Using Arizona Anti-Deficiency Laws as Leverage in Residential Short Sale Negotiations.

Margaret L. Steiner
Certified Real Estate Specialist
Lorona Steiner Ducar, Ltd.
3003 North Central Avenue, Suite 1500
Phoenix, Arizona 85012
Telephone:  (602) 277-3000
Facsimile:  (602) 277-7478
meg@azlawyers.com
www.azlawyers.com

Ms. Steiner is available for personal consutations concerning real estate matters
in the State of Arizona, including short sales.

Arizona is sometimes referred to as an "anti-deficiency" state because we have certain laws that prohibit a lender from suing a borrower for a deficiency following foreclosure on a home if the anti-deficiency laws apply. A "deficiency" is the amount equal to the difference between the amount owed to the lender and the amount realized by the lender through a foreclosure on the residence whereby the residence is sold to either the lender or a third party bidder at the foreclosure.

In Arizona, a lender may foreclose on a residence by either holding a non-judicial trustee's sale conducted by an attorney or title company or by judicially foreclosing on the residence through a lawsuit. It is very rare for a lender to foreclose on a residence through a judicial foreclosure. Instead, the non-judicial trustee's sale process is used in the majority of situations because it allows the lender to acquire title to the property relatively quickly and at a reasonable cost. The Arizona anti-deficiency laws prohibit a lender from suing the borrower for the deficiency after either a trustee's sale or judicial foreclosure if the property is 2 and ½ acres or less and "limited to and utilized as a dwelling". In the case of a judicial foreclosure there is an additional requirement that the loan also must have been a "purchase money" loan used to acquire the home. If the anti-deficiency protection applies, the lender cannot waive its right to foreclose on the residence and instead sue on the promissory note for the loan. Whether the anti-deficiency protections apply to a particular loan depends on the facts and circumstances of the situation, the nature of the loan, and the foreclosure method selected by the lender.

In order for a short sale to be approved by a lender, the lender must agree to take less than the amount owed to the lender. Since the short sale is a negotiated settlement with the lender for a discounted payoff of the loan, the anti-deficiency laws do not protect the borrower and, unless otherwise agreed by the lender, the borrower remains liable for any balance still owing to the lender after the lender's receipt of the discounted payoff. In a short sale negotiation, the borrower's goal is to have the lender agree to take the sales proceeds in full settlement of the loan with no further liability on the part of the borrower. The lender is going to be reluctant to agree to this, however, if the lender is in a position where the lender would otherwise have the ability to sue the borrower for a deficiency after a foreclosure on the property, since the lender would then be able to collect from other assets of the borrower, including the garnishment of wages. If, on the other hand, the lender knows that after foreclosure it would not be able to sue the borrower or collect against any other assets of the borrower, the lender will be more likely to agree to the short sale with a full release of liability since the short sale will generate a relatively quick cash payment to the lender and avoid the time and expense of foreclosing on the property. If the residence is subject to two or more loans, the negotiations will be much more complicated as all lenders must agree on the short sale price as well as the portion of the sales proceeds to be received by each lender.

If the lender would have the right to pursue the borrower for a deficiency after a foreclosure, the lender will often require a cash contribution from the borrower at the

closing in order to fully release the borrower from any liability for the remaining amount owed on the loan. If the borrower does not have the means to make a cash contribution, the lender will likely require that the borrower agree in writing that the borrower is still liable for the remaining amount owed on the loan with the terms of the repayment of that amount to be worked out after the short sale.

The short sale payoff terms ultimately agreed to by the borrower and lender will be documented in a writing signed by both parties. The documentation typically consists of an agreement setting forth the lender's approval of the short sale, any lender requirements for the short sale including any cash contribution requirement of the borrower, and whether the borrower will remain liable for the balance of the loan or whether the lender is accepting the short sale proceeds and/or any cash contribution by the borrower in full satisfaction of the loan. If the balance of the loan is to be paid subsequent to the closing of the short sale, the lender may require that the borrower sign a new promissory note for the amount to be paid following the closing.

Although the short sale process may seem intimidating, in the long run, a proactive borrower will be successful in negotiating an agreement that is in the best interests of both the borrower and lender. Whether or not a borrower is liable for a deficiency following foreclosure may provide the leverage necessary in order to convince the lender that the short sale is in the best interests of the lender.