By: Julia M. Wei, Esq.
Dear Readers –
Happy New Year! This marks my 100th post.
I am still frequently getting calls from borrowers who say they have read my blog and have questions about challenging a foreclosure.
I am not totally convinced they read my blog because I often say that I work for private lenders and that I do creditor work and that I defend against “foreclosure defense” or “foreclosure delay” lawsuits. The only exception would be commercial borrowers, whom I do have as clients. However, I rarely do institutional lending work and most of these unfortunate borrowers are bravely taking on big banks and captive trustee servicers that have likely screwed up the loan documentation and/or trustee’s sale in one form or another.
So here is my first pro bono act of the new year, a lengthy explanation of setting aside a non-judicial foreclosure sale in California and why I usually win these for my clients and why borrowers usually lose.
SETTING ASIDE A FORECLOSURE SALE IN CALIFORNIA
1. Timing is Everything
It is always easier (but not necessarily easy) to delay, postpone, stay or enjoin a foreclosure sale than to undo one after the fact. The sale itself takes months and months and months before it can occur so the longer the borrower waits, the less successful the borrower will be in obtaining a Temporary Restraining Order (TRO) or Injunction to stop the sale (see this article for more on TRO’s http://bayarearealestatelawyers.com/foreclosure/what-lenders-should-know-about-temporary-restraining-orders-and-foreclosures-in-california/) .
After losing at the TRO or OSC re: preliminary injunction hearing, the only surefire way to halt the trustee’s sale is filing a bankruptcy petition which has the protection of the automatic stay. Once in bankruptcy, assuming a Chapter 13 or 11 (“reorganization”) filing, the debtor may have more ability to restructure the debt, seek a cramdown (reduced payments), loan workout, or other concession from the lender.
2. The Tender Rule
Setting aside the foreclosure sale after it has happened is nearly impossible due to the tender rule. Especially if the property did not revert to the lender REO but instead went to a bona fide purchaser (BFP) for value.
A. Why is tender required? “This rule, traditionally applied to trustors, is based upon the equitable maxim that a court of equity will not order a useless act performed. (Arnolds Management Corporation v. Eischen 158 Cal.App.3d 575. 578-579.) “A valid and viable tender of payment of the indebtedness owing is essential to an action to cancel a voidable sale under a deed of trust.” (Karlsen v. American Savings & Loan (1971) 15 Cal.App.3d 112 at p. 117.) The court goes on to say… “The rationale behind the rule is that if plaintiffs could not have redeemed the property had the sale procedures been proper, any irregularities in the sale did not result in damages to the plaintiffs.” [FPCI RE-HAB 01 v. E & G Investments, Ltd. (1989) 207 Cal.App.3d 1018, 1021.]
B. How much does a borrower have to do to actually tender? “ ‘The rules which govern tenders are strict and are strictly applied.... The tenderer must do and offer everything that is necessary on his part to complete the transaction, and must fairly make known his purpose without ambiguity, and the act oftender must be such that it needs only acceptance by the one to whom it is made to complete the transaction.’ (Gaffney v. Downey Savings & Loan Assn.) (1988) 200 Cal.App.3d 1154, 1165, , quoting 86 C.J.S., Tender, § 27, pp. 570-571; ‘it is a debtor's responsibility to make an unambiguous tender of the entire amount due or else suffer the consequence that the tender is of no effect.’ (Gaffney v. Downey Savings & Loan, supra, 200 Cal .App.3d at p. 1165.)” (Nguyen v. Calhoun (2003) 105 Cal.App.4th 428, 439.)
3. Why Does it Matter if the Property Goes to a BFP?
The winning bidder at sale receives a Trustee’s Deed which recites that everything was properly done and that law in California is that such sales are FINAL. “The purchaser at a foreclosure sale takes title by a trustee's deed. If the trustee's deed recites that all statutory notice requirements and procedures required by law for the conduct of the foreclosure have been satisfied, a rebuttable presumption arises that the sale has been conducted regularly and properly; this presumption is conclusive as to a bona fide purchaser. (Civ.Code, § 2924; Homestead Savings v. Darmiento, supra, 230 Cal.App.3d at p. 431.)” (Moeller v. Lien, supra, 25 Cal.App.4th 822, 830-831
4. What About the Lost Note?
I have written about producing the note many times (see this article http://www.foreclosures.com/foreclosure-newsletter/lost-your-promissory-note-2/)*. The gist is that the purpose of having possession of the Note is simply to ensure that no one else can try to collect to protect the borrower from having to pay twice. In California, the lender does not need to have the original note to conduct a trustee’s sale. They can bond around a lost note. Judicial foreclosures may be different. Bankruptcy courts may be different – see this article http://dirtblawg.com/2010/07/you-have-to-produce-the-note-%E2%80%93-sometimes.html.
5. What if the Servicer Never Called Me?
Tough. All Civil Code Section 2923.5 gives the borrower is additional time. That means that if you catch the servicer messing up before the sale, you can delay the sale to buy additional time but if you wait too long and try to say they messed up after the sale is over, the point is moot and there is not remedy in that code section that will allow the borrower to set aside the sale. [“If a lender did not comply with section 2923.5 and a foreclosure sale has already been held, does that noncompliance affect the title to the foreclosed property obtained by the families or investors who may have bought the property at the foreclosure sale? No. The Legislature did nothing to affect the rule regarding foreclosure sales as final.”].) (Mabry v. Superior Court (June 10, 2010, G042911) 185 Cal.App.4th 208, ---- [2010 WL 2180530 at p. 1]
6. What About All This Mortgage Fraud I read About in the News?
Less relevant in California, since few lenders do a judicial foreclosure on a residential property (different story for apartments or commercial buildings where there is lease revenue and we need to get a receiver in to stop rent skimming). I see it more in bankruptcy court, during the claims process or relief motions where the borrower can get extra time by challenging that the lender has standing to even conduct the foreclosure. Again, this comes down to whether or not the lender's trustee/servicer actually recorded the Substitution of Trustee before the sale was conducted. One judge in the Northern district is asking for production of the note. The standing issue may be helpful in the context of obtaining a TRO or injunction to stop the sale if the lender cannot timely establish it has the right to conduct the sale. Essentially, security follows the debt so the argument is that unless the lender can produce the note, assuming the loan was sold, then the "assignment of the deed of trust" is worthless unless the lender has the actual note (hopefully endorsed in blanc). However, if the lender kept the loan as a portfolio loan, then it is likely that the lender can produce the note.
For non-judicial foreclosure sales, and outside the context of bankruptcy, a case to set aside a foreclosure is highly unlikely to go anywhere. Within a bankruptcy courtroom, different factors will apply during the claims period and the bankruptcy judges have differing opinions on a lender’s standing to foreclose. Unless you have a seasoned bankruptcy practitioner, a borrower’s odds of vacating a trustee’s sale are low (slightly higher if it reverted REO instead of being sold to a BFP). Be wary of someone promising you (for an advance fee of course!) that they can save your home or help you avoid foreclosure.
The “Lost Promissory Note” lawsuit is reaching high levels of popularity, especially in the present backlash against mortgage-backed securities. The Foreclosure Defense gurus reason that the original note is long gone as it has been sold, or assigned or securitized in a stream of transactions. They further reason that without the original Note, the deed of trust is a “nullity” and there is no proof the borrower ever incurred the debt.
However, in California, the lender is not required to produce a Promissory Note to conduct a non-judicial foreclosure (also known as a “Trustee’s Sale”). The power of sale comes from the Deed of Trust, not the Promissory Note.
The Promissory Note is the debt instrument, just like an IOU. The person holding the original is the one the borrower has to pay. The lender can freely sell or trade that single note around and notify the borrower of who can collect on that note. The Deed of Trust is the collateral for the debt to secure the borrower’s performance.
This means, the real issue about a lost promissory note is “how likely is someone else to try to collect on the same note?”
Under the Uniform Commercial Code, adopted in California as Commercial Code Section 3-309, the lender can still enforce the lost instrument if three prerequisites are satisfied:
(1) the person was in possession of the instrument and entitled to enforce it when loss of possession occurred;
(2) the loss of possession was not the result of a transfer by the person or a lawful seizure; and
(3) the person cannot reasonably obtain possession of the instrument because the instrument was destroyed, its whereabouts cannot be determined, or it is in the wrongful possession of an unknown person or a person who cannot be found or is not amenable to service of process
The most California recent case discussing this code section actually addresses lost checks, and in that circumstance, the Court found it could allow the recipient of the lost check to enforce it so long as the payor (or bank) was adequately protected against a 2nd party who finds the check also seeking to cash it. [Crystaplex Plastics, Ltd. v. Redevelopment Agency, (2000) 77 Cal. App. 4th 990.]
The case of Huckell v. Matranga is illustrative in a circumstance where the beneficiary has lost the original promissory note. In that case, the Court found that Bank of America as Trustee was entitled to request a surety bond before issuing the reconveyance of the Deed of Trust. [Huckell v. Matranga (1979) 99 Cal.App.3d 471.]
Accordingly, there is no requirement that the original promissory note is required in order to conduct a trustee’s sale in California, as the beneficiary can bond around the missing note. That said, a lawsuit on the lost promissory note can certainly slow things down and may be fairly effective in stalling institutional lenders. Private money lenders are less likely to have hypothecated the loans to such a degree as to cause confusion over the location of the note.
I do a lot of defense work, and readers of this blog know that I work primarily for private lenders (not institutional lenders). This means I defend against a lot of TILA rescission claims. The current state of TILA rescissions is somewhat murky with circuit courts across the nation having to fill in the logistical gaps that the TILA statute neglects to fill in.
For example, the law currently proposes no timeframe for the rescission itself, nor does it specify when the borrower must return the loan proceeds to the lender.
Rescission is a straight-forward legal concept but actually quite difficult in practice to execute. The concept is that it restores everybody to the position they were in before the transaction happened, the status quo.
In a normal transaction with no loan, restoring the status quo is easier:
Seller sells Los Gatos home to Buyer. Buyer realizes there is a huge problem with the house, that it has a severely damaged foundation not disclosed by the seller, Seller thought she had provided the foundation report but failed to do so so. Under the doctrine of mutual mistake or to simply to resolve the case, the transaction is unwound. Seller takes the house back, Buyer gets the purchase money back. Everyone is restored to the status quo ante.
As related to mortgages/home loans, here's how rescission plays out:
Borrower buys a house in San Jose for $1M in 2007, puts $200k down and borrows $800k from Bank of America. Bank of America screws up the TILA disclosure, fails to date it so instead of a 3 day right of rescission, the borrower has a 3 year right of rescission.
Fast forward to 2010. The house is now worth $700k, the property is underwater, the borrower wants a loan mod and can no longer afford to pay the mortgage payments. Borrower sees a "forensic loan consultant/auditor" and concludes there is a technical defect in the loan defects and the borrower sues BofA for rescission.
PROBLEMS WITH TILA RESCISSION LOGISTICS:
The way TILA is presently written, the mechanics of how the rescission would work are a little unclear. Also, the borrower is highly unlikely to have $800k to return to the lender and really, the seller does not want the house back or to give the borrower $200k back. Lastly, there is the matter of interest payments.
Just the plain language of the statute suggests that the bank needs to rescind the mortgage immediately and then it is left dangling out there as to how the borrower repays the loan.
As a result, courts have had to apply the normal legal principals of rescission in order for the law to make any sense. In the case of Yamamoto v. Bank of New York, The Ninth Circuit reiterated prior cases where it had concluded that "rescission should be conditioned on repayment of the amounts advanced by the lender..." and "and that the equities favored the creditor who would otherwise have been left in an unsecured position" and ultimately stated: "Thus, a court may impose conditions on rescission that assure that the borrower meets her obligations once the creditor has performed its obligations..."
Translated, even though TILA doesn't say how and in what order the rescission should happen, courts can impose an equitable remedy that requires the borrower to pay back the loan before the lender has to rescind the mortgage.
WHY BOTHER TO SUE FOR TILA?
I am not sure what is prompting the Fed to make this proposal right now. Although the proposal is helpful to clarify, we have not seen any surge in TILA rescission suits because the reality is that they don't pay plaintiffs' lawyers all that well. The logical conclusion of the TILA suit is usually a settlement that involves a loan modification for the borrower. This is a good outcome for the borrower, but rarely leaves any money on the table for the borrower's attorney--and the reality is that most borrowers can not afford to pay their attorney. This is why I support the recent Geithner comment that TARP bailout money could be allocated to homeowner legal aid. Borrowers should have access to competent counsel and those counsel should be paid for their labor.
HOW DOES TILA COMPARE TO PRODUCE THE NOTE?
In my opinion, an institutional lender is more likely to have messed up the arcane technicalities of note transfer than the TILA disclosures. Lenders defending either claim have an incentive to work with the borrower and are more likely to have a decision maker available to settle the case. As far as actual litigation, I think the produce the note claims are tougher to defend against. Either the lender has the note or it doesn't. A Promissory Note is pretty much like an "IOU" or a "voucher" which means that if you hold that IOU or voucher, you can collect the debt and once it's paid off, you return the IOU or voucher to the debtor or tear it up or "cancel" the debt. To transfer the Note is even more specific, it requires an endorsement, or if the back of the original Note is full, an allonge. Again, a very rarely followed requirement except in private money loans.
If the lender does NOT have the Note, then the real wrinkle for them is that their servicer has been collecting payments for the wrong party or there is a potential risk that the true holder of the note can come out of the woodwork and demand to be paid. Traditionally in the non-judicial foreclosure context, how California lenders got around this requirement is to buy a bond. Essentially the lender is paying they will pay a risk premium for the lost original promissory note and that they do not know of anyone else who will seek payment--this prevents the debtor/borrower from the risk that two parties can seek repayment of the debt.
By Julia M. Wei, Esq.
With the tight capital lending market, seller carryback or seller financing is being revived as an option to get real estate sold.
The rewards are that these seller financed notes tend to charge slightly higher interest rates and the transaction is more likely to close since the seller can move more decisively than an institutional lender (bank) in this economic climate.
The risks to the seller in California relate primarily to California’s
anti-deficiency law, as stated in California Code of Civil Procedure 580(b), which prevents the seller (who is now the lender) from pursuing the borrower (buyer) for any deficiency. In a falling market, that’s a true downside.
As a real estate attorney, I see three kinds of seller financing:
1. Seller carries back the balance of the purchase price after buyer’s modest down payment. Seller is in 1st position.
2. Seller carries back the balance of the purchase price after buyer’s modest down payment and buyer’s institutional loan. Seller is in 2nd position.
3. Seller sells unimproved land, carries back the balance of the purchase price, and the later agrees to subordinate their loan to a major construction loan.
The first position seller carry back is the least risky, even in a down market because the lender can always foreclose, hold the property and wait to see if the economy improves. The seller has already pocketed the downpayment and perhaps some interest payments before the borrower defaulted.
However, the seller who carries back financing behind another loan has significant risk and this is perhaps the least desirable type of transaction. Imagine that you sell your house in San Jose for $500k and the buyer puts down $50k, gets a loan for $350k and then you carry back $100k behind that loan. . The borrower defaults and now, in order to take back the property, you will have to service a $350k senior loan obligation to the tune of $3k/mo, and pay the higher property taxes and insurance. Not exactly a good deal—especially in a falling market where the house may now only be worth $300k. The seller in that transaction actually received $400k for the sale price ($100k below market at the time of the sale) and is likely to simply walk away from the loan.
Once the senior lender forecloses, the seller carry back lender is wiped out and can NOT seek a deficiency against the borrower under C.C.P. Section 580b.
As lenders know, there are very few exceptions to the anti-deficiency protection of 580(b). Indeed, that is why lenders often request a separate guarantor for the loans because that is the ONLY circumstance in which a waiver of the 580b protection can be obtained. As the Supreme Court of California held in DeBerard, Ltd. v. Lim (1999) held, not even a subsequent waiver obtained during a forbearance agreement is enforceable against the borrower.
The other caselaw made exception to 580(b) is the purchase money subordination to a construction. Normally, this purchase money lender too would be wiped out too by the senior’s foreclosure, however, under the seminal case of Spengler v. Memel (1972) the California Supreme Court concluded that since the seller would end up with neither the land, nor the promissory note after the foreclosure sale, and since the seller had no way to know the true market value of the land since it was behind a construction loan that would ostensibly fund an improvement to increase the value of the land, 580(b) should not apply.
There you have it—the three likely scenarios of the seller financing. Instead of the normal caveat emptor of buyer beware, it is seller beware!
The FTC announced last week that starting January 31, 2011, it would proceed against any firm that collects upfront fees without obtaining the required written proposals at no charge from lenders. If a firm charges anything or collects money in advance, it will be in violation of federal law and subject to harsh civil penalties.
The only exemption to this rule is actually attorneys. However, here in California, after SB94, there is already an advance fee prohibition which prevents attorneys from collecting an advance fee (or "retainer") to assist with a loan modification.
And today, Comptroller of Currency, John Walsh instructed banks to cease foreclosures if borrowers had started loan assistance programs. This was not well received by the banks, who argue that the foreclosure process is already so lengthy that it makes sense to pursue a parallel process.
As I have blogged about before, borrowers are often confused because they can apply for a loan modification program with a lender, pay payments during a probation period while the application is being reviewed, but the lender has continued to pursue foreclosure on a parallel or "dual" track -- which I believe is misleading to the borrower because they are making payments in good faith.
Typically, private money lenders will enter into a forbearance agreement with borrowers which makes it clear to the borrower that the foreclosure sale is still scheduled unless the forbearance payments are made, and then for each payment milestone, the trustee's sale is postponed an additional 30 days.
Tip for lenders -- whatever choice you take, make it crystal clear to borrowers.
Tip for borrowers - do not assume that the lender is going to stop the sale just because you are making partial payments. Their loan documents typically allow them to continue to collect partial payments without jeopardizing their right to foreclose.
The news is filled with reports of JP Morgan Chase, Ally (GMAC) and politicians like Senator Menedez calling for foreclosure moratoriums. While it is true that Bank of America announced moratoriums in 23 states--California is NOT one of those states. Why not?
Some states, like the 23 states that have the voluntary moratorium, requires a judicial foreclosure--one where the court must be involved.
California is dominated by a non-judicial foreclosure process, which is intended to be a speedier remedy for lenders. However, the California legislature has already extended the previous 4 month time period to conduct the foreclosure by an additional 90 days so it pretty much takes 7 months or more now to actually conduct the foreclosure, which does not include the 3 - 6 months the lender usually gives the delinquent borrower to get current or otherwise workout the loan. So it's already a year or more in California for a borrower to miss payment before the foreclosure actually happens.
I have to ask -- isn't that long enough?
ASSUMPTION #1 I think a lot of politicians make the assumption that many Americans want to keep their homes.
That just hasn't been the case in my practice. I am flooded with calls from people who can't wait to unload their overpriced house and who want to know how to "walk away." Many of them have become overwhelmed with trying to maintain the house or do a loan mod, or have seen their neighborhood change with the surge in vacant REO houses. They want to move but can't. These borrowers would be relieved if the foreclosure would just happen already and the borrowers could rent a place closer to work, shorten their commute and rebuild their credit.
Some of these borrowers recognize that even with the reduced loan payment amount, they could never recover their downpayment out of the house because they do not see the house appreciating enough. Imagine the borrower paid $700k for a 3 bedroom, 2 bath house in San Jose. That same house is now worth $400k.
Say the borrower put $70k down on the house and had a loan for $630k. That borrower now sees that they could wait another decade and may never recover the $70k they put in, but they would have paid $5k in interest payments for a year which would be $60k. Even if the bank reduces interest payments in half, that would be $30k/year in interest payments, and $90k in 3 years which would exceed their initial downpayment. This borrower sees there is no economic reason, no financial benefit to keeping the house. Should they keep throwing good money after bad? Suppose they could rent a house for $2000 per month in a better school district 10 minutes away--now what do you think they would rather do?
Presently something like 90% of borrower are paying their loans...and 10% are in default.
Imagine for every neighborhood in California, there is at 1 in 10 homeowners in default. Imagine half of those homeowners want to walk away.
How would a foreclosure moratorium help this homeowner who wants to walk away?
If the lender would take a deed in lieu or otherwise implement a cash for keys program, perhaps the borrower would be better served by that. Problem is, most of these borrowers have 2nds...and so the the senior lender can't take a deed-in-lieu because it requires a foreclosure sale to wipe out the 2nd and get clean title.
This post is not intended to disparage the homeowners who are genuinely trying to modify their loan and work with their lenders. My point only is that it already takes the lender a year to get to foreclosure in California as it is--if they can't get their act together in a year to work something out with the borrower, a moratorium of a few more months won't help anyone. Perhaps it would be better to legislate the loan mod program timelines themselves than the foreclosure.
ASSUMPTION #2 I think a lot of politicians and consumers make the assumption that many lenders want to foreclose.
WRONG. Many lenders do not want to take back property. They are in the lending business--not the "real estate owned" REO business. Lenders have already been holding back on sales where they could have foreclosed long ago but haven't. This is called "SHADOW INVENTORY". Essentially a moratorium gives institutional lenders time to do what they have already been doing--spinning their wheels and waiting.