In a couple of other places in this blog I have discussed various components of California’s mortgage anti-deficiency laws. (See California Mortgage Deficiencies: What is a Purchase Money Security Interest? and Second Mortgages in California: Deficiencies Not Usually an Issue.)  This post will put it all in one place. At least the five basic rules.

I can’t warn readers enough, however, that these are very, very complex issues. I have–quite intentionally–over simplified them here, and I have done this to provide a precis on the big picture.  The case law interpreting the applicable statutes occupies volumes in California lawyers’ offices, and there are still many legal issues and questions that are unsettled.  So please go easy if I don’t answer your specific question here.  There is no way I can address all of the issues in one post, so if you have a specific question, please, post it in the comment section so everyone can see it, and I’ll do my best to answer it. But if you think you have a deficiency problem, or a possible exposure to a deficiency judgment, you really owe it to yourself to see an attorney who understands these issues. Also, bear in mind that the rules vary from state to state, so if you are reading this post with a real estate problem in any place other than California, you can be sure that the rules applicable to your situation are not the same.

First, what is a deficiency? Simply stated, a deficiency is what is left owed to a lender after the lenders forecloses and takes the real estate back. Example: If I owe $200,000, and the property is only worth $150,000 there is a so-called “deficiency” of $50,000. When can the lender come after the borrower for that “deficiency?”  That is the subject of this post. And, of course, in the current economy, a lot of people are trying to figure this out.

In California, there are four primary rules that apply. I discuss them below in no particular order.

1.  The One Action Rule. CCP §726(a).

The One Form of Action Rule basically says that the lender is required to chase the collateral first, and the debtor second…if it still can. A long, long time ago, a foreclosing lender could choose whether to foreclose on the collateral or go after the borrower personally for a money judgment. The one action rule of CCP §726(a) says that the lender must go after the collateral first, and, if it is legally possible, go after the borrower personally for any deficiency after that. Whether that is possible will depend on how the other rules set forth below kick in and apply to protect the borrower. But if you get sued on a promissory note and the lender is not a “sold out junior” nor taken hasn’t taken steps to foreclosure on the collateral, this rule would apply.

(I use the term “sold out junior quite a bit in this post. A sold out junior lienholder is the holder of a deed of trust that is junior to the first lienholder, and who has been denied a recovery due either to the foreclosure by the first lienholder, or because there isn’t enpugh value in the property to satisfy the junior debt after satisfaction of the senior debt. It is common for people to refer to such debts as “HELOCS,” but this isn’t technically accurate. A HELOC is simple a “home equity line of credit” that is secured by the subject property. It may be the most senior debt on the property or it may be a second, third…or tenth lien in order of its seniority. “HELOC” is a banking term; “sold out junior lienholder” is a legal term of art.)

2.   The Purchase Money Prohibition:  CCP §580b.

This is the best known rule and the one that applies more often than the others. If the loan that is being foreclosed on is a loan that was obtained for the purpose of purchasing the property, then no deficiency is allowed. It doesn’t matter if it’s a first, second or third.  It doesn’t matter if it’s classified as a “HELOC,” a “seller carry back,” or, ultimately, a “sold out junior.” Purchase money is purchase money. Example: Homeowner buys a house for $300,000, with a first for $200, and a second for $60,000, both put on the property at the time of acquisition. If the first forecloses, both lenders are barred from getting a deficiency because both loans are classified as “purchase money.” However, where the borrower has refinanced the original purchase money loan, or got a later home equity loan, that later loan is not a purchase money loan and could form the basis for a deficiency if the other anti-deficiency rules don’t otherwise apply.

But there is an exception to the exception: If the later loan was used to finance improvements to the property, then it can be a purchase money loan, and thus be a bar to a deficiency.

3.  The Non-Judicial Foreclosure, or “Private Sale Bar”:  CCP §580d.

This is the next most frequent rule. If the foreclosing lender has availed itself of the “power of sale clause” in the deed of trust, then no deficiency is allowed. Period. If they take the property back by means of a non-judicial foreclosure or trustee’s sale, then no deficiency. But unless one lender holds both loans, that only applies to the loan actually foreclosed on. Using the above hypothetical figures, though in this case making the second a non-purchase money loan, when the first forecloses, the holder of the first foreclosing loan is barred from seeking a deficiency both (1) Because it is purchase money, and (2) Because it has foreclosed by trustee’s sale. But the second, not being purchase money, and not being the one who foreclosed by non-judicial sale but having been wiped out by the foreclosure of the first, is not barred from pursuing a deficiency. In fact, in California, they have up to four years from the date of the breach of the contract to file a lawsuit seeking that deficiency.

And of course, as noted, there is an exception to the exception: If the holder of the first and the holder of the second are the same lender, and that entity forecloses on the first, it is also barred from seeking a deficiency on the second. This is important in California where lenders sometimes “stack” loans in order to get to a loan amount high enough to cover the high property values. It is also important to think about when the loans may have been sold to different lenders.

(On a historical note, CCP §580d was passed in light of the foreclosures and abusive deficiency judgments obtained by lenders during the Great Depression.  What we’re going through now is similar in many respects, though the ability of lenders to take the property and then chase the borrower who is already out of their home is limited by the passage of that statute. Small solace, to be sure, but it at least is doing what it was intended to do.)

4.  The fair Value Limitation: CCP 580aCCP §726(b).

This rule limits the amount of any possible deficiency to the amount by which the total debt exceeds the total fair value of the collateral. It only applies to deficiency judgments in judicial foreclosures, and, most importantly, it does not apply at all to sold out junior lienholders. Example: First mortgage of $450,000, and a second for $150,000, for total liens of $600,000. If the holder of the first forecloses and, it can be shown first at the time the first forecloses it can be shown that the property is only worth $400,000, then the foreclosing lienholder–on return to court seeking a deficiency–is limited to $50,000, regardless of what they sold the property for.  So if they pay a commission of 6% ($24,000, and additional closing costs of $5,000, that $29,000 is generally barred.  As for the holder of the $150,000 second? They can still come after the borrower for full payment, assuming, of course, such an action isn’t barred by one or the other of the above rules.

5.  The 3 Month Rule: CCP §580a.

This rule applies only in the case of judicial foreclosures. What’s that? Literally, it is a lawsuit in which the lender obtains a “decree of foreclosure” from a court–by definition not using the trustee’s sale procedure–and is unable to be made whole from the sale of the property. Example: Loan balance of $500,000. Lender obtains a “decree of foreclosure” from a court, after which it then goes out and sells the property for $400,000. In order to get a recourse judgment against the borrower for the $100,000 shortfall, that creditor must bring an action within 3 months of the sale date or it is barred.  An important carve out on this rule is that the 3-month limit does not apply to a sold out junior lienholder, the holder of the second in the above scenarios.

It is highly doubtful that you will have to deal with this rule without being fully aware of the issue steaming down the tracks towards you, simply because it can only happen in a judicial foreclosure. A lawsuit. As to whether or not you’ve been sued, well, you should know it. But check out my prior post Second Mortgages in California: Deficiencies Not Usually an Issue I referred to in my first paragraph above if you’re not sure.

As David Letterman would say, “please don’t try this at home,” by which I mean simply that if you are concerned that you may have a deficiency exposure, call a lawyer. A real estate lawyer, not a family lawyer, a personal injury lawyer or your Grandma Tilly’s trust and estates lawyer. This can be complicated stuff.

And last, of course, if the debt is discharged in bankruptcy, there is no deficiency at all. But that’s another post altogether.

27 Responses to California anti-deficiency rules and statutes: When can a mortgage lender in California recover a deficiency after foreclosure?

  1. Someone I work with visits your blog regularly and recommended it to me to read too. The writing style is excellent and the content is interesting. Thanks for the insight you provide the readers!

  2. Evalynne says:

    I came across this site while researching options for my parents. After my mothers company cut her hours by 2/3, and with the family store barely breaking even, they are forced to short sale/foreclose. (yes, we’ve unsuccessfully attempted a loan mod – they don’t make enough and were refused) Currently, they’re in the process of negotiating a short sale, but the second lender has already started deficiency judgment processes and will pursue it regardless of the short sale outcome.

    Can you offer any recommendations of attorneys practicing real estate/bk law in Monterey County?

  3. Evalynne

    I’m sorry to say that I don’t know any bankruptcy lawyers practicing in that geographic area.

  4. torisf says:

    Excellent article. Extremely informative and helpful.
    One question: could you please elaborate a bit more as to how SB931 plays into all of this?
    Thank you.

  5. I would say that all SB 931 does is to legislate some degree of common sense into the short sale process. While it does create a new form of protection from unscrupulous and predatory lenders, if the borrower bothers to get legal advice before they close the short sale, then the protections of SB 931 aren’t necessary. Put it this way: If someone consulted a lawyer before completing a short sale, and then got into the trouble that SB 931 is designed to preclude, I’d say that lawyer was guilty of malpractice.

    Here’s why:

    All a short sale is is an agreement by the lender to reconvey its deed of trust for less than the total amount outstanding on the loan. Example: Loan balance = $500,000. Proposed short sale of property for $400,000. If the lender accepts the short sale proposal, then it is agreeing to release its security interest in exchange for payment to it of the sale proceeds (net of allowed transactions costs, commissions, unpaid property taxes, etc.), in this example, probably around $350,000 to $375,000. That means that the lender executes and records a Deed of Reconveyance which clears the way for the seller/owner/borrower to convey unencumbered title. A short sale can’t happen without the lender’s participation because without that Reconveyance, the seller can’t deliver clear title.

    SB931 protects the borrower from the possibility that the lender could pursue a deficiency for the difference between the loan balance and the net sales proceeds after the short sale. All SB 931 does is make a sure that you get what you should get anyhow if you’re paying even a little bit of attention to your legal interests.

    A borrower/seller who is being properly advised should NEVER agree to do any short sale at all if the approval from the lender doesn’t include a full release from any deficiency claim! I can’t emphasize that enough. You are already doing the bank a huge favor by selling the house for them and saving them tens of thousands of dollars in foreclosure expenses, commissions, marketing expenses, rehab, etc. And for what? Warm fuzzies? If you let the trustee’s sale go forward they couldn’t get the deficiency anyhow. That’s what CCP 580d is for. So if you don’t get the release in writing, then walk away from the deal and let them foreclose. You’re not getting anything out of it anyhow; why should you do all that work to close a short sale and not get the benefits of what just letting the foreclosure happen anyhow would give you by law?

    Last, as for the not getting anything out it part, you are NOT preserving good credit by doing a short sale. That’s a myth created by banks. By the time you’re eligible for a short sale, your credit is already trashed. Better to file bankruptcy and get the fresh start.

  6. Glamisdiva says:

    First I wanted to thank you for explaining all of this in simplified language! I do believe I understand my own personal situation much better now but wanted to see if you could verify it for me.

    Firstly My husband and I purchased a house for $660,000.00 it was a 80/20 loan which was obtained for the purpose of purchasing the property (1st and 2nd loan) both by the same bank. We never refied or took out any other loan on it, so this makes it purchase money. Secondly on the one action rule the senior lienholder (1st loan) chose to foreclose (which occured 8/18/10 and sold to the beneficiary for $336,000.00) which sold out the junior lienholder (2nd loan). thirdly on the non-judicial foreclosure or private sale bar our foreclosing lender took the route of non-judicial foreclosure which has the “power of sale clause” in the deed of trust and like I said both loans were held by the same bank. So my question is can either lienholder (1st or 2nd) come after us for any deficiency? Thanks for your help!

  7. CCP 580b precludes deficiencies on purchase money loans. Don’t complicate it with other worries. Assuming it’s true and accurate, everything after this sentence in your post is surplusage:

    “My husband and I purchased a house for $660,000.00 it was a 80/20 loan which was obtained for the purpose of purchasing the property (1st and 2nd loan) both by the same bank. We never refied or took out any other loan on it, so this makes it purchase money.”

    Don’t confuse the issue.

  8. […] very powerful anti-deficiency laws, about which I have already blogged rather extensively.  (See California anti-deficiency rules and statutes: When can a mortgage lender in California recover a de…, California Mortgage Deficiencies: What is a Purchase Money Security Interest? and Second Mortgages […]

  9. […] as “purchase money loans.”  I have posted about this a couple of times (See posts:  California anti-deficiency rules and statutes: When can a mortgage lender in California recover a de… and Second Mortgages in California: Deficiencies Not Usually an Issue), and it is a very important […]

  10. Jgirl562 says:

    Thank you very much for your excellent article. Extremely helpful information and ironically difficult to find explained so clearly in any other forum. I have an 80/20 loan for condo in SF – 1st $500k and 2nd HELOC for $125k. Both are original loans used to purchase the property, still with same lender and have not been refinanced. However, two years ago, we did a “Lock Cancellation Amendment” to the HELOC to unlock our high rate and take advantage of the much lower variable rates that became available. The bank said that this was not a refinance and only an amendment to the existing loan because a new contract was not drawn up, but can you confirm whether or not the Lock Cancellation would do anything to change the non-recourse nature of the loan?

  11. Jgirl562 says:

    I have heard of banks “selling” their debt to junk debt collectors and the debt collectors then coming after the homeowner for the money owed. If the debt from an original purchase money loan was purchased by a debt collector, could there be an issue for the homeowner or are those loans still non-recourse in any case because of the purchase money prohibition?

  12. kfaddon says:

    Is there a law/staute/case that specifically states that “If the holder of the first and the holder of the second are the same lender, and that entity forecloses on the first, it is also barred from seeking a deficiency on the second.” ???? Does this apply to homes that are not primary residences? Thanks David!

  13. ezra says:

    Question — will the California statute prohibiting deficiency judgments for sold-out juniors (purchase money) be applied to all mortgages for California residences, despite a choice of law clause in the mortgage document specifying Michigan law?

    And a followup — will the California anti-deficiency statute — nominally part of the code of California procedures — be applied in lawsuits brought in other states? E.g. if the foreclosed former California homeowner moved somewhere else, and was sued there.

    Just asking for a friend…

    Thanks!

  14. Sorry to be so long in getting back to you on this.

    Applicable law on this issue is the law of the jurisdiction where the property is located, not where the borrower happens to reside when the lawsuit is filed. Furthermore, lenders can’t change the applicable law on a mortgage or deed of trust (generally called “real property security instrument”) by getting cute or clever in the loan docs. If the property is located in California, then California law applies to the entire loan transaction, including later attempts to collect deficiencies.

  15. Creditor rights do not increase or diminish by sale of the debt. If a mortgage lender sells a loan to a debt collector, the debt collector is bound by the same limitations as it would be if the debt had remained in hands of the original lender.

  16. Yes. But for the moment I don’t remember the case cite. It’s a California Supreme Court case, not a statute. I’ll put that on my list of things to research.

  17. […] Sales Worth the Hassle? For more on the basics of California anti Deficiency rules, check out  California anti-deficiency rules and statutes: When can a mortgage lender in California recover a de…   If you found this article informative, please consider sharing […]

  18. Felix says:

    What if the scenario is that a home was purchased with a 80/20 loan(s) which were obtained for the purpose of purchasing the property (1st and 2nd loan) both by the same bank. The borrower never refied or took out any other loan on the home, so this makes it purchase money. If the lender agrees to a short sale, would the original lender (and any subsequent note holder) be prohibited from pursuing a deficiency suit for the difference owed between the short sale net proceeds and the amounts due on notes that were secured (prior to the short sale) by the 1st and/or the 2nd deeds of trust?

  19. Purchase money is purchase money is purchase money. As long as the loans are purchase money, and the property is a dwelling of the borrower, then CCP 580b precludes the deficiency.

  20. zecqxon says:

    With respect to The Non-Judicial Foreclosure, or “Private Sale Bar”: CCP §580d. If the mortgage and HELOC(s) were obtained from the same bank and the bank sold off the mortgage and only services it now, is this still considered “one lender holding both loans”?

  21. stephanie says:

    I’m sure this question will sound like a broken record but I am going to ask anyway because of a variation so please bear with me. If I purchased my property in 2007 with a mortgage from one bank and refinanced with another bank in 2008 and did not take any money out, there is no second or HELOC. that still qualifies as a re-fi and not a purchase money mortgage AND would therefore be a recourse loan, right?

    I still live in the property (CA) and have received a notice of default. if the lender completes a NONJUDICIAL foreclosure am I correct that the lender cannot get a deficiency judgment then?

  22. daniek20 says:

    Thank you for the information, but I am still a little confused. We started with a 80/20, refied the second a year and a half later, got a line of credit, then refied both two yrs later. Tried to short sale in 10, it ended up in foreclosure. We were completely upside down because of the type of loan we ended up with at the end. We have now received a 1099a. Our original loan was 1st 211,000 and 2nd 58,000. The refie on the 2nd was line of credit 107,000. Some of it went back into home improvements and some we paid off existing bills. After everything was said and done at the end we owed 380,000. We only had 6 months left before the balloon payment was due. We felt we needed to get out and had an opportunity to buy something else so april 2010 we did. The other house sold at the courthouse on march 2011. August 2010 I lost my job, we are now in the same situation for different reasons. At this time we do not qualify for remodification so we are now looking into short sale. Everything i have read and heard so far we are pretty much up a creek without a paddle. Can you spread a little sunshine our way? So I guess my questions are…
    Why did we get a 1099a instead of 1099c?
    Are we going to have to pay back the difference?
    If so which part are we responsible for the difference of 380k and purchase price of 269k or 380k and 205k which is what it sold for at foreclosure?
    With the old house foreclosing 3/11 and us buying the new house 4/10 do we fall under insolvency as long as our debts don’t out weigh our assets?
    The last question I have is….do you have a tent we can borrow…lol
    Thank you for your help.

  23. sidjan49 says:

    As a resident of California, I purchased a condo in 2007. The property foreclosed (non-judicial) in 2011. I had a 1st with Aurora Loan Services and a 2nd with PNC. I did not refinanced but I did get a small loan modification which didn’t help my situation. Both loans were used to purchase the condo and I received no money. The lender had agreed to a short sell but the condo did not sell before foreclosure. It was sold after foreclosure for $128,000 (my combined loans were for $359,000). Can the second PNC come after me for the deficiency? If my understanding of 580b is correct they cannot but 580d confuses me.

  24. Based on what you have said, if the second was true purchase money, then 580b provides a defense.

  25. ged says:

    Great Blog! A little confused by sentence in #3 non-judicial foreclosures. One sentence states in part, “But unless one lender holds both loans, that only applies to the loan actually foreclosed on. Using the above hypothetical figures, though in this case making the second a non-purchase money loan. . . .” I have purchase money mortgages original loans on property, with two different lenders. If 1st does non-judicial foreclosure, are you saying second would not be a purchase money since not with same lender?

  26. Sorry to be so late in replying…I don’t seem to get emails when there are posts.

    If there is only one loan, and that lender completes a non-judicial foreclosure, i.e., Notice of Default, Notice of Trustees Sale, then the “private sale” anti-deficiency applies. If there is more than one loan, then the question of whether the junior deeds of trust are subject to the anti-deficiency provisions falls under the “purchase money” Concept. The first is barred because of the private sale, the second (third, etc.) may be barred.

  27. Sorry but I really can’t do that analysis in this forum. Too much detail.



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