May a lender impose a lien on an owner’s future recovery awarded after a foreclosure on the owner’s property results in a deficiency?

Facts: A landowner purchased a parcel of land and improved it with infrastructure for future development. A lender provided a loan to the owner, secured by a second trust deed on the property. The parcel was damaged in a wildfire and the owner defaulted on the lender’s loan. The lender foreclosed on its second trust deed resulting in deficiency. The owner later sued a third-party for damages to their property from the wildfire. During the proceedings, the lender pursued the owner for payment of the remaining debt and successfully imposed a judicial lien on any future money losses the owner is awarded from their action against the third-party.

Claim: The owner sought removal of the lender’s lien on their future recovery, claiming anti-deficiency law protects them from liability for a deficiency since the lender’s foreclosure extinguished its security interest in the property and prohibited it from further pursuing the owner for payment.

Counter claim: The lender claimed it was entitled to place a lien on the owner’s future recovery from the third-party since its security interest survived foreclosure as the lender’s second trust deed was secured by additional collateral beyond the foreclosed property, including future money awards, which are categorized as personal property.

Holding: A California court of appeals held the lender may not impose a lien on the owner’s future recovery since the second trust deed did not define the lender’s personal property rights as separate and distinct from the lender’s security interest in the real property and no part of the lender’s security interest survived the foreclosure. [Thoryk v. Highland Valley Investors, LLC (April 9, 2014)_CA4th_]

Editor’s note – The lender also relied on the theory of equitable conversion, which permits a lender to recover from a buyer’s awarded money losses up to the amount of the lender’s security which was damaged. However, since the lender’s security interest was extinguished entirely by foreclosure, it was not able to apply the equitable conversion theory and pursue the owner for money losses.