SB 1271 - Serious Changes to Arizona's Anti-Deficiency Statute*

As a REALTOR^® specializing in short sale negotiations, some of the most common questions I’m asked by clients considering a short sale include “Will I have to pay back the difference?” and “Can the bank come after me later?”  The difference, also called “deficiency,” is the amount of debt remaining after a property is sold for less than the current balance(s) on the loan(s).  For example, a seller that purchased a home in 2005 with “100% financing” might have two loans for $240,000 and $60,000, totaling $300,000 in debt secured by the property.  In the current market, the property will probably sell via “short sale” for about $125,000 leaving $175,000 in remaining debt or “deficiency.”  Naturally, when considering a short sale, the seller wants to know if they will be required to repay all or a portion of the $175,000 in a lump sum, an unsecured promissory note or, worse, if the bank can sue them for the deficiency in the future.   

One of the greatest tools for negotiating short sales in Arizona is A.R.S. § 33-814, often referred to as the “anti-deficiency statute*.”  This statute* provides an exception to the right of a debtor to recover a deficiency judgment after a trustee sale (foreclosure) for any single family home or duplex on 2.5 acres or less.  What this means, in laymen’s terms, is that if you foreclose on a regular, single family home on a regular sized lot and the bank ends up selling the property for less than you owe, they can’t come after you for the difference.  This is a powerful tool when negotiating a short sale because if your lenders know they can’t sue you for the deficiency later on, why would they bother to foreclose on the property, hire their own REALTOR^®, deal with marketing, maintenance and repair costs, etc., only to end up selling the property for the same amount or less than they are being offered in the short sale?  Deficiency laws vary by State and since Arizona has had one of the most rapidly declining real estate markets in the country for the past four years, it’s fortunate that we are an “anti-deficiency” State. 

The Arizona anti-deficiency statute* recently underwent some significant changes, however.  On July 10th, the Arizona State Senate passed SB 1271, which takes effect on September 30th, 2009, amending the current law to require that a certificate of occupancy must have been issued on the property and that the trustor (also the owner, seller and borrower in most cases) must have “utilized” the property for at least six consecutive months.  Ok, so what does all this mean? 

First off, a certificate of occupancy is a document issued by a local government agency or building department certifying a building's compliance with applicable building codes and other laws, and indicating it to be in a condition suitable for occupancy.  This would apply primarily to new construction homes that may not have been fully completed prior to the trustee sale (foreclosure).  The majority of the clients I work with have properties that were completed in 2006 or earlier and that have already been occupied by the homeowner or a tenant, so the certificate of occupancy will not be an issue in most cases. 

The requirement of the trustor to have “utilized” the property for a minimum of six consecutive months, however, is of major concern to some borrowers who wish to pursue a short sale.  The good news is that borrowers who are currently using the property as their sole or primary residence are probably in the clear.  Borrowers who have used the property in the past as their sole or primary residence, but who have already moved out the property before deciding to pursue a short sale are probably safe as well.  (Although the new law does place the burden of proof on the trustor to demonstrate that the statutory requirements to prohibit a deficiency judgment are met.)  Those who own “investment” properties they have never lived in will, however, will be affected by the recent changes to the law.  I have spoken to several attorneys about this, including John Lohr, an attorney specializing in real estate law with Hymson Goldstein & Pantiliat, P.C.  If “utilized for either a single one-family or a single two-family dwelling  by the trustor” is interpreted to mean that the trustor must have lived in the home for at least six consecutive months, then owners of “investment” properties that they themselves have never occupied, will no longer be protected by the anti-deficiency statute* if the property is sold via trustee sale (foreclosure).

This change is likely to have a dramatic effect on the outcomes of short sale negotiations for borrowers wishing to negotiate a short sale on a property they have never lived in.  In the past, my team and I have been able to successfully negotiate 100% debt forgiveness for sellers who have used the property as their primary residence as well as for investors who have never lived in the property themselves.  With these new changes, however, we suspect that 100% debt forgiveness for non-owner occupied homes will become a thing of the past.

So what’s an investor with negative equity to do?  While the outcomes and consequences have changed, the options are still the same.  The first option is, of course, to keep the property and wait for it to appreciate to what is currently owed.  A home worth $125,000 today will be worth $300,000 in about eighteen years (2027) assuming a rate of 5% annual appreciation.  Option number two is to allow the property to go to trustee sale (foreclosure).  You may be able to file bankruptcy to avoid paying part or all of the deficiency if the lender pursues a deficiency judgment against you.  Loan modification may be an option (read more here), but for many people with investment properties they have never occupied, the best option may still be to hire the AZ Short Sale Team to negotiate a short sale.  While it is unlikely that your lender(s) will forgive all of the remaining debt if you are not protected by the anti-deficiency statute*, in most cases we will be able to negotiate a settlement.  A settlement is an agreement between you and the lender to pay some of the remaining debt owed either in a lump sum, an unsecured promissory note or a combination of the two.  When the lender agrees to settle the debt, they are agreeing NOT to pursue a deficiency judgment so long as you, the borrower, hold up your end of the bargain.  Our track record includes settlement negotiations as low as 5% of the total deficiency for lump sum payments and zero percent interest for unsecured promissory notes.  For a borrower with $175,000 in negative equity, a settlement as low as $8,750 in one lump sum or spread out in payments on an unsecured promissory note with low or zero interest is a lot more appealing that a $175,000 judgment that could result in garnishing of wages and bank accounts or even bankruptcy. 

If you own a home with negative equity, please contact me at Christie@AZLifestyleTeam.com for a free, no obligation consultation to discuss your options according to your individual personal and financial circumstances.  Consultations are 100% confidential and, as always, our goal is to help you determine the path that is in your best interest personally and financially, both short and long-term. 

*You are advised to consult legal counsel regarding the application of the anti-deficiency statute and all other legal matters.