The DirtLaw Blog

California's New Loan Modification Laws and Suspended Lawyers

Our governor signed S.B. 94, and so now everyone is prohibited from taking "advance" fees to assist with a loan modification for a borrower.  This prohibition includes attorneys and causes some change in law firm practices. 

Normally, when a borrower is coming to an attorney with a loan problem, it is likely because the borrower lacks funds to pay the lender.  It also means they may lack funds to pay the law firm.  Accordingly, to minimize collection issues, many law firms would ask for a retainer and place the funds into the client trust account (which is technically the client's money until earned) and refund the balance if there is a surplus when ther matter is concluded.

However, this new law seems to simply revert law firms to the normal model of invoicing the client regularly as the lawyer's time is billed and then having to wait and hope the client will pay it.

While this is causing a lot of concern, especially knowing that many law firms will decide against doing any loan modification work at all, the abuses were so widespread, it seemed a draconian legislative response was called for.

Because Realtors^TM are prohibited by the California Department of Real Estate from collecting advance fees, they were bringing in attorneys to circumvent this rule because attorneys were allowed to collect fees in advance by the State Bar.  However, attorneys are prohibited from fee splitting with unlicensed persons and so this whole model was problematic.

Just this week, the State Bar announced the suspension of yet MORE lawyers caught up in the unethical practices of loan modification mills. 

"The State Bar created a 10-person loan modification task force in March after receiving thousands of calls from homeowners complaining that lawyers have done no work after taking fees purportedly to help avoid foreclosure. The task force had 738 active investigations underway last month."

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.

Collecting on the Deficiency Judgment.

Below is an excerpt of an article that was published in the Winter 2008 Points of Interest for California Mortgage Broker Association members:

Sold Out Junior Lienholder With a Deficiency Judgment? Now It’s Time To Collect
by Julia M. Wei, Esq, The Law Office of Peter N. Brewer

If you were the prevailing party, the attorney who handled your litigation will usually prepare and record an Abstract of Judgment for you.  However, that is as far as their collection efforts often go.  It is then up to the judgment creditor to engage a collection specialist to enforce the judgment against the judgment debtor.

1.  The Sit and Wait Method Recording an Abstract of Judgment is a passive means of judgment enforcement.  It is a lien against the debtor’s real property in a particular county.  Accordingly, if the debtor owns property in multiple counties, a creditor should have multiple Abstracts of Judgment issued by the Court and record them in all the counties the debtor is believed to own real property.

TIP Abstracts are good for as long as the Judgment.  A judgment expires after 10 years if not renewed.  Accordingly, if the creditor knows the debtor has relatives that he or she may inherit real property from, the creditor should also record in that county because the abstract of judgment will attach to the new property at the time the conveyance.  The creditor should also set up a calendaring reminder to RENEW the judgment in a timely fashion.

Back in the heyday of refinance loans, creditors were often paid because the debtor eventually would take some equity out of their home and the new loan paid off the liens.  These days, that scenario is less likely.

Additionally, abstracts can be lost to foreclosure, wiped out by the senior lienholders, or expire after 10 years. Judgment creditors may want to be more aggressive. 

 

2. Examining the Debtor and Taking the Money Out of Their Wallet A judgment creditor can have the Court issue an Order to Appear for Debtor’s Examination (OEX) and serve post-judgment discovery regarding the debtor’s financial accounts. 

Service of the OEX and post-judgment discovery is also a way to get the Debtor to start calling the creditor, rather than the Debtor avoiding the creditor’s phone calls.

The OEX is challenging to execute because it must be personally served on the debtor and the debtor may be an expert at dodging service.  However, assuming service is accomplished, two things could happen.  1) the debtor could appear; or 2) the debtor could fail to appear and the Judge can issue a bench warrant.

TIP   If the debtor does appear (the OEX is conducted at the courthouse), then creditor’s counsel can slap a Turnover Order on the debtor and get whatever assets are present that day – i.e., debtor’s watch, car, cash in their wallet. 

3.  Seize Their Car and/or Boat This only works if the debtor actually owns their car.  However, once you have a judgment, you may also have grounds to have a licensed personal investigator make inquiries of the DMV records.  The first step in any seizure is to obtain a Writ of Execution from the Court after the asset report is obtained from an investigator.

The seizure method is costly but effective.  Seizure of personal property requires the Sheriff to get involved, and requires up front deposits with the Sheriff’s department.

TIP When the car is garaged, the creditor must obtain a seizure order that allows the deputy to enter private property (garage or marina) to seize the vehicle.

FOR THE FULL TEXT - GO HERE.

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.   

Mortgage Pool in Bankruptcy - What Can Investors Do?

For those of monitoring the Cedar Funding implosion, it was not surprising to see that Cedar Funding, Inc. filed for Chapter 11 bankruptcy last week.

Cedar Funding is now a Debtor-in-Possession (DIP), and no doubt David Nilsen will seek to remain in control of the organization, and avoid the receiver recently appointed by a California Superior Court judge. 

What can creditors do?

In cases of fraud or wrongdoing, creditors can seek to appoint a Chapter 11 Trustee.  This would prevent the DIP (in this case Nilsen) from having ongoing control and management of the business.  However, many creditors should recognize that there is a cost associated with this, much the same as having a receiver in place.

Additionally, for unsecured creditors, the US Trustee will circulate a request that a creditor's committee be formed.

All of these steps are to part of evaluating the DIP's ultimate plan for reorganization.  The committee has voting rights, and in addition to the Trustee can object to a plan that is unlikely to be successful or in the best interest of creditors.

More aggressive steps? Creditors can determine if they should bring a motion to convert the bankruptcy to a Chapter 7.  Upon a conversion, the bankruptcy estate is controlled by the Chapter 7 Trustee and the goal of the Chapter 7 is a liquidation of assets rather than an a "re-organization."  While it can seem draconian, in reality, most Chapter 11 bankruptcies fail and the sooner the debtor liquidates, the higher likelihood of some recovery before the estate is eaten away.

How can a creditor decide?  A DIP has the obgliation to prepare operating reports and in this case, the operating reports may be more detailed than the reports that the investors may have sporadically received in the past.  The failure to supply these reports can be an indication that there is something to hide or that the debtor lacks the ability to satisfy the requirements of remaining in a Chpater 11 bankruptcy.

At a bare minimum, creditors will need to prepare their proof of claim and can decide to take a wait and see approach.

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.

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 Partial Reconveyance

Often in a construction context, the Deed of Partial Reconveyance is required.  The most common scenario is when an owner wants to subdivide their parcel and the parcel is encumbered by a Deed of Trust.

The second most common scenario is when a neighbor wants to buy some additional portion of the adjacent property, usually to comply with setback requirements of their remodel or to preserve their view.

In both circumstances, the Lender made a loan against the entire property.  For ease of reference, assume Lender's Deed of Trust encumbers all of Property A, which totals 1 acre.

California is a Trust Deed state, which means there are 3 parties involved in the loan-- the lender is the Beneficiary, the borrower is the Trustor and the lender designates a Trustee (usually a title company).  The beneficiary has the power to tell the Trustee to reconvey title to the property back to the Trustor (borrower) if the loan is paid off.

However, when Owner A wants to sell 1/2 an acre to Owner B, the lender has to approve it and agree to instruct the Trustee to issue the Partial Reconveyance of the original Trust Deed.

The Lender will want an appraisal because it wants to make sure that if Owner A is shrinking the land (security or collateral for the loan) that the Trust Deed encumbers, that the borrower (Trustor) still meets the Lender's underwriting guidelines for the loan.   

The appraisal report will need to show the value before and after the proposed sale of the land to the neighbor.  If Owner A has owned the acre for a while, she or he may have experienced an increase in value and accordingly, even with the loss of the square footage, the value of the 1/2 acre may still be enough to meet the loan-to-value ratio the Lender requires.

After the Lender reassures themselves (with appraisal reports) that they are still adequately secured, they will instruct the Trustee to execute the partial release.  The Trustee is sometimes a title company and so they can usually prepare the Partial reconveyance in house.

In additional to the hurdles with the bank, the City or County will need to be involved for a lot line adjustment.

While the lender’s decision is not related to city or county approval, the city approval gives the appraiser a firm idea of what the boundaries are, square footage etc. on which to base his or her appraisal. 

Additionally, a civil engineer or surveyor will need to be involved in order to confirm those findings and describe the newly changed property boundaries.

In sum, it is not a particularly easy process to navigate as it requires the coordination of so many parties.  However, working with seasoned professionals will speed up this process.

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.)