Since the downturn in the Arizona real estate market and increase in the number of loan defaults and foreclosures, lenders and borrowers have fought over the interpretation of Arizona’s so-called anti-deficiency statutes.
Disputes between lenders and borrowers have involved, for example, (1) what is a dwelling? (2) does a dwelling have to be someone’s primary residence? (3) what is a purchase money loan? (4) does a construction loan qualify as a purchase money loan? and (5) can an incomplete dwelling still be considered “limited to and utilized for either a single one-family or single two-family dwelling?” This post focuses on the last issue, recently addressed by the Arizona Supreme Court.
But, before addressing that, I will cover the basic requirements to qualify for protection.
What Property and Loans Qualify for Protection?
Arizona has two anti-deficiency statutes, each of which applies to a different type of foreclosure. ARS §33-814 applies to foreclosures by trustee sale (non-judicial foreclosure). The other statute, ARS §33-729, applies to judicial foreclosures (foreclosures ordered by a judge after a lawsuit is filed).
Both statutes have the identical requirements for property to qualify for deficiency protection. The property covered by the mortgage or deed of trust must be “two and one-half acres or less which is limited to and utilized for either a single one-family or single two-family dwelling.” So, the statute does not protect commercial property or a loan secured by a deed of trust covering residential property consisting of more than two dwellings, such as a deed of trust covering an entire apartment complex.
In a trustee sale, it does not matter whether the loan proceeds were used to acquire the property or for some other use. In a judicial foreclosure, however, even if the type of property qualifies, there is still only deficiency protection if the mortgage or deed of trust was “given to secure the payment of the balance of the purchase price, or to secure a loan to pay all or part of the purchase price.” In other words, the deed of trust or mortgage has to have been given to secure a “purchase money loan” in order for the borrower to be protected from a deficiency in a judicial foreclosure action.
You can learn more about Arizona’s anti-deficiency statutes by reading my article and watching my video presentation, but BEWARE, the statutes were amended for loans originated after December 31, 2014. More on that in another article.
The Arizona Court of Appeals’ Decisions: What is “Utilized as a Dwelling?”
Before getting to the recent Arizona Supreme Court decision, let me summarize what the Arizona Court of Appeals has said about the issue of what it means to be “utilized as a dwelling”.
In one case, M & I Marshall & Ilsley Bank v. Mueller, the borrowers had started construction on their home, but ran into problems and never finished. So, they never moved into the home. The Arizona Court of Appeals focused on the borrowers’ intent – since they eventually intended to occupy the home that they were building, they were entitled to protection, according to the Court of Appeals. The Court wanted to avoid what it thought might be artificial efforts to occupy a residence, say for one day or camping out at the property, in order to try to fall within the protection of the statute. The Court felt that since the anti-deficiency statutes were designed to protect homeowners that the statute should be broadly construed to protect all homeowners, present and future owners who intended to eventually occupy a residence on the property so long as construction had actually started.
In another case, Mid Kansas Federal Savings and Loan Association of Wichita v. Dynamic Development Corporation, a developer had started and substantially completed construction on a residence that it eventually planned to sell. The developer obviously never intended to occupy the residence itself. The Court of Appeals focused on whether a home that is complete, but awaiting sale to the actual occupant, qualifies for protection. The Court of appeals found that it did not.
The property in question here had never been used as a dwelling, and was in fact not yet susceptible of being used as a dwelling. There is a difference between property intended for eventual use as a dwelling and property utilized as a dwelling. We hold that commercial residential properties held by the mortgagor for construction and eventual resale as dwellings are not within the definition of properties “limited to” and “utilized for” single-family dwellings. The property is not utilized as a dwelling when it is unfinished, has never been lived in, and is being held for sale to its first occupant by an owner who has no intent to ever occupy the property.
Thus, the developer borrower was not entitled to deficiency protection.
The Arizona Supreme Court Decides the Issue-“Utilized as a Dwelling” means the residence must be completed.
On January 23, 2015, the Arizona Supreme Court decided BMO Harris Bank, N.A. v. Wildwood Creek Ranch, LLC. In that case, the borrower obtained a $260,200 loan secured against a vacant 2.26 acre lot for the purpose of eventually building a home on the lot. However, construction never began and the lot was vacant and unoccupied at the time of the trustee sale. At the trustee sale, the property sold for $31,100.
Thereafter, the lender sued the borrower and guarantors for the deficiency – the difference between the loan balance and the price at the trustee sale, of almost $230,000. The borrower and guarantors claimed that since they intended to build a home on the lot that they were entitled to deficiency protection and that the bank could not collect the balance from them.
The trial court granted deficiency protection since the borrower intended to eventually use the property for a residence. The Court of Appeals disagreed and found that since the property was vacant at all times, the property was not “utilized as a dwelling.” The Court of Appeals also found that the borrowers’ intent to eventually occupy the dwelling was irrelevant.
The Supreme Court basically agreed with the Court of Appeals and sided with the lender bank. The Supreme Court focused on the ordinary definitions of “dwelling,” and “utilized.”
Dwelling: The term has various meanings depending upon the context of the use of the property. The Court explained: “We observed that the ‘principal element’ in the varied definitions of ‘dwelling’ is ‘the purpose or use of a building for human abode, meaning that the structure is wholly or partially occupied by persons lodging therein at night or intended for such use.’ The structure must also be suitable for residential use.”
Utilized: A dwelling must be completed on the property in order to even potentially be “utilized.” “Vacant property is not being utilized for a dwelling even if the borrower intends someday to construct and occupy a home there.” The Court also found that “utilized” meant presently used, not planned for future use.
So, according to the Arizona Supreme Court’s view (which is the only view that really matters), a property may qualify as a “dwelling” because someone eventually intends to reside there. But, the property is not “utilized” as a dwelling until construction is completed.
Obviously, the Court found that Wildwood Creek and the guarantors were not entitled to protection under the anti-deficiency statute. The Court also overruled the Mueller case, since the dwelling at issue there was incomplete and, thus, not utilized as a dwelling.
If you have any questions or need assistance in an Arizona real estate dispute, please do not hesitate to contact Berk Law Group, P.C.