A tremendous amount of discussion is still being had about ‘anti-deficiency’ protections of CA Civil Code 580b. (This is different than deficiency liability on a short sale covered by CC sect 580e.)
A key question is related to whether a Borrower who has re-financed a home – and got a loan just big enough to replace the existing purchase-money loan (and borrowed no additional money), to get into a fixed rate instead of an ARM loan, has waived the ‘purchase money’ protections in California’s anti-deficiency legislation.
Some commentators claim DeBerard Properties, Ltd. v. Lim, a California Supreme Court case from 1999, supports that proposition that there has been no waiver, and the ‘purchase money’ characterization, which protects against deficiency, continues.
In DeBeard a buyer of a shopping center, Lim, got into trouble, and re-negotiated the loan(s) it had against the property. The second position lender, DeBerard, specifically negotiated a waiver of the borrower Lim’s protections under 580b in exchange for DeBeard’s agreement to modify its loan. When the deal went bad later, and the first position lender foreclosed, DeBerard sued Lim to get its money, claiming the ‘anti-deficiency’ protections of 580b had been waived and DeBeard had negotiated for the right to sue Lim.
The CA Supremes said ‘No, you don’t.’
Why? The CA Supreme Court said that the ‘anti-deficiency’ protections of 580b could not be waived, as a matter of public policy.
Alright; now come current-day borrowers who say that they didn’t ‘waive’ their anti-deficiency protections when they refinanced the loan – all in an effort to escape post-foreclosure liability for deficiencies. (It generally occurs when the loan package the borrower got in the first place was a 100% financing, built of one loan at 80% and another for the remaining 20%. The borrower refinances with the same 80/20 package. After a foreclosure of the first (the 80%), the second (that pesky 20% loan) comes after the borrower with a vengeance. When the borrower executes the new loans, they are no longer ‘purchase money.’ The second position lender, after the foreclosure of the first, is a ‘sold out junior creditor’ and can sue for the unpaid balance.)
Since ‘sold out junior’ status is eliminated in the case of (most) purchase money loans (commercial loans don’t necessarily get the protection – unless it’s a seller carryback…), you can see where classification as a ‘refinance’ is an attractive thing to a Bank – and where classification of the new debt as merely a ‘replacement’ of a purchase money loan (keeping those ‘purchase money’ protections), is attractive to a borrower.
So, which is it?
Right now, most pundits favor the Banks.
How come? Because ‘purchase money’ is ‘purchase money.’ And, a deal is a deal.
The argument is that the borrower got into the property in the first place because of the ability to borrow on that ARM. If the borrower could have gotten a fixed rate mortgage – it would have. The borrower (most likely) made a decision that the low payments of the ARM (a key feature to those type loans) was the key factor in choosing which type loan to get to facilitate that purchase.
Similarly, the Bank made an underwriting decision when it made the ARM loan – and that decision is different than the one the Bank might have made in a fixed rate loan. So, the parties bargained for – and changed position based upon – the kind of ‘purchase money’ loan given at the time of the purchase.
The underwriting process and considerations are different when refinancing. (The difference may be slight, and may be based on the secondary money market’s desire for purchase money vs refinance loans, or any other number of factors; but they are different.)
In this case, the borrower is trying to better its position with a fixed rate mortgage. So, why, when ‘balancing equities’ should the balance to be made in favor of the borrower – who is trying to get a better deal – by allowing the refinance, AND still allow the borrower to keep the anti-deficiency protections? Ii is unlikely the courts will.
The past Governor vetoed legislation that attempted to change the definition of ‘purchase money’ to include ‘refinances.’ For good reason.
There is this thing called the ‘contracts clause’ of the Federal Constitution. (Most Banks are Federally chartered…)
The Contracts Clause basically states: ‘Thou shalt not interfere with existing contractual relationships by passing a new law that retroactively changes those pre-existing contractual relationships.’
Sounds an awful lot like the effort to change anti-deficiency exemptions to include non-purchase money loans – doesn’t it?
There is simply too much money at risk to allow the Banks to let this go unchallenged.
But don’t worry. The answer to the Constitutionality of the law will come, in about three years. Or maybe five. That’s about how long it will take for a trial, an appeal, a State Supreme Court appeal, and a US Supreme Court appeal.