California Law for Foreclosure Consultants, Real Estate Agents, Investors, and Brokers
There are a number of areas of California law that apply to investors who deal with California real estate. While not everything can be addressed here, this article discusses some of the legal issues that arise on a regular basis for investors.
Table of ContentsProbate Issues
Preforeclosure Sale Requirements
Restrictions on Giving Foreclosure Advice
Predatory Lending Law
Licensing for Making Residential Mortgage Loans
Other Limitations on Real-Property Loans
Trusts to Avoid Transfer Taxes and Due-on-sale Clauses
One mistake that California real-estate investors make is signing a purchase contract too soon when a probate is required.
Some real-estate investors try to buy properties when the deceased left real estate to family members or friends who cannot make the monthly loan payments. If the deceased had a trust, generally there is no problem: The current trustee has the power to sell the property.
It is different, though, if the deceased either had only a will, or had neither a trust or a will. In that case there has to be a probate unless there is a will leaving everything to a surviving spouse. (There is also an exception if the assets of the estate, without subtracting any loans, is less than $100,000, but that is very unlikely if real estate is involved.) With a will leaving everything to a surviving spouse, it is often possible to bring a "spousal petition" in the probate court to transfer full title to the surviving spouse without having to go through an entire probate.
Otherwise, usually a probate must be filed or there will not be clear title to the real estate. Basically a probate is a court procedure where the will (if any) and a listing of the assets are filed with the Probate Court, a person representative (executor) is approved by the Court, creditors and heirs are given a chance to submit claims, a representative of the Court frequently determines the value of the estate, and ultimately the Court issues an order directing how the money and property in the estate are to be distributed. The whole process can take eight months or so, although the time depends on the complexity of the matter.
Real-estate investors should understand that an executor has no authority to sign contracts for the sale of real estate until that executor is approved by the Probate Court as the personal representative for the estate. Also, unless the petition for the probate asks that the personal representative be given "full authority" (and the Court grants it), any sale of real estate from the estate must be specifically approved by the Court. If the Court has to approve the sale, it may be sold for no less than 10% below the fair market value determined by the Court representative who values estate property. Sometimes executors try to handle the probate themselves without the help of an attorney; few know to ask for "full authority" when the initial papers are filed – and if it is not requested initially, the Court frequently will be reluctant to grant it later. On the other hand, once a personal representative has been approved with "full authority", any agreement signed with that personal representative regarding the purchase of real property should be binding.
Because probate is complex and non-attorneys who try to handle a probate themselves frequently run into problems, if you are dealing with a probate situation as a potential purchaser, try to get the executor to retain an attorney who can handle the probate. This does cost some money (although the attorney is only paid at the end of the probate), but otherwise the property may be lost to foreclosure. This is particularly true since, while many lenders will stop the foreclosure process if they are given proof that an attorney is handling the probate, frequently they will not stop the process if no attorney is involved.
Another mistake that real-estate investors make is not following the requirements when purchasing residential property in California if a notice of default has been recorded by the lender.
California has a detailed set of statutes setting out requirements for contracts for residential preforeclosure sales. (Civil Code §§1695-1695.17.) These statutes apply to any residential real property consisting of one-to-four family dwelling units, one of which the owner occupies as his or her principal place of residence, and against which there is an outstanding notice of default. These statutes require, among other things, that the contract:
Spell out all terms of the agreement (including, for example, buyback rights).
Contain certain notices that meet certain size and bolding requirements.
Allow the seller to cancel, usually up until midnight of the 5th business day after signing.
Be accompanied by a Notice of Cancellation form in duplicate.
Also, until the cancellation period ends, the buyer cannot:
Have the seller sign a deed or deed of trust.
Record any deed or deed of trust regarding the property.
Transfer any interest in the property to a third party.
Pay the seller any money or other consideration.
In addition, the purchaser cannot make any untrue or misleading statements regarding the value of the residence in foreclosure, the amount of proceeds the seller will receive after a foreclosure sale, or any other untrue or misleading statement concerning the sale of the residence.
Moreover, purchasers are forbidden from taking "unconscionable advantage" of the seller. This applies if the seller is incompetent or does not understand the transaction (for example, if the seller is not fluent enough in English), and may apply in other situations as well. If "unconscionable advantage" is taken, the transaction may be rescinded at any time within two years of the date of the recordation of the conveyance of the residential property.
If any of these provisions are violated, the seller may not only be able to rescind the agreement but also recover actual damages, attorneys’ fees and costs, and exemplary damages in an amount equal to the greater of three times actual damages or $2,500. Fraud or deceit may additionally be punished by a fine of $25,000, by imprisonment in the county jail or in state prison for not more than one year, or by both for each violation. Other remedies may apply as well.
Any provision of a contract which attempts or purports to limit the liability of the purchaser is void and, at the option of the seller, renders the purchase contract void.
Moral of the story: If you are going to be purchasing preforeclosure residential property, you should have an attorney review your forms.
California also has specific statutes regarding residential foreclosure consultants. (Civil Code §§2945-2945.11.) Part of these statutes are directed at those who charge an owner for helping the owner obtain any money remaining after a foreclosure sale, although the statutes cover more than just that. "Foreclosure consultant" basically is defined as any person who makes offers to perform for compensation or who performs for compensation any service to:
- Stop or postpone the foreclosure sale.
- Obtain any forbearance from any lender.
- Assist the owner to exercise a right of reinstatement.
- Obtain any extension of time for the owner to reinstate his or her obligation.
- Obtain any waiver of an acceleration clause.
- Assist the owner to obtain a loan or advance of funds.
- Avoid or ameliorate the impairment of the owner's credit.
- Save the owner's residence from foreclosure.
- Assist the owner in obtaining any remaining proceeds from the foreclosure sale.
With the exception of the last item, there are exceptions for licensed real-estate brokers and agents, accountants, licensed residential mortgage lenders and servicers, etc.
The owner has the right to cancel such a contract until midnight of the third "business day" after the day on which the owner signs the contract.
The contract must be in writing and, among other things, must:
Fully disclose the exact nature of the foreclosure consultant's services.
Fully disclose the total amount and terms of compensation.
Contain a specific notice in a minimum size and with bolding.
Have a Notice of Cancellation form attached in duplicate.
Only after the 65-day period following any foreclosure sale, may the foreclosure consultant enter into a contract to assist the owner in arranging the release of funds remaining after the foreclosure sale. This agreement also must contain a specific notice in a minimum print size in bold.
Among other things, it is a violation for the foreclosure consultant to:
- Receive any compensation until after the foreclosure consultant has fully performed.
- Receive any fee or other compensation which exceeds 10 percent per annum of the amount of any loan which the foreclosure consultant may make to the owner.
- Take any wage assignment, any lien of any type on real or personal property, or other security to secure the payment of compensation.
- Receive any consideration from any third party in connection with services rendered to an owner unless that consideration is fully disclosed to the owner.
- Acquire any interest in a residence in foreclosure from an owner with whom the foreclosure consultant has contracted.
- Take any power of attorney from an owner for any purpose.
- Induce or attempt to induce any owner to enter into a contract that does not comply with the foreclosure consultant statutes.
- Enter into an agreement to assist the owner in arranging the release of surplus funds prior to 65 days after the trustee's sale is conducted.
Note that (e) means that someone cannot both be paid as a foreclosure consultant AND also purchase some or all of the property.
A foreclosure consultant is also liable for the acts of any representative that he/she uses.
Any waiver by an owner of the statute is void, and any attempt by a foreclosure consultant to induce an owner to waive his/her rights is a violation of the statute.
If a foreclosure consultant violates any of the statutes, the owner may receive a judgment for actual damages, reasonable attorneys' fees and costs, and appropriate equitable relief. The court also may, in its discretion, award exemplary damages and must award exemplary damages equivalent to at least three times the compensation received by the foreclosure consultant in violation of certain provisions, and three times the owner's actual damages for any violation of other provisions, in addition to any other award of actual or exemplary damages. The owner may bring the action up to four years after the date of the alleged violation. In addition, there may also be criminal penalties of not more than ten thousand dollars ($10,000) and/or imprisonment in the county jail for not more than one year, or in the state prison.
If you are going to receive any type of compensation for acting as a foreclosure consultant, you should have an attorney review in advance the agreements you will be using.
California’s predatory lending law (Financial Code Sections 4970-4979.6) applies to certain loans secured by a lien on a residence.
Basically, the predatory lending law applies where there is a "consumer loan" (defined below) in which the original principal balance of the loan does not exceed two hundred fifty thousand dollars ($250,000), adjusted upwards every five years after 2001 in accordance with the California Consumer Price Index, in the case of a mortgage or deed of trust, and where one of the following conditions are met:
- For a mortgage or deed of trust, the annual percentage rate at consummation of the transaction will exceed by more than eight percentage points the yield on Treasury securities having comparable periods of maturity; OR
- The total points and fees payable by the consumer at or before closing for a mortgage or deed of trust will exceed 6 percent of the total loan amount.
"Consumer loan" is defined to mean a loan that is secured by real property located in California that used, or intended to be used or occupied, as the principal dwelling of the consumer that is improved by a one-to-four residential unit. "Consumer loan" does not include a reverse mortgage, an open line of credit, or a loan that is secured by rental property or second homes. "Consumer loan" also does not include a bridge loan, which is defined as any temporary loan, having a maturity of one year or less, for the purpose of "acquisition or construction" of a dwelling intended to become the consumer's principal dwelling.
What this means is that if the loan is for an amount greater than $250,000 (and is secured by a mortgage or deed of trust) or the term of the loan is a year or less AND is for acquisition or construction, then the predatory lending law does not apply.
If the law does apply, a number of complex requirements come into play. Among other items, there can be no prepayment penalty for the first 36 months, any other prepayment provision must meet specific requirements, the interest rate cannot increase on default, the originator must reasonably believe the borrower will be able to make the scheduled payments, acceleration cannot be based on the lender’s sole discretion, there are restrictions on payment of home-improvement contracts and there must be an identifiable benefit to the borrower. In addition, a person who originates a covered loan cannot make a covered loan that finances points and fees in excess of one thousand dollars ($1,000) or 6 percent of the original principal balance, exclusive of points and fees, whichever is greater. Because of the complexity of the statute, if you are going to be making loans covered by the statute, you should seek an attorney’s services.
If the person violating this section is licensed, the licensing agency can take disciplinary action, including suspension or revocation of the license. In addition, any person who willfully and knowingly violates this law is liable for a civil penalty of not more than twenty-five thousand dollars ($25,000) in an action brought by the licensing agency.
Whether licensed or not, a person who fails to comply with the law is civilly liable to the borrower in an amount equal to any actual damages suffered, plus attorneys fees and costs. For a willful and knowing violation, the offender is liable to the borrower in the amount of fifteen thousand dollars ($15,000) or actual damages, whichever is greater, plus attorneys fees and costs.
A court may, in addition to any other remedy, award punitive damages to the borrower upon a finding that such damages are warranted.
While the City of Oakland had an even stricter predatory lending law, the California Supreme Court struck it down as preempted by the State law in American Financial Services Assn. v. City of Oakland (2005) 34 Cal.4th 1239.
Usury is governed by Art. 15, §1 of the California Constitution, although some exemptions to it are scattered throughout the California statutes.
Subsection (1) governs loans primarily for personal, family, or household purposes, BUT Subsection (2) applies to all other loans. The latter limits interest to the higher of 10% OR 5% plus the then-current Federal Reserve rate.
A lender may charge a borrower an extra and reasonable amount for additional incidental expenses in negotiating, brokering, making, and securing the transaction without such charges being treated as interest. To determine this, you probably look at the points commercial lenders are charging for this size loan (at the same interest rate and same length of loan) at the time the loan was made. To the extent that points are in excess of that amount, those points count towards the usury limit.
There are a number of exemptions. The primary one is for any loans made or arranged by any person licensed as a real estate broker by the State of California and secured in whole or in part by liens on real property, assuming that the broker is compensated (however little) for doing so.
There is another exemption for "industrial loan companies" that are licensed by California, and an exemption for licensed finance lenders.
In addition, there is an exception for shared-appreciation loans.
If there is a violation and the interest has not been paid, the interest provision is void and the lender recovers only the principal, although the borrower could seek punitive damages as well. If the interest has been paid, then an uncodified law allows treble damages.
f you are going to pay a licensed real-estate broker to arrange the loan, it is strongly recommended that you have a brief written agreement in place with that broker as evidence.
You cannot be engage in the business of making residential mortgage loans in California without being licensed in some way. (See, e.g., the California Residential Mortgage Lending Act, California Financial Code Section 50000 et seq.) This means that either you will need to obtain a license or involve a licensed real-estate broker or some other appropriately licensed person for such loans. For more information, see the California Department of Real Estate’s page at http://www.dre.ca.gov/faqs_mlb.htm ("FAQs: Mortgage Loan Brokering in California").
The California "Real Property Loans" statutes puts restrictions on late charges and on prepayment penalties. (California Business & Professions Code §10240 et seq.)
Any late charge imposed for late payment of an installment due on a loan secured by a lien on real property cannot exceed an amount equal to 10 percent of the installment due, except that a minimum charge of five dollars ($5) may be imposed. No charge may be imposed more than once for the same late payment of an installment, and no late charge may be imposed on any installment which is paid or tendered in full within 10 days after its scheduled due date.
Also, only a prepayment made within seven years of the date of execution of such mortgage or deed of trust may be subject to a prepayment charge. An amount not exceeding 20 percent of the unpaid balance may be prepaid in any 12-month period. A prepayment charge may be imposed on any amount prepaid in any 12-month period in excess of 20 percent of the unpaid balance which charge shall not exceed an amount equal to the payment of six months' advance interest on the amount prepaid in excess of 20 percent of the unpaid balance.
There are additional requirements that apply if the loan is a first trust deed with a principal of less than thirty thousand dollars ($30,000) or is a junior lien with a principal of less than thousand dollars ($20,000). Such small loans seem unlikely.
A land trust (at least in California) is just a trust that has a piece of real property as the trust asset. (Some states have specific land-trust statutes, but California does not.)
Virtually all fixed-interest loans secured by a residence have a "due-on-sale" clause that allows the lender to call the loan when the property is sold, transferred, etc. Some purchasers have the property put into a trust so that the lender does not discover that a transfer of the property has been made that would trigger the due-on-sale clause. More specifically, what they do is have the original owners set up a trust and transfer the property into it via a deed. Then when sale occurs, the beneficiaries and trustees in the trust are changed to the new owners; no deed to the new owner is recorded. Some take it step further and when they re-sell the property they again change the beneficiaries and the trustees to the latest new owners.
Lenders, though, have a variety of ways by which they learn that a transfer has taken place (for example, the signature of the trustee changing on the checks). As a practical matter, a year or two may go by, but the lender almost always seems to find out eventually. Some lenders are governed by regulations that require them to exercise the due-on-sale clause if they discover that a transfer has been made.
Probably the most a lender would do is call the loan and not actually sue anyone, but taking this approach seems to constitute inducing the original owner to breach the due-on-sale provisions of the loan agreement and might even be considered fraud. There are also Prop. 13 issues in California in that normally a transfer of real property (except to certain family members) triggers a reappraisal of the property at fair market value. That could also expose a purchaser to liability in this situation.
There are legitimate uses of a land trust, including preserving privacy and avoiding – legally in some cases – some transfer taxes. If a piece of property is only going to be owned for a few weeks before resale where a deed is used with the last buyer, a land trust may be OK, since the lender and the county are notified of that sale. Outside of that situation, using a land trust to avoid the due-on-sale clause or reappraisal may expose the purchaser to liability.