The Great Recession has left many homeowners owing more to their lenders than what their homes are worth. As homeowners walk away from their homes and the mortgages they secure, lenders are often left to sell the properties for far less than what was owed on the mortgage. This difference between the amount owed to the lender and the fair market value of the property is called the deficiency, which lenders can sue to recover from the homeowner.
In Arizona, two anti-deficiency statutes, A.R.S. §§ 33-729(A) and 33-814(G), prohibit lenders from suing homeowners for the deficiency owed after a property is foreclosed in certain circumstances. The anti-deficiency statutes protect purchase money obligations given to secure loans on parcels of real property that are two and one-half acres or smaller, and that are utilized as one-family or two-family dwellings. While the two and one-half acres or smaller requirement is fairly straightforward, the purchase money and dwelling requirements have been the subject of legal controversy.
Purchase Money Requirement
Anti-deficiency protection only applies to loans given to pay all or part of the purchase price of a residence and real property upon which it is located. This generally includes the original mortgage(s) obtained to purchase a residence, but does not include home equity lines of credit or second or third mortgages where the funds are used for other purposes, such as to pay down other debt or improve the existing home. In addition, refinances are generally protected so long as the amount refinanced is limited to the original purchase money obligation. Finally, with the Arizona Court of Appeals recent decision in M&I Bank v. Mueller, construction loans may also qualify as purchase money obligations. Read more about the Mueller decision here. Thus, so long as the lender’s funds are used to purchase or construct the residence, the purchase money requirement is generally met.
Anti-deficiency protection only exists when the residence is “utilized” as a “dwelling.” The residence may be utilized as a dwelling by either the homeowner or a tenant; protection can extend to both primary residences and second homes. However, commercial developers who construct residences for resale are not protected because they lack the intent to utilize the residences as dwellings during their ownership. By contrast, a homeowner who constructs a residence but does not occupy it for reasons beyond his or her control is protected because the homeowner had the requisite intent to occupy the dwelling. Therefore, if the residence is occupied or the homeowner intended to occupy the residence but circumstances change, the dwelling requirement is likely satisfied.
The Future of Anti-Deficiency Protection in Arizona
Although Arizona courts have announced some bright-line rules to define what is or is not protected by the anti-deficiency statutes, important questions remain unanswered. For example, it is unclear how far the protection extends for refinances. The courts have not expressly determined whether homeowners who refinance multiple times or those who receive small cash sums through the refinance will retain protection. Also, Arizona courts have not addressed the question whether lenders may require homeowners to waive anti-deficiency protection when obtaining a loan. Another common scenario in which the anti-deficiency statutes have not been tested is the short sale. It is uncertain whether a lender may pursue a homeowner for the deficiency that remains after a home is sold through a bank-approved short sale. While banks typically include a provision in a short sale contract that states the bank may pursue the borrower for the deficiency, such action is arguably contrary to the purpose of the anti-deficiency statutes. The courts have not yet addressed this issue.
The recent trend in the Arizona courts has been to increase the scope of anti-deficiency protections to the benefit of homeowners, following the lead of other anti-deficiency states such as California. However, periodically, there is talk in the Arizona legislature about limiting the anti-deficiency statutes. A recent article in the Arizona Republic signals that the legislature may face the issue again in 2012, with at least one representative aimed at repealing or scaling back the statutes. Whether that will happen remains to be seen, but an experienced real estate attorney can help you navigate the ever-changing scope of anti-deficiency law. If you have questions or would like assistance with your foreclosure or anti-deficiency issues, please contact Titus Brueckner & Levine PLC.
UPDATE: After the publication of this article, the Arizona Court of Appeals addressed two new issues with respect to construction loans and refinances. Read more here.