California Anti Deficiency Laws

[TeacherMomma]

So we are getting ready to walk away from our home. And I have a few questions. My husband and his mother are the debtors on the home. She owns her own home, and did when they bought the home in question. She does not live here, she lives in her own home. The two of them re-financed to a better loan a few years ago and since we had equity they took 40K out in the re-fi (not a second, but we had 100K equity at the time and did the re-finance for the loan amount plus 40K)

In reading the Anti-Deficiency Laws, and blogs, and articles on the topic, I came across one that made me thing my mother in law might have someone come after her for us walking away:

"In plain English - the bank cannot seek a deficiency judgment against the borrower if the loan was for purchase money on a residential one-four owner-occupied property. These loans are commonly referred to in the lending industry as "non-recourse" loans. The borrower has to live there---if it is an investment property or vacation home, then 580(b) may not save the borrower. " (JulieWei)

The "investment property" thing had me going - my husband is a borrower, he lives here, so it is not an investment property, right? Or since my mother in law does NOT live here (that was known by the bank, it is in the documents that she lives at X and my husband would be occupying the property) would she be in for it? The loan is an "owner occupied" so I think we are fine. But my MIL is getting nervous thinking they are going to come after her, and my knowledge on this was simply -the bank gets their collateral back, and that is it. Credit reporting is another thing, I know.

[StartingOver08]

What you have described sounds like your MIL is the co-signer on the loan for you and your husband's primary residence.

The paragraph you cited specifically states "the bank cannot seek a deficiency judgment against the borrower if the loan was for purchase money on a residential one-four owner-occupied property." Once you refinaced your loan it is no longer a purchase money loan (purchase money applies to the borrowed funds you used to purchase/acquire the residence). So yes, the lender has recourse on the loan. Not against your husband since he was successfully discharged in a bankruptcy (as I recall). But against your MIL, yes.

The lenders really like co-signers because if one party fails to pay (default or bankruptcy) they can go after the other party. That is the entire purpose of having more than one person on the note.

Check with your attorney to be sure. Discuss all the details with your attorney including your MIL's participation in the refinance.

[AngelinaCatHub]

Teachermomma, sounds like a real bummer for both you and MIL. I see you are being dismissed under 707b. What was the denied contribution? If you are dismissed then the loans you mentioned are still in force, and MIL and you are not in the problem you were in except that you still owe the mortgage.

You did not mention if you were in 7 or 13. You may refile and after getting some advice from your attorney, perhaps MIL may have to file as well. I would not let her panic but just be prepared for the hammer to fall after you do get a successful discharge. I understand that CA has no deficiency if you forfeit your house as long as the mortgage goes to the domicile. Your concern is for the equity above the loaned amount as it was a refi. Am I understanding this correctly? I'm in FL. 'Hub

[TeacherMomma]

It is for sure a re-fi. But my husband was not on the original loan, only she was. Then a year later they re-fi'd together and took out the 40K.

So, in terms of them seeking a deficiency judgement, are we talking about the 40K only, or are we talking about that plus the difference in what it is worth and owed too?

We will not be refiling any time soon and certainly NOT with MIL. High income was the reason for our 707, and due to the fact that my student loan payments were not allowed to be used, it showed we had a lot of disposable income and we do not.

[StartingOver08]

Because you refinanced it would most likely be the entire shortfall and not just the $40k. It sounds like you may be insolvent. You can be insolvent and not file for bankruptcy protection. This article from Jonathan Alper gives a good explanation of deficiency judgments and other defenses to deficiency judgements other than bankruptcy.
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Part of the article is here for you:

....During the recent real estate boom deficiency judgments were uncommon because increasing real estate values brought home values above note balances of defaulting mortgages. Additionally, lenders could take back "upside down" properties and hold them until the rising market made them whole. Deficiency liability is a problem in a declining market. Up to this point in the real estate crash few mortgage service companies with conventional first mortgages have been pursuing deficienty judgments, especially mortgages on owner occupied homes. Second mortgage lenders and private lenders are more likely than first mortgage holders to go after the borrowers by suing for default on the underlying promissory note. There has been a significant increase in second mortgage lawsuits since the beginning of 2009. Banks that made commercial loans to developers or builders almost always file a lawsuit against the individual borrower to enforceand collect upon the promissory note or personal guarantee of a business loan. As the real estate recession worsens more conventional mortgage lenders may pursue deficiency judgments. If a mortgage lender pursues a deficiency judgment you should hire an attorney to defend the deficiency. In many cases, an attorney can use procedural defenses and substantive lending law to defeat a deficiency claim, and the attorney can negotiate an acceptable settlement for much less than the total deficiency liability in most cases.


Another problem with mortgage foreclosure is possible income tax consequences. The general rule is that when a lender forgives or cancels a debt the borrower can incur income tax on the amount of debt forgiveness. When you arrange a discount in your mortgage in order to sell house (a so-called "short sale") the mortgage lender will cancel part of your mortgage debt and you will receive a tax form 1099 telling the IRS that you have imputed income for the amount of debt reduction. You will also incur income tax liability for a deed in lieu of foreclosure. The taxable income will be the difference between the property value and the balance of the mortgage loan on the date you surrender the property to the bank.

A foreclosure may result in cancellation of debt income depending on whether the bank pursues a deficiency judgment. If the mortgage lender gets a deficiency judgment for the difference between the property value on foreclosure sale date and the mortgage balance the lender is not forgiving any part of the loan. If the bank chooses not to pursue a deficiency judgment, or pursues the judgment unsuccessfully, the borrower may incur income tax liability for debt foregiveness.

In December, 2007, Congress acted to protect many debtors from income tax liability associated with foreclosure avoidance. The Mortgage Forgiveness Debt Relief Act of 2007 states that homeowners will not be subject to income tax from release from mortgage liability if and to the extent the mortgage proceeds were used to buy or improve their primary residence. There is no income tax shelter from foregiveness of mortgage debts for investment property, vacation homes, or mortgages used for businesses or to pay off credit card balances. The protection expires in December, 2009. You should speak with an attorney or CPA familiier with the new law to see if you qualify for income tax protection.

For those borrowers who do not qualify for protection of the new Act there is an insolvency exception to imputed income from the cancellation of mortgage debt. If a borrower is financially insolvent when he surrenders the mortgaged property to the lender voluntarily or through foreclosure there will be no imputed income. A borrower who files bankruptcy is presumed to be insolvent, so that a bankruptcy debtor cannot suffer imputed income tax liability because the bankruptcy discharges personal liability under a mortgage note. More information is available from IRS Publication 908 and IRS tax form 982. Both forms can be found at irs.gov. Go to the link for the rest of the article.

http://www.alperlaw.com/mortgage_fcdef.html

[StartingOver08]

l looked a little further and found a very interesting article written by a California attorney on foreclosures and deficiency judgements. See the link below a partial reprint of his article:

The matter can be summarized as follows. A lender cannot get a deficiency judgment if it forecloses by private sale, nor can it do so if the underlying loan was a purchase-money loan. Therefore, a lender will choose to sell the property at a private sale if (1) the sales proceeds will pay the entire loan or (2) the loan was a purchase-money loan.

It is often the case that the lender will forgo a judicial foreclosure and use a private sale even if (1) the sale will likely or certainly fail to yield funds sufficient to pay the full debt; and (2) the lender is entitled to a deficiency judgment for the remainder against the borrower. Often the lender will simply prefer the convenience and swiftness of a private sale, but this will depend in part on whether it would be profitable for it to pursue the borrower for the likely deficiency, and this depends on the likely amount of the deficiency and the borrower's ability to pay it. ......

and further in the article: But in a judicial foreclosure, the lender is entitled to a deficiency judgment against the borrower for any outstanding amount still owed after the sale of the property. Therefore, a lender might wish to use a judicial foreclosure, despite the long delay that it entails, if there will likely be a significant debt owed on the loan even after the foreclosure, since at a private sale the lender waives this outstanding amount (or "deficiency"), but at a judicial foreclosure the lender gets the foreclosure proceeds, plus a personal judgment against the borrower for any deficiency, so long as the loan was not a purchase-money loan.

The article itself is much longer and more detailed and absolutely a little entertaining. It does a good job of explaining the foreclosure process in California. See the entire article in this link below.

http://www.maldonadomarkham.com/california-foreclosure-law.htm

[TeacherMomma]

From what I am reading here and online....it just seems like they (lender) are not very likely to seek a deficiency judgement against him/MIL. I mean it is a roll the dice sort of thing I guess....but it just doesn't seem likely.

A private sale is anything other than a judicial sale, correct? From what I am reading the trustee's sale, private sale, etc are all free from deficiency judgements even on a re-fi? So if we walked the only way they could come after us is if it goes to judicial sale - EVEN with it being a re-fi.

I dunno. More decisions.

[StartingOver08]

Well, I read it a little differently. The paragraph from the previous link that seems to apply to your situation the most is this one:

..."If the borrower takes a loan for purposes other than the purchase of a property, and he later defaults on the loan, the lender must first foreclose upon the property to satisfy the debt, but can thereafter obtain a deficiency judgment for the balance of the loan. But any such deficiency can be recovered only if the lender uses a judicial foreclosure rather than a private sale. If the lender pursues a judicial foreclosure, the borrower will have the redemption right to buy the property from the purchaser at the foreclosure sale. If the lender uses a private sale, it cannot obtain a deficiency, nor can the borrower redeem the property after the sale. If the lender tries to circumvent all of this, it might find itself barred under the one-action rule from recovering any part of the debt from the borrower, or at best its secured debt will become an unsecured one."...

The fact that the loan is a re-fi is what makes this NOT a purchase money mortgage so it is a loan for purposes other than the purchase of a property.

[TeacherMomma]

Right, but the only way to come after them is by judicial sale - if they do what everyone else is doing and hire a realtor and sell it, then that is a private sale and we are fine then, right?

[StartingOver08]

Check with your attorney. Based on what you described, it sounds like your lender would go through the judicial foreclosure rather than a private sale, especially since there are two people the lender can go after: your husband and your MIL. JMO.

[TeacherMomma]

I guess I am just wondering what makes our situation different than the rest of our street who are not judicial sales. What makes yout hink that?
We don't have an atty.

[StartingOver08]

Banks use Realtors to do short sales before they are owned by the bank and to sell properties once the bank owns them. It is no reflection on how the foreclosure was completed. I am a Realtor and I sell lots of REO properties and short sale properties. REO means Real Estate Owned/Bank Foreclosures.

The foreclosure process is a legal process the bank uses to get rid of jr liens and to get the property in their name so they can dispose of the asset. If you check the homes on your street you will see that most of them are probably short sale offerings or bank owned. A Realtor can give you a run down of each and every property in your neighborhood. If you read the link in post 6 above that attorney gives a good timeline for the California foreclosure process.

The only reason I think your lender MAY choose a judicial foreclosure is because your loan is not a purchase money loan (since it is a refi) and it has two people to guarantee repayment: your husband and your mother in law. Of course, your bank may not choose the judicial foreclosure. You may want to speak to a real estate attorney that knows short sales and foreclosure law for your specific area to get a better handle on your situation now that BK is not a certainty.

[TeacherMomma]

Ok then I am confused. If these properties on our street, for example, are REO (they are, we have already researched them during our loan modification attempts), then they have not gone to any type of sale yet (judicial, private, trustee). So they are not judicial sales. So the banks got the home back and are using realtors to sell the homes now through the private process - right?

Or am I confusing something before in the process. So we get foreclosed, the bank gets the property back and has a realtor attempt to sell it, right? When would a property go to a trustee sale or judicial sale? When it doesn't sell through the realtor?

Edited to add I think I am just confusing the judicial foreclosure process.

[StartingOver08]

The trustee sale and judical sale are before it is owned by the bank - it is the last step in the foreclosure process. The bank has to actually have the property in its name to sell it. As long as the property has the owners name (not the bank's name) the bank can not sell it without the owners' written permission. Written permission is a purchase and sale contract. When the final judgment is complete including the 'sale' to the bank, then the bank puts in on the market thru a Realtor to sell to a third party (a new homeowner) at a steeply discounted price.

This might be a good visual for you: The word "mortgage" means "dead hand" (I think the origin is Latin) so the bank has a mortgage on a property meaning the bank can take the property to satisfy the obligation if the borrower defaults. The foreclosure process is the process that the bank uses to take the property. As to to visual I usually think of a large hand grabbing back the property! LOL

The deficiency judgment is only if the property is sold for less than the outstanding mortgage and in California it is limited to properties that do not have a purchase money mortgage. That is a whole other step after the sale that has nothing to do with the disposition of the collateral (the house).

[TeacherMomma]

Oh brother, now I get it, but am totally bummed.


And a deed in lieu of foreclosure would get us out of all of the deficiency stuff, or no?

And just to be super clear - we do not have a second, or a HELOC, we are a refinance of the original loan with 40K out for home upgrades. Everything online reads "seconds and HELOCs" but never says re-fi when speaking about deficiency laws. So I am just checking.

Thanks for all the input today, by the way.