If you are in the process of selling your home and it eventually sells for enough money to cover the balances of the mortgages and/or loans against it, the lenders are made whole and everybody moves on. In situations such as trustee sales, where the home sells for less than the balances due, there is a "deficiency”.
In a trustee’s sale following a foreclosure, the lender is generally prevented from pursuing a deficiency from the homeowner if the loan is considered to be non-recourse or if the state where the home is located is a non-recourse state. There are ten non-recourse states in the country including California, Arizona, Texas, and Florida.
Requirements for Non-Recourse
To receive protection under non-recourse laws, the owners must meet certain occupancy requirements for the property in question. Most deeds of trust delineate their occupancy requirements with a typical clause stating, (the) “Borrower shall occupy, establish, and use the property as borrower’s principal residence within 60 days after the execution of this security instrument and shall continue to occupy the property as borrower’s principal residence for at least one year after the date of occupancy...”
Loans Used to Purchase Property Only
In most states, the non-recourse protection applies only to the loans used to purchase the property. Subordinated loans such as second mortgages and home equity lines of credit (HELOC’s) are likely to be subject to recourse by the lender, meaning that the homeowner can be pursued for a “Deficiency Judgment” if no further action is taken.
Using Chapter 13 Bankruptcy Law
Fortunately, there are actions which can be taken to eliminate the possibility of recourse. The most effective method of avoiding recourse on a subordinated loan or HELOC is offered via a Chapter 13 bankruptcy filing. In situations where declining property prices have reduced the appraised value of the primary residence to a level which is less than the balance owed on the first mortgage, any subordinated loans behind the first mortgage including HELOC’s are considered as “wholly unsecured” by the bankruptcy court. With loans classified as unsecured, the bankruptcy code allows for an action referred to as “lien stripping”, which virtually eliminates the homeowner’s obligation on these loans and prevents any recourse actions from the lenders.
Due to the complexity of the foreclosure, short sale, and bankruptcy processes in California, hiring a knowledgeable experienced bankruptcy attorney is a must.
