“Foreclosure Law in California and Related Matters” (By William Markham, © 2000–2026)

Introduction: a Short Summary of California’s Foreclosure Laws

Lenders often require that their loans be secured by real property. When a lender makes such a loan, it requires the borrower to execute and deliver a loan agreement (which states the terms and conditions of the entire transaction), a corresponding promissory note (which obliges the borrower to repay the loan with stated interest and other charges), and a deed of trust that includes a power of sale (by which the borrower pledges one or more parcels of real estate as security for his obligations under the loan agreement and accompanying note). Collectively, these instruments constitute a secured loan agreement.

If the borrower defaults on such a loan, the lender can sell his property to pay the entire debt at once, along with various other charges that the loan agreement authorizes in the event of the borrower’s default. This act of selling the property to pay the borrower’s debt is called a foreclosure. It is the pre-emptive or premature closing of a secured loan transaction by a forced sale of the collateral that secures the loan.

Indeed, California’s one-action rule establishes that a foreclosure is the only means by which a lender can reach its borrower’s real property after its borrower defaults under its secured loan agreement. When a lender forecloses, it must decide whether it wishes to conduct a non-judicial foreclosure (which is speedy and inexpensive) or a judicial foreclosure (which is time-consuming and costly). As explained below, a lender will choose the latter option only if it seeks a deficiency judgment from the borrower or must litigate an unresolved dispute over the priority of a claimed lien that encumbers the borrower’s property.

The sale proceeds from a foreclosure sale are used first to pay the costs of sale and then to pay off or pay down the borrower’s debt under the loan agreement. If the sale proceeds exceed the debt, the remaining funds, which are called surplus funds, must be disbursed to junior encumbrancers of record in order of priority, and any remaining sum must be disbursed to the borrower. If, however, the sale proceeds are insufficient to pay off the borrower’s debt, the lender might be able to obtain a deficiency judgment, which is a money judgment against the borrower for the remaining part of his debt under the secured loan agreement.

Whether a lender can obtain a deficiency judgment depends on the foreclosure procedure used and the kind of loan foreclosed. To obtain a deficiency judgment, a lender must bring an action for a judicial foreclosure under Code of Civil Procedure § 726, rather than conduct a non-judicial foreclosure (or “trustee sale”) under Civil Code § 2924 et seq.[1]These references are made to California’s Code of Civil Procedure and Civil Code.

Even then, a lender cannot obtain a deficiency judgment against a borrower who defaults on a purchase-money loan.[2]A purchase-money loan is a loan that is (1) used by the borrower to purchase his own dwelling; and (2) secured by this same dwelling; but the loan will be so treated only if the dwelling has no more … Continue readingNor can the seller of real estate obtain a deficiency judgment against his buyer for failing to make required payments under the seller’s installment contract or carry-back note.[3]Under a seller’s installment contract, the buyer acquires title and possession and, in exchange, delivers a trust deed and agrees to pay a stated price by making successive installment … Continue reading

Here is a quick recap of the above points. Borrowers often obtain loans from lenders only by agreeing to pledge real property as collateral for the loans. To do so, they must enter into secured loan agreements that include a loan agreement, a corresponding promissory note, and a trust deed by which the borrower pledges specified real property to the lender. In nearly every instance, the lender records the trust deed as a monetary encumbrance upon the borrower’s title to the property that he has pledged as collateral. If, after receiving the loan, the borrower fails to repay it as agreed, the lender can exercise its power of sale under the trust deed and force the sale of the borrower’s property at either a non-judicial or judicial foreclosure. The selling of the borrower’s real property to satisfy his debt under the secured loan agreement is an act of foreclosure – a premature closing of a secured loan transaction by liquidating the asset that secured the loan.

The mechanics of these foreclosure procedures are explained at length below, as are the key differences between judicial and non-judicial foreclosures. Each has its distinct advantages and disadvantages, which every borrower, lender, and real estate investor should understand.

The above matters constitute the essential precepts and basic building blocks of California’s law on foreclosures. The remainder of this article provides a more complete explanation of this law, as well as practice pointers and digressions on related matters. Since foreclosure law is a rather dry subject, your author has tried to enliven it by providing colorful illustrative examples.

Lastly, I have provided below two primers. They explain core concepts and standard terminology used in real estate transactions and foreclosures. Readers already familiar with these matters might prefer to glance over or skip either or both primers. [4]The information presented in this article is given only for general informational purposes and does not establish an attorney-client relationship between any reader and the author of this article. … Continue reading

Real Estate Purchase Contracts and Secured Loan Agreements: A Primer

To understand how secured loan agreements are typically used, it is necessary to understand the basics of standard real estate transactions for the sale of real property in California. I explain these matters below. Readers already familiar with them might prefer to pass over or merely glance at this section of the article.

The Parties’ Contract for the Sale of Real Estate

Many buyers wish to purchase improved real estate, where they can live, spend vacation time, or conduct some sort of business or leisure activity. Before making any bid, savvy buyers often obtain a lender’s pre-approval of a secured loan up to a certain amount, so that they can present it with their bid. Such a buyer will then inspect different properties, usually working with a licensed real estate agent who works for a licensed real estate broker, and who acts as the buyer’s agent.

Once the buyer identifies a property that he wishes to purchase, he can instruct his agent to submit a bid to purchase it. By this bid, the buyer will offer to pay a stated price by posting an initial deposit in a designated escrow account, and by subsequently remitting cash and loan funds into this account to pay the remainder of the purchase price. The bid is typically stated in a proposed contract (typically, a marked-up version of a boilerplate contract prepared by the California Association of Realtors, or “CAR”).

If a seller accepts this offer, or if the parties exchange one or more counter-proposals until they reach agreement, they will have entered into a binding contract for the sale and purchase of real property in California. This contract will typically be subject to certain contingencies, which must be either waived or fulfilled on a very short timeline.

To begin performance of this contract, the buyer must first open an escrow account, using a licensed provider for this purpose. Then the buyer will make his initial deposit in accordance with joint escrow instructions given to the escrow administrator by the seller and buyer (who for this purpose usually will mark-up boiler-plate instructions provided by the escrow administrator).

Inspecting the Property’s Title: the First Contingency

The escrow company is usually a licensed provider of title insurance. Directly after the escrow account is opened, if not sooner, the escrow company/title insurer will provide a preliminary title report (charging a fee, whose expense is borne by either or both parties, according to their contract). This report must verify the condition of the property’s title by examining the public records of the recorder’s office and tax assessor’s office in the county where the property is located.

In that manner, the escrow provider/title insurer can confirm that the seller holds title in fee simple to the property and can therefore convey a grant deed to the buyer. It can also ascertain and list all encumbrances of record against the seller’s title, such as secured loans, liens, tax assessments, recorded easements (another’s right to cross over part of the property or use a pathway or road that lies along it), recorded covenants or equitable servitudes (which confer on a neighboring property or specified persons the right to use the property in some limited way), and other lessor estates in the property, such as leases, licenses, and other such arrangements to possess or use part of the property for limited purposes.

The escrow company/title insurer must also offer to insure the condition of the property’s title, guaranteeing that the seller can convey good title, but subject to the monetary and non-monetary encumbrances listed in its preliminary title report, which are called “exceptions.”

The buyer can then accept the condition of the property’s title, but specify that he does so only on the express condition that his purchase price be used to pay in full the monetary encumbrances upon the seller’s title (e.g., loans, liens, tax assessments, etc.). That is a standard term of most transactions for the sale of real estate, but the parties and the buyer’s lender sometimes agree that a lienor of record can continue to encumber the title after its transfer to the buyer, but only if it first agrees to subordinate its lien to the lender’s trust deed.

The condition of the property’s title is usually resolved very quickly. Indeed, many buyers will not bid on a property until they have examined public records or a private provider’s compilation (e.g., a property profile).

Inspecting the Property’s Physical Condition: the Second Contingency

Shortly after the parties agree to their contract, the seller must make various written disclosures about the property’s condition. The buyer will then have a short, stated period of time to inspect the property. To this end, the buyer should always hire a professional property inspector to examine the property’s condition, including the matters disclosed by the seller.

If the buyer is satisfied, he can waive his inspection contingencies. But if not, he can either withdraw from the contract, or demand that the seller cure specified property conditions at its own expense before the sale is concluded. In response to such a demand, the seller can withdraw from the contract, or agree to make some or all of the requested changes at its sole expense, or agree to do so only if the buyer agrees to split the cost in some manner. The buyer can then withdraw, agree, or make a new counter-proposal. If the parties finally reach agreement, or if the buyer never raises any objection to the property’s physical condition, the buyer’s contemplated purchase will have survived the buyer’s inspection contingencies.

Procuring the Loan: the Third Contingency

When a buyer has offered to pay part of the purchase price with loan funds, the purchase agreement will also depend on a loan contingency: by a stated deadline, the buyer must furnish a lender’s formal, written commitment to make the required loan (it is called a commitment letter). If the buyer fails to do so, the seller can withdraw from the transaction and keep the buyer’s initial deposit; or the seller might afford the buyer additional time to obtain a commitment letter or otherwise raise the required funds. If the lender approves of the buyer’s required loan and gives a commitment letter, then the transaction’s contingencies will have been met, subject only to the buyer’s right to conduct a final inspection shortly before the contract is concluded.

Required Escrow Transactions

At this point, the buyer and seller must jointly complete formal escrow instructions and deliver them to the escrow administrator, unless they previously did so. In practice, the escrow administrator has the parties’ real estate agents complete parts of its boiler-plate instructions before the buyer posts the initial deposit, and then they fill in the remaining blanks and append any special, supplemental instructions after the above contingencies have been either waived or fulfilled.

Also, at this point the buyer will invariably purchase title insurance that the escrow administrator previously offered, so that if an undisclosed claimant comes along after the sale and asserts a legal or equitable claim against his title, the title insurer must pay to oppose the claim and/or indemnify the buyer for his loss if the claim is vindicated (e.g., where a claimant alleges and prevails on a claim to hold superior title to the property under the doctrine of adverse possession).

Now all of the pieces of this complicated puzzle are in place, and the escrow administrator can perform the seller’s conveyance of a grant deed to the buyer, proceeding as follows.

• By a stated date, the buyer must deliver to the escrow administrator an executed, notarized deed of trust in favor of his lender, as well as his remaining cash contribution by wire transfer. The trust deed will make a general reference to the lender’s loan agreement, state its principal amount, and refer generally to its unspecified charges and fees if the buyer/borrower defaults under the loan agreement.
• Upon being apprised that the buyer has performed the above acts, the lender must wire its loan funds to the escrow administrator.
• Upon being notified of the buyer’s and the lender’s performance of the above acts, the seller must deliver to the escrow administrator an executed, notarized grant deed, by which it conveys to the buyer all of its title and interest in the property. The grant deed must specify in what capacity the buyer will hold this title (e.g., “The Acme Seller Corp. hereby conveys all of its legal and equitable title and interest in the below-described parcel of improved real estate to Roger P. Borrower, a married person, but as his separate property”).
• Now the escrow administrator must give notice to the buyer, the seller, and the buyer’s lender that it has received the above items, and then it must perform the following acts: (1) immediately record the seller’s grant deed and the lender’s trust deed; (2) use the buyer’s proceeds (all cash payments and all loan funds) to pay all costs of sale, commissions, fees, and like charges; then disburse by wire transfer the payments required to pay off all monetary encumbrances of record (unless jointly instructed otherwise); and, lastly, disburse by wire transfer the remaining sum to the seller as its net sale proceeds (unless instructed to remit this payment by check).

Real estate transactions are as varied and complicated as their different purposes require. The above explanation merely describes the basics of these transactions, so that my readers can understand how a borrower comes to hold a title to improved land that a lender can take from him by foreclosure if he defaults on its loan.

Trust Deeds, Their Uses, and Their Priority: a Primer

A Trust Deed, Defined

Once recorded, a trust deed is a conveyance of a title to a real property, given by a borrower (or debtor) to a professional trustee for the benefit of a lender (or creditor), and used to provide security for the borrower’s performance of a loan agreement (or the debtor’s payment of a debt or performance of a credit arrangement).

The nomenclature of a trust deed is drawn from the law of trusts. The borrower or debtor is called a trustor; the lender is called a beneficiary, and the administrator/dual agent is called a trustee. The trustee, however, does not owe any fiduciary duty, but instead acts as a dual agent for both the lender and the borrower. See Bae v. T.D. Service Co. of Arizona (2016) 245 Cal.App.4th 89, 102 (“The trustee of a deed of trust is not a true trustee with fiduciary duties, but rather a common agent…. The scope and nature of the trustee’s duties are exclusively defined by the deed of trust and the governing statutes. No other common law duties exist.”). See generally Robin v. Crowell (2020) 55 Cal.App.5th 727, 742 (“[A deed of trust] conveys title to real property from the trustor-debtor to a third party trustee to secure the payment of a debt owed to the beneficiary-creditor under a promissory note. There are three parties to a deed of trust: (1) the trustor, who owns the property that is conveyed to (2) the trustee as security for the obligation owed to (3) the beneficiary. A deed of trust ordinarily includes a power of sale provision, which permits the trustee, on behalf of the beneficiary, to sell the real property security if the trustor fails to repay the debt owed.”).[5]Unless otherwise noted, all internal quotations and citations have been omitted from the legal citations given in this article.

In this capacity, the trustee holds the trust deed until the borrower either performs or defaults upon the loan agreement. See Kachlon v. Markowitz (2008) 168 Cal.App.4th 316, 334 (“The trustee’s duties are twofold: (1) to reconvey the deed of trust to the trustor upon satisfaction of the debt owed to the beneficiary, resulting in a release of the lien created by the deed of trust, or (2) to initiate nonjudicial foreclosure on the property upon the trustor’s default, resulting in a sale of the property.”).

A Trust Deed’s Power of Sale

A trust deed typically includes a power of sale, by which the borrower expressly authorizes the trustee to initiate and conduct a foreclosure sale of the borrower’s property upon the occurrence of stated conditions precedent, which are usually along the following lines: (1) the borrower committed an event of default under the loan agreement; (2) the lender or its servicer complied with all applicable pre-foreclosure requirements imposed by the California Homeowner’s Bill of Rights and related statutes; and (3) the lender advised the trustee of the foregoing matters and instructed it to initiate, schedule, and conduct a non-judicial foreclosure against the borrower’s property in the manner required by law.

When the Borrower Performs

If, instead of defaulting, the borrower completes performance of the loan agreement (i.e., makes all payments and commits no other material breach), the trust deed ceases to encumber his property by operation of law, and the lender must give timely notice and instruct the trustee to reconvey the trust deed to the borrower. See Civ. Code § 2941(b).

To do so, the trustee records a reconveyance of the trust deed, which gives constructive notice that the borrower’s property is no longer encumbered by the trust deed or its associated debt (the retired debt previously owed under the loan agreement). See Snider v. Basinger (1976) 61 Cal.App.3d 819, 823 (“When the obligation secured by a trust deed is satisfied, the deed is terminated and title to the property automatically revests in the trustor or his successor without a reconveyance. The trustor is entitled to a reconveyance, but the legal effect of reconveyance is only to clear the title of record.”).

When the Borrower Defaults; Surplus Funds; Disputed Claims

If the borrower thereafter defaults under the loan agreement, the lender can instruct the trustee to sell the borrower’s property at a foreclosure sale, collect the sale proceeds, and, so far as possible, use them to pay the following: (1) the trustee’s fees and costs to conduct the sale;[6]The trustee’s allowed costs are set forth at Civ. Code § 2924k(b). The trustee’s fees are set by statute and sharply limited at Civ. Code § 2924d(b)(1). and (2) the borrower’s remaining debt to the lender under the loan agreement. See Civ. Code §§ 2924; 2924k(a)(1)–(2).

If any funds remain, they constitute a surplus fund, which the trustor usually disburses, so far as possible, to junior lienholders in order of priority and then to the foreclosed borrower, but only after following the required procudure for soliciting claims upon the surplus fund from junior lienholders of record and the foreclosed borrower. See Civ. Code §§ 2924j(a)–(b); 2924k(a)(3)–(4); see also Caito v. United California Bank (1978) 20 Cal.3d 694, 701 (“Following a foreclosure sale and satisfaction of the obligation of the creditor who forecloses, subordinate liens against the foreclosed property attach to the surplus proceeds in order of their priority.”).

If the trustee receives competing claims upon the surplus fund, or cannot determine the validity, amount, or priority of any claim, he can bring either a civil action for interpleader under Code of Civil Procedure § 386 (which is costly and lengthy) or a petition and declaration for an expedited, 90-day proceeding for declatory relief and the Court’s disbursement of the surplus fund under Civ. Code § 2924j(c)–(h). The 90-day proceeding must be conducted in the California Superior Court for the county where the foreclosed property sits. See Civ. Code § 2924j(c). If the trustee initiates the 90-day proceeding, it must deposit the surplus fund into the presiding court. See id. The Court must decide rule on all claims properly before it at a hearing set no later than 90 days after the filing date. See Civ. Code § 2924j(d). Claimants of record can have their claims considered and decided if they submit them at least 15 days before the hearing. See id.

Standard Use of a Senior Trust Deed

When a borrower procures a loan from a lender to purchase a real property from a seller, the loan and property sale are typically conducted by an escrow administrator in the manner described above. When the escrow transaction is concluded, the borrower becomes the holder of title in fee simple to a real property, but his title, or grant deed, is encumbered by a trust deed held by a trustee for the benefit of both the lender and the borrower. Thereafter, the trustee must hold the trust deed until the borrower either pays off the lender’s loan or defaults under it. Robin v. Crowell (2020) 55 Cal.App.5th 727, 742 (“[A deed of trust] conveys title to real property from the trustor-debtor to a third party trustee to secure the payment of a debt owed to the beneficiary-creditor under a promissory note. There are three parties to a deed of trust: (1) the trustor [the buyer/borrower], who owns the property that is conveyed to (2) the trustee as security for the obligation owed to (3) the beneficiary [the lender or its assignee]. A deed of trust ordinarily includes a power of sale provision, which permits the trustee, on behalf of the beneficiary, to sell the real property security if the trustor fails to repay the debt owed.”).

If the borrower pays off the lender’s entire loan, the lender must instruct the trustee to reconvey the trust deed to the borrower, whose title to the property thereupon ceases to be encumbered by the trust deed. See Civ. Code § 2941(b).

But if the borrower defaults on the loan, the lender can instruct the trustee to initiate and conduct a non-judicial foreclosure, by which the trustee will sell the borrower’s property and use the sale proceeds to pay off or pay down the lender’s loan. See Robin, 55 Cal.App.5th at 742 (quoted above); see also Herrejon v. Ocwen Loan Servicing, LLC (E.D. Cal. 2013) 980 F.Supp.2d 1186, 1199 (“If a borrower defaults on a loan and the deed of trust contains a power of sale clause, the lender may non-judicially foreclose…. Under California Civil Code section 2924(a)(1), a ‘trustee, mortgagee or beneficiary or any of their authorized agents’ may conduct the foreclosure process.”).

Junior Trust Deeds

After the borrower has acquired title, he can take a second loan and secure it by conveying a second trust deed to the second lender. The second trust deed, like the first, will encumber the borrower’s title to the property, but it will be junior or subordinate to the first.

Lesser Estates in Real Property

In the same vein, a borrower can convey a lesser estate in his real property, such as a leasehold (which confers on another the right to exclusive possession and quiet enjoyment of part or all of the subject property) or a license (which confers on another a limited right to use part or all of the subject property). To do so, the borrower and his lessee or licensee will typically enter into a written contract (a lease or a licensing agreement) and record an abstract of it, or a memorandum of lease, which gives constructive notice of its existence, as does the recording of the lease’s assignment. See 10 Miller & Starr, Cal. Real Est. § 34:17 (4th ed.) (“[An executed memorandum of the lease may be recorded. On recordation it imparts constructive notice of the interests of the tenant to subsequent purchasers or encumbrancers of the real property. Also, an assignment of the lease can be recorded.”).

§ 34:17. Lease as a contract and conveyance—Form, execution, delivery, and recordation,

Conveyances of Record; Their Priority

Once recorded, trust deeds, judgment liens, mechanic’s liens, tax assessments, and other such instruments give constructive notice of debts and financial obligations secured by the borrower’s or debtor’s real property. Such recordings are sometimes called monetary encumbrances or, simply, liens. See Caito v. United California Bank (1978) 20 Cal.3d 694, 702 (“A recorded instrument .. is constructive notice only of its own contents and of other documents referred to by it.“)(citing Civ.Code, s 1312).

A property owner’s conveyance of a lesser estate in his real property can be usefully called a non-monetary encumbrance: it gives constructive notice of an allowed use, restriction, occupancy, right-of-way, or activity on the property. Examples of non-monetary encumbrances include not only leases and licenses, but also profits, covenants that run with the land, covenants in gross, equitable servitudes, express easements, and others.

All encumbrances, monetary and non-monetary, are also called conveyances. That is the term of art used in California’s Civil Code. See Thaler v. Household Finance Corp. (2000) 80 Cal.App.4th 1093, 1099 (“A ‘conveyance’ within the meaning of [Civil Code] sections 1213 and 1214 includes every instrument in writing by which any estate or interest in real property is created, aliened, mortgaged, or incumbered, or by which the title to any real property may be affected, except wills.”) (citing Civ. Code § 1215) (internal quotations omitted).

All conveyances, once recorded, give constructive notice of their contents. See Civ. Code § 1213; Bear Creek Master Assn. v. Southern California Investors, Inc. (2018) 28 Cal.App.5th 809, 818 (“A conveyance is ‘perfected,’ meaning it gives constructive notice of its contents, upon its recordation.”).

The priority of a conveyance is usually established by the date when it was recorded. In general, an earlier-recorded conveyance has priority over a later-recorded one. See Civ. Code § 2897 (“Other things being equal, different liens upon the same property have priority according to the time of their creation….”); First Bank v. East West Bank (2011) 199 Cal.App.4th 1309, 1313 (“California starts with a first in time, first in right system of lien priorities, under which a conveyance recorded first generally has priority over any later-recorded conveyance.”).

But the holder of an earlier-recorded conveyance (or senior conveyance) can agree by contract to subordinate it to a later-recorded conveyance (or junior conveyance). See Miscione v. Barton Development Co. (1997) 52 Cal.App.4th 1320, 1326 (“Parties to real estate transactions can contractually agree to alter the priorities otherwise fixed by law….”); see also 4 Miller & Starr, Cal. Real Est. § 10:201 (4th ed.) § 10:201 (“The objective of a subordination agreement is to alter the priority of interests affecting a parcel of real property contrary to the usual rules of priority that ‘first in time is first in right….”); cf. Com. Code § 9339, Official Comment No. 2 (“[A] person entitled to priority may effectively agree to subordinate its claim. Only the person entitled to priority may make such an agreement: a person’s rights cannot be adversely affected by an agreement to which the person is not a party.”).

A conveyance’s priority has enormous importance. By operation of law, a foreclosure sale conducted under a senior lien extinguishes all junior liens. See Epps v. Lindsey (2017) 10 Cal.App.5th Supp. 1 (“[T]he general rule is that foreclosure of a senior encumbrance terminates subordinate liens, including leases.”); Dover Mobile Estates v. Fiber Form Products, Inc. (1990) 220 Cal.App.3d 1494, 1498 (“Title conveyed by a [foreclosure] trustee’s deed relates back to the date when the deed of trust was executed. The trustee’s deed therefore passes the title held by the trustor at the time of execution. Liens which attach after execution of the foreclosed trust deed are extinguished. The purchaser at the trustee sale therefore takes title free of those junior or subordinate liens.”).

Sold-Out Junior Liendholders

If a foreclosure sale yields no surplus fund, or if its surplus fund is insufficient to pay off a junior lien, the part of the junior lien that remains unpaid is extinguished by operation of law. See Vallely Investments, L.P. v. BancAmerica Commercial Corp. (2001) 88 Cal.App.4th 816, 824 (“[V]alid foreclosure terminates all interests in the real estate junior to the mortgage being foreclosed, but it does not terminate interests senior to the mortgage. This is consonant with the purpose of foreclosure, which is to allow the mortgagee to sell the collateral taken for the loan, that is, the same title the mortgagor had when the mortgage was executed.”).

Such a lien is called a sold-out junior lien, and its holder a sold-out junior lienor. A sold-out junior lienor is permitted to bring a claim for damages directly against the borrower without first foreclosing on the borrower’s real property, since such an act would be doubly futile: by definition, a sold-out junior lienor no longer has a security interest in the foreclosed property, nor does the foreclosed borrower hold title to it any longer. See Bank of America v. Graves (1996) 51 Cal.App.4th 607, 611–612 (“The term ‘sold-out junior lienor’ refers to the situation in which a senior lienholder forecloses its lien, eliminating the junior lienor’s security interest. A senior foreclosure sale conveys the property free of all junior liens. Thus, the junior no longer has a lien on the property, and the security has been entirely destroyed. A sold-out junior thus holds security that has become valueless and is permitted to sue directly on the note.”); Banc of America Leasing & Capital, LLC v. 3 Arch Trustee Services, Inc. (2009) 180 Cal.App.4th 1090, 1101 (“A junior lien will be extinguished at the foreclosure sale unless the successful bidder purchases at a price sufficiently high to pay off both the senior lien and the junior lien.”).

A Commonplace Example

Throughout this article, I will use the following hypothetical example to illustrate various principles and doctrines of California’s foreclosure laws and show how they can be applied in particular cases.

Imagine for a moment a young, aspiring professional who recently bought a modest “starter” home in the Silicon Valley for, say, $1.8 million. The home is nothing spectacular at all: it is split-level and has two bedrooms, one bathroom, a cramped kitchen, a small garage, and a fenced-in, tiny backyard. But in today’s roaring real estate market, the hero of our example was forced to pay $1.8 million for this unassuming property, which twenty years ago very likely would have sold for, say, $840,000, and twenty years before that for $175,000.

Those familiar with the Silicon Valley or California generally will know that my above example is by no means an exaggeration. I have personally known people who have paid as much or more to get far less.

So there you have it then: Our young purchaser, now embarked on his career, has just agreed to pay $1.8 million for an ordinary, routine home. Like many purchasers in the Bay Area, he was required to must provide a down-payment equal to 20% of the purchase price, or $360,000. To raise this sum, he sold all of his stock, emptied his savings account, forewent vacations for the past two years, and received loans from relatives who live in less expensive places and chortle at his struggle to make ends meet in modern-day California.

Our hero has thus posted a down-payment of $360,000 and taken a loan of $1.44 million for the remainder of the purchase price. He received this loan from Wells Fargo Bank after completing its arduous application process. Did the bank give him the loan because he solemnly vowed “to repay every penny if it’s the last thing I ever do”? No, of course not. Did it give him the loan because of his fantastic good looks? Or because the stars were aligned properly when he applied? No, and no.

Rather, Wells Fargo (or any other sensible lender) must consider the value of the property that prospective borrower wishes to purchase, as well as his credit rating, financial history, present employment, professional qualifications, and likely ability to pay the loan according to its terms.

The hero in our hypothetical example passed the test: he raised a down-payment of $360,000, procured a loan from Wells Fargo for $1.44 million, and used these funds to purchase a real property in California for $1.8 million. Of note, the loan carries a fixed-rate of interest of 6% per year, and its term is thirty years.

This set of facts will serve as the hypothetical example that I will use throughout this article to illustrate its most important points.

Secured Loan Agreements: The Loan Agreement, Note, and Trust Deed

In the above example, the terms and conditions of the loan will be explained, or rather obscured, in a confusing series of documents written in impenetrable legalese that Wells Fargo will present to our hero for signing on a “take-it-or-leave-it-basis.” Of course, he will sign. These documents, taken together, constitute a secured loan agreement between a borrower and Wells Fargo, which is the lender.

This secured loan agreement, like all others, will include a loan agreement, a promissory note, a deed of trust, a disclosure statement that satisfies the “Truth-in-Lending Act,” the lender’s other disclosure statements, and many other documents that the lender must provide to comply with complex federal and state statutes that govern the making of purchase-money loans.

The loan agreement will state that the borrower must pay a stated sum (the principal amount of the loan) at a stated rate of interest over a fixed term, and that the borrower will become responsible for various charges and fees if he defaults on this obligation or any other material term or condition of the loan agreement. A summary of the terms of payment, including all possible charges after a default, will also be recited in the accompanying promissory note.

Under such an agreement, the borrower must typically make monthly payments for the next twenty-five or thirty years: that span of time is called the term of the loan. If the loan agreement and note specify that interest on the loan will be set at a fixed rate (say, 6% per year), the borrower’s monthly payments will be the same amount for the entire term of the loan. But if the loan agreement and note set interest at a variable rate, the borrower’s monthly payments will vary according to fluctuations in the index used to set the variable rate.[7]Variable-rate loans usually call for the lender to adjust the interest rate once each year according to a complicated formula that depends upon the rise or fall of a specified index.

By the loan agreement and its note, the borrower will become legally obliged to pay Wells Fargo according to their stated terms, and they will be secured by the deed of trust, which is the central document in a foreclosure. The deed of trust invariably includes a power of sale, which upon the borrower’s uncured default expressly authorizes the lender to force a sale of the borrower’s property and to use the sale proceeds to repay his remaining debt to the lender at the time of the sale, along with various charges and fees.

Pre-Payments and Usury Laws

To return to our colorful example, our borrower has just acquired title to a $1.8 million home, using a loan of $1.44 million to fund most of the purchase and cash for the remainder. The terms and conditions of this loan are stated in a loan agreement, and a summary of the debt and payment terms are recited in an accompanying promissory note. To secure his obligations under the loan agreement and its note, the borrower has conveyed a trust deed to Wells Fargo, which encumbers his title to the property and authorizes Wells Fargo to sell it if he fails to pay as agreed.

If all goes well, the borrower will dutifully pay off the loan according to the loan agreement’s schedule of payments. Or perhaps the borrower will do so long before the term of the agreement ends: to pull this off, the borrower will likely require unexpected professional success, an inheritance, a winning lottery ticket, or the foresight to liquidate his momentarily valuable stock-options at an opportune time. If this good fortune befalls him, however, he might discover that he must pay a substantial fee if he wishes to pay off the entire loan prematurely.

If a borrower wishes to defray his loan in advance, he must ensure that the loan agreement does not include a pre-payment penalty, which is a special fee that some lenders charge when a borrower becomes prosperous enough to pay off his loan before its term expires. In such an arrangement, it might be said that the borrower is charged extra if he pays late, or extra if he pays early!

Wells Fargo and most institutional lenders do not charge pre-payment penalties, but pre-payment fees are perfectly legal so long as they are properly disclosed in the loan agreement and do not violate California’s usury laws, which recite alternative formulas to specify how much interest a lender can lawfully charge on its loans.

California’s usury laws have many exceptions and special rules for certain kinds of loans and categories of lenders. One type of loan that receives special, indulgent treatment is a loan that is made or arranged by a licensed real estate broker and secured by real property. Various banks and financial institutions also receive very lenient treatment under these laws.

No serious lender will ever violate California’s usury laws: when a lender charges a usurious rate, it forfeits its right to collect any interest on its loan, must treat the borrower’s past payments of interest as payments of principal, and might become civilly liable to the borrower for treble damages on all usurious interest that the borrower paid during the preceding year.

Events of Default 

Every secured loan agreement takes care to establish and define events of default. Each event of default is an act or omission that constitutes a material default under the loan agreement. Most concern the borrower’s obligations to the lender. A borrower is said to default under the loan agreement upon the occurrence of any the borrower’s events of default. When this happens, the lender becomes authorized to foreclose the loan agreement and force the sale of the loan collateral (i.e., the real property that the borrower pledged as collateral for the lender’s loan by delivering the trust deed to the lender).

A borrower’s events of default typically include one or more of the following matters:

1. The borrower’s failure to make payments to the lender in accordance with the loan agreement’s schedule of payments. Typically, a single missed payment constitutes an event of default. It is by far the most common kind of default.
2. The borrower’s failure to insure, repair, or maintain the loan collateral (the real property pledged by the trust deed) in the manner required by the loan agreement.
3. The borrower’s conveyance of the loan collateral to another without the lender’s prior written approval.
4. The buyer’s use of the loan collateral in a manner or for a purpose forbidden by the loan agreement.
5. The borrower’s use of the loan proceeds for a purpose not authorized by the loan agreement.
6. The borrower’s insolvency or filing of a bankruptcy petition for liquidation or reorganization in a federal bankruptcy case; or a creditor’s filing of a bankruptcy petition to have the borrower named an involuntary debtor in a federal bankruptcy case, but only if the borrower fails to have the petition denied within a stated period.
7. A change of ownership or managerial control of the borrower without the lender’s prior, written consent.
8. The borrower’s breach of some other material covenant set forth in the loan agreement. Such covenants vary greatly from one agreement to the next and depend on the kind of loan made, its intended use, the borrower’s business, the borrower’s credit history, and like matters.

The Lender’s Power of Sale and Foreclosure Sales

If a borrower defaults under a loan agreement secured by a trust deed, the lender can exercise the power of sale expressly granted to it under the trust deed. By this power the lender is authorized, upon the borrower’s default, to force a foreclosure sale of the loan collateral (i.e., the real property that the borrower pledged as collateral for its loan by delivering the trust deed to the lender).

The proceeds from this sale must be used first to pay various administrative costs and then so far as possible to pay the borrower’s entire remaining debt under the loan agreement (including all principal and interest still owed, as well as various late fees, foreclosure fees, and like charges).

If the sale proceeds do not suffice to pay the full amount owed to the lender, the borrower might become personally liable for the deficiency, which is the difference between (1) the buyer’s remaining debt to the lender; and (2) the sum that the lender recouped from the foreclosure sale. Whether the buyer will owe a deficiency depends on the foreclosure method used and the loan agreement that it forecloses.

Broadly speaking, a lender cannot recover any deficiency from the borrower in a non-judicial foreclosure. See Code of Civ. Proc. § 580d. Nor can a lender recover any deficiency from its borrower when it forecloses any of the following kinds of loans: a purchase-money loan; the mere refinancing of purchase-money debt that does not include additional principal; a seller’s installment contract for the sale of real property; or a seller’s carry-back note for the sale of real property. See Code of Civ. Proc. § 580b(a)–(b).

In other words, a lender can recover a deficiency judgment from its borrower only by conducting a judicial foreclosure of a loan that does not fall in any of the four forbidden categories (purchase-money debt, its mere refinancing, a seller’s installment contract for realty, or a seller’s carry-back note for realty).

A Purchase-Money Loan, Defined

Above all, Wells Fargo made the loan to you only on condition that it be secured by your new home, which in turn is a single-family home where you intend to reside permanently. That means that Wells-Fargo’s loan to you qualifies as a purchase-money loan under California law—i.e., a loan used to fund the borrower’s purchase of a dwelling and secured by this same dwelling; provided that dwelling has only four or fewer units, one of which the borrower intends to use as his primary personal residence for the foreseeable future. See Code Civ. Proc. § 580b(a)(3); see also DMC, Inc. v. Downey Sav. & Loan Assn. (2002) 99 Cal.App.4th 190, 194 (“A purchase-money lien is a deed of trust given to a lender to secure repayment of a loan used to pay all or part of the purchase price of an [owner] occupied dwelling for not more than four families. The facts and circumstances that exist at the time the debt is created determine the character of the obligation as a purchase-money mortgage.”). 

In California, a purchase-money loan is treated as a non-recourse loan. If a borrower defaults on a purchase-money loan, the lender’s sole recourse as a matter of law is to force a sale of the property by foreclosure proceedings. See Code Civ. Proc. § 580b(a)(3). When the underlying loan is a purchase-money loan, the lender cannot obtain a “deficiency judgment” from the borrower—i.e., it cannot obtain a personal judgment against the borrower for the difference between the amount owed under the loan and the amount recouped by the forced sale of the borrower’s property. This restriction is set forth at Code of Civil Procedure § 580b(a)(3).

Since January 1, 2013, any refinancing of a purchase-money loan is afforded the same protections, save to the extent that the new refinancing includes a loan of new principal that is not used to pay off the original purchase-money loan. Any ensuing refinancing loan is treated the same way. See Code Civ. Proc. § 580b(b).[8]This provision, enacted in 2013, has had enormous significance: it allows borrowers to obtain new loans secured by their residences without fear of losing the purchase-money protections that they … Continue reading

As noted above, California’s anti-deficiency protections apply not only to purchase-money loans and the refinancing of purchase-money loans, but also to seller-financed sales of real estate (installment contracts and carry-back notes). See Code Civ. Proc. § 580b(a)–(b).

An Obnoxious, All-Too-Commonplace Example

Recall our borrower in the above example. He purchased a hideously expensive, otherwise unremarkable property for $1.8 million, which he paid by using life savings and relatives’ ill-natured loans to post a down-payment of $360,000, and also by taking a loan of $1.44 million for a term of thirty years at a fixed-rate of interest of 6% per year.

Not long afterwards, he fell deeply in love and got married. But before tying the knot, he and his future wife expressly agreed that he would hold his title to the property as his separate property, and that it would not become part of their community estate. Our borrower, being affable and good-natured, did not do so to deprive his future wife of generous treatment, but only to afford the author of this article a more convenient example for teaching the basic principles of foreclosure law in California. (But many who have gotten married have kept their properties separate for perfectly noble and sensible motives.)

A few years later, our good-natured, unsuspecting borrower introduces his boss to his wife. Shortly afterwards, they begin a torrid affair. One day, when the borrower returns to his modest home, he is not greeted at the door with his wife’s usual barrage of derision and complaints. Instead, he discovers that she is gone, and so too are their belongings and furniture. He then reads the letter that she has left behind, in which she announces that she and his boss have decided to live openly as a couple, and that he shouldn’t bother showing up for work, since he will just be an eyesore and embarrassment there and will be ejected from the premises.

Naturally, our borrower decides to take a long road trip to the Hudson Bay, taking with him a crate of whiskey and his dog, Scooter. He intends to spend a little time with Scooter in the northern hinterlands, where he hopes to “sort things out” before returning to start life anew.

But, of course, there is the little matter of the “note” – as in, the promissory note appended to the loan agreement and secured by the lender’s trust deed, which in turn entitles the lender to have the property sold in foreclosure to satisfy the borrower’s debt under the note if he stops making its required payments. That is not all. If the lender forecloses the loan agreement, there will be a black mark against the borrower’s credit, which will await his return from the northern wilds of Canada’s Hudson Bay.

The borrower should therefore try to avert a foreclosure despite having lost his job and had his poor heart broken at the same time. His only hope, he soon learns, is to consider various alternatives to foreclosure before leaving for the Great North. We will help him to do so in the next section of this article.

Foreclosure Alternatives: Forbearances, Modifications, Short Sales, and Deed Surrenders

There are various alternatives to foreclosure that a distressed borrower might wish to consider before defaulting on his loan and losing his property by a foreclosure sale.

Loan Forbearances

One option available to a distressed borrower is called a “loan forbearance.” By it, the lender agrees that the borrower need not repay his loan for a stated duration, say, six months or one year. During this time, the interest payments that he fails to make are added to his principal debt and thus increase the overall amount of the loan. This relief is therefore costly, but it might make sense for a borrower who has experienced a temporary setback and has a well-founded, reasonable expectation of repaying the new amount of the loan on time and in full.

Loan Modifications

A distressed borrower can request a modification of his loan agreement, so that its term is extended, or its interest rate is lowered, or some other term or condition of the loan is modified, so that it becomes more affordable. Loan modifications are the most common type of foreclosure alternative.

A borrower’s request for a loan modification must be approved by the lender or its assignee. That can pose complications when the original lender no longer holds the loan, but instead sold it to, say, a group of investors, who in turn bundled the loan with many others and sold income streams generated by this large bundle of loans. But loan servicers have worked out efficient methods for requesting and obtaining approval from these kinds of investors.

Generally speaking, lenders approve of proposed loan modifications only when they are likely to provide overall higher returns than would a foreclosure proceeding against the distressed borrower’s property. That outcome will typically arise only if the borrower has a reliable source of income and sufficiently low debts so that he can likely honor the modified agreement.

California’s public policy therefore encourages lenders to consider and grant loan modifications for borrowers who are likely to perform the modified agreements successfully. To this end, why California’s HOBR forbids a lender to initiate, schedule, or conduct non-judicial foreclosure proceedings against its borrower’s property while it considers the borrower’s first-time application for a modification of a “first lien” loan, or while the borrower remains eligible to request reconsideration of such an application after it has been initially denied. During these intervals, a lender (or its servicer or trustee) is forbidden to serve and record a notice of default (which initiates a non-judicial foreclosure), or serve and record a notice of trustee sale (which sets the date for a non-judicial foreclosure sale), or conduct a non-judicial foreclosure sale. See Civ. Code § 2923.6(c) (stating these points at length and in detail); see also Willis v. JPMorgan Chase Bank, N.A. (E.D. Cal. 2017) 250 F.Supp.3d 628, 631 (“[Civil Code] Section 2923.6 prohibits ‘dual tracking,’ in which a lender proceeds with the foreclosure process while reviewing a loan modification application.”).

Short Sales

In some instances, a borrower might elicit his lender’s agreement to let him sell the property at a stated price to an arm’s-length purchaser, even though the stated price will not suffice to repay the loan in full. In this event, the borrower will request that the lender forgive the difference, which is called a “deficiency.” The lender, however, will respond by demanding that the borrower agree to pay the entire deficiency over time and with interest. Haggling might ensue, and the borrower and the lender might reach a compromise agreement.

If so, the borrower’s ensuing sale of the property to an arm’s-length purchaser is called a short sale, which in its simplest form proceeds as follows. Using an escrow account, the borrower sells his property to the purchaser in exchange for a stated purchase price. After the costs of sale are deducted from this price, the net sale proceeds are paid to the lender. Typically, this price fails to pay the borrower’s entire debt under the loan agreement: to address this deficiency, either the borrower pays part of it to the lender, or the lender forgives the entire deficiency.

By such a short sale, the borrower walks away from liability for the full deficiency and averts a non-judicial foreclosure; the seller procures a speedy payment of a substantial part of its loan without bearing the costs and burdens of a foreclosure (and perhaps receives a supplemental payment from the borrower); and the purchaser acquires title to the property free and clear of the borrower’s grant deed and the lender’s trust deed.

Short sales can become much more complicated when there are senior or junior lienors. Also, a short sale might constitute a taxable event for the borrower, who has received the benefit of a forgiven debt (the part of the lender’s loan that the lender forgives). A borrower who contemplates a short sale should confer with his accountant about its tax consequences.

Lastly, owing to California’s anti-deficiency statutes, a purchase-money borrower usually has no incentive to pay any money or make any substantial concession to his lender in exchange for its approval of a short-sale: even if the lender were to foreclose the borrower’s purchase-money loan and seize the property that secures it (the borrower’s dwelling), and even if this foreclosure would result in a very large deficiency, a lender could not obtain a judgment for any part of it: no deficiency judgment can be entered to recompense a lender (or its assignee) for the difference between the amount of its purchase-money loan and the amount that the lender recoups by a foreclosure sale of the property that secures its purchase-money loan. See Code Civ. Proc. § 580b(3). This point is explained at length below.

Surrendering the Deed in Lieu of Foreclosure

Another alternative is that the borrower can agree to convey his title to the property (his grant deed) rather than oblige the lender to conduct foreclosure proceedings. This is called a surrender of the deed in lieu of foreclosure. Typically, the borrower will wish to negotiate some advantage in exchange for this concession, such as a negotiated move-out date that might not be available from the eventual purchaser of the property at a foreclosure sale, who can use a simple action for unlawful detainer to gain possession of the property from its foreclosed borrower.

Under Civil Code §§ 2923.5 and 2923.55, a lender and its servicer must explain these matters to a distressed borrower against whom they contemplate conducting a non-judicial foreclosure. These are called foreclosure alternatives. Each carries peculiar benefits and drawbacks. All of them will cause serious harm to the borrower’s credit rating, but usually not as much harm as will a foreclosure.

In our above example, none of these options appear tenable or bearable for our unhappy borrower. Having lost his job, and unable to afford his monstrous debt of $1.3 million to Wells Fargo, and lacking the composure or patience to consider tenable options, he knows only that he will inevitably default on the note, since he is headed north to frolic with his dog while drinking whiskey from a crate. But he does not wish to suffer the credit stigma or pay the many fees and extra costs of the inevitable foreclosure. He therefore tells his lender that it needn’t bother with the formalities and technical requirements of a foreclosure, and that he prefers instead simply to turn over his title to the property rather than lose it by a foreclosure proceeding. Some lenders sometimes accept the surrender, while others typically refuse, or impose unreasonable conditions on their willingness to do so, but the matter can often be negotiated.

As with all other debts, the one thing our unfortunate borrower must not do is simply ignore the debt, hoping that it will miraculously disappear. Unlike his ex-wife, his debts will not disappear, but rather will increase and involve him in further and further complications unless he attends to them.

Comparison of Different Foreclosure Alternatives

Sometimes, property values lose substantial value over time. This can happen in a particular region that suffers from local problems that afflict the local housing market. As we have recently seen, it can also happen across the entire country at the same time: The national drop in prices that occurred across all markets from 2007 to 2011 showed that property values across the country had been over-valued and did not properly reflect the fundamentals of the properties in question (i.e., the ratios between property prices and rental values were excessively high, as were the ratios between property prices in given locations and the average incomes of the people in these locations.).

If there has been a local or national collapse of property values, as has recently occurred, many borrowers might find themselves burdened with loans that exceed the dwindling value of their properties.

Some might decide that the struggle is not worth the effort. They will wish to renounce ownership and the accompanying burden of paying the loan. Others might not have a meaningful choice, if they have taken a variable-rate loan that has become unaffordable or if they have suffered a loss of income (many borrowers have lost income, have seen their interest rate “re-set” at an unaffordable price, and have seen the value of their properties fall well below the amount owed on their unaffordable loan).

These circumstances are discouraging and have imposed anxiety and suffering on countless households during the past few years. The hapless anti-hero of my foreclosure story is not the only one to face the loss of his home under the foreclosure laws.

Here are a few comments in passing about different options that a distressed borrower might wish to consider when keeping current on the loan is no longer possible or not worth the effort.

A purchase-money borrower in particular should have no qualms about considering these different options. The bargain between a lender and a purchase-money borrower in California is that, if the borrower defaults, the lender’s sole recourse will be to foreclose on the property. The lender understood this point when agreeing to make the loan. It is an essential condition of the transaction, imposed by the laws of California.

The first option to consider is obtaining a loan modification or a refinancing of the loan on more favorable terms. A modification alters the terms of the existing loan. A refinancing loan is an entirely new loan on different terms. A borrower should not lightly re-finance a purchase-money loan, since the new loan will not be a purchase-money loan to the extent that its amount exceeds the amount of the original purchase-money loan, and to this extent the borrower will become exposed to personal liability for any “deficiency” owed under the refinanced loan.

Another option, mentioned in passing above, is to surrender the deed in lieu of foreclosure (i.e., turn over title to the lender, sparing the necessity of foreclosure proceedings). This requires a negotiation with the lender, or perhaps simultaneous negotiations with more than one lender. The success and terms of the endeavor critically depend on whether the loan or loans are purchase-money loans. Lenders often try to require the borrower to sign a promissory note in exchange for agreeing to accept the surrender. A purchase-money borrower has little incentive to give such a note. The details of these negotiations can be tricky.

Another option is to “walk away,” or simply allow the foreclosure process to run its course. (“Walk away” is a curious term for this approach, since the distressed borrower typically chooses to “walk away” from the obligation by staying put at the property while paying nothing until being forced to leave).

Still another option is to attempt to negotiate a short-sale. A short-sale is the sale of the property for less than is owed on the loan, done with the lender’s approval, so that the lender removes its lien against the property upon the sale and releases the borrower from further liability. Section 580e of the California Code of Civil Procedure, which is a new provision, clarifies that after a short-sale no deficiency will lie against the borrower so long as the entire sale proceeds are delivered to the lender or its assignee. Short-sales require the lender to agree in advance to the arrangement. If the borrower has more than one lender or other encumbrancers, he usually must negotiate an arrangement that satisfies all of his lenders and encumbrancers.

When considering these different alternatives, there is another key consideration: Does the borrower wish to qualify for another home loan in the foreseeable future? These days most borrowers cannot obtain a home loan unless the loan is underwritten by Freddie Mac or Fannie Mae, which are two government-sponsored entities that re-purchase and guarantee most of the home loans made in today’s mortgage markets. These two entities take a very dim view of borrowers who simply allow a foreclosure to happen. Their policies on the matter are as follows: If a borrower allows a foreclosure to occur, he will not be eligible for a loan underwritten by Freddie Mac or Fannie Mae for the next five years. If however there are extenuating circumstances (e.g., catastrophic illness), Freddie Mac or Fannie Mae may agree to underwrite a new home loan three years after the foreclosure. For deeds in lieu of foreclosure, the time periods are somewhat shorter: Four years for an ordinary surrender, and two years when there are extenuating circumstances. For short sales, however, the time period is always two years. (These time periods are subject to change, so you should check the latest credit guidelines posted by Freddie Mac or Fannie Mae.)

This in turn means the following. For all practical purposes, a distressed borrower who “walks away” cannot qualify for a new home loan for at least three years and possibly not for five years, and if he surrenders his deed he cannot qualify for at least two years and possibly for as long as four years. But if he negotiates a short sale, he can qualify two years after the unhappy event. (Obviously, whether a borrower can qualify for a new home loan will also depend upon his overall credit situation when he applies for a new loan.)

Before deciding which alternative to pursue, it is always necessary to consider the possibility of a deficiency judgment. “Walking away,” or allowing a foreclosure to occur, might be a poor option if the loan is not a purchase-money loan. Where the loan is not a purchase-money loan, the lender can seek a deficiency judgment against the borrower for the difference between the foreclosure proceeds and the final arrears owed under the loan. To obtain such a judgment, the lender must prosecute a judicial foreclosure.

To avoid a deficiency judgment, the borrower of a full-recourse loan must either (1) await confirmation that the lender will choose to conduct a trustee sale and thereby waive its right to a deficiency; or (2) try to negotiate a loan modification, a loan refinancing, a surrender of the deed, or a short sale.

Short-sales, however, have their own disadvantages. The seller of a property owes certain obligations to the buyer. These obligations are imposed by the disclosure statutes, other statutes, and the contract of sale. In contrast, a defaulted borrower does not owe these obligations to his foreclosing lender.

A borrower who contemplates negotiating a short-sale should work with an experienced real estate broker or real estate attorney to make certain that the matter is properly conducted.

Tax Consequences of Forgiven Debt

A borrower might find himself relieved of part of his debt obligation to a lender because of a modification, re-financing, short-sale, deed surrender or foreclosure (public or private). This borrower might owe certain tax liabilities that are imposed against the forgiven debt, since the forgiven debt can be treated as taxable income. Any such borrower should confer with his accountant or attorney about the tax consequences arising from the forgiveness of his debt.

Each of these different options deserves a separate article of its own, as does the topic of the mass-scale securitization of home loans. I have merely referred to certain important points in passing.

Our Hypothetical Buyer Defaults, Then Runs Out of Options

In our hypothetical example, our borrower has lost his job and not made a payment to his lender in over three months. Before then, however, he timely paid the loan for five years. During this time, he paid $518,011.65 in principal and interest, thereby reduced the loan’s principal balance from $1.44 million to $1,339,982.74, and thus acquired additional equity in the property.

But now he is out of work, dejected, and listless. It hasn’t helped matters that his lender properly rejected his applications for a loan forbearance or loan modification while meticulously fulfilling its obligations under California’s HOBR. The lender also advised him that he could surrender his grant deed and forgo a foreclosure, but only if he also gave an unsecured promissory note of $17,000 in exchange for this privilege. The borrower, after conferring with an attorney, rightly rejected this last option: he will lose his home by a deed surrender or a foreclosure, but if the lender forecloses he stands to lose only his property, but not owe any damages. That is because his loan is indisputably a purchase-money debt, for which the lender cannot obtain a deficiency judgment.

Things thus look grim in Mudville: our borrower has run out of foreclosure alternatives. Nor is he in any humor to run around to try to line up a “hard money” loan, which even if feasible, would likely serve only to forestall his default while saddling him with further debt at a high rate of interest. Disillusioned by his former wife’s treachery and his former boss’s gleeful cruelty, he lacks the patience or composure right now to attempt any such effort. He has only one remaining ambition in life—to travel with Scooter to the Great North, where he hopes to gain a fresh perspective on things.

Our borrower is thus resigned to enduring the lender’s foreclosure proceedings, and it shall be my role to explain below what they are and how they work.

Foreclosure Proceedings and the One-Action Rule

When a borrower defaults under a loan agreement secured by real property in California, his lender can initiate foreclosure proceedings to force a sale of the borrower’s property and thereby recoup part or all of his remaining debt under the loan agreement. Under California’s one-action rule, foreclosure is the only authorized procedure by which a lender can reach a real property that its borrower has pledged as collateral for its loan. See Code. Civ. Proc. § 726(a).

Before initiating a foreclosure, a lender must decide whether to pursue a non-judicial foreclosure (also called a trustee sale) or a judicial foreclosure, which are the two permitted forms of foreclosure authorized in California. In a landmark decision, the California Supreme Court explained the differences between them.

California has an elaborate and interrelated set of foreclosure and antideficiency statutes relating to the enforcement of obligations secured by interests in real property. Most of these statutes were enacted as the result of the Great Depression and the corresponding legislative abhorrence of the all too common foreclosures and forfeitures which occurred during that era for reasons beyond the control of the debtors.

Pursuant to this statutory scheme, there is only one form of action for the recovery of any debt or the enforcement of any right secured by a mortgage or deed of trust. That action is foreclosure, which may be either judicial or nonjudicial. In a judicial foreclosure, if the property is sold for less than the amount of the outstanding indebtedness, the creditor may seek a deficiency judgment, or the difference between the amount of the indebtedness and the fair market value of the property, as determined by a court, at the time of the sale. However, the debtor has a statutory right of redemption, or an opportunity to regain ownership of the property by paying the foreclosure sale price, for a period of time after foreclosure.

In a nonjudicial foreclosure, also known as a “trustee’s sale,” the trustee exercises the power of sale given by the deed of trust. Nonjudicial foreclosure is less expensive and more quickly concluded than judicial foreclosure, since there is no oversight by a court, neither appraisal nor judicial determination of fair value is required, and the debtor has no postsale right of redemption. However, the creditor may not seek a deficiency judgment. Thus, the antideficiency statutes in part serve to prevent creditors in private sales from buying in at deflated prices and realizing double recoveries by holding debtors for large deficiencies.

All. Mortg. Co. v. Rothwell (1995) 10 Cal.4th 1226, 1236 (internal citations and quotations omitted).

Below, I offer what I hope is a full and complete explanation of these matters.

Non-Judicial Foreclosures

The foreclosure process can take place in one of two ways. Either the lender will invoke its power of sale under its trust deed and instruct its trustee to initiate a non-judicial foreclosure; or it can bring a lawsuit for a judicial foreclosure.

The first of these options, a non-judicial foreclosure, proceeds as follows.[9]See generally Kachlon v. Markowitz (2008) 168 Cal. App. 4th 316, 334–35 (“Under a deed of trust containing a power of sale… the borrower, or ‘trustor,’ conveys nominal … Continue reading

• California’s HBOR. In response to the Great Recession of 2008-2010, the California Legislature modified California’s statutory scheme for non-judicial foreclosures by enacting in 2013 a series of highly technical, poorly worded laws called the Homeowners’ Bill of Rights (the “HBOR”). The HBOR limits when and how a lender or its servicer can conduct a non-judicial foreclosure of a loan secured by a first lien on the borrower’s primary dwelling (so long as it has only four or fewer separate units). 
  
• Notice of Default. If the lender and its servicer comply with the HBOR, but the borrower fails either to cure his arrears under the loan agreement or apply for and obtain a foreclosure alternative, the lender can instruct the trustee under the trust deed to initiate a non-judicial foreclosure by recording and serving a notice of the borrower’s default in a form entitled “Notice of Default.” This all-important notice must be prepared, served, and recorded in strict compliance with the elaborate, technical provisions of Civil Code §§ 2924, 2924.17, and 2924b.
• Notice of Sale. Unless the borrower has reinstated or redeemed the loan, or made some alternative arrangement that the lender accepts, the lender can instruct the foreclosure trustee to serve and record a Notice of Trustee’s Sale eighty-five days after the notice of default was recorded, but the sale itself can take place no sooner than three months and twenty days after the date when the notice of default was recorded, and the notice of sale must be recorded, served, published and posted in the required manner at least twenty days before the sale announced in the notice. This notice must strictly comply with the requirements of in accordance with Civil Code §§, 2924, 2924b, and 2924f.
• The Borrower’s Statutory Right of Reinstatement. The borrower can terminate foreclosure proceedings and reinstate the loan agreement by curing the arrears stated in the notice of default no later than five days before the foreclosure sale. By so doing, the borrower is said to reinstate the loan agreement, and the lender, its servicer, and/or the trustee must file a notice of rescission of the notice of default. See Civ. Code § 2924c.
• The Borrower’s Statutory Right of Redemption. The borrower can avert foreclosure by timely exercising his statutory right of redemption—i.e., paying off the entire debt owed under the loan agreement before there is a foreclosure sale. See Civ. Code § 2903.
• The Trustee Sale. The trustee or its authorized representative must conduct the sale in the county where the property is located and in the manner prescribed by Civil Code §§ 2924g–2924h. These statutes set forth very specific, elaborate procedures that must be strictly observed.
• Post-Sale Bidding Rights: Eligible Tenant Buyers and Other Eligible Bidders. After the noticed foreclosure sale is conducted, “eligible tenant buyers” or other kinds of “eligible bidders” are entitled to make post-sale bids on the property. The sale must be awarded to “eligible tenant buyers” who timely submit a matching bid or any other kind of “eligible bidder” who timely makes the highest overbid. If no such bids are made, the sale will be awarded to the highest bidder at the foreclosure sale. These matters are set forth in Cal. Civ. Code § 2924m, which was enacted in 2025, and which establishes a right of first refusal for “eligible tenant buyers” and overbid rights for other kinds of “eligible bidders.”
• The Trustee’s Deed. Once the sale is complete, the trustee will convey a trustee’s deed to the successful bidder. This deed will convey to the successful bidder legal title to the foreclosed property, free and clear of the foreclosed borrower’s grant deed, the deed of trust or other encumbrance under which the foreclosure was conducted, and all junior encumbrances that until then encumbered the foreclosed borrower’s title to the property. The trustee’s deed will remain encumbered by any senior encumbrance of the buyer’s title (i.e., any encumbrance recorded before the trust deed was recorded). See Dover Mobile Estates v. Fiber Form Products, Inc. (1990) 220 Cal.App.3d 1494, 1498 (“Title conveyed by a trustee’s deed relates back to the date when the deed of trust was executed. The trustee’s deed therefore passes the title held by the trustor at the time of execution. Liens which attach after execution of the foreclosed trust deed are extinguished. The purchaser at the trustee sale therefore takes title free of those junior or subordinate liens.”).

Below is a further, more detailed explanation of these matters.

Pre-Foreclosure Compliance: the California Homeowner’s Bill of Rights

In 2013, the California Legislature enacted a law entitled the California Homeowner’s Bill of Rights (the “HOBR”). In 2019, it modified this law. The HOBR is codified in various parts of the California Civil Code, most notably at §§ 2923.4, 2923.5, 2923.6, 2923.7, 2924, 2924.9, 2924.10, 2924.11, 2924.12, 2924,15, 2924.18, and 2924.19.

Although well-intentioned, the HOBR seems excessively complicated and imposes onerous regulatory burdens on lenders and their servicers. That circumstance likely has not helped to lower the price of real estate in California. Nor is this law “a model of brevity and clarity” (to state the matter euphemistically). But its aims are certainly worthy.

Here is a nutshell summary of the HBOR’s requirements.

The HBOR applies only to loans secured by a first lien on the borrower’s primary dwelling, so long as the dwelling has no more than four separate residential units. Broadly speaking, the lender or servicer of such a loan cannot initiate a non-judicial foreclosure until after it has informed its borrower of possible “foreclosure alternatives” for which he might wish to apply; and, if the borrower cannot be reached, the lender or its servicer must make required written disclosures and required efforts to contact the borrower. The specific requirements are prescribed in a series of highly technical statutes. See Civ. Code, §§ 2923.5 (imposes restrictions on small lenders and servicers that fall within the purview of Civ. Code, §§ 2924.18(b)), 2923.55 (imposes restrictions on large lenders and servicers); 2924.15, 2924.18; see also Morris v. JPMorgan Chase Bank, N.A. (2022) 78 Cal.App.5th 279, 297 (“There are some notable limitations built into the HBOR’s foreclosure prevention scheme. From the standpoint of substantive rights and obligations, the HBOR does not confer upon borrowers any right to receive a loan modification or other loss mitigation option.”).

Of note, smaller lenders that fall within the purview of Civil Code § 2924.18(b) need only comply with the lesser requirements of Civil Code, §§ 2923.5 and 2924.18(a)(1).

If, in response to the above disclosures, a distressed borrower wishes to pursue a “foreclosure alternative,” the lender or its servicer must establish a single point of contact and desist from dual tracking—which means that the lender or its servicer cannot initiate or conduct a non-judicial foreclosure sale while it evaluates the borrower’s request. See Civ. Code, §§ 2923.5, 2924.18(a) (for eligible small lenders and servicers); See Civ. Code, §§ 2923.55, 2923.6, 2923.7 (for large lenders and servicers).

If, at least five business days before a scheduled foreclosure sale, the borrower of a such a loan applies for a loan modification for the first time, or after a material change in his financial circumstances, the lender or its servicer must review the application in good faith and either grant it or state its reasons for denying it and afford the borrower a right to seek its reconsideration of the denial. The specific requirements are likewise prescribed in a series of highly technical statutes. See Civ. Code, §§ 2923.6–2923.7 (for large lenders and servicers); Civ. Code, § 2924.18(a) (for eligible small lenders and servicers). The lender or its servicer can initiate or resume a non-judicial foreclosure only after it has observed these procedures and denied the borrower’s application in accordance with them.

If a lender or its servicer commits a “material” violation of the HBOR, the borrower can sue to enjoin its non-judicial foreclosure and oblige compliance with the HBOR, but only if the trustee’s deed has not yet been recorded. Afterwards, the borrower can sue to recover economic losses demonstrably caused by the lender or servicer’s material violation of the HBOR.  See Civ. Code, §§ 2924.12 (affords remedies against large lenders and servicers), 2924.19 (affords remedies against eligible small lenders and servicers).

The requirements of the HBOR thus vary according to whether the lender or its servicer fall within the purview of Civil Code, §§ 2924.18(b). Regardless, these requirements are unusually complicated, precise, and highly technical. See generally Morris v. JPMorgan Chase Bank, N.A. (2022) 78 Cal.App.5th 279, 295–97. Here is how the Court in Morris summarized these statutory obligations:

At the heart of the [Homeowners’ Bill of Rights] are mandated procedures designed to promote good faith negotiation of some form of foreclosure alternative (§ 2923.4.), typically modification of the borrower’s loan terms. Two provisions are most pertinent here.

First, ‘[w]hen a borrower requests a foreclosure prevention alternative, the mortgage servicer shall promptly establish a single point of contact’ (§ 2923.7, subd. (a)), a channel of communication referenced here in shorthand as a SPOC. The SPOC must remain assigned to the borrower’s account until her application for a foreclosure prevention alternative is resolved or her loan is brought current (§ 2923.7, subd. (c)), and is responsible for ensuring that the borrower is considered for foreclosure alternatives offered by the servicer (§ 2923.7, subd. (b)(4)), informing the borrower of the process for applying for a modification and of relevant deadlines (§ 2923.7, subd. (b)(1)), and coordinating receipt of all of the borrower’s application documents and of any missing elements of it (§ 2923.7, subd. (b)(2)). The SPOC must have access to current information and personnel necessary to inform the borrower of the status of her application (§ 2923.7, subd. (b)(3)), and those personnel must include individuals empowered to stop the foreclosure process (§ 2923.7, subd. (b)(5)). Failure to comply with the SPOC requirement is among the nine listed HBOR violations for which statutory remedies are available under sections 2924.12 and 2924.19.

Second, the HBOR prohibits what is sometimes known as ‘dual tracking,’ a practice that, described broadly, occurs when a lender or servicer pursues foreclosure while simultaneously going through the motions of reviewing a borrower’s application for foreclosure mitigation, without a good faith intent to entertain the application. While the SPOC requirement applies just to the ‘mortgage servicer’ (§ 2923.7), the ‘dual tracking’ prohibition applies to any ‘mortgage servicer, mortgagee, trustee, beneficiary, or authorized agent’ (§ 2923.6, subd. (c)). In essence, it forbids the initiation and pursuit of a trustee’s sale until a completed and still pending application of loan modification is fully resolved. (§ 2923.6, subds. (c)–(h).) Where loan modification is denied, the bar on dual tracking prohibits the recording of a notice of default, the recording of a notice of sale, or the conduct of a sale, until the lender or servicer sends the borrower a written denial letter, giving reasons for the denial and advising the borrower she has 30 days to appeal. (§ 2923.6, subds. (c), (d), (f).) Along with failure to comply with the SPOC requirement, prohibited ‘dual tracking’ is among the HBOR violations for which statutory remedies are available under sections 2924.12 and 2924.19.

There are some notable limitations built into the HBOR’s foreclosure prevention scheme. From the standpoint of substantive rights and obligations, the HBOR does not confer upon borrowers any right to receive a loan modification or other loss mitigation option. (§ 2923.4.) And servicers have no obligation to review a successive loan modification application from a borrower who has already ‘been evaluated or afforded a fair opportunity to be evaluated consistent with the requirements of this section, unless there has been a material change in the borrower’s financial circumstances since the date of the borrower’s previous application and that change is documented by the borrower and submitted to the mortgage servicer.’ (§ 2923.6, subd. (g).)

From the standpoint of remedies, consistent with a settled precept of nonjudicial foreclosure law prior to the HBOR’s enactment, the HBOR’s remedial scheme states that no violation of its provisions shall ‘affect the validity of a sale in favor of a bona fide purchaser.’ (§§ 2924.12, subd. (e), 2924.19, subd. (e).) It also limits liability—for injunctive relief prior to foreclosure, and for damages following foreclosure—to ‘material violation’ of listed provisions. (§§ 2924.12, subds. (a) & (b), 2924.19, subds. (a) & (b).) And it further limits post-foreclosure liability to claims for ‘actual economic damages pursuant to section 3281’ resulting from violations that were ‘not corrected and remedied prior to the recordation of the trustee’s deed upon sale.’ (§§ 2924.12, subd. (b), 2924.19, subd. (b).”)

Morris v. JPMorgan Chase Bank, N.A. (2022) 78 Cal.App.5th 279, 295–97.

In California, then, making and refinancing purchase-money loans is a costly, risky business, which can easily involve the lender and its servicer in litigation. In direct consequence, such lending is usually made and serviced only by sophisticated lenders and servicers that can deploy trained personnel and elaborate operating systems to ensure their routine compliance with the highly technical provisions of the HBOR. One direct, inevitable consequence is that California has fewer residential units, and their prices are higher.[10]Certain smaller lenders are relieved of certain obligations under the HBOR, but all lenders that make or refinance purchase-money loans in California must ensure their compliance with, or exemption … Continue reading

The Notice of Default

After a lender or its servicer has complied with the above requirements, it will typically compile a packet and transmit it to the trustee named in the trust deed (or subsequently nominated by the lender), so that the trustee can initiate and conduct a non-judicial foreclosure. The packet (or electronic folder) should include copies of the following documents: (1) the loan agreement and its accompanying promissory note; (2) the trust deed that secures the borrower’s obligations under the loan agreement and note (the trustee should already hold the original); (3) the assignment, if any, by which the lender or its servicer came to hold the foregoing instruments; (5) a brief explanation or calculation of the borrower’s arrears under the loan agreement and note, including recurring costs and other allowed charges; (6) a declaration of compliance with, or exemptions from, the pre-foreclosure requirements of the HBOR and related laws; and (7) instructions to initiate a non-judicial foreclosure to recover the borrower’s arrears, specified recurring costs, and other specified charges.

Assuming the above papers are in order, the trustee will initiate a non-judicial foreclosure sale by serving and recording a notice of default, which must be done in strict compliance with the technical provisions of Civil Code §§ 2924 et seq.

The notice of default must be recorded and also sent by certified and first-class mail to the lender, its servicer, the borrower, all junior encumbrancers of record, various tax authorities, and all persons who have recorded a request for special notice. It must include all manner of disclosures, identify the specific grounds of the borrower’s default, and set forth the sum that the borrower must pay to exercise his statutory right of reinstatement. See Civ. Code §§ 2924, 2924b, 2924c.

The Notice of Trustee Sale

If, after eighty-five days, the defaulted borrower has not paid the reinstatement demand, cured any other material default listed in the notice of default, or redeemed the subject property by paying off the loan in full, the trustee can record, serve, post, and publish in the required manner a notice of trustee’s sale, giving notice of its sale of the property that secured the loan agreement. That sale must take place no sooner than three months and twenty days after the trustee recorded the notice of default. The notice of trustee’s sale must disclose various matters in accordance with Civil Code §§ 2924, 2924b, and 2924f, including the date, time, and location of the trustee’s sale of the borrower’s property. See Civ. Code §§ 2924, 2924b, and 2924f.

Of note, if a federal tax lien was recorded after the trust deed was recorded, the date of the sale must be set at least twenty-five days after the notice is served, or else the federal tax lien survives the foreclosure sale and will encumber the winning bidder’s title. See 26 U.S.C.A. § 7425(b)(1),(c)(1).

The Borrower’s Right of Reinstatement

As indicated above, the notice of default must notify the borrower of the sum that he must pay to cure his default and reinstate the loan agreement; typically, this notice will specify a sum certain and refer generally to recurring charges as well as fees and costs owed under the loan agreement. See Civ. Code § 2924c.

To avert foreclosure, the borrower can pay this sum as of right “until” five business days before the foreclosure auction of the borrower’s property (i.e., not during the five business days that precede the sale, but any time before then when a payment can be made). Civ. Code § 2924c. To ascertain its exact amount, the borrower can request, and the lender or its servicer must promptly provide, a reinstatement demand. This demand typically indicates that it will remain valid only for a stated duration, after which the borrower must obtain a new payoff demand that reflects subsequent charges. If the borrower timely pays the reinstatement demand, the lender or its servicer must instruct the trustee to record a rescission of the notice of default, whereupon the loan agreement will be reinstated by operation of law. See id.

The Borrower’s Right of Redemption (Non-Judicial Foreclosure)

The borrower can avert foreclosure by timely exercising his statutory right of redemption—i.e., paying off the entire debt owed under the loan agreement before there is a foreclosure sale. See Civ. Code § 2903. To do so, he must pay the full amount owed under the loan agreement, including special fees and charges. In exchange, the trustee must reconvey the trust deed that the borrower previously pledged to secure the loan. In a non-judicial foreclosure, the borrower can exercise this right only until the foreclosure sale occurs, but not afterwards. See Civ. Code § 2903.

The Trustee’s Sale

The lender’s trustee is charged with conducting the foreclosure sale in accordance with various statutory requirements. Among other things, the sale must be publicly advertised and held open to the public. See Civ. Code § 2924f–h. Unless an eligible tenant buyer makes the winning bid at this sale, it will not be final, but rather is subject to the right-of-first refusal afforded to eligible tenant buyers and the overbid rights afforded to other eligible bidders. See Civ. Code § 2924m.

Mandatory Valuations for Dwellings That Secure Purchase-Money Loans

The lender must furnish a competent valuation of any dwelling that will be sold to pay a borrower’s debt for a purchase-money loan. The trustee cannot accept any bid that is less than 67% of the valuation figure. See Civ. Code § 2924f(f).

Post-Sale Rights of “Eligible Tenant Buyers” and Other “Eligible Bidders”

If an “eligible tenant buyer,” or all of them acting collectively, match the highest bid made at a foreclosure auction, the trustee must accept this bid and convey a trustee’s deed to the eligible tenant bidder(s). Otherwise, the trustee must tentatively accept the last, highest bid made at the foreclosure auction, but subject to certain post-auction bidding rights given to “eligible tenant buyers” and other “eligible bidders” under California Civil Code § 2924m, which became operative in 2025. These bidding rights are as follows:

• Eligible tenant buyers, acting collectively, can purchase the trustee’s deed to the foreclosed property by matching the last, highest bid made at the foreclosure auction. To do so, the eligible tenant bidder(s) must either give notice of an intent to bid or pay a matching offer within fifteen days of the foreclosure auction; and, if only a notice is thus given, the matching bid must be made within forty-five days of the foreclosure auction. If the eligible tenant buyer(s) timely submit a matching bid, the trustee must accept it and convey a trustee’s deed to the eligible tenant bidder(s). See Civ. Code § 2924m(c).
• Other kinds of “eligible bidders” can also bid after a foreclosure auction, proceeding as follows. Any of them can submit a notice of intent to bid within fifteen days of the foreclosure auction. If any such bidder does so, it can tender a bid that exceeds the last, highest bid at the foreclosure auction within forty-five days of the foreclosure auction. See id.
• If the eligible tenant buyers do not make a matching bid, the trustee must accept the highest overbid that he timely receives from another eligible bidder and convey a trustee’s deed to this bidder. By definition, bids by eligible bidders other than eligible tenant buyers must exceed the last, highest bid made at the foreclosure auction. If two or more eligible bidders timely make such bids, the trustee must accept the highest one. If no such bid is made, the trustee must accept the last, highest bid made at the foreclosure auction and convey the trustee’s deed to this bidder. See id.
• Of note, a foreclosed borrower and closely-affiliated insiders (parents, children, trusts, companies that they own, etc.) cannot qualify as “eligible tenant buyers” or “eligible bidders.” See Civ. Code § 2924m(a).
• California Civil Code § 2924m thus re-structures how trustee’s sales proceed in non-judicial foreclosures. Briefly stated, the auction typically elicits a last, highest bid, which an eligible tenant buyer can beat by matching it at the auction or by the above post-auction proceedings, and which other kinds of eligible bidders are permitted to beat by submitting overbids during the above post-auction proceedings. The trustee must convey a trustee’s deed to the winning bidder. Only then is the foreclosure sale and conveyance of the trustee’s deed final. See In re Spikes (Bankr. E.D. Cal. 2024) 662 B.R. 704, 709–710.
• Even so, a foreclosed borrower can exercise his statutory right of reinstatement (by paying the full arrears undre the loan ageement demanded by the foreclosing lender) only “until” five days before the date of the foreclosure auction set in the initial notice of trustee’s sale. See Civ. Code, § 2924c(e) (“Reinstatement of a monetary default … may be made at any time within the period commencing with the date of recordation of the notice of default until five business days prior to the date of sale set forth in the initial recorded notice of sale…. Nothing contained herein shall give rise to a right of reinstatement during the period of five business days prior to the date of sale, whether the date of sale is noticed in a notice of sale or declared at a postponement of sale.”) (emphasis supplied).
• It is very likely that a foreclosed borrower can exercise his equitable right of redemption only until the initial foreclosure auction is conducted, since Civil Code § 2924m extends the bidding deadline only for “eligible bidders” and expressly excludes a foreclosed borrower from this category of bidders. See Civ. Code § 2924m; see also Applegate v. Carrington Foreclosure Services, LLC (2025) 112 Cal.App.5th 356, 367 (“[Civil Code] section 2924m’s alternative process, after the public auction, [concerns] only persons and entities that meet certain statutory requirements,” and expressly excludes the foreclosed borrower and certain related parties from submitting any bid.); Bird Rock Home Mortgage, LLC v. Breaking Ground, LP (2025) 114 Cal.App.5th 492, 506 (Under Civil Code, §2924m, “the date the sale is deemed final varies dependent on whether the bidder is a ‘prospective owner-occupant,’ ‘eligible tenant buyer,’ or ‘eligible bidder’ as defined in section 2924m, [but] that level of uncertainty creates no conflict or interference with [another statute that affects certain sold-out borrowers’ redemption rights]…. Rather, we should construe the statutes, as we do, in a way that allows both to operate.”).

The Trustee’s Deed

The trustee typically has a duty to convey a trustee’s deed to the winning bidder. Its deed conveys ownership of the foreclosed property that is free and clear of the following conveyances: (1) the foreclosed borrower’s title to the property; (2) the lender’s trust deed under which the foreclosure was conducted; and (3) any encumbrance of the foreclosed borrower’s title recorded after the lender’s trust deed. See Bailey v. Citibank, N.A. (2021) 66 Cal.App.5th 335, 356 (“The trustee’s deed therefore passes the title held by the trustor at the time of execution, free of liens or encumbrances attaching after the deed of trust was recorded.”); Robin v. Crowell (2020) 55 Cal.App.5th 727, 743 (“As a general rule, the purchaser at a nonjudicial foreclosure sale receives title under a trustee’s deed free and clear of any right, title or interest of the trustor or junior lienholders.); Dover Mobile Estates v. Fiber Form Products, Inc. (1990) 220 Cal.App.3d 1494, 1498 (“Title conveyed by a trustee’s deed relates back to the date when the deed of trust was executed. The trustee’s deed therefore passes the title held by the trustor at the time of execution. Liens which attach after execution of the foreclosed trust deed are extinguished. The purchaser at the trustee sale therefore takes title free of those junior or subordinate liens.”).

The trustee’s deed is encumbered, however, by any encumbrance of the foreclosed borrower’s title recorded before the lender’s trust deed. See Brown v. Copp (1951) 105 Cal.App.2d 1, 6 (“A trustee’s deed conveys the absolute legal title to the purchaser, as against all claims subordinate to the deed of trust, but subject to all prior rights, interests, and titles.”); Romo v. Stewart Title of California (1995) 35 Cal.App.4th 1609, 1614 (“[W]hen the junior lienholder makes a full credit bid and acquires the property at the trustee’s sale, the debt secured by the junior lien is satisfied and the lien is extinguished. However, the junior lienholder, like any other successful purchaser, takes the property subject to the senior lien.”).

No Deficiency Judgment Allowed after a Non-Judicial Foreclosure

If a lender conducts a non-judicial foreclosure, it exhausts all of its remedies against the borrower by recouping what it can from the sale. The lender cannot obtain a judgment for any shortfall or deficiency, which is called a deficiency judgment. See Dreyfuss v. Union Bank of California (2000) 24 Cal.4th 400, 407 (“A ‘deficiency judgment’ is a personal judgment against a debtor for a recovery of the secured debt measured by the difference between the debt and the net proceeds received from the foreclosure sale.”). A non-judicial foreclosure affords a speedy, efficient remedy for the lender (although many lenders object that the numerous changes to this procedure since 2010 have made it anything but speedy and efficient), but in exchange the lender foregoes its ability to recoup any deficiency from the borrower. See Code Civ. Proc. § 580d(a). But a lender can pursue guarantors and sureties for the deficiency. See Code Civ. Proc. § 580d(a).

Judicial Foreclosures

A judicial foreclosure is a regular lawsuit filed in a California Superior Court in accordance with Code of Civil Procedure § 726(a)–(b).

Per the one-action rule, it is the only civil action by which a lender can recover the unpaid part of a loan from real property that the borrower previously pledged as security it under a deed of trust or mortgage. See Code. Civ. Proc. § 726(a) (“There can be but one form of action for the recovery of any debt or the enforcement of any right secured by mortgage upon real property or an estate for years therein, which action shall be in accordance with the provisions of this chapter.”).

If a lender brings a legal claim other than a judicial foreclosure to recover an unpaid loan from its borrower, it forfeits its right to recover the debt from any real property that the borrower pledged as collateral for the loan. See Sec. Pac. Nat’l Bank v. Wozab (1990) 51 Cal.3d 991, 997 (explaining these points).

In most instances, a judicial foreclosure is much more expensive and takes much longer than a non-judicial foreclosure. Generally speaking, a lender will use this procedure only to obtain a permitted deficiency judgment against a borrower who can likely pay it (or a large part of it) or, less frequently, to resolve any dispute over the priority of liens recorded against the borrower’s property. See Lennar Northeast Partners v. Buice (1996) 49 Cal.App.4th 1576, 1583 (“Indeed, an action for judicial foreclosure must establish the relative priority of the lien claimants joined as parties so that any surplus sales proceeds can be paid to junior lienholders in order of priority.”).

The Security-First Rule; Deficiency Judgments

When prosecuting an action for judicial foreclosure, the lender must look first to the borrower’s pledged real property to recoup his debt under the loan agreement. See Bank of Am., N.A. v. Roberts (2013) 217 Cal.App.4th 1386, 1396 (In a judicial foreclosure, “the creditor must first exhaust the security before seeking any monetary judgment for the deficiency.”). If, however, the forced sale of the property at a judicial foreclosure sale fails to make the lender whole, the lender can obtain a deficiency judgment against the borrower unless the loan in question falls within the purview of Code of Civil Procedure § 580b(a)–(b).

Deficiency Judgments in a Judicial Foreclosure

A deficiency judgment is a personal judgment against the borrower for the difference between his debt under the loan agreement and the lender’s net proceeds from a judicial foreclosure sale. See Dreyfuss v. Union Bank of California (2000) 24 Cal.4th 400, 407 (“A deficiency judgment is a personal judgment against a debtor for a recovery of the secured debt measured by the difference between the debt and the net proceeds received from the foreclosure sale.”).

A lender can obtain a deficiency judgment only by prosecuting an action for a judicial foreclosure. See Cadlerock Joint Venture, L.P. v. Lobel (2012) 206 Cal.App.4th 1531, 1540 (“[Code of Civ. Proc. §580d] effectively limits the right to obtain a deficiency judgment to cases where a creditor employs the remedy of judicial foreclosure.”).

Even then, a lender that sues for a judicial foreclosure can never seek or obtain a deficiency judgment on any loan that falls within the purview of Code of Civil Procedure § 580b(a)–(b), which bars deficiency judgments that arise from a purchase-money loan; the refinancing of a purchase-money loan; a property seller’s installment contract; or a property seller’s carry-back note. See Code Civ. Proc. § 580b(a)–(b); see also Roseleaf Corp. v. Chierighino (1963) 59 Cal.2d 35, 38–39.

That is, a lender can never obtain a deficiency judgment for a purchase-money loan—i.e., a loan taken by a borrower to purchase a dwelling and secured by this same dwelling, provided that (1) the borrower purchased the dwelling to use as his primary residence; and (2) dwelling has no more than four units, three of which the borrower can rent to others. See Code Civ. Proc. § 580b(a)(3). When a borrower defaults on such a loan, the lender’s only recourse is to sell the dwelling at a foreclosure sale and recoup what it can, but it cannot obtain a deficiency judgment against the borrower for any shortfall. See id.

A lender is likewise barred from seeking a deficiency judgment on a refinancing loan made since 2013 and used only to pay down or pay off a purchase-money loan. See Code Civ. Proc. § 580b(b). If a refinancing loan is partly used for this purpose, but partly for another, only the part applied to a purchase-money loan lies beyond the reach of a deficiency judgment. See id.

In addition, a seller of real property cannot obtain a deficiency judgment against a buyer who has defaulted under the seller’s installment contract or carry-back note. If the buyer defaults, the seller can recover the property by foreclosure, or sell it by foreclosure and collect the net proceeds, but he cannot obtain a deficiency judgment against the buyer for any remaining balance owed under the installment contract or carry-back note. See Code Civ. Proc. § 580b(a)(1–2).

Nor can a lender request or obtain its borrower’s personal liability on any deficiency that arises from a short-sale of the borrower’s own dwelling; provided that (1) the lender approved of the short-sale in advance; (2) the lender collected all of the net sale proceeds; and (3) the dwelling in question was limited to four or less units, one of which the borrower used as his primary residence. See Code Civ. Proc. § 580e.

Lastly, a lender waives its right to seek a deficiency judgment if it conducts a non-judicial foreclosure sale of real property that its borrower pledged as security for the lender’s loan. See Code Civ. Proc. § 580d(a); see also Cadlerock Joint Venture, L.P. v. Lobel (2012) 206 Cal.App.4th 1531, 1540 (“In a nonjudicial foreclosure, also known as a ‘trustee’s sale,’ the trustee exercises the power of sale given by the deed of trust….] However, the creditor may not seek a deficiency judgment. Thus, the antideficiency statutes in part serve to prevent creditors in private sales from buying in at deflated prices and realizing double recoveries by holding debtors for large deficiencies.”).

For all other loans secured by a borrower’s real property, a lender can seek a deficiency judgment against the borrower only by conducting a judicial foreclosure, in which it must first recoup what it can from the foreclosure sale of the property and can then obtain a deficiency judgment for the unpaid balance of the borrower’s debt. See Bank of Am., N.A. v. Roberts (2013) 217 Cal.App.4th 1386, 1396 (quoted above).

The Lender’s Pre-Foreclosure Notice (Recommended, But Not Required).

Before bringing the action, the plaintiff, which is typically the lender or its servicer (hereafter, the “lender”), does not need to comply with the exacting pre-foreclosure requirements that govern non-judicial foreclosures. The stated rationale is that judicial foreclosures are closely supervised by the courts and therefore do not require the same meticulous regulations that govern non-judicial foreclosures. See Arabia v. BAC Home Loans Servicing, L.P., (2012) 208 Cal.App.4th 462, 469–70 (“[T]he differences between nonjudicial and judicial foreclosures make clear that the Legislature decided that a nonjudicial foreclosure requires a more comprehensive statutory scheme than a judicial foreclosure because the latter involves significant judicial involvement.”).

Even so, before filing suit for a judicial foreclosure, a lender should give formal notice to the borrower of (1) his default under the loan agreement; and (2) the lender’s election to claim and recover the full sum then due under the loan agreement—i.e., the lender’s election to invoke the loan agreement’s acceleration clause. See Guracar v. Student Loan Sols., LLC (2025) 111 Cal.App.5th 330, 351 (“[A]n acceleration clause requires some affirmative act manifesting the election to exercise it.”).

Judicial Foreclosure: a Two-Part Proceeding in Equity

A judicial foreclosure always entails a two-part proceeding. During the first part, the Court rules on the plaintiff’s request for a foreclosure decree and all issues subsumed by it. If the plaintiff prevails, the Court will issue a foreclosure decree and order of sale, under which the Court or a court-appointed receiver or referee must sell the property to the highest bidder at a publicly-noticed auction. During the second part, the Court fixes ( 1) the property’s fair-market value; (2) the amount of the plaintiff’s deficiency judgment, if one was awarded by the foreclosure decree; (3) the amount of the foreclosed borrower’s redemption price; and (4) the amount of any fees or costs authorized by the foreclosure decree. When the Court has completed this work, it must enter its findings, conclusions of law, and adjudications in a final judgment. See United California Bank v. Tijerina (1972) 25 Cal.App.3d 963, 967–968 (“[By enacting Code of Civil Procedure § 726(a)–(b)], the [California Legislature] contemplated a two-stage proceeding. The first stage, culminating in the decree of foreclosure, orders the sale of the mortgaged property and determines whether the defendant is personally liable for the debt and subject to the entry of a deficiency judgment…. During the second stage of the proceeding, the sole issue remaining for determination is the amount, if any, of the deficiency remaining after sale of the mortgaged property. The section provides only for the taking of evidence as to the fair value of the property sold. The section obviously contemplates that all other issues have been adjudicated prior to the entry of the decree of foreclosure.”).

In an action for judicial foreclosure, the Court has broad equitable powers to arrive at a fair, just resolution of all claims, defenses, rights, duties, and obligations properly raised in the case. See Majestic Asset Mgmt. LLC v. The Colony at California Oaks Homeowners Assn. (2024) 107 Cal.App.5th 413, 423, review denied (Mar. 12, 2025) (citing, inter alia, Cummins v. Bank of America (1941) 17 Cal.2d 846, 849 (“An action for foreclosure under a deed of trust is a proceeding in equity in which the court has broad powers to grant appropriate relief as needed to protect the parties’ rights.”).

Judicial Foreclosure: Practice and Procedures

The Plaintiff’s Complaint and Notice of Lis Pendens. To initiate the action, the lender must file a complaint in the California Superior Court for the county where the borrower’s property is located. See Code Civ. Proc. § 392(a)(2). The lender can also record in the same county a notice of pendency of this action (lis pendens) and file a conformed copy in the action. See Code Civ. Proc. § 405.20.

In its complaint, the lender should join all of the following parties as defendants: the borrower and all junior encumbrancers of record—i.e., all lenders and other lienors (collectively, “lienors”) that recorded trust deeds, mortgages, judgment liens, other liens, tax assessments, or any other monetary or non-monetary encumbrance against the borrower’s title to the property after the lender recorded the trust deed under which it seeks a judicial foreclosure. That means that the plaintiff should join not only all junior lienors of record, but also each junior grantee, lessee, licensee, profit-holder, covenantee, or other holder of any lesser estate in the borrower’s property. By so doing, the lender can sell title to the property that is free and clear of all recorded and unrecorded encumbrances that are junior (subordinate) or purportedly junior to its trust deed. See Code Civ. Proc. § 726; see also Robin v. Crowell (2020) 55 Cal.App.5th 727, 743 (“After a judicial foreclosure, any liens on the property subordinate to the deed of trust are extinguished, unless the lien was properly recorded at the time the action was commenced and the lienholder was not made a party to the action.”).

In its complaint, the lender must also allege or describe the following matters: (1) the real property at issue (i.e., its street address; assessor’s parcel number; and exact legal description); (2) the names and legal domiciles of the plaintiff (the lender) and each defendant; (3) the secured loan agreement placed in issue (i.e., the loan agreement, its appended promissory note, and its trust deed, all of which should be appended as exhibits to the complaint); (4) general allegations that explain the case and the relief that the lender seeks; (5) a cause of action for judicial foreclosure; and (6) a prayer for relief.

Here is one way a lender can allege its general allegations in a typical judicial foreclosure, in which the lender seeks to recover by foreclosure its defaulted borrower’s remaining debt under a secured loan agreement (but every case will have different particulars and must be pled accordingly):

1. Plaintiff, a secured lender, brings the present action for a judicial foreclosure and deficiency judgment under Code of Civil Procedure § 726(a)–(b).
2. Plaintiff is the holder in due course of a secured loan agreement (the “Loan Agreement”), a related promissory note (the “Note”), and an accompanying trust deed (the Trust Deed”), all of which the above-pled borrower (the “Borrower”) duly executed and delivered to Plaintiff on [date] in exchange for Plaintiff’s loan to him in the amount of [insert amount], plus stated interest, costs, charges, and fees (the “Loan”).
3. Before Plaintiff disbursed its Loan for the Borrower’s benefit, Plaintiff’s Trust Deed was timely and properly recorded in due and good form on [date] in [county] against the Borrower’s title to the above-pled real property (the “Property”). This Trust Deed includes an express power of sale, which entitles Plaintiff, upon the Borrower’s default, to foreclose the Loan Agreement and force a sale of the Property, which the Borrower pledged as collateral for Plaintiff’s Loan.
4. The original amount of the Loan was [$ insert.] Plaintiff timely disbursed the Loan for the Borrower’s benefit by [explain when and how this disbursement was performed.]
5. The outstanding amount of this Loan at present is [$insert], plus specified late charges, foreclosure fees, attorney’s fees, foreclosure costs, and costs of suit.
6. On [insert date], the Borrower defaulted under the loan agreement by failing to make a required payment, nor has the Borrower since cured this default. On the contrary, the Borrower failed to make further required payments on [insert dates.] The current amount of the Borrower’s arrears under the Loan Agreement is [$insert], plus specified late charges, foreclosure fees, attorney’s fees, foreclosure costs, and costs of suit.
7. On [insert date], Plaintiff sent a certified letter to the Borrower that gave him formal notice of his default under the Loan Agreement and Plaintiff’s election to accelerate the Loan under [§ insert] of the Loan Agreement. In this same letter, Plaintiff also advised the Borrower of his right to reinstate the Loan by timely exercising his equity of redemption and also of his statutory right of redemption if Plaintiff were to sell the Property by a judicial foreclosure.
8.  The Borrower has not since made any further payment of the Loan, nor otherwise responded to Plaintiff’s above letter or its routine billing statements and notices of default.
9. By reason of the above-pled matters, Plaintiff is entitled under Code of Civil Procedure § 726(a)–(b) to the remedies that it request below by its Prayer for Relief.

The lender should append each of the above-pled documents as exhibits to its complaint.

In the complaint’s prayer for relief, the lender in a typical judicial foreclosure should request the following remedies (or some variation upon them appropriate to the facts of the case).

WHEREFORE, Plaintiff seeks the following remedies against its defaulted borrower, whose debt under the at-issue loan agreement is not protected by Civil Code § 580b(a)–(b):

1. 1. A foreclosure decree, which shall entitle Plaintiff to a foreclosure sale of the Property and a post-sale deficiency judgment against the Borrower, and which shall include this Court’s findings, rulings, and adjudications on all claims and defenses raised in the pleadings, other than the fixing of the amounts of any deficiency, other liability, cost, or fee that the Court awards.
   2. The appointment of a referee under Code of Civil Procedure §§ 638 (by stipulation) or 639 (upon a noticed motion). This referee shall be duly qualified to conduct a properly noticed, public foreclosure sale of the Property in accordance with the Court’s instructions. This referee shall thereafter conduct the sale, deposit all of the sale proceeds into this Court, and file a status report that discloses all material particulars of the sale.
   3. A corresponding order of foreclosure sale and its timely performance.
   4. The Court’s timely, post-sale ascertainment of the following matters: (a) the fair-market value of the Property at the time of its sale; (b) the amount of Plaintiff’s deficiency judgment against the Borrower; (c) the amounts of all fees and costs awarded; (d) the price that the Borrower or his successor-in-interest must pay to exercise his statutory right of redemption under Code of Civil Procedure; and (e) the deadline for exercising the foregoing right of redemption (i.e., no later than ninety days after the foreclosure sale if there is no deficiency, but no later than one year after the sale if there is a deficiency).
      § 729.010 et seq.; and (f) his statutory deadline for doing so.
   5. The Court’s post-sale adjudication of any remaining issue that could not be decided before the foreclosure sale.
   6. Plaintiff’s foregoing requests specifically include a prayer for (a) all pre-judgment interest authorized by the Loan Agreement; (b) post-judgment interest under Code of Civil Procedure § 685.010 et seq.; and (c) such other relief as may be just and appropriate to award in this case.
   7. Entry of a final judgment in Plaintiff’s favor, and the above referee’s ensuing execution of this judgment so far as possible, including his disbursement of the sale proceeds as directed by the Court. This final judgment shall recite or attach and incorporate the Court’s findings, conclusions of law, rulings, adjudications, and awards in this case.

Of course, every case is different, and the above suggestions would be appropriate only in a typical judicial foreclosure, in which a secured lender seeks to establish the buyer’s default and ensuing debt, exercise its power of sale, recoup what it can from a foreclosure sale, and obtain a deficiency judgment for any shortfall in the net sale proceeds.

The lender might also assert one or more claims against an encumbrancer of record, particularly to challenge the validity, amount, or priority of a contested lien that impairs the lender’s interest in the Property. See Code of Civ. Proc. § 726(a).

Responsive Pleadings. Every other party in the case must then file a responsive pleading, such as a demurrer, motion to strike, or answer, as well as any cross-claim that concerns the matters placed in issue by the lender’s complaint. Such cross-claims typically concern disputes over contested liens.

How the Court Adjudicates These Issues. In a judicial foreclosure, the Court is supposed to supervise all proceedings to ensure that they are conducted equitably and according to law. See Code Civ. Proc. § 726; see also Arabia v. BAC Home Loans Servicing, L.P. (2012) 208 Cal.App.4th 462, 470–471 (“Judicial foreclosure [entails] court oversight. As its name implies, to commence a judicial foreclosure, the foreclosing party must file a lawsuit. Therefore, instead of merely causing a notice of default to be recorded and proceeding toward a foreclosure sale per the Civil Code without court involvement, the plaintiff must prove its case to the satisfaction of the court. The plaintiff must establish the subject loan is in default and the amount of default. If successful in proving the loan is in default, the plaintiff will ask the court to order the property sold to satisfy the loan balance. Inherent in this process, the plaintiff must prove it has the right to initiate the judicial foreclosure. In addition, under certain circumstances that are not disputed here, a judicial foreclosure allows the plaintiff to seek a deficiency judgment against the borrower, if the property is sold for less than the amount of indebtedness. The amount of the deficiency judgment will be the difference between the fair market value of the property at the time of the foreclosure sale (as determined by the court) and the amount of indebtedness. However, the debtor has a statutory right of redemption, or an opportunity to regain ownership of the property by paying the foreclosure sale price, for a period of time after foreclosure.”).

Acting on its own, or during a case-management conference, the Court typically issues one or more briefing schedules and sets one or more evidentiary hearings and law-and-motion hearings, using these procedures to adjudicate all disputed material facts and legal issues raised in the pleadings.

To litigate these matters and assist the Court’s efforts, the parties can employ discovery procedures, bring or oppose motions, present stipulations, and request evidentiary hearings to decide disputed issues of material fact.

A diligent lender should always seek stipulations of fact to establish material facts and authenticate key documents. To promote the success of this effort, it should make artful and early use of requests for admission.

Key Practice Pointer. In most judicial foreclosures, the Court will look to the parties to perform nearly all of the above work, including the preparation of proposed orders, decrees, findings of fact, conclusions of law, rulings, property valuations, accountings, awards, a final judgment, and like documents.

The parties should always try so far as possible to reach agreement on these points. If they disagree on some or all of them, they can submit competing proposals to the Court along with explanatory briefs and proofs, so that the Court can rule on each disputed point.

The entire litigation can be long, very costly, and grueling. Nor, of course, will it be the Court’s only matter. But if a lender wishes to obtain a deficiency judgment, such a lawsuit is the only way to do so. Remember, a lender can never obtain a deficiency judgment on a purchase money-loan, the refinancing of a purchase-money loan, a property seller’s installment contract, or a property seller’s carry-back note.

The Borrower’s Rights of Equitable and Statutory Redemption in a Judicial Foreclosure

Before the Court issues a foreclosure decree, the borrower can reinstate the loan agreement by exercising his equity of redemption, which entitles him to cure his arrears, including certain costs of suit. If the borrower does so, the lender must move to dismiss the action, and the Court shall then make corresponding findings and dismiss the action. By operation of law, the loan agreement will be deemed reinstated and treated as though no default had ever occurred. See Code Civ. Proc. § 726;

After a judicial foreclosure, the foreclosed borrower can exercise his statutory right of redemption, which is the right to purchase the property from the foreclosure purchaser. This right is governed by Code of Civil Procedure § 729.010 et seq. The foreclosed borrower can exercise this right at any time within three months of the foreclosure auction, if the foreclosure proceeds paid off the borrower’s debt under the loan agreement (i.e., principal, interest, proper late charges, court costs, and sale costs). He can do so at any time within one year of the foreclosure sale, if its proceeds merely paid down his debt under the loan agreement and resulted in a deficiency judgment. See Code of Civ. Proc. § 729.030.

To redeem the property, the foreclosed borrower or his successor-in-interest must give notice and deposit the redemption price, which is intended to be equal to the foreclosure purchaser’s investment in the property; plus statutory interest; but less post-sale income or profits generated by the property, as well as the imputed value of the purchaser’s post-sale use of the property. See Code of Civ. Proc. § 729.060.

The redemption price is therefore equal to the sum of the following items: (1) the purchase price at foreclosure; (2) any amount that the foreclosure purchaser paid to protect the property from senior encumbrances; (3) the full amount of any junior encumbrance recorded by the foreclosure purchaser before the foreclosure sale; (4) post-sale taxes and assessments paid by the foreclosure purchaser; (5) reasonable post-sale costs paid by the foreclosure purchaser for the property’s insurance, maintenance, upkeep, and repairs; and (6) interest at 10% per year on the foregoing items; less (1) post-sale rents and profits that the foreclosure purchaser received from the property; and (2) the imputed value of the foreclosure purchaser’s own post-sale occupancy of the property. See Code of Civ. Proc. § 729.060.

Comparing Non-Judicial and Judicial Foreclosures: Pros and Cons

A non-judicial foreclosure, or trustee’s sale, is much more expeditious than a judicial foreclosure: It will happen approximately four to seven months after the lender first gives notice of the default (depending on the loan in question and the diligence of the foreclosure trustee).

In contrast, a judicial foreclosure takes as long as any other lawsuit on the regular civil calendar – that is, approximately eighteen months or longer. It will entail costly attorney’s fees, procedural complications, and the risk of cross-claims from a desperate or aggrieved borrower.

A non-judicial foreclosure is usually much better for the lender, since it is typically quicker and far less expensive to organize and conduct. A lender should accept the expense and delay of a judicial foreclosure only when it expects a large deficiency and can likely enforce a corresponding deficiency judgment against the borrower or his guarantor.

Also, a lender might prefer a judicial foreclosure if there is any significant dispute over the validity, amount, or priority of any recorded encumbrance that affects the lender’s rights under its trust deed.

As noted above, a lender cannot obtain a deficiency judgment if the underlying debt arises from a “purchase-money loan,” and therefore it just about never makes any sense for a lender to pursue a judicial foreclosure in order to recoup a borrower’s default on such a loan.

The matter can be summarized as follows. A lender cannot get a deficiency judgment if it forecloses by a non-judicial foreclosure (per Code of Civil Procedure § 580d(a)), nor can it do so if the underlying loan was a purchase-money loan, the refinancing of a purchase-money loan, a property seller’s installment contract, or a property seller’s carry-back note. See Code Civ. Proc. § 580b(a)–(b). Therefore, a lender will choose to sell the property at a non-judicial foreclosure if (1) the sales proceeds will likely pay the entire loan; or (2) the loan falls within the purview of Code of Civil Procedure § 580b(a)–(b). Lastly, a lender can always pursue a borrower for fraud in inducing it to make the loan or for bad-faith waste of the property.

It is often the case that the lender will forgo a judicial foreclosure and use a trustee’s sale even if (1) the sale will likely or certainly fail to yield funds sufficient to pay the full debt; and (2) the lender is entitled to a deficiency judgment for the remainder against the borrower. That happens when the lender prefers the convenience and expedience of a trustee’s sale, or has reason to doubt that it could enforce its deficiency judgment after going to substantial expense to procure it. This last point usually depends on the likely amount of the deficiency and the borrower’s ability to pay it.

There is an additional advantage to conducting a non-judicial foreclosure rather than a judicial one: the finality of the sale. A non-judicial foreclosure becomes definitive once the foreclosure trustee conveys the trustee’s deed to the winning bidder. That must happen no later than forty-five days after the foreclosure auction, as explained above.

In contrast, the winning bidder at a judicial foreclosure might be required to sell the property to the defaulting borrower under the redemption statutes, which entitle the defaulting borrower to redeem his property by paying the foreclosure purchase price to the winning bidder, along with redemption fees and related surcharges. For this reason, a property in judicial foreclosure is typically sold at a special discount, which compensates the purchaser for the risk of being forced to sell the property at a specified price to the defaulting borrower under the redemption statutes.

Each kind of foreclosure therefore has advantages and disadvantages, and the benefits of a judicial foreclosure are not available to lenders that seek to recoup debts that fall within the purview of Code of Civil Procedure § 580b(a)–(b).

Lastly, a judicial foreclosure is the proper approach when there are several encumbrancers, and a dispute has arisen between the lender and any of them that might bear upon the disbursement of sale proceeds. In a judicial foreclosure, the Court can rule on the validity, amount, and priority of any disputed encumbrance of record. See Code Civ. Proc. § 726(a).

Our Example Revisited

To return to our lovely example, in which our hero find himself driving north with his dog to forget his wife’s abandonment and the simultaneous loss of his job under humiliating circumstances, we can now easily apply the above rules. Wells Fargo, having made a purchase-money loan to the borrower, has no interest in convening a judicial foreclosure: it cannot recover any deficiency because the loan was a purchase-money transaction (the borrower used the loan to buy a home). Moreover, the value of the borrower’s home is high enough to afford Wells Fargo a complete recovery from the sale proceeds. Moreover, there is no controversy between competing lenders, and therefore no need for a judicial determination of disputed liens. Wells Fargo will therefore foreclose upon the borrower’s by using a trustee sale, which will take place approximately 125 days after its trustee records a formal notice of the borrower’s default, unless before then the borrower cures the default or convinces Wells Fargo to accept an alternative, such as a loan forbearance or modification, a short sale, 0r accepting his surrender of his grant deed.

But suppose the borrower encumbered the property not only with the Wells Fargo loan, but also with a second loan from Second Place Loans, Inc., which made a loan of $200,000 and secured it by a deed of trust, which was second in priority. In this case, Wells Fargo is said to hold the first deed of trust, and Second Place is said to hold the second deed of trust.

If you default on the Wells Fargo debt, and Wells Fargo forecloses, the foreclosure will have the effect of extinguishing Second Place’s trust deed. The foreclosure of a senior lien always has the effect of extinguishing all junior liens, save that junior liens always attach to any surplus fund and are paid from it in order of priority until it is exhausted or they are all paid in full. To the extent that Seco Place is not paid off from a surplus fund, it will become a mere unsecured creditor of the borrower. Its claim against him will have no better priority than those of other unsecured creditors, such as the issuer of a credit-card whose bills the borrower has been unable to pay.

In certain circumstances, Second Place might decide to permit Wells Fargo to conduct its foreclosure and to write off the borrower’s ensuing unsecured debt (or sell it at a great discount to a factor). But in others, Second Place will cure the borrower’s arrears to Wells Fargo rather than suffer the loss of its security. If so, Second Place will add this cost to the borrower’s obligation to it, and if he fails to pay this cost on time, Second Place will foreclose its loan to him and take his property by a foreclosure sale conducted under its second deed of trust.

Second Place is most likely to proceed in this manner if property values are sufficiently high. That way, it can use a speedy trustee sale to conduct its own foreclosure and recoup the borrower’s entire debt by it.

But suppose the value of the property falls significantly after the borrower takes the loan from Second Place. In this instance, Second Place might decide that it is better to conduct a judicial foreclosure, recoup what it can from the foreclosure sale, and procure a deficiency judgment for the remainder, including its attorney’s fees and costs of suit. Unlike Wells Fargo, Second Place did not make a purchase-money loan and is therefore entitled to a deficiency judgment in an action for a judicial foreclosure. (Its new loan cannot be a purchase-money loan, but a loan taken to pay off a purchase-money loan is treated as a purchase-money loan, except to the extent that it is not used to pay off or pay down a purchase-money loan.)

Remember, if the lender uses a trustee sale, it can recover only the sale proceeds, but nothing else. In a judicial foreclosure, however, the lender can obtain a deficiency judgment against the borrower for any outstanding amount still owed after the sale of the property, but this option is not available for purchase-money loans or seller-financed property sales (i.e., a seller’s installment contracts and carry-back notes).

Generally speaking, a lender might prefer a judicial foreclosure despite the long delay and high expense when (1) its claim qualifies for a deficiency judgment; (2) a trustee sale will likely result in a large deficiency; and (3) the borrower likely has the means to pay a substantial part of this deficiency.

Let us again consider that accursed home that our unlucky borrower purchased in the Silicon Valley when he still loved his ex-wife and loyally reported to his ex-boss every day. He paid $1.8 million for it by making a down-payment of $360,000 and using a Wells Fargo loan of $1.44 million. He thereafter took a second loan for $200,000 from Second Place.

Suppose that the foreclosure happens five years later – after the borrower paid down the loan to, say, $1.3 million (typically, he must pay mostly interest during the early years of loan repayment, then begin to retire principal more and more quickly as he keeps making repayments. In the meantime, he has made interest-only payments on Second Place’s loan. Suppose that the fair-market value of the home has since risen to, say, $2.1 million.

On these facts, the borrower holds $600,000 of equity in the Property – that is, the $2.1 million value of the property, less the Wells Fargo encumbrance (now reduced to $1.3 million), less the Second Place encumbrance of $200,000.

If the borrower defaults on the Wells Fargo note, but not the Second Place note, Second Place will cure the Wells Fargo arrears and charge him for it (lest Wells Fargo forecloses, thereby extinguishing Second Place’s second deed of trust). If he fails to pay Second Place for the cost of curing the Wells Fargo arrears, it can foreclose on the second deed. If it decides to do so, it will use a trustee sale, since the property has enough value to support its lien. A purchaser will pay at least $210,000 to buy a property worth $2.1 million that is encumbered by a senior lien of $1.3 million. Indeed, a sensible purchaser will be willing to pay up to $450,000–500,000 to buy the $2.1 million property with a $1.3 million senior encumbrance.

Suppose that Second Place forecloses on its junior lien, and the ensuing trustee sale yields $250,000. That sum is used to pay the trustee’s fees and minor costs of the sale, and then $200,000 is paid to Second Place. The remainder might be, say, $45,000. That sum is called the surplus fund. It must be disbursed to junior lienholders in order of priority, with the remainder to the foreclosed borrower. In our example, there are no such junior lienholders, and therefore the entire surplus would be remitted to the borrower.

The lucky purchaser at this sale will have paid $250,000 to pay off Second Place and acquire a property worth $2.1 million that is encumbered only by a first encumbrance of $1.3 million. The property’s equity is therefore $800,000. That purchaser will have paid $250,000 to acquire real equity of $800,000. Not bad for a day’s effort. Now he can take a breather, buy a fine red wine from France to celebrate his savvy purchase, share it with his ravishing but faithless mistress, and then get back to work the next day, when he will have his lawyer bring an action for unlawful detainer to evict our hapless borrower from his former home on short notice. While this action is pending, the new owner of the property might try to expedite the borrower’s move by paying him a small sum to leave rather than suffer the additional indignity of having a sheriff’s deputy arrest him for trespassing at the end of the action for unlawful detainer.

Then the new purchaser can refurbish the property for, say, $25,000, list it for sale, sell it for $2.1 million, and easily make a net profit of, say, $420,000[11]$420,000 = the resale price of $2,1 million; less (1) $250,000 to buy the property at Second Place’s foreclosure sale; (2) $30,000 for refurbishing and evicting the borrower; (3) $1.3 million … Continue reading.

Diligent, savvy investors in highly valued markets can make a fortune in this manner, provided that they have the capital to fund the venture, do their homework carefully, and avert any collapse in property values that might render their investments unprofitable.

But suppose that real estate prices tumbled after Second Place made its loan. In that event, it might instead conduct a judicial foreclosure, even though it will take a long time to complete, and even though the sales price will be a little lower to account for the defaulting borrower’s right of statutory redemption. After the judicial foreclosure, Second Place will receive a judgment against the borrower personally for the outstanding balance, which will be the difference between its loan of $200,000 and the sum it received from the foreclosure sale, plus a substantial award for attorney’s fees and other costs of suit.

Say that real estate prices have fallen dramatically: The country has been dragged into a catastrophic depression, and the borrower’s home is no longer worth $1.8 million, but only $800,000. In this instance, Second Place will conduct the judicial foreclosure, since no one will pay $200,000 (plus the surcharge for curing the Wells Fargo debt) to acquire an $800,000 property that is encumbered by a $1.3 million purchase-money loan. After the judicial foreclosure, Second Place will have a deficiency judgment against the borrower for the outstanding amount still owed under its loan agreement.

If the borrower never took a second loan, but merely owes $1.3 million to Wells Fargo at the time of foreclosure, Wells Fargo will perform it by a trustee sale, even if the property’s value has fallen far below the amount of the debt: that is because there can be no deficiency judgment on a purchase-money loan. The rationale for this should by now be clear: if there is a general collapse of the economy, a simple homeowner, who borrowed only to purchase his home, should not be forever undone by a deficiency judgment for the balance of his loan; his loss should be limited only to the loss of his home, unless he has taken additional loans against it after acquiring title.

What It All Means?

If my readers find themselves a little bewildered by all of this, or even hopelessly confused, do not despair. The law on foreclosures in California are abstrusely worded and perhaps a little confusing at the outset. It is easiest to understand them if you grasp their underlying principles, which are as follows:

• Foreclosures (both judicial and non-judicial) permit a lender to recover its loan after its borrower has failed to pay it as agreed. That in turn encourages lenders to make loans that are secured by their borrowers’ real properties.
• When a borrower defaults on such a loan, the lender can foreclose the loan agreement and recover the unpaid balance of the loan and default charges from a forced sale of the borrower’s real property. Indeed, California’s one-action rule requires the lender to use foreclosure proceedings to recover a debt secured by real property. If a lender fails to do so, it forfeits its collateral and can only seek a money judgment against the borrower.
• There are two methods of foreclosure: (1) a civil action for a judicial foreclosure conducted by the local California Superior Court (i.e., the Superior Court located in the county where the at-issue property lies); or (2) a non-judicial foreclosure conducted by a private trustee.
• Judicial foreclosures are closely supervised at every stage by the presiding court and conducted in accordance with Code of Civil Procedure §§ 725a–726. Non-judicial foreclosures must be conducted in strict compliance with Civil Code §§ 2923.3–2924p, which are a series of highly technical, involved, and poorly drafted statutes adopted at different times to serve different and sometimes contradictory purposes. But the courts have done a pretty good job of deciphering them, so look to their decisions for guidance and clarification.
• A judicial foreclosure is very expensive and takes a long time to conduct (typically, one year to eighteen months, or longer). A non-judicial foreclosure is much quicker and less expensive to conduct, even if recent statutes have made them more time-consuming, complicated, and costly than they used to be.
• A lender can obtain a deficiency judgment only by prosecuting an action for judicial foreclosure. This remedy is not available when the lender forecloses by a non-judicial foreclosure. Usually, a lender should incur the great cost and endure the long delay of a judicial foreclosure only in order to obtain a deficiency judgment on a loan eligible for this relief, and only when the expected deficiency will be substantial and the borrower likely has the means to pay it. On rare occasions, a lender might use a judicial foreclosure to have the Court rule on the amount, validity, and priority of a contested lien before disbursing the sale proceeds.
• Deficiency judgments are not available for purchase-money loans, a seller’s installment contract, or a seller’s carry-back note. These anti-deficiency laws protect (1) borrowers who use purchase-money loans to buy their own dwellings; and (2) buyers of seller-financed real estate. For such loans, a lender can recover only the property that serves as collateral, but not a personal money judgment against its customer. A lender should therefore use a non-judicial foreclosure for loans of this kind.
• If the lender forecloses by court proceedings under Code of Civil Procedure § 726, the foreclosed borrower will have a statutory right of redemption—i.e., the right to buy the property from its foreclosure purchaser. In consequence, bidders at judicial foreclosures usually discount their bids to take into account the risk of a statutory redemption, which the foreclosed borrower can make at any time within one year of the foreclosure sale if there is a deficiency judgment against him, or within three months of the sale when there is no deficiency against him.
• If the lender forecloses by a non-judicial foreclosure, the borrower’s right of redemption will expire upon the sale of the property.
• A junior lien is extinguished by the foreclosure of a senior lien, but no foreclosure may take place without written notice in the statutory manner to the borrower and all junior lienholders, who therefore have occasion to cure the default of the senior lien before it is foreclosed.
• A distressed borrower can slightly mitigate the harm to his credit report and avoid certain foreclosure fees by surrendering his title in lieu of losing it in a foreclosure proceeding. A surrender of the deed at least suggests that the borrower sought to act responsibly when confronted with his inability to pay the loan, but many lenders make the process complicated and use it to (1) force the borrower to continue to make payments on the doomed loan while the request is administered; and (2) determine whether the borrower of a non-purchase-money loan has sufficient means to pay a deficiency.
• A defaulting borrower should think twice before deciding to squat in his property until his lender forecloses. This is often a fool’s bargain: the borrower gains a short period of free rent, but the ensuing foreclosure is then listed on his record, harming his credit and good name for many years. Yet again, a surrender of the deed also entails significant harm to the borrower’s credit, but there is no public record of a foreclosure.
• To avert foreclosure, a distressed borrower might also apply for a loan forbearance or loan modification, or try to negotiate the terms and conditions of a short sale.
• If the distressed debt is a purchase-money loan or a seller-financed sale of real property, the borrower should usually decline to pay any additional payment in exchange for surrendering his deed or permission to make a short-sale.
• Sometimes deliberate squatting is a distressed borrower’s last best option. Each case turns on its own facts.

Bankruptcy Relief

Bankruptcy proceedings can offer specific, limited relief to a distressed borrower who cannot manage his home loan or loans. (By the term “home loan,” I refer to any loan that is secured by a deed of trust or mortgage recorded against the primary residence of the borrower.) To consider the intersection of bankruptcy law and foreclosure law, it is necessary to consider the following points:

Bankruptcy Proceedings

“Bankruptcy” refers to the various proceedings conducted in the United States Bankruptcy Courts, which sit in the various federal judicial districts located across the United States. These courts conduct their proceedings in accordance with “bankruptcy law” – i.e., the United States Bankruptcy Code, the Federal Rules of Bankruptcy Procedure, applicable federal case law, various local bankruptcy rules, and in some instances applicable state case law.

The Automatic Bankruptcy Stay

A borrower who seeks relief in bankruptcy is called a “debtor.” As soon as a debtor files a petition for bankruptcy relief, all creditor actions against the debtor are automatically stayed by operation of law and in accordance with Section 362 of the United States Bankruptcy Code. This means that any foreclosure proceeding is automatically stayed if the borrower files a petition for relief in his local United States Bankruptcy Court.

No Modification of Home Loans in Bankruptcy Court

Of critical importance, the bankruptcy courts cannot modify a deed of trust or mortgage that secures a home loan: The underlying debt can be discharged, but if the lender can salvage part or all of its loan by foreclosing on the property, it will typically be given relief from the bankruptcy stay in order to conduct a foreclosure sale, and even if it does not obtain this relief, it will be treated as a secured creditor who can conduct the sale under the auspices of the bankruptcy court.

Limited Relief Under Chapter 13

If a borrower is in arrears on a home loan, and if he is otherwise eligible for relief, he can file a petition for relief under Chapter 13 of the United States Bankruptcy Code, asking the local bankruptcy court to approve of a proposed “reorganization” of his debt. His plan must provide that he will make all future monthly payments owed on his home loan or home loans, and his plan must also propose to cure any arrears on the loan or loans by making specified payments over time. By filing for this relief, the borrower can stop foreclosure proceedings, but only if (1) he can make all new monthly payments in full, (2) is otherwise eligible for relief under Chapter 13 relief, and (3) proposes to pay the outstanding arrears over time. This is a complicated matter, as relief under Chapter 13 has many eligibility requirements and is governed by various specific procedural and substantive requirements.

Lien-Stripping: Avoiding Worthless Junior Liens

A debtor in bankruptcy can rid himself of junior deeds of trust. It is a procedure called “lien-stripping,” and it works as follows. If a debtor in a Chapter 11 or Chapter 13 proceeding owes a home loan secured by a deed of trust in junior position, he can have the deed of trust voided upon showing that it is worthless: To do so, he must bring a “Lamb motion” in order to establish that the current fair-market value of the home is insufficient to support any part of the deed of trust – in which case the bankruptcy court will declare the deed worthless and voided. The debtor can then treat the underlying loan as an unsecured, non-priority debt in his plan of reorganization. “Lien-stripping” is not available in Chapter 7 proceedings. The necessary prerequisite to “lien-stripping” is a clear showing that the junior deed of trust is wholly unsecured and therefore worthless. If granted, the lien-stripping takes effect only upon the debtor’s discharge, which in turn is given only after the confirmation and subsequent performance of his plan of reorganization.

Secured Lenders Can Obtain Relief From the Automatic Stay

A home-loan lender can obtain relief from the automatic bankruptcy stay in order to conduct foreclosure proceedings upon a showing that (1) the debtor has no equity in the property, and (2) the administration of the property is not necessary to the debtor’s proposed reorganization. This relief is afforded by Section 362 (d) (2) of the United States Bankruptcy Code. Since Chapter 7 cases by definition do not entail a reorganization, a lender can routinely obtain relief in Chapter 7 proceedings upon a sufficient showing that the debtor lacks any equity in the property – a point that can often be deduced from the debtor’s own bankruptcy schedules. If however the lender cannot make this showing, it will be treated as a secured creditor in the bankruptcy, and as such the lender can sell the asset and obtain its relief under the auspices of the bankruptcy court. In Chapter 13 cases, the lender’s relief from the bankruptcy stay will turn on the issue of equity and on the additional issue of whether the borrower proposes a plan under which he keeps current on all future payments and pays down the arrears over time. The plan must otherwise meet the requirements of Chapter 13. If the lender cannot obtain relief from the stay in a Chapter 13 proceeding, it will be treated as a secured creditor, and it can either sell the asset in bankruptcy or receive full monthly payments and eventual payment of the arrears in accordance with the debtor’s plan.

A home-loan lender can also obtain relief from the bankruptcy stay “for cause” upon making a proper showing under Section 362 (d) (1) of the United States Bankruptcy Code. One such ground is if the borrower has failed to maintain adequate property insurance on his home. Another ground is that the property lacks a sufficient “equity cushion” – i.e., sufficient equity to provide full security for the loan. If however the loan has become completely unsecured, an otherwise eligible borrower can remove the deed of trust in a Chapter 11 or 13 proceeding by means of “lien-stripping” (see above).

A home-loan lender can also obtain relief from the bankruptcy stay if the debtor has initiated successive bankruptcy filings in effort to delay foreclosure proceedings, but otherwise without proper bankruptcy objectives that he reasonably can accomplish by his proceedings. This relief is afforded by Section 326 (d) (4) of the United States Bankruptcy Code.

Bankruptcy Reform Unlikely

One proposal that was earlier floated in Congress was the offer of loan modifications in bankruptcy for distressed homeowners who cannot manage their mortgage payments. Such legislation, whose enactment appears highly unlikely, would have authorized the bankruptcy courts to (1) modify loans secured by primary-residence properties; and (2) do so even when the loan has been securitized and has many different owners. At present this relief is not available: The current bankruptcy laws do not permit a bankruptcy court to modify an obligation secured by the borrower’s primary residence: The debt itself can be reorganized or discharged, but only to the extent that it is not secured by the home residence, so that bankruptcy law cannot protect a homeowner from foreclosure, save as described above (limited relief under Chapter 13 and lien-stripping).

Consult an Attorney for Bankruptcies

Bankruptcies are complicated, highly technical matters that must take into account the debtor’s entire financial condition. Be certain to consult a bankruptcy attorney if you are contemplating bankruptcy relief.

APPENDIX I: The Foreclosure Crisis of 2007-11 (commentary provided from 2008 to 2011)

Government-Sponsored Loan Modifications/Private Loan Negotiations

The Obama Administration has put into place programs under which distressed borrowers can qualify for loan modifications and refinancing of their existing loans. A loan can be modified by one or more of the following means: (1) a lowering of the interest rate; (2) a reduction in the amount of loan principal; and/or (3) an extension of the term of loan, possibly with periods of forbearance on collecting the loan. There is abundant information at other websites about the particulars of these government programs. The official government website for these programs is located at this link.

Moreover, the California Legislature now requires lenders to attempt to negotiate a loan modification before foreclosing on broad categories of loans secured by primary residences. There has also been a mandatory extension of the statutory waiting period before a non-judicial foreclosure can proceed against certain broad categories of such loans.

In addition, an enterprising borrower might be able to persuade his lender to agree to a modification all on his own and even in the absence of any public subsidy or public coercion. The task has been trickier than anticipated because (1) lenders have been averse to acknowledging write-downs on the value of their assets, which include their loans to distressed borrowers who cannot pay a dime; and (2) many or most of these loans have been “securitized” and sold to countless, nameless investors across the world, so that the servicer of the loan is unable or unwilling to make an agreement that might be objectionable to one or more classes of investors who have a stake in the loan. The Obama Administration has attempted to address this matter, but so far with very uneven, middling success.

“Securitization” of home mortgages, which in theory was supposed to make home loans more readily available to a larger number while spreading the risk of default, has in practice proven a ruinous double-edged sword that favors only those who earn quick commissions at source or upon re-sale: Many of these loans were (1) made to wishful, credulous borrowers who could not afford them; and then (2) placed in “pools” of loans, against which fancy investment banks sold bonds to wishful, credulous investors who since then have lost their principal!

This writer favors three clear remedies: Force the original lender to bear part of the risk of the loan rather than act as a glorified loan broker; force banks to maintain more capital reserves during “boom periods”, but less during “bust periods”; and return to a clear segregation of deposit banks and trader/investment banks, so that deposit banks can serve as the necessary financial conduits for our society and enjoy public insurance, while investment banks can enjoy as much risk as they can convince others to allow them to take, but if their risks prove foolish, they will have to fend for themselves without any public assistance at all.

These are simple remedies, and they will work. The same “wizards” who involved us all in this mess are now the ones who say that things are too “complicated” for such measures. The only thing that is too complicated are the dizzying explanations that the financial wizards offer for irresponsible, casino-style manipulations that do not further the proper aims of high finance — the raising of capital funds, the protection and productive investment of capital funds, the prudent lending of capital to those who wish to put it to productive use, and the use of financial and insurance contracts to allow businesses and investors to protect themselves against risk. But I digress.

IndyMac Loans

If you are the borrower of a loan made by the failed IndyMac bank, which is now under the control of the Federal Deposit Insurance Corporation (“FDIC”), you are likely eligible for a modification of the terms of your loan agreement. This program, which became known to the public on August 21, 2008, might in turn become a model program that the federal government might use to help other struggling borrowers or that it will at least use when administering loans made by other banks that fail before the present financial crisis runs its course.

Federal Housing Legislation

In July, 2008, the federal government enacted significant housing legislation. This legislation has been modified by the Obama Administration programs. Among other things, this legislation does the following:

Provides federal loan guarantees for troubled loans: A willing lender can now obtain federal loan guarantees of its troubled purchase-money loans. The lender must agree to (1) write down the principal owed on the loan to 87% of current market value, and (2) charge permitted interest at a fixed rate. This is a complicated program that will be administered by the Federal Housing Authority. It makes the federal government a prospective guarantor of a large part of the purchase-money loans made in recent years.

Provides explicit support to Freddie Mac and Fannie Mae. In the end the federal government has made good on its implicit promise to guarantee the obligations of these two government-sponsored entities, which re-purchase or guarantee certain kinds of purchase-money loans. At present, these two firms hold or have guaranteed more than $5 trillion of mortgage debt. The U.S. government has long given an implicit guarantee of this debt. The guarantee has become explicit, subject to various qualifications and mechanisms. This means that U.S. taxpayers have agreed to foot the bill for their possible losses. The repercussions might prove enormous. Federal intervention was surely necessary, and if it succeeds it will have saved the financial system from a ruinous collapse of confidence and funding. This is a very complicated matter that I have not even begun to explain in this brief note.

Provides housing funds to local government agencies. These agencies will use these funds to purchase foreclosed and distressed properties on specified terms and conditions.

This legislation was breathtaking in its scope, but not in its subsequent application, at least so far. Until now it has not received as much attention as its scope and significance would suggest it requires. If this legislation succeeds in its aims, it will help to alleviate the current crisis and restore long-term confidence in the housing and mortgage markets. It means however that the federal government has assumed enormous risks and obligations.

Treasury Authority

The Department of Treasury has obtained authority from Congress to expend as much as $700 billion to protect the financial system from systemic collapse. Under this program, the Treasury Department has authority to provide certain kinds of assistance to distressed homeowners who are confronted with foreclosure. The incoming Obama Administration has announced that it will direct the Treasury Department to avail itself of this authority to provide this relief in certain kinds of cases.

Conclusion

I certainly hope that none of my readers ever undergo the indignity of a faithless wife, a conniving boss, or a foreclosure of overpriced real estate that was an insufferable burden all along. If you are a secured lender, I hope you never lose your loan for having failed to follow the foreclosure rules. Lastly, I hope that this short article has provided a useful overview of California’s bewildering foreclosure laws, but of course you must not deem this as legal advice, as this is merely an article that I have published for general circulation, not specific advice intended for a client.

Article by William Markham, San Diego Attorney. © 2000 (updated between 2008–2026).