C.A.R. issued an alert last week, warning consumers of a loophole in California law that allows lenders to sue foreclosed borrowers for the difference between the mortgage and property value.

C.A.R. is also sponsoring legislation to close the loophole (Senate Bill 1178).

From the C.A.R. alert:

California has protected borrowers from so-called “deficiency” liability on their home mortgages since the 1930s, but the evolution of mortgage finance requires that the statute be updated. Essentially, it says that if a homeowner defaults on a mortgage used to purchase his or her home, the homeowner’s liability on the mortgage is limited to the property itself. The law has worked well since the 1930s to protect borrowers, ensure the quality of loan underwriting, and allow borrowers brought down by financial crisis to get back on their feet.

Unfortunately, the original law does not extend the protection to loans that refinance the original purchase debt, even if the refinance only was to gain a lower interest rate. Recent years of low interest rates and aggressive marketing campaigns by lenders have induced tens of thousands to refinance mortgages. Few homeowners realized that by refinancing their mortgage, they were forfeiting their protections and now are personally liable.

“Lenders have a responsibility to ensure that borrowers understand loan terms and can meet them,” Goddard said. “SB 1178 puts in place much-needed consumer protections and deserves swift passage by the California legislature next week.”

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