Deficiency Judgments After Foreclosure in California

If your home in California sells at a foreclosure sale for less than you owe on your mortgage loan, you might still be on the hook to pay more money afterward. That's because, under specific circumstances, California law allows the foreclosing bank to get a deficiency judgment for the difference between the sale price and the total mortgage debt. Fortunately, though, most foreclosed homeowners in California won't have to pay a deficiency judgment.

In this article, you'll learn what a deficiency judgment is, when the bank can get a deficiency judgment in California, and what happens to the deficiency after a short sale or deed in lieu of foreclosure.

What Is a Deficiency Judgment After Foreclosure?

In a foreclosure, the total debt that the borrower owes sometimes exceeds the foreclosure sale price. The difference between the total debt and the sale price is called a "deficiency."

Example. Say the total amount you owe on your home loan—including outstanding principal, interest, fees, and costs—is $600,000. But your home sells for $550,000 at the foreclosure sale. The deficiency is $50,000.

In some states, the foreclosing bank can seek a personal judgment, called a "deficiency judgment," against the debtor to recover the deficiency. Generally, once the bank gets a deficiency judgment against you, the bank may collect this amount—in our example, $50,000—from your other assets or income.

Deficiency Judgments After California Foreclosures

In California, foreclosures can be either judicial or nonjudicial. Judicial foreclosures are administered through the state court system, while nonjudicial foreclosures have no court supervision, and a foreclosure trustee handles the process. Most residential foreclosures in California are nonjudicial.

Deficiency Judgments Aren't Allowed After Nonjudicial Foreclosures

In California, a foreclosing bank can't get a deficiency judgment after a nonjudicial foreclosure. (Cal. Code Civ. Proc. § 580d).

Because most residential foreclosures are nonjudicial, most Californians going through foreclosure don't have to worry about being on the hook to the foreclosing bank for a deficiency judgment. But if you have a second mortgage, depending on the circumstances, you might face a lawsuit from that lender.

Deficiency Judgments After Judicial Foreclosures

If the bank chooses to pursue a judicial foreclosure, deficiency judgments are generally allowed. To get the deficiency judgment, the bank has to file an application with the court within three months of the foreclosure sale. The judge will then hold a fair value hearing to determine the property's value. The deficiency judgment will be limited to the lesser of:

• the amount of the debt that exceeds the fair value of the property at the time of the foreclosure sale, or
• the amount of the debt that exceeds the sale price of the property at the foreclosure sale. (Cal. Code Civ. Proc. § 726(b)).

But even if the bank uses a judicial foreclosure process, deficiency judgments aren't allowed in cases where the loan was:

• used to purchase a 1-4 unit dwelling that's owner-occupied (a "purchase money loan")
• seller financed, or
• a refinanced purchase money loan that was executed on or after January 1, 2013, except to the extent that new principal was advanced that wasn't applied to the purchase-money loan. Fees, costs, and related expenses of the refinance also aren't covered by the anti-deficiency protection. (Cal. Code Civ. Proc. § 580b).

California's One-Action Rule

California's one-action rule further limits a bank's ability to get a deficiency judgment. Under this rule, the bank can pursue only one form of action for the recovery of a debt or mortgage. (Cal. Code Civ. Proc. § 726(a)). So, to collect the defaulted debt, the bank may:

• conduct a nonjudicial foreclosure (a trustee's sale)
• judicially foreclose, or
• sue on the promissory note for the balance of the debt.

California's Security-First Rule

While the one-action rule seemingly gives the bank the option to sue the borrower personally on the promissory note and forgo foreclosing, courts have interpreted the rule to mean that a bank must pursue the secured real estate first. Under this "security-first rule," the bank can't sue on the note as the first method of collection. (Cal. Code Civ. Proc. § 726(a)).

Deficiency Judgments After Short Sales in California

California law generally prohibits a deficiency judgment following the short sale of a residential property with no more than four units. Junior lienholders are also prohibited from pursuing a deficiency judgment if they agree to the short sale and they receive proceeds as agreed. (Cal. Code Civ. Proc. § 580e). Though, if you perpetrate fraud or commit waste with respect to the property (damage it), the bank can seek damages against you. Also, the anti-deficiency law doesn't apply to a borrower that is a corporation, LLC, limited partnership, or political subdivision of the state.

Also, under California law, the bank can't require the borrower to pay any additional compensation, aside from the proceeds of the short sale, in exchange for giving written consent to the sale. So, the bank can't require the borrower to sign a promissory note or contribute funds at the close of escrow as a condition of the short sale. (Cal. Code Civ. Proc. § 580e).

Deficiency Judgments After Deeds in Lieu of Foreclosure in California

A deed in lieu of foreclosure (deed in lieu) is when a bank agrees to accept a deed to the property instead of foreclosing. With a deed in lieu, the deficiency amount is the difference between the total debt and the property's fair market value.

Often, a deed in lieu is deemed to satisfy the debt fully. But California doesn't have a law that says the bank can't get a deficiency judgment following this kind of transaction. So, the bank might try to hold you liable for a deficiency following a deed in lieu. To avoid a deficiency judgment, the agreement you sign must expressly state that the transaction completely satisfies the debt. If the deed in lieu contract doesn't contain this provision, the bank may file a lawsuit to obtain a deficiency judgment. Though, if the bank forgives the deficiency, you might have tax consequences.

Consider Talking to a Foreclosure Lawyer

If you're a California homeowner facing a foreclosure and want to learn about any defenses you may have or about different ways to avoid a foreclosure, consider talking to an attorney. If you can't afford an attorney, a HUD-approved housing counselor can tell you about foreclosure avoidance options at no cost.