Lawmakers got it wrong on AB 130 — homeowners will suffer

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OPINION – The California Legislature recently passed a controversial new law buried in an affordable housing budget trailer bill, known as AB 130. Legislators claim “zombie” subordinate mortgage provisions protect consumers. Unfortunately, what lawmakers passed hurts their constituents.

According to the proponents, borrowers of “zombie” subordinate mortgages are led to believe their loan has been forgiven only to be surprised later that they still owe the debt. A compromise addressing this concern was achievable. Unfortunately, the changes embedded as part of the state’s spending plan make complying with other areas of the law nonsensically unlawful. More on that later.

Subordinate mortgages are a vital source of credit, helping Californians afford homeownership through down payment assistance. These mortgages, which include HELOCs, unlock equity for financing wildfire resiliency and disaster recovery, constructing accessory dwelling units, funding college education, and paying medical expenses. The increased risk imposed on lenders through the Legislature’s action makes subordinate mortgages more expensive and less available.

The impact is not limited to new loan originations and has consequences on existing subordinate mortgages. Lenders give borrowers money to buy a home. In exchange, the property serves as collateral which the lender can take back if the borrower stops making their mortgage payment. Restricting a lender’s ability to recover collateral when the borrower fails to make their payments increases risk. Why should anyone care? A few examples.

During the Great Recession, mortgage servicers helped borrowers avoid foreclosure by forgiving principal to achieve a more sustainable monthly mortgage payment. When doing so, the mortgage servicer must issue an IRS Form 1099 documenting the forgiven principal.

Under newly enacted Civil Code Section 2924.13, if a borrower subsequently defaults after a good faith attempt to help them avoid foreclosure, the subsequent pursuit of a foreclosure sale after the issuance of Form 1099 is considered an unlawful act. We fear mortgage servicers will be discouraged from working with borrowers by reducing principal going forward.

Further, mortgage servicers may be prohibited from communicating with a borrower during a borrower-initiated bankruptcy filing. If the judicial proceedings surrounding a bankruptcy filing last for three years or more, the mortgage servicer’s inability to communicate with the borrower when complying with the judicial proceeding is also considered an unlawful act.

The Legislature must act quickly to minimize the damage they inflicted on their constituents. We’re eager to work collaboratively with them to get this right.

Kevin Gould is President & CEO of the California Bankers Association.