What Is a Deficiency Judgment?
When a lender forecloses on property, they sell the property in hopes of regaining the money owed to them by the previous owner. Many times a lender can only recover a fraction of the amount owed during the foreclosure sale. In order to ensure payment of the remaining debt, the lender in certain situations will obtain a “deficiency judgment” in court against the previous owner for the remaining debt. There are two laws in Arizona that prevent lenders from getting a “deficiency judgment” for certain categories of residential loans. The laws are commonly known as "Anti-Deficiency Laws" and may allow you as a real estate owner to walk away from a property without owing a deficiency judgment amount.
Arizona's Anti-Deficiency Laws
If your house is secured by a Deed of Trust, generally the lender may not recover any deficiency if (1) the property is 2.5 acres or less; (2) it is used for a single family residence and (3) is sold pursuant to the Trustee's power of sale. The same criteria applies to a home secured by a mortgage (instead of a Deed of Trust). However, this protection only applies as long as the decrease in the value of the property is not due to the negligence of the owner. Meaning, the owner did not take care of the property or damaged it in some way. Commercial properties and vacant land are not protected by these laws. VA and FHA loans, because of federal law and special qualifications, may not be covered by the anti-deficiency statutes. The Anti-Deficiency protection applies to property regardless of whether it is your primary residence or not. As long as the elements discussed above are met the owner is often, but not always protected from a deficiency.
How Do I Know If My Loan Will Get the Anti-Deficiency Protection?
What happens if, like many homeowners, you took advantage of increasing property values and low interest rates to refinance the loan? In the event of a default in payment of the loan do the anti-deficiency laws still apply? It really depends on how the loan is secured. More protection is afforded when the loan is secured by a purchase money security device, commonly known as a mortgage or a deed of trust. “Purchase money” means that the loan is taken out specifically for the purchase of real estate.
The leading case in Arizona on this issue is Bank One of Arizona, N.A. v. Beauvais. That case suggests that a typical refinance loan keeps the character of a purchase money loan and is protected. This result could be different if the refinance added funds to the original loan. Additionally, in the case of a consolidation loan where a first purchase money loan and a second loan are bundled together into a single loan, the protection would still apply where the first loan is larger.
What about a home improvement loan or home equity loan? Because this is a separate loan taken out for a purpose not related to the purchase of property this presents a problem for the home owner. Only when a loan is taken out specifically for the purchase of real estate is it a purchase money loan. This type of loan does not qualify as such and therefore the anti-deficiency laws do not prevent a lender from suing the owner directly by waiving its security.
Avoiding A Deficiency Judgment
One way to avoid a deficiency judgment is by deeding the property back to the lender prior to the process of foreclosure and in turn securing a release. This is known as a deed-in-lieu of foreclosure. When the lender accepts the deed, the lender is waiving his or her right to deficiency and instead accepting the property for the amount owed by that person.
To discuss any anti-deficiency or foreclosure concerns you may have, please contact our office or call 602-277-4441 to speak with one of our experienced Arizona real estate attorneys at Platt & Westby, P.C.