Another new article in CNN today discusses one of the big potential downsides to the homeowner in a short sale transaction – the handling of the deficiency judgment. As always, disclosure is so important – the homeowner absolutely needs to know what is going on with the written-off portion of the mortgage.
Normally, for a short sale, this is handled as part of the negotiations with the bank. It would be agreed or not agreed to include a deficiency waiver in the contract. Naturally, the bank will prefer to not have a deficiency waiver, giving it the ability to pursue a deficiency judgment after the house sells ; while the homeowner wants to leave the property with no additional obligations, current or pending. Like anything else in a short sale, it’s all about making the case to the bank. A deficiency judgment does the bank no good if the homeowner is unable to pay it and ends up filing for bankruptcy. All that does is take up the banks and the courts time.
The bottom line is: be careful and exercise clear disclosure, especially if you are in investor representing a homeowner in bank negotiations. Remember that each state has different laws, so know what the regulations are in your state. Most states do in fact allow deficiency judgments, but some do not (For example, California is a non-recourse state; so deficiency judgment pursuits will not occur there).
Selected Excerpts from the article are below!
Former homeowners may still be on the hook if there’s a difference between what they owed on their mortgage and what the bank could sell it for at auction. And these “deficiency judgments” are ticking time bombs that can explode years after borrowers lose their homes.
It can even happen to people who got their bank to approve them selling their home for less than it is worth.
Because of falling home prices, borrowers who always paid their mortgage but who have run into unforeseen circumstances — like unemployment or a job transfer — can no longer sell their homes for what they owe. As a result, they are being forced to short sell or foreclose and are getting caught up in deficiency judgments.
“After the banks foreclose, it’s very common now to have large deficiencies with houses not worth the balances owed,” said Don Lampe, a North Carolina real estate attorney.
Lenders mostly declined comment. Although Corey’s lender, BB&T did indicate it was pursuing more deficiency judgments.
A note here, it’s probably a smart idea to spend some time understanding each lender and in what circumstances they may pursue a deficiency judgment.
Can they come after you?Whether banks can and will pursue deficiency judgments depends on many factors, including what state the borrower lives in and whether there’s a second mortgage or other liens. But if borrowers ignore the possibility of deficiencies, it could haunt them.
“Once they have a judgment, they can pursue you anywhere,” said Richard Zaretsky, a board-certified real estate attorney in West Palm Beach, Fla. “They can ask for financial records, have your wages garnished and, if you fail to respond, a judge can put you in jail.”
In the case of foreclosure, lenders can pursue deficiencies in more than 30 states, including Florida, New York and Texas, according to the U.S. Foreclosure Network, an organization of mortgage law firms.
Some states, such as California, are “non-recourse” and don’t allow deficiency judgments. But, even there, if the if the original loan was refinanced, some or all of it may be subject to claims.
Deficiency judgments on short sales and deeds-in-lieu can happen in many more places. In these cases, extinguishing the debt is often a matter of negotiating with the bank.
But even when lenders are willing, many borrowers may not be aware that they have to ask for release. So, if you are pursuing a short sale, be sure your attorney asks the bank to release you from any further obligation.
“People shouldn’t have a false sense of security that a deficiency judgment may not be later sought,” Zaretsky said.
This is the crux of the article – don’t make assumptions!
He expects many will be filed over the next few years, based on the fact that banks have sold many of these accounts to collection agencies and other third parties, at discount.
Again, this is something to think about. If a bank can sell off its deficiency judgments to a collection agency for a discount, what would the incentive be for them not to do so? They have nothing to lose, and gain the sale of the deficiency. Then, the homeowner needs to deal with the collection agency who purchased the judgment – not a great situation!
Ticking time bombWhat can be scary is that the judgments don’t have to be obtained immediately. Lenders or collection agencies may wait until debtors have recovered financially before they swoop in. In Florida, the bank can wait up to five years to file. Once the court grants a judgment, the lender has 20 years there to collect, with interest.
Releasing title does not necessarily end the debt. It’s complicated because of variations in state law, but, generally, a mortgage has two parts: a pledge of collateral, represented by the home, and a promise to pay off the loan.
Lenders may release property liens in order to facilitate short sales without releasing borrowers from their obligations to pay under the promissory notes. The secured debt can convert to an unsecured one after the sale.
Lenders are also very inconsistent. One of Zaretsky’s short-sale clients was ready, willing and able to pay, but the bank did not even ask; another lender always reserves the right to pursue the deficiency.
Strategic defaultsSometimes lenders go after borrowers walking away from their homes if they have other assets, according to Florida real estate attorney Larry Tolchinsky.
“Banks are pulling credit reports to see if it’s a strategic default,” he said. “If you’re behind on all your other payments, you’re okay. But if you’re not, they’ll come after you.”
