A deficiency judgment is the assessment of personal liability against the seller for the unpaid balance of the mortgage debt when the proceeds of a foreclosure or short sale are insufficient to satisfy the debt. Such liability is typically crushing for a seller who in all likelihood is already facing financial difficulties. Therefore, any seller considering the short sale option or facing foreclosure must examine the potential for a deficiency judgment. California addresses this issue within CA Code of Civil Procedure section 580, et seq.
The crucial determination is whether the loan at issue is considered “recourse” or “non-recourse” debt. See the below definitions:
Non-Recourse Debt
In the event of default by the borrower, the lender is restricted to recovering the property, without any right to proceed against the borrower for any deficiency after sale. The lender is prohibited from seeking any of the borrower’s assets separate from the subject property. Of course, if any fraud, misrepresentation or other illegal acts are discovered on the part of the borrower, exceptions will apply.
In California, debt is treated as “non-recourse” under the following two loan scenarios:
1) when loan is made to purchase residential dwelling of four units or less, where borrower occupies at least one unit; OR
2) any seller carry back financing secured by subject property.
Recourse Debt
In the event of default by the borrower, the borrower may be personally liable for the deficiency and the lender may choose to reach to the borrower’s personal assets such as bank accounts, wages, and any other assets the lender can locate.
Examples of recourse loans are refinancing of existing loans, commercial property loans, or H.E.L.O.C. loans.
Determining whether you may face a deficiency judgment as a result of a potential short sale or foreclosure is an essential analysis. Of course, there are a variety of other important considerations such as potential tax consequences and effects on credit ratings.
One of my clients, a 30 year veteran of apartment investing, forwarded a complaint against him by the Department of Fair Employment & Housing for violation of the Fair Employment and Housing Act. Just a short while ago, the Department of Fair Employment & Housing required offending parties and their managers to attend Fair Housing training. Fair enough! I think it is great for everyone to be educated on the issue.
However, the Department of Fair Employment & Housing has a new demand. BIG MONEY. The Department of Fair Employment & Housing settled for 10% of their initial demand.
It was obvious that the settlement made financial sense. However, the client felt as though he had been the victim of a “shake-down” lawsuit by his own state government.
It is the wild west in California’s housing and mortgage industry. The new, latest and greatest service offered in the real estate industry is LOAN MODIFICATION. Companies are springing up everywhere as self proclaimed loan modification experts. However, this is the wild west and there are no experts. Every bank is different. In fact, the servicing agents within the banks have different terms and guidelines and those guidelines are changing every day. Nobody is truly an expert! Every loan modification agreement must be analyzed closely.
Borrowers should get answers before signing the loan modification… What are the tax implications? What are the fees? What do the new terms actually mean? What are other options?
Many borrowers desire a lender to forgive or cancel a portion of the debt. Prior to 2007, the IRS considered forgiveness of debt as taxable income. The Mortgage Debt Relief Act of 2007 created a homeowner exception for debt incurred by buying or improving real property. However, Loan Modification is not buying or improving real property. Thus, forgiveness or cancellation of debt as part of a loan modification has tax implications!
Loan Modification agreements charge attorney’s fee, loan modification administrative fees, late fees, etc… All are negotiable!
Another aspect of Loan Modification… The Truth In Lending Act and Predatory Lending. Was the loan properly documented at the inception? If not, certainly the borrower has serious negotiating power! Loan documents should certainly be reviewed prior to any Loan Modification.
A Loan Modification Attorney can also leverage the threat of litigation and bankruptcy to secure a more favorable loan modification. Often, the lenders elevate the negotiations to their in house counsel once a borrower “lawyers-up.” Thus, the run-around ends and borrowers get results!
I recently met with a potential client who was served a “3-day notice to pay rent or quit”…which happened to be improperly served…which came after a 60-day notice to vacate had been served two weeks prior…which happened to have been rescinded days later by the attorney…MY POINT IS THIS: the Rent Stabilization Ordinance of Los Angeles (aka “rent control”) is complicated enough, but throw in Rent Escrow Account Program (REAP) regulations and someone is bound to foul things up. There are many victims when attorneys, property management companies, housing authorities and tenants are playing with bad information. By the way, in the example I mentioned above, the property was just recently taken back by the bank (current owner) from a delinquent owner (original landlord/lessor). Sound familiar in today’s real estate climate?
Based on my discussion with the potential client, I thought I would share one important piece of information when it comes to evicting tenants in Los Angeles when the subject property has been accepted into the REAP program. Among the many legal steps a landlord must take before, during and after an eviction action, REAP introduces a handful of other considerations.
Prior to initiating an eviction action against a REAP tenant, the landlord must request verification in writing from the Los Angeles Housing Department (LAHD) that the tenant has not paid rent into the REAP account. LAHD must respond within three (3) business days. The landlord shall not initiate any actions to evict on the basis on nonpayment of rent without making this inquiry. Naturally, if the landlord receives confirmation that the tenant has paid the rent to LAHD, no eviction action shall be initiated based on nonpayment.
Many have heard the latin phrase caveat emptor (translation: “let the buyer beware”). However, in the current real estate market, I find caveat venditor (translation: “let the seller beware”) much more appropriate.
With foreclosure filings and notices of default increasing daily, sellers are desperate for assistance and unfortunately misinformed people–not atypically–are more than willing to serve up poor advice. The intent of this blog entry is intended more so to encourage readers to seek out qualified guidance from established sources, rather than to litter the blogosphere with yet another long-winded real estate agent pep-talk on the market.
I would like to address short sales briefly and make readers aware that there is much more to the process than simply dumping your current debt and moving on with your life. The concept of the short sale is not new, yet with the onslaught of sub-prime mortgages and a lagging economy, short sales have become a hot topic of discussion.
In simple terms, a short sale is the sale of a house in which the proceeds fall short of what the owner still owes on the mortgage. The lender agrees to accept the proceeds of a short sale and may forgive the rest of what is owed.
Now, to the nitty-gritty. If your personal knowledge and advice from others is limited to the above simple definition of a short sale–STOP, consult an attorney and/or tax advisor. You need additional information on tax liability, effects on credit, deficiency releases and potentially many other peripheral considerations. The federal government supplied tax liability support for struggling homeowners through the passing of the Mortgage Forgiveness Debt Relief Act of 2007. This can directly apply to a seller considering a short sale. Of course, the seller must qualify for such relief and be wary–this Act pertains only to federal tax liability. A seller must also seek out what kind of state tax liability he/she may or may not face related to a short sale.
This initial blog entry will be one of many on this topic. I will address in detail many of the factors sellers should consider when weighing the option of a short sale. As always (and especially with today’s ever-changing real estate market), my writings are general discussions and should be read in that light. Each situation is unique and you should always consult your attorney to discuss the details of your circumstances.
A common question in the minds of many property owners familiar with the Rent Escrow Account Program (REAP) is what are the REAP funds used for? Many owners assume the funds will be used to assist with funding the rehabilitation work necessary at the property. This is partially true; however, the property owner must meet certain qualifications before the money will be used for that purpose. In addition, the Los Angeles Housing Department (LAHD) deducts a non-refundable administrative fee of $50.00 for each individual rent payment made to LAHD per month, per unit.
Below are scenarios where LAHD will consider the withdrawal of funds by the owner from the REAP account, upon review hearing by the LAHD General Manager (Los Angeles Housing Department - Rent Stabilization Ordinance - Section 1200.00, et seq.):
1. When such release is necessary to prevent a significant diminution of an essential service to the building, including utilities, trash services, security, pest control, and managerial services as required by state law. When a request for such release is not supported by the tenants, the burden is on the landlord to show financial hardship preventing payment of such services beyond a mere negative cash flow for the property.
2. When necessary for the correction of deficiencies including, but not limited to, those that caused the building/unit(s) to be placed in REAP. When a request for such release is opposed by the tenants, the burden is on the landlord to show financial hardship preventing the correction of deficiencies beyond a mere negative cash flow for the property.
Within twenty-one (21) days of receipt of a request for release of funds, the General Manager will hold a hearing to review the owner’s request. In situations posing imminent health and safety threats, the General Manager may order the release of funds without a hearing or on shortened notice.
LAHD goes to great lengths to state that a request for release of funds shall not be considered if based solely on negative building cash flow or the owner’s inability to obtain a loan. This leads property owners to believe that LAHD is more concerned with the overall financial capabilities of the property owner, as opposed to the financial condition of the specific property at issue.
REAP is a fairly new program and no substantial precedence has been set on this issue. In short, it appears that LAHD is limiting its REAP account withdrawals to owners who are financially unable to proceed with the necessary repairs on their own.
Once a property is formally accepted into REAP, an escrow account is established by the Los Angeles Housing Department (LAHD). Rent payments from tenants of the property may be deposited into the escrow account. Interestingly, the tenants are not required to pay their rent into the REAP escrow account. However, the City of Los Angeles may seek a court order forcing the property owner to remand any rents received from the tenants while in REAP. The City of Los Angeles can only seek this relief if: 1) the units have been in REAP for at least six months; and 2) an average of less than 50 percent of tenants in the building have been paying into REAP on a monthly basis.
Each month while the property is in REAP, LAHD will provide the property owner with an accounting for all rents paid into the REAP escrow account and any deductions. Once a property is removed from REAP, a full accounting of rents paid into, and deductions taken from, the escrow account will be provided. All rent money deposited into the escrow account and not expended will be returned to the legal owner of the property at the time the property is released from REAP. If there is an ownership, foreclosure or control dispute and an objection to the release of the funds is filed, LAHD will retain the funds until the dispute is resolved either by court order or private agreement.
I will cover LAHD-mandated rent reductions while a property is in REAP and situations when a property owner is allowed to make withdrawals from the REAP escrow account in later posts.
As mentioned in previous posts on the Rent Escrow Account Program (REAP), once a notice accepting the property into REAP has been mailed to the landlord, the property owner has fifteen (15) calendar days to appeal the REAP acceptance. The appeal must be submitted on the appeal form provided by the Los Angeles Housing Department (LAHD) and must include the specific grounds for appeal and the names, current rents, and rent due dates of all tenants subject to REAP. The property owner (appellant) must provide the specified amount of copies of the appeal request when submitting the appeal. If no appeal is filed, the property is automatically accepted into REAP.
At the appeal hearing (often combined with the General Manager’s Hearing), typically the property owner, the tenants and any enforcement agency or other related party will be in attendance. Parties are given the opportunity to present documents, written declarations and any other evidence relevant to the proceedings. Preparation by the property owner in advance of the appeal hearing is crucial. The hearing is a valuable opportunity for a property owner to tell their side of the story and potentially halt REAP acceptance. Therefore, every effort should be made to present a thorough case.
The tenants and/or enforcement agencies may present proof that particular violations, although only discovered in potential units, are widespread and therefore additional units should be accepted into REAP. Tenants and/or enforcement agencies will likely present photographs and reports produced during previous inspections of the property.
The property owner and/or his advocate may present proof that REAP is inappropriate because the violations at the property were caused by the tenants. The property owner may also present justifications for avoidance of REAP based on the best interests, health and safety of the tenants. The burden of proof falls on the appellant property owner to demonstrate his/her case by a preponderance of the evidence.
This is the property owner’s opportunity to enlighten the decision-maker. The presentation must be fact-based, supported by evidence and to-the-point in order to be effectively persuasive. Hiring an attorney to advocate on your behalf or at the very least provide guidance and assist in preparation for the hearing can be very helpful.
First, this is not a football term. In the legal universe, a receiver can be appointed by a government regulator pursuant to a statute, appointed by a court or appointed privately. Under a receivership, the receiver undertakes custodial responsibility over another’s property, assets and rights. The extent of the receiver’s duties and powers are stated in the appointment documents, be it a court order, a statute or private agreement. Receiverships are most commonly utilized for: interim corporate management, marital dissolutions, fraudulent transfers, criminal profiteering, white collar crime and real property disputes.
The receiver is a neutral third party many times playing an interim role while a separate (likely underlying) dispute is resolved. In the case of real property, receiverships are common and necessary. Typically, when dealing with real property, the receiver is appointed by a court based on a property dispute that has reached the court system (i.e. health and safety code violations, foreclosure proceedings).
For instance, if an apartment owner is found to be in violation of health and safety codes and a court is convinced the apartment owner is not capable of solving the underlying problem on his/her own, a receiver may be appointed to take over the property. While the property is under receivership, the receiver will oversee and coordinate rent collection, carry out maintenance and repairs to bring the property up to code with respect to the applicable health and safety laws and in doing so potentially secure an additional loan on the subject property to finance the required maintenance and repairs. The receiver will typically hire a property management company under these facts.
The receiver, in the above example, does not work for the owner of the property nor does it work for the tenants or the tenants’ advocates. The receiver is a neutral third party carrying out duties bestowed upon him/her by the court pursuant to a court order. The receiver is a fiduciary and officer of the court and must oversee the property and assets according to the court’s directives. The receiver will be obligated to report back to the court through comprehensive reports detailing the budget, progress, projections and goals. Once the receiver completes the objectives of the court’s order and files a final report reflecting such, the receivership will be dismissed and the receiver shall be discharged from his/her duties.
Of course, an apartment owner’s main source of monthly income generated from the property will be rent collection. However, there are alternative ways to generate additional income that may just transform your investment from a “break-even” asset to a profitable one.
Laundry Income
Laundry machines on site will consistently drive more dollars per month to your investment. There are a handful of competitive and proven laundry companies that will not only service the machines and collect coins–but they will also provide the machines themselves and possibly pay you “door money” (dollar amount per unit) to sweeten the deal. Of course, these companies have to make their money as well. Typically, the laundry company has several profit-sharing plans it will offer depending on the size of the building.
Cell Tower Licensing
Another avenue for additional income is the issuing of a license or lease for a cellular tower to be placed on the property of an apartment or commercial building. The space consumed could be as small as 10′ by 10′. As we all know, cell phones are not going away and the required cell phone towers need a place to hunker down. Depending on the cellular company, it is not uncommon to receive an additional $750 to $1000 per month for the placement of a cell phone tower at a property.