After a real estate foreclosure in Missouri, lenders often sue the borrower and any guarantors, seeking a “deficiency judgment,” which is the difference between the price paid at the foreclosure sale and the amount owed, which includes the costs of the foreclosure sale. Often there is no bidder at the buyer at the foreclosure sale, so whatever amount the lender bids is accepted without challenge.
Next, the lender sues the borrower (and any guarantors) for the difference between the lender’s bid and the amount owed. The borrower always wishes that the lender’s bid had been high enough to equal the amount owed, so that the amount of the deficiency would be eliminated. But the lender has no incentive to bid higher than the minimum amount needed to recover the property. A Missouri court, under existing judicial decisions, cannot use its equitable power to adjust the amount of the deficiency unless the borrower proves the existence of fraud, unfair dealing or mistake in the conduct of foreclosure sale. There is no clear standard for determining the existence of “unfair dealing”; sales have been upheld when as little as 10% of fair market value has been offered.
In a recent case from the Eastern District of the Missouri Court of Appeals, First Bank v Fischer & Frichtel, Inc., the borrower acknowledged that the court had no power to adjust the amount of the deficiency, but asked the Court of Appeals to transfer this case to the Missouri Supreme Court, for consideration of adopting a different rule of law, such as the rule that allows court would be able to determine the foreclosed property’s fair market value, without the necessity of proof of fraud, unfair dealing or mistake in the sale proceedings. This alternate rule is applied in several other states.
Following Missouri Supreme Court Rule 83.02, the Court of Appeals ordered that this case be transferred to the Missouri Supreme Court “because of the general interest or importance of a question involved in the case or for the purposes of reexamining existing law.”
This question is important for several reasons, in my opinion:
- There is no clear guidance in the law to assist foreclosing lenders in setting the amount that they will bid; this situation is an invitation for bids to be low, unless there are other bidders.
- Because of the unprecedented number of properties being foreclosed, and the inability to quickly resell foreclosed property, there are relatively few bidders, whose bids would ordinarily establish the fair market value.
- Lenders, facing the prospect of incurring expenses indefinitely for holding the foreclosed property (taxes, mowing, security, insurance, prevention of freezing pipes, etc.), bid low, and hope to collect on a deficiency judgment, maybe not now but at some future time when the borrower recovers financially. If courts have no power to determine whether a bid (from a lender or a third party) is in some sense fair, lenders have a clear incentive to bid less than the property is worth.
But does the absence of bidders mean that many foreclosed properties have no value? Perhaps not individually, but marginally. Most investors have all the property they need; nobody needs another vacant rent house or strip center. Investors and other potential buyers are content to let the foreclosing lenders hold the foreclosed properties until the market is ready to absorb them.
Why should the Missouri Supreme Court, rather than the legislature, address this issue? Rules of law in a representative democracy should be made by those elected to be lawmakers. The Missouri General Assembly has not addressed this issue, though the inequities of the present foreclosure statutes have been long apparent. Perhaps the General Assembly will take a look at a solution. The court or the legislature needs to hear from representatives of lenders, appraisers, consumer advocates, title insurers, and lawyers to create procedures that provide more fairness.
You state that the courts ought to leave this issue alone and leave it to the General Assembly for resolution while stating that the current law works some injustices. I am not an expert on deficiency judgments that are the result of a foreclosure so I am not sure if the rules are based in contract or common law or some a combination. If based in common law or just court interpretation I see no reason why the courts cannot change the law based on the equities, that they might have helped create in order to have a fair result. If the General Assembly does not like the change they can react by passing legislation. The Supreme Court has done this in a number of situations like sovereign immunity and the Law of Surface Water because these doctrines were riddled with inconsistencies that created many inequities, which were impossible to explain. When the Supreme Court abolished sovereign immunity the General Assembly responded to protect political subdivisions. When the Court changed the law with respect to surface water everyone seemed to settle in and there was no apparent need for the General Assembly to respond. I suspect most borrowers would be surprised to learn that a bank or the lender could take a deficiency judgment against the borrower.
My understanding is that deficiency suits are based on contract law. The promissory note or guaranty is the contract. The remedy of foreclosure is statutory but has roots in equity, and equitable defenses are sometimes asserted successfully in deficiency suits.
My reason for suggesting that legislation be the product of elected legislators rather than appointed judges was to draw attention (in this very small way) to the problem that legislatures never get around to dealing with real and significant problems affecting large numbers of people, unless the people affected have an organized lobby. As a result, appellate courts sometimes fill the void, although they make decisions on the basis of the facts and legal posture of the case before them, which is not a very good way to make policy. Nonetheless, a panel of judges reading well-reasoned briefs of experienced legal practitioners, may have better information than the legislature on this type of issue.
One of the most frequently repeated rants that I hear at political events is about “activist judges” who “legislate from the bench”. Though more true in the federal courts, those of us on the Republican side of the universe have been thoroughly brainwashed to resist any expansion of the powers of the state judiciary.
Unfortunately, we have a legislature that seems to be completely ineffective. There is a long list of highly technical subjects that really need some legislation. One could start with better legislation to make foreclosures and deficiencies more fair, go on to defining who is responsible for sewage treatment plant and water system maintenance when an HOA/COA goes broke, continue with better definitions of underground water rights, deal with how residential property which is rented nightly is assessed for taxation, and continue on with a list of issues a page long before leaving the subject of real estate. The legislature, at least in Missouri, is not functioning. It has been probably thirty years since any really significant effective legislation was considered.
One could speculate as to the reason the legislature is not functioning, with the most commonly cited cause in Missouri being term limits precluding any institutional memory, the resultant transfer of power away from the legislature and towards lobbyists and political parties, and the resultant “dumbing down” of the type people attracted to legislative office. But even in states where there are no term limits, it takes an organized groundswell of popular support or a bunch of lobbyists tossing around gobs of cash to get any actual legislating done, just as you noted.
Speculation aside, even if we knew what was wrong with the legislature, it seems unlikely that it could be fixed. It seems to be a problem endemic to the American political system operating in the current culture, and probably cannot be changed.
That being said, we still have a wide range of subjects requiring the guidance of legislation. Although I may be distrustful of some moron attorney that manages to get himself appointed or elected judge, I am more confident of a judge legislating from the bench than I am of the current legislative system to get anything done.
Missouri is considered by most people across the nation to be a pretty backwards state when it comes to real estate. We have known for decades that the foreclosure statutes will allow for some degree of unfairness, but such unfairness has in the past been limited to a degree by the bankruptcy courts and to a greater degree by market forces. But in the current economic environment, normal market forces are incapable of protecting debtors, as you illustrated. Perhaps now is the time for the courts to step up and judicially overhaul the Missouri foreclosure statutes, if for no other reason than to force the legislature to deal with the issue.
However, I would caution that this strategy may backfire. The court rewriting or reinterpreting such a body of law may create a groundswell or awaken some powerful special interest (such as MAR or the banks) to get the legislature to respond in goofy ways that you might not be able to predict.
I cite as illustration the New London case on condemnation powers. In that case, the court ruled that a municipality absolutely had the power to take property through eminent domain for purposes of promoting redevelopment that would do nothing more than increase the tax base so as to increase government revenues, even if it demolished neighborhoods and disrupted the community. The court was absolutely 100 % correct in that interpretation of condemnation powers. What we have seen in the wake of that decision has been a groundswell of support for legislation that would limit condemnation powers, provide for special or extra compensation under certain loosely defined circumstances, and further complicate the condemnation process, all of which are horrible laws that will gum up the works when a public project is really needed, and will create conditions where some people get fortunes for their property while others still get screwed. The problem in the New London case and in a lot of condemnation cases is that there is no remedy available to the public when an out-of-control autocratically run municipality exercises colossally bad judgment in the use of condemnation powers. Neither the court’s decision nor the response of legislatures across the country addressed that core issue. Now every time a city needs to install a sewer line or fix an intersection or clean up a ghetto they will have to deal with new screwed up procedures and slumlords figuring on breaking the bank.
I would be concerned about what kind of legislation would result in response to the courts attempting to fix the foreclosure laws. Which would you be more comfortable with, a foreclosure law written by the legislature after months or years of deliberation, dreary committee hearings, and lobbying by all sides of the issue, or a foreclosure law written by a a bunch of politicians bellyaching at rubber-chicken dinners.