The Importance of Foreclosing Properly

New York Supreme Court Justice Arthur M. Schack has a motto taped on the wall near the entrance to his chambers – “Be sure brain in gear before engaging mouth.” This is good advice for us all. The New York Times recently featured a profile of this fiery jurist, who has denied 46 of the 102 foreclosure motions that have come before him over the last 2 years. His hard-nosed approach reflects the reality that more judges are scrutinizing foreclosure actions and holding them to a higher standard.

In Justice Schack’s courtroom, if a bank can not prove ownership in a foreclosure action, the case is over. This is a problem because many mortgage documents can no longer be found. It is often unclear which bank owns a mortgage. “If you are going to take away someone’s house, everything should be legal and correct,” he maintains. “I’m a strange guy — I don’t want to put a family on the street unless it’s legitimate.”

Condominium and homeowners associations should scrupulously follow the appropriate legal procedures when pursuing foreclosure actions. This will maximize their potential for success.

How to Garnish Delinquent Owners' Wages and Assets

Filing lawsuits directly against delinquent owners and attempting to garnish their wages and assets is a collection option that is usually available to community associations. If the debt is less than $5,000, small claims court is a quick and inexpensive way to seek a judgment. A board member typically presents the association’s case at trial. If the debt is substantially more than $5,000, then pursuing collection in superior court is a better choice. The association’s attorney presents the case in that forum.

Once a judgment has been obtained against a delinquent owner, the association must seek garnishment of the owner’s wages or bank account funds. If an owner’s employer is known, up to 25% percent of his or her wages can be diverted to the association until the judgment is paid. It is a good practice to request employment information from new owners. If a delinquent owner’s bank account is known, whatever funds are present can be diverted to the association. It is a good practice to keep copies of owners’ checks.

In some cases, a delinquent owner’s employer or bank account can not be identified. If an association lacks this information, it can try to serve an owner with written questions requesting information about his or her assets. If an owner fails to answer the association’s questions, he or she can be held in contempt of court. This sometimes motivates delinquent owners to cooperate.

The ultimate success of personal lawsuits depends to a large extent on the delinquent owner. If an owner is unemployed and has little money in the bank, a personal lawsuit is not likely to result in a full recovery in the short term. Some associations decide to cut their losses and end such lawsuits at that point. However, there is value in obtaining and recording a judgment against owners that currently have no assets. Judgments are valid for 10 years in Washington and can be renewed. Persistent associations can direct their attorneys to periodically reopen unpaid judgment matters to investigate whether circumstances have changed and proceed with garnishment if this is the case.

The Rising Use of Foreclosure to Collect Delinquent Assessments

Foreclosure is the most powerful weapon in a community association’s collection arsenal. If that process is completed, it will result in the property being sold to satisfy an owner’s debt to the association. The Wall Street Journal noted in an article last week that the rising number of substantial delinquencies is forcing many condominium associations to begin more foreclosure actions. The article points out that those associations are increasingly even finding it necessary to foreclose on units that lenders have seized from owners after they fail to pay their mortgage. An understanding of how foreclosure actions can be used to address delinquencies has unfortunately become essential for persons serving on most community association boards.

Foreclosure actions have the potential to bring owners’ lenders into the picture. Lenders may work with owners to refinance loans in a way that allows debts owed to a community association to be paid. They may permit delinquent owners to stop making mortgage payments for a short period of time in order to give those owners the opportunity to pay associations. Lenders may even decide to pay some or all of the past due assessments and add the amount paid to the owner’s loan. If payment from owners and lenders is not forthcoming, more drastic measures are required.

When units or houses are vacant, associations can ask courts during judicial foreclosure actions to appoint a receiver over the property at issue to lease it and collect rent. This can result in associations receiving full payoffs within a few months. When delinquent units or houses are still occupied, associations can seek to sell them at auction. If a property is purchased by a third party, then the owner’s debt to the association will be paid from the purchase price. If no one purchases the property, then the association becomes the owner of the property (subject to senior liens) and can seek to transfer it to a senior lien holder in exchange for payment, lease it, or sell it. At a minimum, completing a foreclosure sale will eventually replace an owner that does not pay assessments with an owner that does pay them.

All foreclosure actions involve significant financial risk (for example, attorney fees incurred are sometimes not recoverable) and cause neighbors to suffer great hardship. They should be pursued only after carefully considering all available alternatives. However, if an owner is seriously delinquent and lacks the ability to pay that debt and the ongoing assessments in the foreseeable future, a board can reasonably conclude that foreclosure is unavoidable.

Bankruptcy Basics - Filing a Proof of Claim

The rate of bankruptcy filings in Washington has accelerated recently. As noted last month in the Seattle Times, more than 7,000 people statewide declared bankruptcy in the first quarter of 2009, up 50 percent from a year ago. If a condominium or homeowners association receives a notice that one of its owners has filed for bankruptcy, taking quick action can minimize the damage that bankruptcy may inflict on the association’s budget.

A “proof of claim” is a document that creditors file in bankruptcy cases to provide notice that the debtor owes them a specified amount of money. Notices of bankruptcy filings sometimes state that there is no need for a creditor to file a proof of claim at that time. However, some bankruptcy judges have informally indicated to attorneys that practice in this area that a creditor should always file a proof of claim after receiving a notice of bankruptcy because the bankruptcy may be converted to another type that requires a proof of claim. Associations should not rely on delinquent owners to name them as creditors. If an owner does not list an association as a creditor and an association does not file a proof of claim, that association could lose the right to collect delinquent assessments once the bankruptcy has been concluded.

A proof of claim usually must be filed no later than 90 days after the date set for the meeting of the creditors. When filing a proof of claim, an association should list all delinquent assessments, late fees, interest charges, and collection-related attorney fees owed by the owner on the date the bankruptcy petition was filed. Assessments that become due after the bankruptcy petition is filed must be paid during the bankruptcy. If those post-petition assessments are not paid, an association may seek relief from the bankruptcy court, which could include payment of those amounts from the bankruptcy estate (if there are available funds) or permission to commence a collection action against the owner. In light of restrictions imposed by bankruptcy law, community associations should not attempt to collect delinquent assessments from owners that have filed for bankruptcy unless a court has authorized them to do so.

Submitting a proof of claim will often not be sufficient to protect an association’s interests after an owner has filed for bankruptcy. The association or its attorney may need to take additional actions to ensure that the association receives the funds that it is entitled to under the bankruptcy code. The proof of claim is important because it allows those steps to be taken if necessary.

Lenders Abandoning Some Foreclosures

Community associations need units to produce income. When the board of an association sees a delinquent owner's lender schedule a foreclosure sale, it typically hopes that this will result in either a payoff of all claims or a new owner that pays assessments (even if that new owner is the lender). Attorneys that represent associations often instruct them to put collection actions on hold pending the outcome of lenders' foreclosure sales. After all, why spend money that you may not be able to collect later? These realities make the relatively new phenomenon of lenders refusing to complete foreclosures a particularly frustrating one.

As noted by a recent article in the New York Times, lenders are in some cases declining to take possession of properties at the end of the foreclosure process, most often because the cost of doing so exceeds the rapidly diminishing values of the properties. In other cases, the complexities involved in sorting through financial records and bankruptcies make it difficult for the company that holds the loan to know what it owns.

Lenders typically lose 40 to 50 percent of their investment on every foreclosure. The purpose of their foreclosure actions is to take title of the properties, sell them, and recoup what they can. It is a sign of the times that lenders do not wish to take possession of some delinquent properties. This reality should cause community associations to consider whether they should simply proceed with their collection actions independently of lender-initiated foreclosures.