New Bill Bars Lenders From Collecting on Loan Deficiencies: Benefits for Landlords

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California’s Governor Schwarzenegger has signed into law a new measure that eliminates deficiency judgments against many homeowners who lost their homes to foreclosure in the state.

Deficiencies occur when a foreclosed property is sold for less than the outstanding loan balance plus fees from the foreclosure.

This could be good news for landlords who have lease agreements with these previous homeowners. The judgments generally come months after the foreclosed homeowner has moved into a rental property, and add even more pressure to those struggling to dig out of a financial hole. Collection efforts on the deficiency judgment often include wage garnishments that can interfere with on-time rent payments, and could even cause tenants to bolt to avoid liquidation of any more of their property.

Prior to the passage of this bill, many lenders had voluntarily agreed to waive their claim to a deficiency in favor of an agreement to turn over deeds to distressed properties and avoid the costs of a foreclosure filing. Now in California, if the lender agrees to a short sale, they must accept the sale proceeds as full payment and forgo any claims beyond that.

A competing measure that would have extended this forbearance to those who refinance loans was vetoed by The Governator on the basis that it would interfere with pre-existing contract rights. Schwarzenegger feared that the measure would encourage more “strategic defaults” and that those with capacity to pay would still walk away.

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