When I wrote a newsletter with that headline nearly ten years ago, foreclosures were probably not yet part of the general public consciousness. Things have sure changed since then. Even though many more people are at least aware of the subject now than was the case ten years ago, however, I’ll bet that most don’t have more than a vague idea of how a foreclosure works or how one could affect them.
What is a foreclosure? In general, it is the legal process that a lender uses to enforce a lien given to secure a loan against a parcel of real estate when the borrower doesn’t repay the loan. The two methods by which this is done in Arizona are known as judicial foreclosure and trustee sale.
A mortgage and a deed of trust are the two common methods of placing a lien against a parcel of real estate to secure a loan, that is, making a parcel of real estate collateral for a loan. When a mortgage or a deed of trust is recorded with the county recorder, the real estate described in the mortgage or deed of trust becomes collateral, or security, for the loan.
Most real estate loans in present-day Arizona are made using a deed of trust. In a deed of trust, the borrower is called the trustor, the lender is called the beneficiary, and a third party, either a title company or a lawyer, is the trustee. In a mortgage, the borrower is called the mortgagor, the lender is called the mortgagee, and there is no third party. In both a deed of trust and a mortgage, the document contains the description of the real estate that is collateral for the loan and describes the rights granted to the lender.
If the borrower doesn’t make the loan payments, the lender will usually resort to a trustee sale. The trustee sale starts when the person named as the trustee in the deed of trust signs a notice of trustee sale. The trustee records the notice of trustee sale with the county recorder, publishes a copy of the notice in the newspaper, posts a copy of the notice on the property described in the deed of trust and at the courthouse, and mails a copy of the notice to everyone who has a recorded interest in the property. The date of the sale must be more than ninety days after the notice is recorded.
The judicial foreclosure is the less common, and more old-fashioned, method of foreclosure. It is the only foreclosure method available for a mortgage, although it can also be used to foreclose a deed of trust. A judicial foreclosure proceeds in more or less the same manner as any other civil lawsuit up to the point where judgment is entered. How long a judicial foreclosure takes depends on a number of factors, but it usually takes longer than a trustee sale.
After a judgment has been entered in a judicial foreclosure, and at the time set for the sale in a trustee sale, an auction is held. Anyone can show up at the sale and bid to buy the property. The property is sold to the highest bidder. The highest bidder must be prepared to pay the amount of their bid within one day after the sale unless the highest bidder is the lender, in which case the lender gets a credit for the amount they are owed.
What happens if the highest bid is less than the amount the lender is owed? The answer depends on what type of property is being sold and the method of foreclosure. If the real estate is more than two and one-half acres in size or is used for something other than one house or a duplex, the lender can obtain a judgment against the borrower (known as a deficiency judgment) for the difference between the amount owed (including the costs of the sale) and the value of the property.
If on the other hand the real estate is two and one-half acres or less in size and is used only for one house or a duplex, the lender’s ability to pursue a deficiency judgment depends on what method of foreclosure was used and what type of loan was made. If the lender used a trustee sale, the lender cannot pursue a deficiency judgment. In other words, if the lender uses a trustee sale on a house or duplex on less than two and one-half acres, all the lender gets is either the property (if the lender is the highest bidder at the sale) or the amount of the highest bid (paid by the highest bidder).
If the lender used a judicial foreclosure, then the lender is precluded from pursuing a deficiency judgment only if the property is a house or duplex on two and one-half acres or less, and the mortgage was given to secure a loan that was used to pay or refinance all or part of the purchase price of the property. In other words, if the loan was made for something other than paying for the property, the lender can get a judgment against the borrower for any difference between the amount owed (including the costs of the sale) and the value of the property, even if it’s a single house or duplex on two and one-half acres or less.
I know it’s a dry subject, but it’s impacting more people than I ever thought it would. One common scenario that could affect many people, probably without their realization, is the application of the foreclosure rules when there’s a default on a home equity loan. I’m sure most people don’t understand how a foreclosure on a home equity loan (a loan used for something other than acquiring the house) can differ from a foreclosure on an acquisition loan (a loan used to buy or refinance a house). If the borrower ends up owing the lender more than the house is worth (which still happens frequently, even though it’s been several years since the “foreclosure crisis” supposedly passed), the bank’s ability to collect the difference depends on whether the loan was a home equity loan or an acquisition loan.
Hopefully these rules will affect fewer people as time goes on and real estate values (again, hopefully) continue so rise, but there’s no guarantee that will happen. You’d think that by now everyone would have figured out that values can go down quickly and without warning, but it seems that the volatility of the real estate market, and the effect of a decline in values, is always forgotten as soon as the crisis has passed. We’ll see if this time is any different.
Nathan B. Hannah is a Shareholder in the Tucson office, and practices in the areas of estate planning and administration, real estate, and commercial transactions. He is also a noted blogger, and you can find more of his articles on his private blog,
Contact Attorney Hannah: firstname.lastname@example.org or 520/ 322-5000
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