What Are 'Anti-Deficiency' Laws?

A foreclosure is a stressful process. A homeowner who is no longer to pay their mortgage is at risk of losing their home. The mortgage lender seeks to recoup their losses. 

In many cases, a homeowner facing foreclosure is already under immense financial strain. That’s why many states have created anti-deficiency laws. These laws limit lenders’ ability to seek money from borrowers when a foreclosure sale fails to cover the morgage. 

The following is a general overview of how these laws work. See FindLaw’s State Foreclosure Laws section for more information. You can also get advice from a foreclosure lawyer near you.

What Is a Deficiency in Foreclosure?

A deficiency is the gap between the unpaid loan balance and a home’s selling price in foreclosure. Sometimes, a foreclosure sale doesn’t raise enough money to satisfy the home loan.

A deficiency can happen for several reasons, such as: 

• The home value decreased since the original purchase, which was a common issue during the Great Recession.
• The home sold at auction below the fair market value.
• The unpaid loan amount now exceeds the home value due to interest, fees, and other costs.

That’s when a lender might hold the former homeowner responsible for paying the difference (deficiency) out of their own pocket. The lender would need to seek a deficiency judgment from the court.

Protection of Anti-Deficiency Laws

Mortgage debts with anti-deficiency protection include:

• Mortgage loans
• Purchase money mortgages

Anti-deficiency home loans prohibit lenders from suing their borrowers for the difference between the mortgage balance and foreclosure sale price.

In general, anti-deficiency state laws only apply to a borrower’s primary house, not second homes or vacation property. Anti-deficiency laws typically do not protect second mortgages or home equity lines of credit. Also, there is no protection when the property isn’t used as the purchaser’s primary residence.

Example Anti-Deficiency Scenarios

California has anti-deficiency laws. Suppose a home in California gets sold through a trustee’s sale in a non-judicial foreclosure. The original home price was $500,000, which was entirely borrowed. But the home only sells for $300,000 after the bank forecloses. A mortgage lender can’t sue the homeowner for the $200,000 difference. This is true even though the property’s fair market value was insufficient to pay off the total amount of the $500,000 mortgage.

Similarly, a primary home is secured by a deed of trust or purchase money loan. Arizona’s anti-deficiency statute may protect it. Arizona’s anti-deficiency law applies to homes on less than 2.5 acres of land. Arizona law also requires the house to be a single one-family or single two-family dwelling.

How Anti-Deficiency Laws Work

In a typical foreclosure, if the purchaser fails to make the mortgage payment, the following occur:

• The property gets foreclosed.
• The lender takes the title through a legal procedure.

The property then gets sold to pay the mortgage. But a deficiency between the sale price and the outstanding balance of the mortgage may exist.

Many states that allow deficiency lawsuits base the deficiency on the house’s fair market value, not the selling price. Suppose a home sold for $300,000 at foreclosure but an appraiser valued it at $400,000. If a borrower still owes $500,000, they can only get sued for $100,000.

Under anti-deficiency laws, a lender can only recover the property and the proceeds of a later sale. In other words, the borrower does not pay any deficit between the sale proceeds and the outstanding loan balance. This allows the borrower to walk away from a property without owing a deficiency judgment.

A bankruptcy filing will typically wipe out such debts in states where deficiency claims are allowed. In such states, a borrower may also successfully defend against the claim if the lender fails to bid a fair market price at foreclosure.

Contact a Foreclosure Attorney

Keep in mind that every person’s situation is different. Some borrowers may be listed as guarantors on promissory notes, incurring personal liability. Others might be exempt under nonrecourse laws. Understanding these distinctions can be confusing.

Speak with a real estate foreclosure attorney for information specific to your state. They can give you legal advice to help you take advantage of anti-deficiency laws. A lawyer can also help you explore other options to delay or prevent foreclosure.