When a borrower defaults on his or her commercial real estate loan in Washington, the bank has a number of options for collecting the debt. Lenders usually secure their real estate loans with deeds of trust, which gives the lender the option to foreclose on the collateral either non-judicially through a Trustee’s Sale, or non-judicially through a judicial foreclosure and subsequent Sheriff’s Sale. In each of those situations the rules governing the borrower’s and guarantor’s continuing liability on the loan after the sale differ.
With a judicial foreclosure, after the court approves the foreclosure, the Sheriff sells the real estate. Thereafter, after applying the land sale proceeds, the lender is entitled to obtain a deficiency judgment against the borrower any guarantor for the balance owed. One of the downsides of a judicial foreclosure is that the borrower is granted the right to redeem the collateral, subject to certain exceptions, for either eight months (if the lender has waived the right to a deficiency judgment) or a year. RCW 6.23.020 Another downside is the requirement that it requires litigation involving all junior lienholders, which takes time and money, and the sale process is a public auction conducted by the Sheriff, which seldom results in the highest price at the foreclosure.
The most common method for collecting the debt is for the bank to have its deed of trust non-judicially foreclosed through a Trustee’s Sale. This process is usually faster and cheaper than a judicial foreclosure, and can be controlled more closely than a Sheriff’s Sale as the Trustee is generally getting the Trustee work from the bank. One downside is that RCW 61.24.100 specifically prohibits deficiency judgments against borrowers after the Trustee’s Sale. That means that if the value of the collateral is less than the amount owed, the bank may not be able to collect everything owed it. RCW 61.24.100 does allow deficiency judgments against guarantors after a Trustee’s Sale, assuming certain prescribed steps are taken.
A third approach to realizing on collateral, which has its own sets of advantages and costs, is through a receivership, authorized under RCW 7. 60.025(1)(b), assuming the parties agreed to this remedy in the deed of trust. One benefit of the receivership is that a Receiver can collect rents before a sale (if the loan is also secured by an assignment of rents) and the property can be marketed in a way which more closely resembles the process in a normal sale. A court appointed Receiver can hire a brokerage firm to list and otherwise market the property and solicit offers through standard channels rather than sell through a foreclosure auction. While the sale needs to be approved by the court which appoints the receiver, which involves some delay and cost, this sale process can often result in a higher ultimate price for collateral liquidated than through foreclosure. In addition, the specific terms and conditions of the sale can be negotiated, which is not possible in a foreclosure.
Division II of the Washington Court of Appeals, in the recent decision in the Umpqua v. Shasta Apartments, LLC et. al., No. 47224-4-II (June 21, 2016), just confirmed another lender advantage and corresponding disadvantage for the borrower in the event of a sale by a receiver – the right of the lender to obtain a deficiency judgment against a borrower and guarantor after a Receiver’s sale.
In that case, the borrower’s loan was secured by a deed of trust and loan guaranty. The deed of trust specifically granted the bank the right to seek a receiver if the note was in default. The bank brought a receivership action to take control of the real estate collateral and the Receiver sold the property for less than the amount of the debt. It should be noted that the borrower and guarantor did not object to the proposed sale price. Subsequently, the bank sought a deficiency judgment against both the borrower and guarantor for the amount owed, less the net sale price of the collateral.
The borrower and guarantor argued that because the Washington Receivership Act (RCW 7.60) did not expressly authorize deficiency judgments, such post-sale liabilities were not allowed. The Court noted that deficiency judgments were neither authorized nor prohibited by the statute. However the Court viewed the receivership process as more akin to a judicial foreclosure because of the court supervision of the Receiver’s sale than the deed of trust non-judicial foreclosure process in RCW 61.24, which is not court supervised and which prohibits deficiency judgments against borrowers. The court looked at the RCW 7.60’s statutory purpose as intending “to ‘benefit creditors’ having interests in property administered by courts.” Id. At 10
The Division II panel agreed with the trial court, which granted summary judgment against the borrower and guarantor, allowing the bank to obtain a deficient judgment against both the borrower and loan guarantor, in this case of first impression in Washington.
Score another tool in the oversized lender toolkit, at least in those counties within Division II of the Washington Court of Appeals. My sense is that the court correctly interpreted the law, and this will be the rule throughout the state.
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