Real property secured creditor must pursue collateral first

One of the least understood, but most important, of the California Anti-Deficiency Laws is CCP 726(a), the “One Form of Action Rule.” It provides that, “A secured creditor can bring only one lawsuit to enforce its security interest and collect its debt.” Security Pacific National Bank v. Wozab (1990) 51 Cal. 3rd 991, 997. Under this rule, the creditor is supposed to pursue its collateral first; it is permitted to seek a personal judgment against the borrower, only after exhausting its collateral. If the lender ignores this rule, and brings a personal lawsuit against the borrower, or takes any other action to collect upon the debt, without having first foreclosed on the real property security, this gives the borrower two options.

First, the borrower can raise CCP 726(a) as an affirmative defense against the lawsuit, which will delay the lawsuit and force the creditor “to exhaust the security before he [or she] may obtain a money judgment against the debtor for any deficiency.” Roseleaf Corp. v. Chierighino (1963) 59 Cal. 2d 35, 38-39.

Second, the borrower may permit the lawsuit against him or her to proceed to judgment, but, in that case, the creditor will be held to have made “an election of remedies, electing the single remedy of a personal action, and thereby waiv[ing] his [or her] right to foreclose on the security or to sell the security under a power of sale.” Roseleaf Corp. v. Chierighino, ibid. In short, if the borrower goes forward with a personal lawsuit, it loses it mortgage or deed of trust; it no longer has a lien against the property.

This rule can be quite harsh to creditors, in practice. In Security Pacific National Bank v. Wozab (1990) 51 Cal. 3rd 991, the bank was owed approximately one million dollars, which was secured by real property. The bank made the mistake of grabbing approximately $3,000 out of the borrower’s checking account, using the power of set off. The Supreme Court held that, by setting off the $3,000, the bank lost its lien against the real property. The one million dollar debt was still owing, but it was no longer secured by the real property.

A similar result occurred in In re Prestige Limited Partnership – Concord (9th Cir. 2000) 234 F. 3rd 1108. In that case, a lender had a lien against the borrower’s real property. It lost that lien, however, by attaching and levying upon unpledged assets of the general partner of the limited partnership, which was it, the general partner of the borrower. As these cases show, it is very risky for a secured creditor to do anything to collect upon a real property secured debt, without first seeking to foreclose upon the real property.