Legal Topics Real Property Law

Good News, Bad News for Foreclosed Homeowners

Governor Schwarzenegger signed into law a bill with new antideficiency protection for foreclosed homeowners, but vetoed another. Interestingly, the governor acted contrary to expectations — the bill he vetoed was widely expected to pass, while the one he signed was considered a sleeper.

A deficiency judgment is a judgment against the borrower for the difference between the unpaid balance of the secured debt and the amount produced by the sale of the security, whichever is greater. See CCP §726(b). In plain English, we are talking about the shortfall between what is owed and the property’s selling price at or after foreclosure. For example, when a borrower stops making mortgage payments, the lender may get the property through a foreclosure proceeding and then sells the property to another; a deficiency between the sale price and the outstanding balance of the mortgage gives rise to a deficiency judgment. A deficiency may also arise when a third party directly buys the property at a foreclosure sale and pays less than the outstanding debt owed to the lender. 

To protect certain borrowers in this situation, California has powerful “antideficiency” rules that generally shift the risk of loss resulting from a decline in value of real property used as security for a loan from the borrower to the lender. These rules prevent the lender from getting a deficiency judgment against the borrower after a foreclosure in specified circumstances.

Given the dire state of California’s real estate market, the legislature was active in passing additional antideficiency protections in 2010. The governor did not, however, let all the new protections through. He vetoed antideficiency protection made applicable to refinanced purchase money loans (see SB 1178), which would have redefined “purchase money” to include “subsequent loans, mortgages, or deeds of trust that refinance or modify the original loan.” 

The governor did sign SB 931, which enacts CCP §580e, effective January 1, 2011. Section 580e prohibits recovery of a deficiency on a loan secured by a first deed of trust after a short sale for residential real property of four units or less. Note that §580e expressly states it will not prevent a lender from suing the borrower for fraud arising from the short sale or for waste regarding the property.

Antideficiency rules are complex, and many exceptions from the rules exist for junior lenders.  See California Mortgages, Deeds of Trust, and Foreclosure Litigation, chap 5 (4th ed Cal CEB 2009). Other exceptions allow lender actions for deficiencies resulting from borrower fraud or waste, Mortgage Deed of Trust Foreclosure, chap 2.

On negotiating short sales and their effects on loan and tax liabilities, see Mortgage Deeds of Trust Foreclosure, chap 7; California Real Estate Brokers: Law and Litigation, chap 2 (Cal CEB 2009); California Real Property Sales Transactions, chap 6 (4th ed Cal CEB 2007)
Also on this topic, check out the CEB program Current Issues in Mortgage Enforcement, available On Demand.

© The Regents of the University of California, 2010. Unauthorized use and/or duplication of this material without express and written permission from this blog’s author and/or owner is strictly prohibited.

2 replies on “Good News, Bad News for Foreclosed Homeowners”

Does anyone know with certainty if the anti-deficiency law applies to a blended loan – when both the first and second were used to purchase the property but technically the second smaller loan is a line of credit. Is the borrower protected on the second loan or can the lender sue after a foreclosure to recover on the second?

Questions have arisen about the application of antideficiency laws to the kinds of “A loan, B loan” priority structures that were common in residential lendinger during the middle part of the last decade. In Herrera v LCS Fin. Servs. Corp. (ND Cal, Sept. 9, 2009, No. C09-02843 TEH) 2009 US Dist Lexis 81850, the district court, without much discussion of the issue, treated a second trust deed “B” loan that was made concurrently with the ”A” loan to purchase the subject property as a purchase money loan subject to CCP §580b. Given the purpose of the loans, the result in Herrera is probably correct

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