Our real estate attorneys represent lenders and borrowers in short sale situations. A “short sale” is a sale of real estate where the lender agrees to accept less than the amount owed on a mortgage loan as part of an agreed upon sale. The Colorado Division of Real Estate of the Department of Regulatory Agencies (“DORA”) defines a “short sale” as:
. . . the sale of a real property for less than the mortgage loan balance. In the settlement of the short sale transaction the existing mortgage is extinguished. Any deficiency created from the settlement of the transaction may be transformed into a promissory note, charged off, forgiven, or pursued as a judgment against the previous owner.
In other words, in a short sale, the lender will agree to release its lien upon the real estate to facilitate the sale even if the lender is not repaid in full from the sale proceeds.
For example, if a borrower owes the lender $500,000 on a mortgage loan but the real estate can only be sold for $450,000, a short sale would allow the borrower to sell the property and obtain a release of the lien from the lender if the lender is paid the net proceeds from the sale. In this example, a deficiency of $50,000 will remain. The deficiency is the shortfall between the proceeds of the sale and the outstanding loan balance.
Due to the existence of a possible deficiency, a short sale does not necessarily result in a full release by the lender. Colorado law does not generally prohibit lender claims against a borrower or guarantor for a deficiency, even after the lender has released its lien in connection with a short sale. Some states, including California, preclude such claims. See Coker v. JP Morgan Chase Bank, N.A., 159 Cal.Rptr.3d 555 (Cal. App. 2013). §580b of the California Civil Procedure Code prohibits a lender from pursuing a borrower for a deficiency following a nonjudicial foreclosure or following any foreclosure if the loan was a purchase money loan. In Coker, the Court was faced with the novel question of whether the anti-deficiency protection of §580b extended to a short sale (not a foreclosure) involving real property secured by a deed of trust based on a purchase money loan. The Court held that the anti-deficiency protection extended to any sale involving a purchase money loan, not just a foreclosure. Thus, the lender was prohibited from pursuing the borrower for a deficiency. California has shifted the risk of falling property values to the lender.
No such anti-deficiency laws exist in Colorado. Accordingly, the Coker decision will not impact collection of deficiencies in Colorado. I am not aware of any Colorado case specifically addressing the issue of collection of a deficiency following a short sale. Castle Rock Bank v. Team Transit, LLC, 292 P.3d 1077 (Colo.App. 2012), cert. dismissed (Oct. 3, 2012), involved a suit by a lender against borrowers for balances due under promissory notes. In that case, collateral consisting of the family home was sold in a short sale and the proceeds from the short sale were applied to the outstanding balance. No party raised the issue of whether the short sale prohibited collection of the remaining balance.
When considering a short sale, treatment of any deficiency should be carefully considered. A borrower or guaranty may mistakenly assume that a lender’s consent to a short sale results in forgiveness or waiver of any deficiency. However, this is not the case. The borrower should obtain the lender’s agreement to waive any deficiency in writing prior to the closing of the short sale. Otherwise, the lender retains the ability to pursue the borrower or a guarantor for any deficiency.
For assistance with a Colorado short sale, contact our attorneys for a free telephone consultation at 303-688-3189.
