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Credit Bidding at California Foreclosure Sales: What Foreclosing Commercial Real Estate Lenders Need to Know

NOTE: This article does not address foreclosure of residential real property with one to four units. Although many of the concepts described in this article apply to the foreclosure of residential real property, laws have been enacted to provide additional protections to homeowners and owners of residential property with one to four units. This article does not attempt to summarize the law that applies to residential property with one to four units.

As we have discussed in another article, under California’s foreclosure law, three months must pass after recording a Notice of Default before the creditor can instruct the Trustee to sell the property. While California law requires only 20 days notice before the foreclosure sale, lenders typically instruct the foreclosure company to give 25 days notice to cut off any junior lien rights that IRS might have.

If the lender chooses to go forward with a nonjudicial foreclosure sale, the trustee will conduct an auction and sell the property to the highest bidder. The fall of the auctioneer’s hammer will cut off the lender’s right to obtain a deficiency against the borrower.

The lender is entitled to credit bid, and typically opens by bidding the sum of its outstanding principal balance (customer balance), plus all out of pocket expenses, such as appraisals, foreclosure fees, property taxes and insurance premiums advanced, attorney’s fees, etc. Where there are unpaid property taxes, some lenders also reduce their bid by the amount of unpaid property taxes they will have to advance if they acquire the property at foreclosure.

No matter what, the lender’s opening bid should not exceed the appraised value of the property. The main reason is that the lender does not want to create taxable income by bidding unpaid interest unless there is a good chance that the property will be sold at a high enough price to another bidder so that there will be cash available to pay the taxes on the interest income.

In the happy event that there are other bidders at the sale, the lender can continue to credit bid up to the amount of accrued but unpaid interest, with the appraised value being a ceiling. If it is expected that other bidders will be present to bid more than the lender’s opening bid, it is a good idea for the lender to have its own representative present at the sale, rather than relying on the foreclosure company to bid for the lender. Most foreclosure companies will present an opening bid on behalf of the lender. Some foreclosure companies will make additional bids, but most do not want to take the risk of using the lender’s right to credit bid to outbid a cash buyer.

Where the appraised value is less than the outstanding customer principal balance, typical bidding strategy would be to open with a bid of the appraised value, but this is a matter that the lender needs to determine internally before the sale. Obviously, the idea is to encourage a third party bidder to buy the property for the highest possible price, and bidding strategy must consider that possibility.

Because the property may be worth less than the outstanding debt, it is possible that there will be a deficiency. If the lender chooses to go forward with the nonjudicial foreclosure sale by the trustee, it will be waiving its rights to collect a deficiency against the borrower. As a practical matter, the borrower’s assets must be analyzed to determine whether it has any other assets that could be liquidated to pay a deficiency owed to the lender. If not, then the nonjudicial foreclosure sale, even if it results in a deficiency, is probably the choice to make. If assets do exist, then the lender should analyze whether it makes sense from a cost-benefit perspective, to try to preserve the deficiency.

In California, there are two ways to preserve the deficiency. First, the lender can foreclose judicially. This means that the lender would file a lawsuit against the borrower and ask the Court to order foreclosure. After the property is sold, the lender returns to Court and asks the Court for a money judgment against the borrower in the sum that is the difference between the amount of the indebtedness (principal, interest, fees and costs) and the “fair value” of the property at the time of the sale. “Fair value” is not the sale price at the foreclosure sale. Instead, “fair value” is the amount that the Court finds after taking evidence of the value of the property at the date of sale. The lender will then obtain a judgment against the borrower and will try to collect the judgment against other assets of the borrower.

The process of judicial foreclosure is rare, slow and costly. It requires expert testimony and multiple court hearings. It should not be used unless the lender is reasonably certain that the borrower is capable of paying the deficiency and the likely amount of the deficiency is substantial.

The second way to preserve the deficiency is to collect it from the guarantors. Again, before making a decision, it is advisable to determine whether it is likely that the guarantors are capable of satisfying a deficiency judgment.

In the event the lender chooses to foreclose by trustee’s sale, most California guaranties contain statutory waivers that preserve the lender’s right to collect the deficiency from the guarantor. In addition, there is case law authority that if the lender tenders the debt to the guarantors before the foreclosure sale, the lender’s rights to collect the deficiency are preserved. This is done by sending a letter to the guarantors before the Notice of Trustee’s Sale is given and recorded.

It is likely that the guarantors will vigorously defend. Once the foreclosure sale takes place, the lender would send a demand letter to the guarantors, and then would have to follow up with a lawsuit against the guarantors.

In the event the lender chooses to foreclose by judicial foreclosure, the guarantors are typically named as parties to the foreclosure lawsuit.

This article is not intended to be a complete explanation of California foreclosure law and the various strategies to be employed by a foreclosing lender, but rather a summary of relevant options typically available to secured creditors. Depending upon the lender’s internal policies and credit decisions, other considerations may well be relevant in choosing the best course of action. If you have any specific strategic questions about foreclosing on California real property, it is best to consult with JMBM at the earliest possible time, as this area of California law is fraught with traps for the unwary.

This is Dick Rogan, bank lawyer and author of, signing off for now. Join us again soon to check out what’s new in the World of Workouts.

Year after year, day after day, workout professionals in the know rely on JMBM’s Special Assets Team™ to handle problem commercial and real estate loans. Whatever problem loans you have, chances are, we’ve seen it. Give us a call.


Our Perspective. JMBM represents commercial banks, special servicers, private lenders, asset-based lenders, hard money lenders and factors. We help lender clients throughout the United States craft business and legal solutions to their commercial and real estate troubled loans. For more information, please contact Dick Rogan at, or (415) 398-8080.

Richard A. Rogan is Chair of the JMBM Special Assets Team™. He also serves as the co-managing partner of JMBM’s San Francisco office and co-chair of its Bankruptcy Practice Group.

JMBM’s Special Assets Team™ has represented hundreds of lenders in California and throughout the United States. We regularly appear in bankruptcy courts, district courts and superior courts. We are proud to serve as trusted counsel and advisors who look for a business solution and try to help lenders find the best possible resolution for each troubled loan. Whether a loan is being newly documented, restructured or litigated, JMBM’s Special Assets Team™ has the skill, know-how and experience to solve your problem in a practical no-nonsense way.

NOTE TO CONSUMERS: As a matter of Firm policy, JMBM does not represent individual consumers who have disputes with their lenders. Many lenders have specialized consumer workout professionals who have the time to help consumer borrowers. There are many fine attorneys who specialize in representing consumers. Individuals with consumer lending problems should contact a lawyer or law firm who specializes in consumer insolvency and bankruptcy in their local area. When in doubt, we suggest you contact your local bar association’s Lawyer Referral Service. [For example, see Bar Association of SF or LA County Bar Association Lawyer Referral Services]

JMBM does not provide legal advice to consumers, and cannot respond to consumer inquiries.