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THE FORECLOSURE PROCESS
If you are going to buy foreclosed or preforeclosure and shortsale properties in the Greater Sacramento Area, Fair Oaks, Carmichael, Elk Grove, Rancho Cordova, Citrus Heights, North and South Natomas, Folsom, Granite Bay, Roseville, Rocklin, Landpark, McKinley Park, Florin ,Fruitridge and El Dorado Hills, then you need to know the Foreclosure Process.
JUDICIAL AND NONJUDICIAL FORECLOSURES
Beneficiaries sometimes have the choice of using either a judicial or nonjudicial foreclosure in California. However, when given a choice, the nonjudicial foreclosure is almost always used because it is much faster and less costly -- just under four months if there are no hitches. Judicial foreclosures could take a year or more. Also, there are attorney's fees and court costs.
The reason a beneficiary would choose to use a judicial foreclosure is that it allows him, in certain cases, to seek a deficiency judgment against the trustor if the property sells at the judicial foreclosures sale for less than the unpaid loan balance. Most beneficiaries will not even consider a judicial foreclosure unless they feel that the borrower has fairly deep pockets and/or other assets. Note: A beneficiary cannot seek a deficiency judgment if he uses a nonjudicial foreclosure.
Under California anti-deficiency laws, a deficiency judgment may not be obtained on the foreclosure of a loan that was used to purchase real estate. In other words, a purchase money loan. This is considered a non-recourse loan, which means that the borrower is not personally liable for the repayment of the loan. The only security the beneficiary has is the property itself, and he can only use a nonjudicial foreclosure. Note: FHA and VA loans are exceptions. They may hold the borrower personally liable and go after a deficiency judgment.
To determine what constitutes a purchase money loan, one of the following criteria must be met:
The seller finances all or part of the purchase price on the property that was purchased.
A third party or institution lends all or part of the purchase price to a buyer of a property of one to four units with the buyer to occupy at least one unit.
On the other hand, if the borrower refinances or gets a junior loan after escrow closes, the beneficiary can seek a deficiency judgment against the borrower by using a judicial foreclosure. These are recourse loans, also called hard money loans. This means that the borrower is personally liable for the repayment of the loan.
The nonjudicial foreclosure is the focal point of this manual because it is the foreclosure method most often used in California. By the way, only beneficiaries and Homeowners' Associations have the right to use this method of foreclosure.
The following discussion represents a brief overview of the nonjudicial foreclosure process. For a thorough discussion, please read Sections 2924 - 2924k. of the California Civil code, which can be found in the Appendix of this manual.
WHY BENEFICIARIES FORECLOSE
When a beneficiary forecloses, it is usually because the trustor is unable to make the monthly payments, or cannot pay off the balance of the loan when it becomes all due and payable. The beneficiary can also foreclose if the trustor neglects the property, or fails to pay the property taxes or insurance. In fact, the beneficiary can foreclose whenever he feels that his position is in jeopardy.
Suppose the trustor is not making payments to the beneficiary in first position, but is paying the beneficiary in second position. The beneficiary in second position can bring the first current and then foreclose on his own lien, adding the amount paid to cure the first to his own trust deed.
NONJUDICAL FORECLOSURE PROCESS
The nonjudicial foreclosure process begins when the beneficiary notifies the trustee in writing that the trustor is in default and instructs the trustee to initiate foreclosure proceedings. The trustee asks the beneficiary for the original note and trust deed plus written information such as:
- The unpaid balance of the note.
- The property address.
- The reason for the default. This is usually because the trustor failed to make the monthly payments, or was unable to pay off the loan when it became due.
NOTICE OF DEFAULT
Upon receipt and verification of all necessary information, the trustee prepares the Notice of Default and records it in the office of the county recorder of the county in which the property is located. (See pages 18 - 19) for an example.) If you are interested in listing, purchasing, or selling properties that are in default, you will have to know where to find and how to use default notices. (See Chapters 3 and 4.)
Within ten days after recording the Notice of Default, the trustee must mail copies of the notice to the trustor and to all parties who recorded a Request for Notice of Default.
If the trust deed does not contain a Request for Notice for Notice of Default by the trustor, or does contain such a request but not the trustor's address, and no request has been recorded separately from the trust deed by the trustor, the trustee must do one of the following;
Publish a copy of the Notice of Default once a week for at least four weeks in a newspaper of general circulation in the county in which the property is located. The first publication must be within ten days after recording the Notice of Default.
Personally deliver a copy of the notice to the trustor within ten days after recordation.
Post the Notice of Default in a conspicuous place on the property and mail the notice to the last known address of the trustor.
Within one month after recording the Notice of Default, the trustee must mail a copy of the notice to the beneficiary of any trust deed recorded before or after the trust deed being foreclosed.
REINSTATEMENT PERIOD
If the trustor is in foreclosure for being behind in monthly payments, he has the right to reinstate the loan up to five business days before the date set for the sale of the property. If the sale is postponed, the right of reinstatement is extended to five business days before the new sale date.
In order to reinstate the loan, the trustor must bring all back payments current and pay all costs, fees and penalties attached to the loan. the loan balance does not have to be paid off. After reinstatement, the foreclosure process is stopped, and the trustor resumes making regular payments.
NOTICE OF TRUSTEE'S SALE
If three months have passed since the recording of the Notice of Default and the trustor has not reinstated the loan, the trustee, with the beneficiary's approval, proceeds with the foreclosure by preparing and recording a Notice of Trustee's Sale. (See Page 20 for an example.) You have to know to find and use these notices for purchasing at a Trustee's Sale and listing and purchasing REO's. (See Chapters 3 and 9.)
The Trustee's Sale cannot be scheduled any sooner than twenty-one days after three months from the recording of the Notice of Default. The Notice of Trustee's Sale must be recorded at least fourteen days before the date of the sale.
At least twenty days before the sale, the trustee must to the following:
- Post a copy of the notice of sale in one public place in the city, judicial district, or county in which the property is to be sold - usually the bulletin board of the City Hall or County Courthouse.
- Post a copy of the notice of sale in a conspicuous place on the property to be sold - usually the front door.
- Publish a copy of the notice of sale at least once a week for three consecutive calendar weeks in a newspaper of general circulation in the city, judicial district, or county where the property is located.
- Mail a copy of the notice of sale to the trustor and to all persons who requested a Notice of Default or who are entitled to receive a Notice of Default.
REDEMPTION PERIOD
As mentioned earlier, the trustor can reinstate the loan up to five business days before the scheduled sale and stop the foreclosure process. During the final five business days before the sale, the trustor must redeem the loan in order to stop the foreclosure. To redeem the loan, the trustor must pay off the entire loan balance in addition to any past due interest payments, costs, fees and penalties attached to the loan.
It is very important to know that the foreclosing beneficiary can allow the trustor to reinstate the loan during the redemption period. The foreclosing beneficiary can also renegotiate the terms of the loan at his time. The following is an example of how this knowledge turned out to be very profitable for me.
Several years ago I had a listing on an apartment building that was priced at $310,000 and was encumbered with a $100,000 first trust deed. The property was worth around $290,000. After rejecting several good offers, the owner decided to take the property off the market. About a year later, I received a call from him asking if I knew where he could get a fast loan because the property was going to be sold at a Trustee's Sale in five days. Nothing like waiting until the last minute!
What happened is that the owner had encumbered the property with a $60,000 second trust deed in order to get enough money to start a business. Unfortunately, the business failed miserably. The owner was now in poor financial shape and unable to keep up the payments on the first and second trust deeds. Fortunately, no Notice of Default had been filed on the first. However, the beneficiary on the second trust deed foreclosed. The owner believed that the only way to stop the Trustee's Sale was be redeeming the second.
I informed the owner that there was another way to remedy the problem. If he were willing to sell the property, I would lend him $15,000. This would be enough money to cure the first and second trust deeds, plus give him some extra cash to cover the monthly payments until the property sold. Even with my loan, there was still around $120,000 equity in the property. Everything hinged on getting the holder of the second to allow the owner to reinstate the loan.
The next day I contacted the foreclosing beneficiary, a well-known lender in California, and said that I had a cashier's check for him that would bring the loan current. He said, "sorry sucker, if you want to stop the foreclosure, you have to redeem the loan. That's the law." I replied in a semi-naive tone, "You know, I remember reading somewhere that during the final five business days before the sale, if the beneficiary agreed, the trustor could reinstate the loan. Is that true?" He told me it was, but he had no intention of letting the trustor reinstate the loan. because there was over 4120,000 equity in the property, it was obvious that this greedy beneficiary was hoping to purchase the property at the Trustee's Sale.
I then informed the beneficiary that if he didn't allow the trustor to reinstate the loan, he was going to file bankruptcy. Upon hearing this, the beneficiary told me to come right over. He knew that the filing of bankruptcy could delay the foreclosure process for an indefinite period of time.
My knowledge of the foreclosure process enabled me to save my clients equity and generate a nice commission for myself when the property sold a few months later. I have also received lots of referrals from him one the years.
TRUSTEE'S SALE
The Trustee's Sale is like a public auction and is held in the county in which the property is located. The sale may be postponed at any time before its completion at the discretion of the trustee, or upon instruction by the beneficiary to the trustee. After more than three postponements, except those ordered by a court, or by mutual agreement between the beneficiary and trustor, a new notice of sale must be filed.
The property is sold to the highest bidder. If nobody bids at the sale, the property reverts to the foreclosing beneficiary. The sale is final . The trustor has no right of redemption after the sale, and the successful bidder has the right to take immediate possession of th property if it is owner-occupied. If you are a real estate agent and have a listing that goes to a Trustee's Sale, your listing is no longer valid after the sale.
What do I bid on?
At the Trustee's Sale, you bid on the position of the trust deed that is being foreclosed. Keep in mind that the trustee conducting the sale will never divulge the position of the trust deed, only the amount of the opening bid. You are responsible for ascertaining the positions and amounts of all existing liens. As you will soon see, your research better be accurate!
How Much do I bid?
In order to get the property, you must bid more than the opening bid,; also called the minimum bid, beneficiary's bid or credit bid. Your overbid could be for as little as one penny. The opening bid is $27,000. This amount represents what is owed to the foreclosing beneficiary and includes the loam balance, back interest, late payment penalties, and the trustee's fees and expenses. Your minimum bid would have to be $27,000.01. The property reverts to the foreclosing beneficiary if there are no overbids at the sale. Remember, this is how are created.
How much money do I bring to the sale?
You have to bring enough cash to the sale to cover the opening bid plus whatever you plan to overbid. The cash is usually brought in the form of a cashiers check.
If the foreclosing beneficiary wants to bid at the sale, he only has to have enough cash to cover the amount he plans to overbid. This is why the opening bid is also called the credit bid. Actually, the foreclosing beneficiary doesn't even have to attend the sale to bid. The person conducting the sale (the auctioneer) can bid on behalf of the foreclosing beneficiary. If the foreclosing beneficiary planned to bid up to $40,000, he would need $13,000, which is the difference between the opening bid of $27,000 and his final bid of $40,000. You and I would have to bring $40,000. Imagine the advantage the foreclosing beneficiary would have if the opening bid were $300,000.
I'm the winning bidder--now what?
The winning bidder at the Trustee's Sale is responsible for all liens senior to the trust deed being foreclosed and must arrange to take care of them after the sale. all liens junior to the trust deed being foreclosed are wiped out by the sale and are of no concern to you. (Note: junior lien holders do have the right to file a claim on any proceeds from the sale.
The third trust deed ($10,500) would be wiped out. So, what would you actually pay for the property if you bid $40,000 for the second trust deed? The answer is $145,000: $40,000 bid + $2,000 property taxes + $103,000 balance and arrears on the first. Remember, property taxes are senior to all liens.
Now you can see why it is so essential to thoroughly research a prospective property. If you believe you are bidding on a first rust deed, and it is really a second, or you miss a senior lien, you could get "killed" financially instead of "making a killing." You would be shocked at the number of people who are "killed" purchasing at these sales simply because they are unaware of the rules of the game or do careless research.
Several years ago, a friend of mine went to a Trustee's sale to try to purchase a property that he felt was worth around $550,000. according to his research, the opening bid of $130,000 was in second position. There was a first of approximately $280,000 and delinquent property taxes of $5,000. there were several liens that were junior to the second. However, these junior liens were of no concern to him because they would be paying around $425,000 for the property: 1st: $280
,000 + Bid: $140,000 + Property Taxes: $5,000 = $425,000. Of course, this did not include his fix-up costs, carrying costs and the costs of selling the property.
On the day of the sale, my friend was surprised to see that he was the only person there to bid. This meant either all of the other investors had missed this one or he had missed something when doing his research. Since my friend had already purchased several other properties at Trustees' Sales, he was confident that he knew what he was doing. Therefore, he decided that the others had missed this gem. When the auctioneer asked if there were any overbids, my friend bid $130,000.01 and was declared the winner. He paid $9,999.99 less than he had planned. However, when he handed his cashier's check (which was made out to him) to the auctioneer, he saw a note on the auctioneer's clipboard that said: "If nobody overbids, lower the opening bid to $75,000." This is called underbidding and often occurs when the foreclosing beneficiary really wants to get rid of the property.
My friend realized immediately that something was wrong. Remember, he had already given his cashier's check to the auctioneer. since the check was made out to my friend, he had to endorse it over to the trustee designated by the auctioneer in order for the check to be cashed. the check was of no use to my friend either. The payment of a cashier's check cannot be stopped like a regular check. In addition, according to Section 2924h..(d) of the California civil code, if the last and highest bidder fails to deliver to the trustee the amount of his final bid, that bidder is guilty of a misdemeanor punishable by a fine of not more than $2,500.
My friend told the auctioneer that he felt something was wrong and asked him to wait a few minutes while he made a phone call to his lawyer. he actually called the title company that had given him the information regarding the liens on the property. He had an arrangement with a title company to get free oral preliminary reports on properties that he wanted to purchase and had worked with the same title person for over a year without any problems. This time, however, it turned out that his contact missed a subordination agreement between the second and third trust deeds. The liens were really in the following order: 1st: $280,000; 2nd: $210,000; 3rd: $130,000. What my friend had purchased was in third, not second position. Therefore, he just paid $625,000.01 for a property he felt was worth $550,000: 1st: $280,000 + 2nd: $210,000 + Bid: $130,000.01 + Property Taxes: $5,000 = $625,000.01
My friend telephoned his lawyer immediately and was told not to endorse the cashier's check. after three weeks of negotiation between his lawyer and the beneficiary, the beneficiary agreed to a settlement of 410,000 and gave the cashier's check back to my friend. This adventure ended up costing my friend a total of $12,500, which included his lawyer's fees. A far cry from what he could have lost.
If you ever go to a Trustee's Sale an you are the only one bidding on the property, seriously consider not bidding! Odds are that you erred, not the others. Let the property go back to the beneficiary and negotiate with him after the sale.
Who gets the proceeds from the winning bid?
The trustee disburses the proceeds from the winning bid. The foreclosing beneficiary gets paid off first. If there are any liens junior to the one foreclosed, the junior lien holders have a right to file a claim for any surplus money. The trustor/former owner receives whatever is left after the foreclosing beneficiary and all junior lien holders have been paid.
Talking about the situation previously discussed, if the winning bid were $40,000, the foreclosing beneficiary would receive $27,000; the holder of the third would receive $10,500; and the trustor, $2,500. If the winning bid were $30,000, the third would only get $3,000, and the trustor would not receive a penny.
Dangers of the Trustee's Sale
Purchasing properties at a Trustee's Sale is one of the most dangerous ways to buy real estate. Let's examine some of the pitfalls:
- You will rarely have an opportunity to see the inside of the property before the sale. Therefore, you are going to have to "guesstimate" the repair costs.
- By law, if the property is owner-occupied, you are entitled to immediate possession after the sale. However, don't expect the trustor to be packed and ready to move. You will probably have to go through a long and costly eviction.
- The trustor could severely damage the property before vacating.
- The winning bidder receives a Trustee's Deed, which contains no warranties as to title, possession, encumbrances, or condition of the property.
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