The DirtLaw Blog

California Foreclosure Consultants Now Must Register

After July 1, 2009, it became illegal to act as a Foreclosure Consultant in the State of California unless you registered first with the Attorney General. 

In addition to the $850 filing fee and the application and a copy of the contract you will use with your clients, you must be bonded at a minimum of $100,000.00 and register that bond with the California Secretary of State.

What is a "foreclosure consultant" as defined by California Law?
(California Civil Code 2945.1, "Mortgage Foreclosure Consultant Law")

The following definitions apply to this chapter:
 (a) "Foreclosure consultant" means any person who makes any
solicitation, representation, or offer to any owner to perform for
compensation or who, for compensation, performs any service which the
person in any manner represents will in any manner do any of the
following:
 (1) Stop or postpone the foreclosure sale.
 (2) Obtain any forbearance from any beneficiary or mortgagee.
 (3) Assist the owner to exercise the right of reinstatement
provided in Section 2924c.
 (4) Obtain any extension of the period within which the owner may
reinstate his or her obligation.
 (5) Obtain any waiver of an acceleration clause contained in any
promissory note or contract secured by a deed of trust or mortgage on
a residence in foreclosure or contained that deed of trust or
mortgage.
 (6) Assist the owner to obtain a loan or advance of funds.
 (7) Avoid or ameliorate the impairment of the owner's credit
resulting from the recording of a notice of default or the conduct of
a foreclosure sale.
 (8) Save the owner's residence from foreclosure.
 (9) Assist the owner in obtaining from the beneficiary, mortgagee,
trustee under a power of sale, or counsel for the beneficiary,
mortgagee, or trustee, the remaining proceeds from the foreclosure
sale of the owner's residence.

Loan Modification Failure Rate - 24% in 2 months.

as reported by the United States Office of Thrift Supervision, within six months after modification:

•  24% of the mortgages that had monthly payments reduced by 20 percent or more were 60 or more days past due versus
• 54% of mortgages with monthly payments if no loan mod.

See the June 30, 2009 quarterly report. 

This report went on to say, "Foreclosures in process increased.  Foreclosures in process also increased during the quarter to 844,389, or about 2.5 percent of all serviced loans, as moratoriums on foreclosures expired during the first quarter.  This increase represented a 22 percent jump from the previous quarter and a 73 percent rise from the first quarter of 2008."

So, despite an increasing number of loan mods offered, one in four of those borrowers still default within 2 months and we have a 73% jump in foreclosures compared to last year.

Does this sound to you like loan mods are working? I'm not convinced.  Nor am I convinced that we have hit the bottom of the residential cycle yet due to all this inventory in the foreclosure pipeline. 

Why aren't loan mods working? Human nature.  If you have a mortgage of $500k on your house in San Jose, California and your house is now worth $400k, are you going to keep paying your new lower interest payment?

Loan mods only modify the interest, not the principal.  Legislators should not modify the principals on these loans either because that would penalize the rest of the U.S. homeowners (over 90%) who pay their mortgages on time, borrowed what they could afford and should not be seeing their neighbor who put zero down and cashed out to buy a BMW get a lower principal on his or her mortgage.

Mortgage Fraudsters Sentenced to 23 Years.

It took a long time, but after years of both criminal and civil litigation, the criminal case is finally coming to a close.

"Santa Clara County Superior Court Judge Vincent Chiarello sentenced Esperanza Valverde, 41, to 23 years and 8 months, and her husband, Herman Covarrubias, also 41, to 19 years and 8 months in prison. The couple was ordered to pay more than $900,000 in restitution to victims."

Full text here.

Among other dirty deeds, the shop that Covarrubias was running, Summit Mortgage (out of Milpitas) was accused to have supplied lenders with false tax returns, W-2 statements, pay stubs and employment verification letters.

It's no secret that underwriting over the years has been sloppy during the good times, but even the most lenient mortgage brokers shied away from outright forgery. 

The borrowers defaulted on the outrageous loans and some lost their homes.  How did the lenders fare?

"The banks were BNC Mortgage, which was shut down by Lehman Brothers before Lehman collapsed last year; Argent Mortgage and World Savings, which were acquired by other companies; GE's WMC Mortgage, which shut down in 2007; and Downey Savings, which was seized by regulators last year."

Having seen some of the loan docs, the question in my mind is what did the lenders think when they received a loan application where a blue-collar worker had a 6-figure salary?  I am not blaming the lenders for being defrauded, but I do think better safeguards should have been in place on the lender side as well.

Guaranty, Guarantee, Potato, Potahto…

For many private money investors (or hard money lenders as they are sometimes referred to), a loan to an LLC alone carries too many risks.  Accordingly, a personal guarantee from the managing member or other members of the LLC with collateral will be required.

 

Since the underlying loan obligation to the LLC was secured by a deed of trust against real estate—and the real estate values have plummeted, we are seeing a rise in the number of lawsuits by lenders against guarantors to enforce of the guarantee agreements.

How do California’s anti-deficiency provisions protect guarantors?  They don’t.  Well, not exactly.

In the seminal case of Union Bank v. Gradsky, the court first enumerated the Gradsky doctrine and found that while the legislature did not intend for anti-deficiency statutes (California Code of Civil Procedure Sections 580(b) and 580(d)) to protect guarantors, that the doctrine of estoppel prevented lenders from going after the guarantor once the lender had already foreclosed on the collateral.*

 

The reasoning was that once a guarantor pays the debt of another, the guarantor assumes the rights of the lender/creditor and should be entitled to pursue the borrower to recover the losses.  Accordingly, if the lender has already foreclosed on the collateral, they have prevented the guarantor from going after the collateral and harmed the guarantor by altering the position of the parties from the time of the bargained for guarantee.

 

Accordingly, most savvy transactional lawyers who draft guarantees will include contractual Gradsky waivers as enumerated by Civil Code Section 2856 which states:

 

§ 2856. Waiver of suretyship rights and defenses; contract language; effectiveness; applicability; validity of waivers executed prior to January 1, 1997

(a) Any guarantor or other surety, including a guarantor of a note or other obligation secured by real property or an estate for years, may waive any or all of the following:

(1) The guarantor or other surety's rights of subrogation, reimbursement, indemnification, and contribution and any other rights and defenses that are or may become available to the guarantor or other surety by reason of Sections 2787 to 2855, inclusive.

(2) Any rights or defenses the guarantor or other surety may have in respect of his or her obligations as a guarantor or other surety by reason of any election of remedies by the creditor.

(3) Any rights or defenses the guarantor or other surety may have because the principal's note or other obligation is secured by real property or an estate for years. These rights or defenses include, but are not limited to, any rights or defenses that are based upon, directly or indirectly, the application of Section 580a, 580b, 580d, or 726 of the Code of Civil Procedure to the principal's note or other obligation.

(b) A contractual provision that expresses an intent to waive any or all of the rights and defenses described in subdivision (a) shall be effective to waive these rights and defenses without regard to the inclusion of any particular language or phrases in the contract to waive any rights and defenses or any references to statutory provisions or judicial decisions.

(c) Without limiting any rights of the creditor or any guarantor or other surety to use any other language to express an intent to waive any or all of the rights and defenses described in paragraphs (2) and (3) of subdivision (a), the following provisions in a contract shall effectively waive all rights and defenses described in paragraphs (2) and (3) of subdivision (a):

The guarantor waives all rights and defenses that the guarantor may have because the debtor's debt is secured by real property. This means, among other things:

(1) The creditor may collect from the guarantor without first foreclosing on any real or personal property collateral pledged by the debtor.

(2) If the creditor forecloses on any real property collateral pledged by the debtor:

(A) The amount of the debt may be reduced only by the price for which that collateral is sold at the foreclosure sale, even if the collateral is worth more than the sale price.

(B) The creditor may collect from the guarantor even if the creditor, by foreclosing on the real property collateral, has destroyed any right the guarantor may have to collect from the debtor.

This is an unconditional and irrevocable waiver of any rights and defenses the guarantor may have because the debtor's debt is secured by real property. These rights and defenses include, but are not limited to, any rights or defenses based upon Section 580a, 580b, 580d, or 726 of the Code of Civil Procedure.

(d) Without limiting any rights of the creditor or any guarantor or other surety to use any other language to express an intent to waive all rights and defenses of the surety by reason of any election of remedies by the creditor, the following provision shall be effective to waive all rights and defenses the guarantor or other surety may have in respect of his or her obligations as a surety by reason of an election of remedies by the creditor:

The guarantor waives all rights and defenses arising out of an election of remedies by the creditor, even though that election of remedies, such as a nonjudicial foreclosure with respect to security for a guaranteed obligation, has destroyed the guarantor's rights of subrogation and reimbursement against the principal by the operation of Section 580d of the Code of Civil Procedure or otherwise.

(e) Subdivisions (b), (c), and (d) shall not apply to a guaranty or other type of suretyship obligation made in respect of a loan secured by a deed of trust or mortgage on a dwelling for not more than four families when the dwelling is occupied, entirely or in part, by the borrower and that loan was in fact used to pay all or part of the purchase price of that dwelling.

(f) The validity of a waiver executed before January 1, 1997, shall be determined by the application of the law that existed on the date that the waiver was executed.

 

A lender has a few choices when they are faced with going after collateral with declining value and a loan guarantee.  The lender can 1) conduct a non-judicial foreclosure and walk away from the guarantee; or 2) conduct a judicial foreclosure and sweep in the guarantee claims and name both the borrower and the guarantor; or 3) go after the guarantor for the entire amount owed.

 

Additionally, if the guarantee contains all the necessary waivers, the lender can both non-judicially foreclose on the collateral and go after the guarantor for the deficiency owed.

 

*The court also reiterated that the “one-action rule” (C.C.P. §726) did not apply to  guarantees.   

Private Money Investors Beware

Here in Northern California, we are all just wrapping up the mess that California Plan, Inc. made.  Michael Schneider was convicted and only recently sentenced.  He stole over $40M from investors, and was sentenced to 28 years.  Schneider's fraud was typical in that all investors claimed Schneider had their trust and was like family to them. 

Now the Cedar Funding fiasco in Monterey has surfaced.  Cedar Funding is a $70M+ fund, and the principal, David Nilsen, has been accused of running a giant Ponzi scheme, loaning money to insiders, (ie, himself to purchase his $4.2M posh home).  The DRE has suspended his license.  The Court has appointed a receiver to manage the fund and the DA is investigating.  Again, investors are saying that they trusted Nilsen.  The Montery Herald article says it all:

Nilsen was a member of her church, she said, and he instilled her with a sense of trust.

"I thought, 'This man is a God-fearing individual who would take good care of my money,'" said Abraham-North. "But he did not — he left me penniless."

The schemes fraudsters like Schneider use are not particularly creative.  Schneider was simply cutting and pasting investor names onto a Deed of Trust to make it look like it had been recorded for the investor.  In reality, Schneider photocopied investor names and glued them over the actual secured parties' name.  In this manner, he was able to make it look like the investor was secured when in fact, the Deed of Trust with their name was forged.

Additionally Schneider would not tell investors when their loans had paid off.  Instead, investors received their monthly interest payments for years, never realizing the borrower had re-financed and paid off their loan years ago.  Often, Schneider would tell investors after a payoff to leave their money in his trust account and he would "roll it over" into the next loan to allow them to continue to earn interest on their money.

How does an investor protect his or herself from this? 

Regardless of how trustworthy and conscientious a broker is, the investor must safeguard their financial future and take charge of their loan portfolio. If the investors had simply asked Schneider for the originals of their Deed of Trust, half their problem would have been eliminated. 

Additionally, a random spot check/audit of your Deed of Trust investing portfolio is never a bad idea.  You can search county records to see if your Deed of Trust has been reconveyed.  If it has, but you never received the payoff funds--you've got a problem.

Lastly, complacency puts the investor at risk.  If your loan pays off--take the money.  Wait for your broker to bring you the next investment opportunity and re-invest your money.  Losing out on a month of interest can spare the investor the heartache of losing the whole enchilada.

For investors in mortgage pools or collateralized mortgage obligations--you are entitled to monthly accountings.  If you are uncomfortable about not knowing the percentage loans held by insiders, hire an independent auditor to help you ask the right questions and get the right documentation from the fund manager.

New Foreclosure Related Legislation

DISCLAIMER: THIS IS NOT INTENDED TO BE TAX ADVICE. FOR TAX ADVICE FOR YOUR SPECIFIC SITUATION, CONSULT WITH A TAX PROFESSIONAL. 

Though my work is lender focused, I frequently receive calls and emails from borrowers who want to know if they can just "walk away" from their loans.

From my previous posts, it is obvious that I work for lenders pursuing judicial foreclosures and deficiency judgments.  (See previous blog entries regarding California's One Action Rule and Anti-Deficiency statutes).  That means that while I can quote verbatim from the statute about which loans are recourse, that does not mean that I know anything about the specific tax consequences. 

In addition to the possibility of a deficiency judgment, the borrowers who cannot meet their loan committments could have tax consequences. 

Generally in short sale situations, the debt remaining is treated as a debt forgiveness--which creates income.  The most interesting piece of new legislation I've seen is the Mortgage Forgiveness Debt Relief Act of 2007 (H.R. 3648) which snuck in quietly in late 2007.

If the borrower meets certain criteria, the debt cancelled will not be treated as income for federal income tax purposes.  This act applies to income in 2007, 2008 and 2009.  The catch?

That doesn't solve the state tax consequence.  Since California has not passed a companion law yet, the California Franchise Tax Board likely takes a different view of the situation. 

That might change for next year, but in the meantime--borrowers who are paying to sign up for these "homeowner walk away" from their mortgage should beware.  There is no one size fits all solution.  No one can predict how a lender will choose to deal with a bad loan, or the likelihood the lender will pursue a judicial foreclosure and seek a deficiency judgment.

California's Anti-Deficiency Laws - a brief refresher

What is the anti-deficiency statute?  It is California Code of Civil Procedure Section 580(b).

The code states in relevant part:

"No deficiency judgment shall lie in any event after a sale of real property or an estate for years therein for failure of the purchaser to complete his or her contract of sale, or under a deed of trust or mortgage given to the vendor to secure payment of the balance of the purchase price of that real property or estate for years therein, or under a deed of trust or mortgage on a dwelling for
not more than four families given to a lender to secure repayment of a loan which was in fact used to pay all or part of the purchase price of that dwelling occupied, entirely or in part, by the purchaser."

In plain English - the statute addresses 2 types of loans:

1) purchase money loans and

2) seller carryback loans.

Under the statute, seller carryback loans are not entitled to seek a deficiency judgment against the borrower.  However, there is an exception under California's stare decisis (case law) that does permit the seller to recover against the borrower under certain circumstances.

As for the purchase money loans - no deficiency if it is owner-occupied, residential one to four.  What does that exclude? vacation homes, home-equity lines of credit (HELOC), investment properties where the borrower does not reside there, apartment buildings more than 4 units.

These loans are commonly referred to as "non-recourse" loans because lenders on these types of loan know their only recourse is the security (collateral).

DISCLAIMER: THIS IS NOT INTENDED TO BE A PRIMER ON HOW TO AVOID YOUR DEBTS AND LOAN LIABILITY.  CONSULT WITH A BANKRUPTCY SPECIALIST AND TAX ADVISER.  Please do not email or call me for tax advice.  I am not an accountant or tax professional. 

The Deed of Reconveyance

And today, a guest blog from Eric Hartnett, Esq.  For those of us who have refinanced our loans, we have seen the Deed of Reconveyance before.  However, given the flurry of refinance loans in for the last 10 years, it became common that lenders, trustees and title companies would fail to request and record the Deed of Reconyance.

Eric writes:

Your Loan Secured by a Deed of Trust has been Paid Off - What Now?

You can finally see the light at the end of the tunnel and you've paid off your loan.  CONGRATULATIONS!

When you took out a loan and as security for the loan (evidenced by the Promissory Note or Loan Agreement), you agreed to have a Deed of Trust recorded against your home. California is a "trust deed" state rather than a "mortgage" state but in common parlance, most folks refer to their loan as a "mortgage."

Whether the loan is a 30 year mortgage or a 3 month loan, if you have made all of your loan payments, then you will want the lien (Deed of Trust) removed from your property (one does not actually have the Deed of Trust "removed," rather it is reconveyed to you, the borrower). What are the necessary steps under California law to accomplish this?

A reconveyance for a Deed of Trust upon satisfaction of any loan obligations is addressed in California Civil Code § 2941. §2941(b)(1) provides that if you have satisfied your loan obligations, then the lender (beneficiary under a Deed of Trust) or its assignee shall within 30 calendar days execute and deliver to the Trustee of the Deed of Trust several documents. These documents include the original note (i.e. the Promissory Note), Deed of Trust, and a request for a full reconveyance. The Trustee shall then execute the full reconveyance and shall record the full reconveyance with the county recorder within 21 days after receipt by the Trustee of the original note.

Of course, the above-described situation is the ideal scenario. What if the Trustee or the lender (beneficiary) do not fulfill their duties? You, as the trustor/borrower, have options. First, if the full reconveyance has not been recorded within 60 days of your last required loan payment, then you can make a written request to the beneficiary/lender to issue a full reconveyance under Civil Code §2941 (b)(2). Second, if the full reconveyance has not been executed and recorded despite you making all the payments and writing the aforementioned request to the lender, then 75 days after the last required loan payment was made you may have a title insurance company record a release of the obligation. Civil Code §2941(c).

Additionally, should you encounter an uncooperative Trustee or lender after you have satisfied your loan obligations, please note that there are civil and criminal penalties for some violations of Civil Code §2941.

What We Learned about Subprime Lending in 2007

Back in March of 2007, I noted on here at The DirtLaw blog that a domino effect was occurring, with local Californian company Central Pacific Mortgage getting little press.

Well, when Countrywide began imploding, it seems that national papers began to pay attention.

Things We Learned in 2007:

-  the bad underwriting practices of 2005 are coming back to haunt the industry.  Time to revert to tighter underwriting policies.

- when lenders are under water, likely scenarios include

1. the short sale,
2. the deed-in-lieu
3. the judicial foreclosure plus deficience judgment and
4. debtors surrendering collateral in bankruptcy
5. debtors walking away from the property and not bothering to file bankruptcy

All in all, we've had a busy year at the firm, and I expect to see an increase in the number of judicial foreclosure lawsuits and deficiency judgment activity as well as more loan modifications.

Let's see if my other predictions come to pass about legislation trying to:

a) craft stricter penalties for "predatory lending" (only now vaguely defined by the California Finance Code)

b) modify the anti-deficiency statutes to include re-finance and HELOC loans as well as purchase money loans (possibly with a sunset provision)

c) abridge or abolish the availability of the stated-income loan (think this is already happening, so score 1 for the DirtLaw Blog.)

Mortgage Law Blogging

I started this blog as a way of adding value for my clients, and for people who were referred to me or the firm to get a flavor for my subject area expertise.  How very nice to see over a year later the nice emails and comments from readers that they find my articles on California Real Estate Law and private money lending (or "hard money" lending) to be informative and relevant.

At the California Mortgage Association's (CMA) October gathering in Las Vegas, I was seated next to a mortgage broker from the San Diego area of California.  At one point, he turned to me and said, "I've read your blog."  I was pretty tickled since he was not a client of mine. 

Recently, Tony Gallegos of The Mortgage Cicerone posted his list of top 20 bloggers of 2007 on mortgage related topics and included me.  Thanks for the vote of confidence. 

Here's to 2008, and the continuing saga of the SubPrime wild ride.