The Closing Disclosure or “CD” mandated by Regulation Z §§ 1026.19 and 1026.38 requires the lender to advise the borrower whether the “anti-deficiency” protections under applicable state law will apply to the loan.  State anti-deficiency laws provide certain protections to a borrower from a lender pursuing a judgment for the amount by which the sums due under the loan exceed the value of the property following foreclosure.

The lender must select one of two boxes on the CD in the “Liability after Foreclosure” section set forth below.  The choices are, in essence (1) there “may” be anti-deficiency protection; and (2) there is “not” anti-deficiency protection.  The lender must make this selection based upon a thorough analysis and understanding of state law. [1]

[1] The applicable regulation and the CFPB’s Official Interpretation do not provide guidance as to how to make this determination under state law.  Reg. Z § 1026.38(p)(3) provides that the following disclosure must be provided:  Liability after foreclosure. A brief statement of whether, and the conditions under which, the consumer may remain responsible for any deficiency after foreclosure under applicable State law, a brief statement that certain protections may be lost if the consumer refinances or incurs additional debt on the property, and a statement that the consumer should consult an attorney for additional information, under the subheading “Liability after Foreclosure.”  The Official Interpretations state:  Liability after foreclosure.  State law requirements.  If the creditor forecloses on the property and the proceeds of the foreclosure sale are less than the unpaid balance on the loan, whether the consumer has continued or additional responsibility for the loan balance after foreclosure, and the conditions under which liability occurs, will vary by State. If the applicable State law affords any type of protection, other than a statute of limitations that only limits the timeframe in which a creditor may seek redress, § 1026.38(p)(3) requires a statement that State law may protect the consumer from liability for the unpaid balance.

In Arizona, the anti-deficiency laws are complex.  An analysis of whether anti-deficiency protection applies to an Arizona loan requires consideration of various statutes and court decisions.  The answer depends upon several factors such as whether a non-judicial or judicial foreclosure is done, the type of property involved and whether the loan is considered “purchase money” under the statutes and court decisions. See, for example, A.R.S. §§ 33-814 and 33-739.  Whether the loan is considered “purchase money” is the subject of many Arizona Court of Appeals and Arizona Supreme Court decisions and depends upon factors such as the purpose of the loan, whether the loan was a refinance transaction and the purposes for the refinance, whether there was a “cash out” transaction, whether the loan was a construction loan or for the purpose of home improvement, whether a house was constructed, whether a builder is the borrower and other issues.  This is a constantly evolving area of the law based upon new court decisions and recent statutory amendments.

The Consumer Financial Protection Bureau’s (“CFPB”) Small Entity Compliance Guide 2.0 provides that if anti-deficiency protection “could” apply then the lender should check the “may” box. [2]  Again, however, determining if anti-deficiency protection “could” apply under Arizona law is a complex task.  Under current Arizona court decisions, there are various instances in which arguments can be made for or against whether anti-deficiency protection exists and a careful analysis needs to be made as to the best conclusion.   There are factual scenarios in which there clearly is no anti-deficiency protection, and therefore, the lender cannot have a policy of always selecting the “may” choice.  If the lender chooses the box “may” but subsequently there is litigation and the court rules there was no anti-deficiency protection, was checking the box “may” a misrepresentation to the borrower or even a “UDAAP” (an “unfair and deceptive act or practice”) in the eyes of the CFPB or other regulator?  In this scenario, could the borrower file a civil action and successfully argue that the lender made a misrepresentation that anti-deficiency protection may exist, when it did not, and therefore the borrower is entitled to damages?  Ultimately, the best practice in Arizona is to make a case-by-case analysis whether anti-deficiency protection exists for a particular loan.

[2] The Small Entity Compliance Guide – 2.0 provides: Liability after Foreclosure The creditor complies with the obligation to notify the consumer of any State law anti-deficiency protections that apply to the consumer’s loan by checking one of the options on the Closing Disclosure. (§ 1026.38(p)(3)) If any State law anti-deficiency protections could apply, then the creditor should disclose that anti-deficiency protections may apply. Generally, statute of limitation laws that only limit the time frame in which a creditor may obtain or collect deficiency judgments do not count as anti-deficiency protections included in the disclosure. (Comment 38(p)(3)-1)