Deficiency Issues

Note: This page addresses legal matters. As such, you should consult an attorney for exact applicability to your situation before taking any action based on this information.

What Is A Deficiency? A deficiency is the amount by which you are short of having enough funds to sell the home without bank approval. If you owe $300k, there are $25k in closing costs, and market value of the home is $250k, then you are “deficient” (or short) by $75k. ($300k loan + $25k closing – $250k market value = $75k).

2001 Was a Banner Year in Legal Protections: Until 2011, The “deficiency clause” was the most important issue in a short sale.  However, with the passage of SB 931 on January 1, 2011, first mortgage holders could no longer pursue collections of the deficient amount no matter what their approval letter specified.  On July 11, SB 458 was passed, further barring any mortgage holder in any position from pursuing collections as well as specifying that the borrower could not be required to bring any money to the table to make the close work.

Deficiency Judgements May Still Apply in Foreclosure:  Under a foreclosure, the foreclosing entity may not pursue any further judgment as long as it is a non-judicial foreclosure (almost always the case in California).  However, no such prevention exists for second mortgage lien holders if they were not taken at the time the property was purchased.  Whether the loan was taken to put in a backyard or simply get a better rate, once the loan is refinanced the door is opened for a second (or third) mortgage holder to pursue court judgement after a foreclosure.

Your biggest chip to negotiate on your loan with the bank is the secured asset itself, in this case the home. Once the home has been disposed, the bank will have little incentive to work out the balance with you, let alone write it off completely. In the majority of cases, it makes more sense to close that collection door with a short sale rather than leave it open upon foreclosure

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