Real Estate Lawyers

How does federal bankruptcy law affect the 90-day deadline to file a deficiency action under Arizona real estate law after a trustee sale (non-judicial foreclosure)?  That was the question addressed in In re Rader.

Under Section 33-814 of Arizona real estate statutes, in order to pursue collection of a deficiency, a lender must file or maintain a lawsuit within 90 days after the trustee sale.  Otherwise, the debt is deemed satisfied/paid in full for the amount for which the property was sold at the trustee sale.  Of course, a lender may only file a claim for a deficiency if the claim is not barred by one of Arizona’s two anti-deficiency statutes.

But, what happens if the borrower is in bankruptcy?  The short answer is that bankruptcy law prevails and controls, not state law, if there is a conflict.  Specifically, once a bankruptcy is filed, the creditor must comply with bankruptcy law and, to the extent that conflicts with state law, the creditor is basically excused from abiding by state law.

In Rader, the borrowers filed bankruptcy, thus triggering the automatic stay.  The automatic stay prevents the creditor from taking action to enforce or collect the debt, except as allowed in the bankruptcy, unless the creditor obtains relief from the automatic stay.  Here, the creditor ultimately obtained relief from the stay to sell the property that was collateral for the loan at a trustee sale.  The property was eventually sold for less than the total amount due on the loan; thus, there was a deficiency.

The creditor had timely filed a proof of claim in the bankruptcy, but never filed an action to collect the deficiency as otherwise required by Arizona law.  The bankruptcy trustee objected to the claim since the lender never filed a deficiency action.  The Ninth Circuit Bankruptcy Appellate Panel addressed whether the creditor was excused from doing so based on bankruptcy law.

The Court found that it was legally impossible for the lender to comply with both bankruptcy law (and the automatic stay) and Arizona law (requiring the lender to pursue a deficiency action within 90 days).  Although the lender had obtained relief from the automatic stay, the order for relief was ambiguous, such that the lender was justified in not filing a deficiency action under state law after the sale of the real estate.  Federal bankruptcy law supersedes state law.  Therefore, the court found that the lender’s claim was not barred.

Please note that the Rader court’s analysis was based on the specific facts and circumstances of that case.  Most importantly, the court spent considerable time evaluating and interpreting the order lifting the automatic stay and allowing the lender to sell the property.  Ultimately, the court held that the order did not expressly authorize the lender to also file a deficiency action, such that it was prohibited from doing so under bankruptcy law.  As a result, its proof of claim in the bankruptcy was allowed.

Indeed, how a case turns out under Arizona real estate law almost always depends on the contract, other documents and specific facts of the situation.  Please consult one of our real estate attorneys if you have any questions.

The Arizona Court of Appeals has decided several recent cases interpeting and applying Arizona’s anti-deficiency statutes.  Watch this short video power point presentation to learn about Arizona’s Anti-Deficiency Statutes:

• What constitutes qualifying property?
• The two different types of foreclosures in Arizona.
• The type of loan that qualifies for protection in judicial foreclosure.
• How Arizona’s anti-deficiency statutes apply and protect certain property and certain loans.

Lenders and homeowner borrowers have been waiting for clarification of various questions arising under Arizona’s anti-deficiency laws.  Today, the Arizona Court of Appeals resolved three of the key issues involving Arizona’s anti-deficiency law applicable to judicial foreclosure actions, ARS § 33-729:  (1) whether the refinancing of a purchase money loan destroys the purchase money character of the loan and the borrower loses deficiency protection; (2) whether disbursements from a construction loan to construct a residence that otherwise qualifies for protection are considered purchase money; and (3) the treatment of a construction loan when part of the loan proceeds were disbursed for purposes other than the acquisition of the property or construction of a qualifying dwelling.  Helvetica Servicing, Inc. v. Pasquan (Ariz. Ct. App. 3/20/12).

Under Section 33-729, “if a mortgage is given to secure the payment of the balance of the purchase price, or to secure a loan to pay all or part of the purchase price, of a parcel of real property of two and one-half acres or less which is limited to and utilized for either a single one-family or single two-family dwelling,” the lender is limited to satisfying the amount owed by foreclosing on the property; the lender may not collect any deficiency (the difference between the debt and the value of the property upon foreclosure) from the borrower’s other assets.  In addressing the three issues presented in the case, the Court relied heavily on the public policies underlying the Arizona anti-deficiency laws – to protect certain borrowers and discourage the overvaluation of property in the lending process.

In the Pasquan case resolved by the Court of Appeals, the borrower purchased an existing residence in Paradise Valley for $935,000.  They paid $335,000 “down” and financed the rest, $600,000, with a loan from Hamilton Mortgage Company, secured by a deed of trust against the property.  Later, they obtained a new loan from Desert Hills Bank for $1.6 million, which was secured by a new first deed of trust against the property.  The Desert Hills loan was used to pay off the balance owed on the Hamilton loan and expenses to demolish the existing home and construct a new home in its place.  The borrowers then borrowed another $100,000 from Desert Hills, secured by the existing first deed of trust.  They later borrowed an additional $400,000 from Desert Hills, secured by a second deed of trust recorded against the property.  According to statement submitted by the borrower, “all of the Desert Hills loan proceeds were used for construction expenses.” Read more…

In 2005, Trevis and Lisa Mueller purchased raw land.  In 2006, they borrowed $444,000 from M&I Bank to construct a single family home for their own use.  In 2007, they began construction.  Unfortunately, construction fell behind schedule and was mostly defective.  The Muellers requested that M&I advance them loan disbursements to remedy the defects.  When the Bank refused, the Muellers abandoned the property and defaulted on their loan.  In 2009, M&I foreclosed upon the property at a trustee sale.  M&I then filed suit against the Muellers for some $68,000, the deficiency balance on their loan.

The trial court dismissed the lawsuit on grounds that the Muellers were protected by Arizona’s anti-deficiency statute – Arizona Revised Statute § 33-814(G) even though M&I argued that the property was never “utilized” as otherwise required by the statute.  (That statute provides that “If trust property of two and one-half acres or less which is limited to and utilized for either a single one-family or a single two-family dwelling is sold pursuant to the trustee’s power of sale, no action may be maintained to recover any difference between the amount obtained by sale and the amount of the indebtedness and any interest, costs and expenses.”)  M&I then filed an appeal.

On appeal, the Arizona Court of Appeals held that because the Muellers purchased the property with the purpose of occupying a single family home for their own use, they were protected by the anti-deficiency statute, never mind that the residence was never constructed or actually occupied.  The Court’s rationale was that such a holding was consistent with the legislative intent of the statute – to protect homeowners.  The Court wanted to avoid what it called a blurry artificial line that would be created if the Court adopted a “physically inhabit” standard.  For example, such a standard could result in statutory protection of  a homeowner who camped out on the property or moved into the home for one day, but no protection for a homeowner who did not camp out or was just a day or so away from moving into the property. 

The Court also distinguished prior Arizona case law in which a residential commercial builder who had not completed construction on the subject property was held not protected by the anti-deficiency statute.  The Court distinguished that case because the Court in that case limited its holding to the facts of that case and because the debtor in that case was a residential commercial builder, not a homeowner.  The Court reiterated the legislative intent of the statute is to protect homeowners, not commercial builders.   

Click here for a copy of the M&I Bank v. Mueller decision.

Interested in learning more about Arizona’s Anti-Deficiency Statutes?  Watch our video presentation.  The video covers basic terminology, concepts and the application of Arizona’s Anti-Deficiency Statutes to trustee’s sales (non-judicial foreclosures) and judicial foreclosures.