The DirtLaw Blog

"Should I Initial the Arbitration Provision?"

Here in the San Francisco Bay Area, two types of purchase and sale contracts for real estate are the most commonly seen--the C.A.R. form from the California Association of Realtors and the PRDS form from the Silicon Valley Association of Realtors.

Both of them have an arbitration provision in the residential purchase contracts that the buyer and seller can voluntarily agree to.

That's right, the arbitration is optional and the parties do NOT have to agree to arbitration. 

Before enumerating the pros and cons of arbitration, it is important to understand what arbitration is.  Arbitration is agreeing to use a private judge to decide your dispute should one arise. The arbitrator may be a retired judge from the bench, or a seasoned attorney with relevant area expertise.  The result is binding, and with no right of appeal even if the arbitrator wrongly applies the law (which does happen on occasion).

Arbitration has some advantages, but can have more disadvantages depending on the type of dispute that arises over your house.  Suppose you are the buyer and you discover the house has a massive water damage problem that was not disclosed.  Even worse, your agent told you to accept the old home inspection report instead of buying a new one.  Now you have a claim against both people but you MUST arbitrate with the seller and sue the Realtor in court.  Yes, you'll be funding two lawsuits. 

Why isn't the Realtor required to join the arbitration? Because they are not a party to your contract.  Of course, the Realtor is also usually the one that tells you that you must initial the arbitration provision and it will cost you less.  That is false as it will only cost you less if you don't sue the Realtor.

Unfortunately, this failure to disclose scenario happens often and as a result, the safer course of action would be to reject the arbitration provision.

The advantage in arbitration is that it can be cheaper than court litigation since the arbitrator will often reduce the volume of discovery and law and motion disputes that can arise.  To enjoy that benefit, in the event you do have a dispute later with the seller, you can always agree to opt into arbitration if no other parties are involved.

Commercial Leasing - When a Tenant files bankruptcy

Recently I spoke at a Commercial leasing seminar in San Jose.  My portion dealt mainly with the scenario of the tenant filing bankruptcy.  A copy of my outline can be found here.  I hope you will find it useful, though it is not intended as a primer on bankruptcy law.

In a room full of property managers, not a one had experienced a tenant filing bankruptcy.  I thought that was interesting.

Instead, the hot topics were unlawful detainers and my personal favorite, enforcement of judgments.  Though not in my outline, I spoke a bit on the Order for Debtor's Examination (OEX), post-judgment discovery, and the power of a turnover order and the Writ of Execution to authorize the sheriff (or deputy) to levy or garnish wages.

Many law firms can take you to judgment, but without the success of collection, it is merely academic.

Guest Blogging

Occasionally, I am asked to write articles of interest for other Real Estate blogs here in Silicon Valley.  Additionally, reporters occasionally phone me for my thoughts on what is happening with sub-prime lending. 

My recent article for the SiliconValleyBroker on (you guessed it) Short Sale purchasing. 

My quotes to the Palo Alto Weekly (she unfortunately confused the term Short Sale with Short Sell during our phone call).

People Just Can't Get Enough of Short Sales

I've had three calls this week about short sales and the burning question has been, "Can the lender come after the borrower for the difference?"

If the loan (Deed of Trust) is a purchase money loan secured by a house that is the borrower's principal residence, the answer is generally, "No."  California's anti-deficiency laws (California Code of Civil Procedure Section 580(b)-(d) protect homeowners by preventing lenders from doing any more than taking back the property.  These anti-deficiency laws were enacted in Dustbowl era to give homeowners a fresh start, without a deficiency judgment hanging over their heads.

However, the code section is fairly specific.  The loan had to be for the purchase of the property.  The borrower has to occupy it as his or her principal residence. 

Vacation home? No luck.

Investment home? No luck.

In both those circumstances, the lender can choose to file a judicial foreclosure (I am doing more of these this year than in years previous) against the borrower.

Here is the more tricky part - refinance loans or home equity lines of credit.  Technically those are not purchase money loans so in theory, a lender could go after the borrower for the difference.  However, I suspect that in response to the present fears about the volatile sub-prime lending market, legislators will be amending California's anti-deficiency statutes to include refinance loans.  That's my prediction for 2008-2009.  You read it here first at the Dirtlaw Blog TM!

Selling When in Foreclosure and the Dreaded Short Sale

With the recent economic trend, many of the two-year adjustable rate mortgages (or as they are colorfully referred to in the press, "exploding ARMs") have converted.  As a result, many homeowners find themselves in the position that they can no longer afford their monthly mortgage payment.

If these borrowers get too far behind with their lender, a Notice of Default is recorded against their home.  Some borrowers attempt to refinance or sell their property.

As a result, we are seeing an increase in the number of short sales.  What is a short sale? That is when the property value is less than the debt against the property. 

We typically see this when there are multiple loans against the property, for example:

1) Purchase Money Loan from Bank - Deed of Trust

2) Private Money 2nd Deed of Trust from Junior Lienholder or

Home Equity Line of Credit (HELOC) lien.

Many Realtors (TM) who recall the early 90's remember that the short sale is a difficult sale to navigate.  Much of the possibility of closing escrow depends on how many junior liens are against the property.

Often times, it is the junior lienholder who has recorded the Notice of Default and is conducting the Trustee's Sale.  The junior has usually discovered that the borrower is not keeping property taxes and insurance current, or has neglected to pay the senior.  Accordingly, the junior lender will advance the funds to bring the loan current and conduct their own foreclosure sale.

The sums advanced accrue interest as well, as allowed by the terms of the Promissory Note and Deed of Trust. 

In the Short Sale situation, it is the junior lienholder who is faced with receiving a short payoff.  Accordingly, they will rarely agree to a short sale if they feel they could either 1) get more at the Trustee's Sale or 2) take it back at Trustee's sale, fix it up and re-sell for more.

How can one increase the odds of a short sale closing?  Make sure the purchaser/offeror gets the escrow going, and circulate an executed copy of the purchase contract subject to lender approval.  Have the escrow officer get the payoff figures ASAP so that the junior can see the estimated closing statement.   

California Foreclosure Laws and Processes - A Short Review

Seems like hardly a day can go by without an article about how foreclosures in California are on the rise.  The San Francisco Chronicle reported yesterday that California had the second-highest foreclosure rate in the nation, with Nevada being the first.

While it sounds intensely alarming - the actual number reported seems fairly small: "There were 624 Bay Area bank repossessions in June, a dramatic increase from 39 the previous June."

Ok, so that means of the thousands of homes in default last year in the 9 counties of the Bay Area, only 39 actually went back to the bank.

The foreclosure process in California is actually many months.  The average scenario begins with Borrowers missing 2 or 3 payments on their loan to Wells Fargo.  So they miss January, February and March.  During that timeframe, assuming the Borrowers still have income, they still have a chance to bring their loan current by entering into a Forbearance arrangement with Wells Fargo. 

What's a Forbearance Agreement? It's when a lender agrees to forbear from going to Trustee's Sale on their loan in exchange for the borrower making catch-up payments.  That means the borrower will try to make something like 1.5x their normal payment until they are caught up.

Why would a bank agree to this? They would far rather have a performing loan, albeit a slow one, that end up owning the house and tying up their cash.

If the Borrowers do not bring their loan current or do not enter into a forbearance arrangement with the bank, then Wells Fargo will record a Notice of Default (NOD).  Under California Civil Code, Section 2924(a)(1)(D)(2), the Notice of Default must provide 3 months before the lender can Notice a Trustee's Sale.

During this three month timeframe, many borrowers will try to re-finance their loan and pull more equity out of their house to cure the arrearages with the first bank.  This is a short term solution, and in a declining or flat market, is most effective the borrowers then immediately sell the house once it is out of default.  This is often when borrowers will turn to private money investors who will charge a higher interest rate.

Once the three months has run, the trustee will then record a Notice of Trustee's sale, which will set a date for the foreclosure sale that is at least 20 days out.  During that timeframe, the trustee will publish for 3 consecutive weeks the Notice of Trustee's Sale.

That means that start to finish, the foreclosure process in California is about 4 months.  Borrowers who are resourceful can find solutions for themselves in that timeframe and so many defaulted loans never go to sale.

Additionally, if the Borrowers try to sell the property while in default, under certain circumstances, the bank will consider a Short Sale, or essentially taking a payoff of their loan for less than they are owed.  That too can avoid the property from ultimately going to foreclosure sale--however, it can come with tax consequences as a debt forgiveness.

Deadbeat Debtors and The Games They Play

Most creditors feel comfortable after they have recorded an Abstract of Judgment against a debtor.  In circumstances where the debtor has a house or other real property asset, the Abstract of Judgment is a notice to all other creditors that you have a lien against that asset.

In theory, when the debtor goes to refinance his house, he must pay off your judgment lien before the loan can be placed.

However, we are seeing instances of debtors wriggling out of these obligations.  How is that possible??

Through the collaboration of brokers and escrow officers, debtors sometimes manage to defraud a lender into making the loan without paying off the judgment.

Here's a real life example that we experienced:  Company X obtained a judgment against Debtor.  Company X recorded an abstract of judgment against Debtor's house.  Debtor's house was owned with Debtor's Spouse.  Debtor's house in California has risen in value and now he has some equity he wants to borrow against. 

Debtor and Spouse apply for a loan.  Broker finds a Lender who will lend the funds to Debtor.  Escrow is opened at TitleCo.  Lender gives instructions to Escrow Officer, "Insure that my loan is in first position and pay off all pre-existing liens." 

Escrow officer runs a preliminary title report and sees Judgment Lien in favor of Company X.  Uh oh. 

Broker calls Escrow officer, "how is the close coming along?" 

Escrow officer replies, "not good, your borrower has a judgment lien."

Broker calls Debtor, "We've got a problem.  Your loan can't close because you have a judgment lien."

In the meantime, if Escrow officer is doing his or her job, Escrow officer phones CreditorX, "hello, has this judgment been paid off.  No? I see."

The next thing you know, Debtor has quit claimed the house to his Spouse and since she is judgment free, the loan closes in her name only. The judgment did not get paid!

The situation above is essentially a fraudulent transfer--an act committed with intent to hinder or delay the creditor.  California adopted the Uniform Fraudulent Transfer Act and it is codified in Cal. Civ. Code § 3439.04 et seq.  Who are the potential defendants? Debtor and Debtor's Spouse, the Broker, possibly the TitleCo and the Lender.

While the Lender may not have known or participated in the fraudulent transfer, they may have to be named as a party due to Company X's claim for declaratory relief that their judgment retains priority over the new loan.

Seems like a lot of work, right?  It is. Especially now that a lender and title company are involved.  They have significant resources to mount a hefty defense.  However, if you had an attorney fee provision in your original action, and the debtor is solvent, it can be worth the effort to pursue.  In the case of Company X above, the creditor was paid and we recovered the attorney fees and interest on judgment as well.  How long did it take? From the commencement of the original action to the actual receipt of money--over two years.

Mortgage Fraud - The Appraiser's Role

Practicing real estate law in California can be a fun and diverse body of work.  The downside is seeing the surge in mortgage fraud and how it especially preys on elders.

As real estate values have risen, so too has the wealth of elders who have owned their homes for many years.  Additionally, as they have retired from the work force and have more time -- they are more likely to answer telephone cold calls or read their "junk mail" advertising mortgage schemes. 

Often, elders are receptive to the thought of converting the equity in their home into an income stream and think the "reverse mortgage" sounds right for them.

Not surprisingly, most of the time the "reverse mortgage" solicitication is an outright scam, where the fraudster takes title to the home, either in his or her name or LLC or through a straw buyer with good credit.  The elder is fed a volume of confusing information and at close of escrow believes he or she is going to receive payments from this "reverse mortgage loan" or that somehow the home will be deeded back to them.

This is where the appraiser fraud can come in.  With the straw buyer, the fraudsters are treating it as a new purchase, and in an effort to "double dip" will often try to get a credit back in the sales proceeds.  In some cases, we've seen as much as $50k back in a credit to the buyer.  How is that possible? Well, an inflated appraisal and sales price is usually the way to ensure that the property will appraise to value so that the lender's underwriting loan-to-value guidelines are met.  Even without the context of financial abuse of an elder, this is a common loan fraud scheme to squeeze money from the lender.  The new buyer will lose it in foreclosure if they can't afford to service the payments. 

After the Savings & Crisis, the bailout included strict legislation to deter appraisers from defrauding banks-FIRREA.   If appraisers are implicated, they will face stiff civil and criminal penalties.

After the S&L Crisis, the Appraisal Foundation was created.  They promulgated USPAP, the standards that are the generally accepted standards for professional appraisal practice in North America.

For single family residential real estate, the cost of an appraisal is generally less than $500.  For a certified MAI appraisal of commercial property, the cost is usually more than ten times that--in some cases $6,000-$8,000 for the appraisal report.

If at closing, you see an excessive amount of fees going to the appraiser, that is a red flag that the appraiser may be involved in the fraud.  Some fees are paid outside the escrow so it can be difficult to tell whether the appraiser was receiving extra compensation. 

The biggest question is whether the appraiser was merely negligent or whether they intentionally made a false appraisal.  That often can fall into the category of "I know it when I see it."  A property worth $300k, appraised at $650k exceeds the acceptable range of error.  A property appraised at $850k, when all homes in the neighborhood are comped at $750k is also difficult to treat as mere negligence.  An expert appraiser can testify as to what factors can make that higher value acceptable or unacceptable.

Bottom Line for Borrowers: Beware of loan products you do not fully understand.  Work only with licensed brokers in good standing that come from a reliable referral. Most importantly, in seeking out a reverse mortgage, make sure to go first to a large reputable bank for education about how the product works. 

Bottom Line for Private Money Lenders: Be skeptical of the appraisal report.  Your underwriting standards should involve more than one number in the appraisal report for you to calculate your LTV.  Working with a reputable broker will allow you to ask the questions that make sense--borrower's ability to repay, reliability of the appraiser, etc.

California Real Estate Litigation - The "Bad House" Case

Sometimes when lawyers talk amongst themselves, they will refer to certain real estate cases as "bad house" cases.  What they are talking about is a dispute between buyer and seller over the FAILURE TO DISCLOSE material defects in the home.

These are perhaps the most common disputes in residential real estate.  The Transfer Disclosure Statement is mandated by California Civil Code Section 1102, and listing agent will have their seller clients complete the TDS form along with a Supplemental TDS.  The Supplemental disclosure form is not required by law, but considered a "catch all" for things not covered in the TDS. 

The Realtor should be walking through the TDS with the seller.  When in doubt, the general guideline is is to disclose anything the seller thinks is material.  Unfortunately, some agents are not meeting their highest standard of care and practicing a type of "drive by" listing where they simply drop off the forms, and then instruct their clients to fill them out and fax them back.

We once had bad house case where the seller had left many boxes blank on both the TDS and the Supplemental (seller should have checked off yes or no)--all of the blank boxes related to problems with the home.  Her agent obviously did not review the TDS for completion and passed it on to all prospective buyers.

The buyers' agent also missed the fact that the TDS had many blanks.  What happened?  The buyers ended up with a house that had standing water (we're talking ponds and lakes here!) under the house in the summer time, when the heat came on, it blew in mildew smells throughout the home and all kinds of water and mold related problems.  The purchasers of this "lakehouse" ended up spending over $100k to drain, ventilate and remediate the home. 

As you can imagine, this matter went to litigation.  Were the Realtors involved? You betcha.  Did the Realtors point fingers? Yes.  At each other, at their own clients and at the home inspector.  What did the home inspector say?  Well, this guy was paid $300 to walk around the house for an hour--he could hardly remember the house. 

In a similar case we had with standing water under the house, the inspector was told by the seller's agent that the sprinklers had been on earlier (also a summer sale) so that was why there was water under the house.

Lessons to take away?  Sellers--disclose, disclose, disclose.  Buyers--get a good referral to a Realtor who will exercise a high degree of professionalism and skill because they know their business is built on repeat referrals.  I've already blogged about home inspectors, and an established local Realtor will have good contacts and should be able to find a qualified professional for you to work with.  Buyers--you can't abdicate your own duty to visually inspect the property either so don't be afraid to get your clothes dirty and ask questions during the inspection.

California Judgments - The Real Deal on Enforcement and Collection

Today, a topic near and dear to my heart - making deadbeats pay up. Many attorneys who do not handle sophisticated collection and enforcement will routinely record an Abstract of Judgment and then tell you to sit tight.  However, Abstracts can be lost to foreclosure, wiped out by the senior lienholders, or expire after 10 years. You may want to be more aggressive.  Further, of all the enforcement measures around, Orders to Appear for Debtor's Examination (OEX), and Wage Garnishments--a Levy on real property or seizure of personal property tends to be the most effective.  It is however, the most complex and expensive method of collection.

Eric writes:

Trying to Collect on Your Judgment?

You can paint the hypothetical anyway you want to. You sue someone, your trial attorney gets a judgment against them, and then, lo and behold, when you go to collect your judgment there is nothing there. The debtor does not pay you. Nobody at the Court will do anything more.  Now it's all your responsibility to collect.  How do you make the collection on your judgment?

If your judgment debtor owns real property in California: Hopefully, your attorney has already had an Abstract of Judgment recorded in all counties that you thought the judgment debtor might own property. Presuming that an Abstract of Judgment has been recorded in the county where the subject real property sits, you are now in position to go through the levying process, more commonly known as a "sheriff’s sale."

The first step is obtain a Writ of Execution from the Court. With a Writ of Execution in hand, the next step is to levy the property (California Code of Civil Procedure §§700.010, 700.015). Generally, this requires you give letters of instruction to the levying officer of the county. In the instruction, you tell the levying officer of a county important facts regarding the subject property and to whom the recorded notices of the levy and the copies of the issued Writ of Execution must be served on. However, please note that different counties have different requirements for what the levying officer must be provided.

Once the property has been levied, the judgment creditor is required to file an Application for Order for sale within a certain time frame. There will then be a hearing on the matter. The real property will then be ordered to sale. However, even if you get this far, there are minimum bidding requirements that must be met before the forced sale can be completed.

All these steps can be made more complicated by the particular facts of your situation. For example, the property could be subject to a homestead exemption (CCP 704.710 et seq.). The judgment debtor also might own the property with a third party. Additionally, the property could be in a county where the Sheriff’s Office for that county, the normal levying officer, delegates part of their duties to registered process servers.

The above information is NOT a checklist for one to handle a levy on their own, it is merely meant as a general overview of the process. There are many legal details that must be attended to to complete the levying process and obviously there are a great number of complications that can arise going through the process. As always, you will be better served by hiring a skilled attorney who handles and is familiar with the levying of property.