What are "Anti-Deficiency" Laws?
As a form of relief from some aspects of foreclosure, some states have "anti-deficiency" laws, which protect purchasers of residential real property used as primary residence. These laws prohibit lenders from suing their borrowers for the discrepency between the mortgage balance and the selling price at foreclosure. So in states that have such laws, lenders cannot sue a homeowner who owes $500,000 on a mortgage for a home that sold for $300,000 at foreclosure. These laws only apply to a borrower's primary residence, not second homes or vacation property.
How Anti-Deficiency Laws Work
In a typical foreclosure, if the purchaser fails to make the mortgage payment the property is foreclosed and title is obtained by the lender through a legal procedure. The property is then typically sold to pay the mortgage, and a deficiency between the sale price and the outstanding balance of the mortgage usually exists. Many states that allow deficiency lawsuits base the deficiency on the fair market value of the house, not the selling price. So if a home sold for $300,000 at foreclosure but was appraised at $400,000, and the borrower still owes $500,000, he can only be sued for $100,000.
Under anti-deficiency laws, if the mortgage is for the purchase of a dwelling occupied by the purchaser, the purchaser will not be held responsible for any deficiency. The lender can only recover the property and the proceeds of a subsequent sale. The purchaser does not pay any deficit between the sale proceeds and the outstanding loan balance. This allows the purchaser to walk away from a property without owing a deficiency judgment amount. In states where deficiency claims are allowed, a bankruptcy filing will typically wipe out such debts.
When Anti-Deficiency Laws Do Not Apply
Anti-deficiency laws typically provide no protection for second mortgages or home equity lines. Also, there is no protection when the property is not used as the primary residence of the purchaser.
State Anti-Deficiency Laws
Roughly 14 states do not allow deficiency judgments in most cases, while some states allow them only in limited cases. For instance, Arizona's anti-deficiency law protects mortgagers with one- or two-family homes on less than 2.5 acres of land. And while deficiency judgments are allowed in Colorado, the borrower may defend against the claim if the lender fails to bid a fair market price at foreclosure.