Pricing exceptions are widespread in mortgage — and so are the regulatory risks

Read Now

Quiet evolution

A California law plus Massachusetts court rulings reshape the foreclosure process

The real estate crisis turned more than just the nation’s housing market upside down. It also resulted in homeowners and attorneys challenging long-standing assumptions about the legal processes governing foreclosures at the state level.

Now, six years after the nation first experienced a sudden wave of home foreclosures, new state laws and judicial opinions have empowered another generation of distressed homeowners, giving them newfound powers and procedural safeguards as they maneuver through the default process.

This change on the surface looks more procedural than threatening. It even looks populist in some jurisdictions. But, in reality, it’s a massive sea change in how foreclosure law is viewed in various states, and its lasting impact on where and how lenders and servicers conduct business in certain jurisdictions remains largely unknown.

The laws governing foreclosure in the United States are anything but consistent, and this discombobulated system of state-based default law became even more cumbersome and controversial with the January rollout of the Homeowner Bill of Rights in California.

The bill of rights — along with the influence of judicial opinions in jurisdictions like Massachusetts — reshaped the foreclosure process into one that places a greater burden of proof on lenders and servicers as they attempt to foreclose and access collateral tied to debts.

The end result could be a market where, despite the government pushing for a housing finance system funded by more private capital, lenders and investors may find themselves carving back mortgage financing activity in states that present themselves as legal landmines in the default process. And for those who do keep lending, risk assessments will likely be made up front, most likely resulting in higher costs for borrowers.

The end result could be lenders constricting lending in certain jurisdictions where they believe the legal house of cards is stacked against them. Such a move would ironically make the government’s stated intention of shifting the nation from an agency-backed housing market to a privately driven market all the more cumbersome.

The California Bankers Association warned the state’s attorney general about the impact of unprecedented foreclosure rules when the Homeowner Bill of Rights was still under construction in 2012. 

The new law is a disincentive for investors in California mortgages, says Christopher Whalen, executive vice president with Carrington Investment Services.

“The liability provisions are daunting. In seeking to address the very real wrongdoing of process and economic loss due to bad foreclosures, California has now made investors, lenders and servicers targets for trial lawyers. The pendulum has swung too far the other way.”

But understanding where the pendulum has fallen requires an analysis of where the foreclosure process has been, where it sits now and where it’s headed in the future.


Foreclosure processes have historically remained inconsistent and based on statutes passed in individual states.

University of Arizona Real Estate Professor Andra Ghent released a research report in 2012 citing an 1879 American legal treatise that stated “an examination of the statutes of the several states in relation to the foreclosure of mortgages can hardly fail to surprise one at the great diversity of systems in use.”

This is equally true more than 100 years later. A foreclosure in Texas — a nonjudicial state — is very different from the type of judicial foreclosure process deployed in states such as New York and New Jersey.

Still, there’s an even greater change afoot in the area of foreclosure law, and it’s coming to life in California, which traditionally operated as a nonjudicial foreclosure state without the need for court approval to finalize a default proceeding.  But these changes in state law may force more financial firms operating in affected states to consider the judicial foreclosure process to prevent additional legal liabilities from foreclosure filings.

This great change is partly the result of the California State Legislature’s passage of the Homeowner Bill of Rights. The legislation, which took effect Jan. 1, was heavily promoted by California Attorney General Kamala Harris.

Attorney Robert Jackson with Jackson & Associates in Irvine, Calif., points out that before the bill, foreclosure law revolved around two central questions: “Did a borrower make his or her mortgage payment? And if they did not make the payment, did the foreclosure trustee properly give the notice of default and the notice of sale?”

After answering those questions, the default process generally moved forward with little intervention as long as both questions were appropriately answered.

But the emergence of the financial crisis and systemic defaults shifted the paradigm, foreclosure attorneys suggest. The result is a new system in certain states that’s not only challenging servicers and lenders, but potentially increasing the long-term costs associated with lending in states like California. 


The California Homeowner Bill of Rights, which is several pieces of foreclosure legislation rolled into one bill, has already generated a great deal of controversy. One California attorney went as far as referring to the bill as a “nuclear weapon” for trial attorneys to use against the financial services industry.

Attorneys Brent Lindahl and John Gray with Fulbright & Jaworski responded to the Jan. 1 effective date with a warning list for loan servicers and lenders to prevent them from making costly errors when conducting California foreclosures under HBR.

“California already had borrower-friendly (foreclosure) requirements prior to the enactment of the Homeowner Bill of Rights,” said Gray. “The new law certainly adds to those. And I think it really does put creditors in a somewhat more difficult position in that foreclosing on homes is now going to take a longer time.”

“The goal of protecting borrowers from improper foreclosure is a laudable one,” added Lindahl. There should be — and are — existing requirements that need to be followed before someone loses their home through foreclosure.”  But adding more requirements to the current process is not necessarily going to fix the perceived problems. There’s a real risk that it will exacerbate the situation, providing procedural mechanisms for borrowers to delay inevitable and valid foreclosures, causing properties to be tied-up in foreclosure even longer.” 

The two attorneys note that the HBR imposes one set of requirements on entities conducting fewer than 175 foreclosures per year in California and a different, more stringent set of requirements on entities conducting more than 175 foreclosures per year in California.

Rather than dealing with the old two-part foreclosure question, the two attorneys describe a process where servicers are more encumbered with the task of proving they have a right to foreclose in the first place.

“The burden essentially has shifted,” Lindahl said. “Although a borrower who sues under the (HBR) must still prove his or her case in court, the practical effect of the law is to make it the lenders’ or servicers’ obligation to prove that they did comply (with the Homeowner Bill of Rights).”

And that standard is pretty strict in comparison to the paradigm previously set up in California and other states, according to Jackson with Jackson & Associates.

Essentially, firms have to prove with the appropriate documentation that they complied with all of the procedural requirements and checkpoints outlined in the HBR.

Lindahl and Gray say those requirements include a ban on dual track foreclosures; a ban on robo-signing, which now requires the lender or servicer to ensure they have evidence to substantiate a foreclosure before making a filing; and new notice requirements that have to be sent to borrowers advising them of alternatives to foreclosure.

HBR also implements single-point of contact rules, additional notices that must be sent to borrowers before and after the recording of a default; additional requirements for acknowledgments and borrower communication during the loan modification and foreclosure processes. The law also introduces the concept of “standing” to foreclose. Jackson & Associates says the result of this development is the trustee of record under the deed of trust is the individual who has to sign the notice of default or notice of sale.

The in-depth list of requirements has the effect of giving “homeowners more specific provisions they can point to when they want to say the lender or mortgage servicer didn’t do this [or that],” said Gray.

One of the more substantive and unprecedented aspects of the law is the new private right of action for borrowers that is built into the legislation. Under it, homeowners can now disrupt a trustee’s sale if they allege that any of a long list of procedural requirements outlined by HBR was not met, according to Lindahl and Gray.

The private right of action allows borrowers to bring an action for an alleged violation of the Bill of Rights.  If able to prove their claims, homeowners can enjoin a pending trustee’s sale or recover damages if a trustee’s sale was finalized and procedural violations occurred. Homeowners also have the potential to recover the greater amount of treble damages or $50,000 for showing a firm willfully, intentionally and recklessly violated one of the HBR’s guidelines, Lindahl and Gray point out.

Lindahl and Gray say even before HBR, borrowers had applicable common law remedies and other avenues of addressing real issues stemming from foreclosure.  But the private right of action under the HBR, with all of its procedural requirements, creates a steep hill for servicers and lenders to climb. 

“The concern from my perspective is you will have a lot of borrowers filing these claims, and lenders and servicers will have to defend against them, even if they didn’t actually violate the law,” Lindahl said.

The two attorneys issued an advisory on the law saying with the new private right of action, homeowners essentially “have an additional arrow in their quiver to prevent (or, at the very least, delay) non-judicial foreclosures. The bill might well allow homeowners to survive demurrers that would have otherwise been sustained for failure to state a cause of action.”

Because of the Bill of Rights, borrowers now have the impetus to take the time to challenge a foreclosure proceeding since there is a possibility to nab treble damages or $50,000, Lindahl and Gray noted. 


The Treasury and Federal Housing Finance Agency have expressed an ongoing desire to limit the influence of Fannie Mae and Freddie Mac and bring private capital back into the mortgage finance system.

And while Christopher Whalen, executive vice president at Carrington Investment Services, says there will still be non-conforming lenders in California, it will come at a cost.

“Lenders, servicers and investors will need to be very focused on compliance and business process. Quality of service will be absolutely paramount, since the HBR allows lenders, servicers and investors to be sued at their expense for errors in the lending and servicing process.”

Robert Jackson with Jackson & Associates added, “We need to realize that the impact of this movement is a significant increase in the cost of foreclosing on properties. The longer timelines are going to add to the expense.”

Whalen believes firms will have to be careful in 2013 as the law gets its sea legs. Still, he says Carrington has imbedded compliance metrics into its operations systems and feels “pretty good about being able to meet the challenge.”

Still, the strict compliance standards could have the effect of pushing more lenders and servicers into the judicial foreclosure process, Whalen said. 

“The good news is that the operational changes made to the servicing process means the borrower will see a lot of alternatives before we talk about foreclosure,” he said.

“But the punitive aspects of the HBR are extreme.  There are actually two separate causes of action, before and after the foreclosure is complete. The net effect of the HBR is that it turns California de facto into a judicial state when it comes to foreclosures.”

The California Bankers Association raised questions about the impact of the rules when they were still under construction back in 2012.

“Should state laws with respect to loan origination and collateral recovery become too onerous, private capital will be reluctant to invest, or will only invest at a significant risk-based premium, resulting in higher costs for consumers,” the association warned in April 2012. 


The two-year period, stretching from 2010 to 2012, became an unprecedented time for default lawyers, servicers and lenders in the state of Massachusetts.  And this was before the nation heard about the California Homeowner Bill of Rights.

Judicial decisions on foreclosure challenges, in some instances, shifted the old foreclosure paradigm from one focused on the cause — or essentially the borrower’s default that led to foreclosure — to one that requires more procedural safeguards on the part of financial firms trying to pull back the collateral securitizing a debt.

Instead, the assignment of mortgages during the rapid securitization process that accompanied the housing boom prompted numerous legal challenges with borrowers claiming banks assigned those mortgages had no right to foreclose.

Researchers Peter Pitegoff and Laura Underkuffler probably put it best in a paper from the American Constitution Society.

The research team said in many of the key Massachusetts foreclosure cases, “there was no evidence in any of these cases that the property had not, in fact, defaulted.” In summation, they wrote, “there was unfairness in the bringing of these foreclosure actions, it was not rooted in the factual question of default.”

Instead, it was rooted in decisions that attempted to streamline foreclosure rights around a series of procedural questions. 

In the key Massachusetts case of U.S. Bank v. Ibanez, the issue of borrower default was not the deciding factor. Pitegoff and Underkuffler say in Ibanez, the Supreme Judicial Court of Massachusetts held that “two assignee banks failed to obtain legal title to foreclosed properties because they failed to prove that they held valid assignments of the foreclosed mortgages at the moment that the foreclosure proceedings were begun.”

The shift in Ibanez is clear, banks and lenders are no longer obtaining foreclosure rights through a default on the original mortgage contract. Instead, Pitegoff and Underkuffler claim in their article that, “courts have held banks, other lenders, and securitized trusts to strict proof of what might otherwise seem to be fairly inferred facts and contractual obligations.” In other words, perhaps it can be easily inferred from contractual obligations that a default fits in a certain scenario, but more proof is required.

Under this guideline, the court is essentially separating the borrower’s default from the financial firm’s ability
to foreclose.

Attorney Richard Vetstein with the Vetstein Law Group out of Massachusetts said in Ibanez, the court essentially found that the foreclosing party was beginning “foreclosure proceedings and didn’t “have a valid assignment from whatever entity was holding the mortgage.” The financial firms initial solution was to either record after the fact or back date it, he recalls. 

But the court essentially held, “If you are going to foreclose, you are going to have to have your ducks lined up in a row,” Vetstein said. The case had the effect of saying the “title basically never changed hands.”

Vetstein points out:  “The net effect is the court said the foreclosure you conducted is void as if it never happened, so you have to start over again.”

This case along with the Bevilacqua v. Rodriguez decision from the Supreme Judicial Court of Massachusetts had the effect of not only changing the foreclosure process, but of eliminating assumptions about when a person can claim to be a bona fide purchaser for sale.

In Bevilacqua, the plaintiff bought his home via a quit-claim deed from U.S. Bank, which was a trustee and holder of the note.

U.S. Bank initiated a foreclosure on the previous owner, but the foreclosure was later determined to be invalid. The state’s supreme court said Bevilacqua could not bring a court action to try his title since the bank foreclosed before it actually received a mortgage assignment. 

Vetstein puts the court’s decision this way: “When there is no title conveyed, there cannot be a bona fide purchaser for sale (or a new purchaser who is protected) because the (foreclosing) bank never had good title.”

The decision threatened the quick and inexpensive movement of foreclosures in the state with clouded titles becoming a concern for potential purchasers of foreclosed properties.

The court did leave room for homeowners to fix their titles by starting from scratch and conducting new foreclosure sales to clear title, Vetstein said.

But the concept of a bona fide purchaser for sale who obtains rights for acquiring a property in good faith did not stick in the Bevilacqua case. Vetstein says the court ruled that the purchasing party had the ability to discover possible title issues before becoming a third-party purchaser. 

Massachusetts’ top court then released its Eaton v. Fannie Mae decision, which Vetstein says held that financial firms need to establish “ownership of both the note and the mortgage in order to foreclose.” 

With the securitization process separating both, fears surfaced that it would “cause mass chaos,” said Vetstein. Still, the court decided not to make the decision retroactive. 

The cases outlined procedural check points that the Massachusetts Judicial Supreme Court seemed to want to fill in, given the complexity of the mortgage securitization process. Still, Vetstein notes in many cases, the underlying issue centered around individuals who didn’t pay their mortgage.


The foreclosure issues surfacing in areas such as California and Massachusetts are not complete stumbling blocks for lenders and servicers. But they do have an impact with longer foreclosure timelines having the potential to derail, or at least delay, real estate recoveries.

In discussing the California HBR, John Gray with Fulbright & Jaworski explained, “It’s going to be a longer process and you are going to see more litigation revolving around the foreclosure process for any individual who has gone through that process. The takeaway might be that it adds to the burden of creditors.”

Vetstein in Massachusetts recognized some of the reasons behind the top court’s decisions in various foreclosure cases, but still expressed similar views to Gray’s.

“Extended timelines can have a negative impact when the properties end up sitting, Vetstein said. “It has had a drag effect on the pace of foreclosures in Massachusetts.”

California: Now A De Facto Judicial Foreclosure State?

The California Homeowner Bill of Rights, which took effect Jan. 1, does more than create litigation tail-risk for lenders and servicers. It also has the potential to encourage financial firms wanting a safe harbor from HBR litigation to choose the more official judicial foreclosure process over California’s streamlined non-judicial foreclosure proceedings when foreclosing on a home.

Carrington’s Whalen views an uptick in judicial foreclosures within California as a real possibility with HBR now in effect.

As for what a longer judicial foreclosure process means just look to New York – a judicial foreclosure state – where Whalen is already watching lengthy foreclosure timelines stall a full housing rebound. 

 “Just look at the mess that we still face in my home state of New York and the entire northeast in terms of foreclosure backlogs,” noted Whalen. “Over time, the HBR will make California’s market less dynamic and more like New York.”  It may take years to move a foreclosure through the California state court system, instead of months under the old
trustee system.”

And as the timelines stretch out, the natural reaction may be for government-sponsored enterprises to propose servicing-fee hikes in California as they recently did in several other states where foreclosure processes are taking longer.   

But with the judicial foreclosure process still considered more onerous to creditors, attorneys Brent R. Lindahl and John Gray with the law firm of Fulbright & Jaworski are not predicting a dramatic switch to judicial foreclosures in California per se. 

They believe, in light of HBR, the judicial foreclosure process could end up looking more safe to litigation-wary servicers and lenders.

“The real benefit of going through the non-judicial process is the speed and efficiency in which you can do it,” Lindahl said. “At some point, if all of the requirements make it more difficult, then I think you may (then) see lenders shift more to judicial foreclosures.”

Still, that remains to be seen, Lindahl noted. 

What is known is the fact that judicial foreclosures can be decidedly negative on a state, with key judicial foreclosure states like New York and New Jersey lagging behind non-judicial foreclosure states in terms of how fast the jurisdictions can clear foreclosure pipelines and return to
recovery mode. 

Andra Ghent, a professor with the Department of Finance at the W.P. Carey School of Business at Arizona State University, addressed this issue in a paper called, “America’s Mortgage Laws in Historical Perspective.”

Ghent concluded in her research that “borrowers in non-judicial states experienced more foreclosures than borrowers in states where judicial foreclosure was the customary foreclosure procedure.”

But, she noted, there are pros and cons to both methods.

“[A]ny advantage of judicial foreclosure in reducing the number of foreclosures must, be weighed against two important other consequences of judicial foreclosure,” wrote Ghent. “First … less creditor-friendly mortgage laws lead to less lending. Second, recent data suggests that the length of time a property spends in the foreclosure process greatly affects the condition of the property as well as the properties nearby.”

RealtyTrac data corroborates Ghent’s claims about judicial foreclosure jurisdictions. The real estate data firm says foreclosure activity in 2012 increased year-over-year in 25 states. In the 25 states were foreclosure activity rose, 20 of them used longer judicial foreclosure processes.

New Jersey, a key judicial foreclosure state, alone saw its foreclosure activity increase 55% over 2011 levels last year. The New England state was followed by the state of Florida (foreclosure activity up 53%); Connecticut (up 48%); Indiana (up 46%); Illinois (up 33%) and New York
 (up 31%).

In the 25 states were foreclosure activity fell from 2011 to 2012, 19 of the jurisdictions used the non-judicial foreclosure process. 

Daren Blomquist, vice president of RealtyTrac, explained some of the dynamics playing out in the nation’s judicial and non-judicial foreclosure jurisdictions in RealtyTrac’s latest foreclosure report

 “Foreclosure activity continued to decline in 19 of the 24 states that use the more streamlined non-judicial foreclosure process, but there could be a backlog of delayed foreclosures building up in some of those states as well as the result of recent state legislation and court rulings that raise the bar for lenders to foreclose,” he explained.

“That could mean that although we are comfortably past the peak of the foreclosure problem nationally, 2013 is likely to be book-ended by two discrete jumps in foreclosure activity,” Blomquist added. 

“We expect to see continued increases in judicial foreclosure states near the beginning of the year as lenders finish catching up with the backlogs in those states, and another set of increases in some non-judicial states near the end of the year as lenders adjust to the new laws and process some deferred foreclosures in those states.”

California, which is still by and large a non-judicial foreclosure state, actually saw foreclosure activity fall 25% from 2011 to 2012. While this is a positive trend, Blomquist with RealtyTrac is worried the Homeowner Bill of Rights could do to California what new legislation and decisions from the court bench did to Oregon.

Blomquist notes that judicial foreclosure filings ticked up in Oregon soon after a law went into effect, requiring mandatory foreclosure mediation for non-judicial foreclosures.

Furthermore, an Oregon court decision, which is still under appeal, held lenders to higher standards when conducting non-judicial foreclosures in the state.

“We are seeing that judicial foreclosures actually picked up in Oregon,” Blomquist said. While they haven’t picked up in California, he says RealtyTrac is keeping a watch on judicial foreclosure filings.

If California were to transition like Oregon into a de facto judicial foreclosure state, gains made in the real estate market could be somewhat derailed.

“I think that is a concern with this legislation (HBR),” said Blomquist. “Foreclosures seem to be going down already (in California), and it almost feels like the legislation is fighting the last war in this foreclosure crisis.”

His concern is that a more onerous non-judicial process will send lenders running to court with judicial foreclosure actions, creating a backlog of inventory in California much like “what we are seeing play out in judicial foreclosure states right now,” Blomquist warned.  

Most Popular Articles

3d rendering of a row of luxury townhouses along a street

Log In

Forgot Password?

Don't have an account? Please