here’s how California’s “Anti-Deficiency” Law offers solutions to these couples.
After foreclosure on a home loan, the lender can’t collect from the homeowner the difference between the value of the house at foreclosure and the amount it originally loaned (“deficiency”), even if the house is ridiculously upside down.
While the lender has limited rights to collect damages against the homeowner for “wasting” the house (legal term meaning trashing), lenders usually don’t try to get water from a turnip.
That’s why it’s called the “Anti-Deficiency” Law. NO MORE MONEY. It’s a California homeowner protection law.
Commercial lending law is different. The lender can collect a deficiency, if the turnip has water.
But to collect the deficiency, the lender must use the “judicial foreclosure” process, the kind that slowly winds through Superior Court with necessary attorneys and their fees.
Most lenders choose the “non-judicial foreclosure” or “trustee sale” process, the kind that can happen after about four months on the courthouse steps and doesn’t need attorneys. And if the lender does, he can’t collect a deficiency. That’s the price he pays for quick, cheap and not having to deal with attorneys.
Back to Couple Nos. 1 and 2.
Couple No. 1 tells the second to take or leave their offer, knowing the second could get nothing.
If the first forecloses, the second is wiped out unless he takes over the first’s debt, which is way more than the current market value of the house. If the second forecloses, he gets the house back with the first’s debt. Why do that?
So the second should be motivated to take the $5,000 and run. If the lender also holds the first, the lender should be thrilled that the couple stands ready to pay for the next 10 years and the lender will make plenty of profit.
Couple No. 2 lets the lender foreclose and stick to its rigid rules, turning a blind eye to a fair offer. In the end, that hurts the lender’s asset, too. The lender’s second is wiped out when the lender forecloses on its own first. There would also be a wipe out if the lender holds both loans.
But what about the impact on the couple’s good credit after foreclosure? It’s not good, but not horrible, especially considering the decisions forced on many creditworthy people in today’s declined market.
They write a letter of explanation to the major credit reporting agencies and tell their story.
What about the Damsel in Distress?
California’s “Anti-Deficiency” Law protected her from both loans, both now and then, and she owes no more money.
She hasn’t heard from the East Coast caller since the attorney’s educational letter.
— Teri Bjorn has been in private real estate practice in San Francisco, then in Bakersfield, for 30 years. She is now general counsel for Tejon Ranch Co.
