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2021 Amendments to Arizona’s Homestead Statute Confused Yet?

There has been a good amount of commentary regarding Arizona House Bill 2617, which amends the Arizona Homestead Statute, and related statutes, effective January 1, 2022. Despite what appears to be the consensus, the Bill is not primarily anti-consumer, and has significant redeeming qualities. On the other hand, the statutory amendments raise a host of new questions and uncertainties, creating a likelihood of extensive litigation during the transition period.

So, what exactly does the Bill do?

First, the Amendment clarifies an open question regarding the 2018 statutory amendment increasing the effective period of a judgment: A.R.S. § 12-1551 is amended to state expressly (a) that the 10-year renewal period of current law applies to (i) judgments entered on or after August 3, 2013, and (ii) judgments entered on or before August 2, 2013 and renewed under the prior 5-year statute on or before prior to August 2, 2018, and (b) judgments entered on or before August 2, 2013 and not timely renewed on or before August 2, 2018 are not revived. As these clarifications are consistent with the guidance issued by the Courts, See July 10, 2018 Civil Judgments Memorandum, Supreme Court of Arizona, Court Services Division, Director of Court Services Division, these provisions should not be controversial.

Second, the Bill increases the homestead exemption from $150,000.00 to $250,000.00. From the perspective of a homeowner/debtor, the increase is long overdue. Given the realities of the real estate market, the prior $150,000.00 exemption was insufficient to enable the debtor to use the proceeds of a forced sale to acquire a substitute homestead. The change is beneficial to debtors and contrary to the interests of creditors. Whether or not so intended, the impending change has created an interesting bit of bankruptcy planning; since the state law exemptions available under 11 U.S.C. § 522(b)(3)(A) are those that are “applicable on the date of the filing of the petition,” the homestead amendment has created a significant incentive to prospective debtors to delay filing until after the effective date. One may thus expect a large influx of consumer bankruptcy filings in early 2022; whether this occurs of course remains to be seen.

Third, A.R.S. § 33-964 is amended to provide that a recorded judgment is a lien against all property owned by judgment debtor in the county where recorded, including homestead property:

A civil judgment shall become a lien on the real property of the judgment debtor, including the judgment debtor’s homestead property, that is located in the county in which the judgment is recorded, whether the property is then owned by the judgment debtor or is later acquired, from and after the time of recording as provided in section 33-961 until satisfied or lifted. This subsection applies retroactively to all judgments without regard to when the judgment was recorded.

A.R.S. § 33-964B (as amended eff. 1/1/2022).

This is a significant change from the anomalous situation presented by prior law, under which (a) a recorded judgment was not a “lien” against homestead property, yet (b) the judgment creditor nevertheless could cause the sheriff to levy against and sell the property. Thus, under existing law, a judgment lien does not attach to a homestead property. Nevertheless, the judgment creditor has the right to cause a writ of execution to be issued, and to sell the property, so long as the judgment debtor’s interest in the property is greater than “the sum of the judgment debtor’s homestead plus the amount of any consensual liens on the property having priority to the judgment.” A.R.S. § 33-1105. This provision remains unchanged under the Amendments. The intent of the change to § 33-96433-964, in this context, is to provide clarity as to the competing rights and obligations of the parties regarding homestead property. Whether it accomplishes this goal is another matter entirely.

The issue, then, is what are the expected effects of the amendment to § 33-964:

Addressing the easy part first, the Amendment establishes a bright-line rule for cashback refinancing, providing that, except as to direct costs of refinancing and amounts paid to satisfy liens having priority over the judgment lien:

If the judgment debtor receives cash proceeds from refinancing the homestead property that is subject to a judgment lien, the judgment creditor must be paid in full from those proceeds before the judgment debtor or other person receives any proceeds . . .

(§ 33-964C, as amended eff. 1/1/2022). This intent of this portion of the Amendment, it appears, is to preclude a debtor from having recourse to built-up equity by the expediency of a cashback transaction. While one may argue the equities differently, the impact of this section is far from outrageous, as it applies only in the limited scenario of a “cash-back refinance,” while maintaining the right of the owner/judgment debtor either to remain in possession and ownership (subject to the creditor’s foreclosure rights under § 33-1105, where debtor’s equity exceeds the homestead amount), or to engage in a voluntary sale. In other words, the Amendment is fully consistent with the underlying purpose of a homestead – to ensure that the judgment debtor has a place to live, whether that be the debtor’s current residence, or a substitute property purchased with the cash proceeds of the homestead allowance.

The Amendment further provides that, in “subsequent refinance transactions . . . . the judgment lien is subordinated by operation of law to the new lender’s interest in the homestead property.” (Id.) What this means is unclear since, by the literal statutory language, the judgment creditor must have been “paid in full” for the refinance to occur. (Id.) As will be seen, this same apparent inconsistency appears, with greater potential mischief, in the provisions pertaining to voluntary sales.

With respect to voluntary sales, amended § 33-964 establishes a complex, illogical, and seemingly unworkable set of procedures for voluntary sales, including payment to a judgment creditor of sale proceeds in excess of homestead, consensual liens and costs of sale, and partial release or extinguishment of judgment lien. Among other things, the Amendment charges the “title insurer” with making important determinations. The amendment creates a two-tiered system for judgment lien releases to which title companies must pay important attention:

  1. If the anticipated payment to the judgment debtor is less than 80% of the homestead exemption (i.e., $200,000.00 under the amended law), the title insurer is authorized to record a partial release without notice to the judgment creditor.
  2. If the anticipated payment to the judgment debtor will exceed $200,000 (80% of the exemption), the lien is extinguished as to the homestead property, subject to compliance with requirements for notice and opportunity to object on the part of the judgment creditor. Specifically, in such circumstances:
    • The title insurer must mail a notice to the judgment creditor (20 days before the sale is final) by certified mailing, informing the judgment creditor of the position of the title insurer (not the judgment debtor) that the judgment creditor’s lien will be extinguished by the voluntary sale (A.R.S. § 33-364(B) as amended eff. 1/1/2022); and
    • If the judgment creditor has “good cause to believe that the judgment lien should not be extinguished,” the judgment creditor has 20 days after the date of the title insurer’s notice to submit an objection. (Id.)

The statutes provide no sense of clarity, and litigation will likely be the only mechanism to obtain bright line rules, as to multiple issues.

First, the amended statute purports to impose on a title insurer that prepares or records a partial release liability “for the actual damages, including attorney fees and court costs, that are caused by wrongfully recording the notice of partial release of the judgment lien.” The question immediately arises why, or whether, a title insurer would agree to record a partial release, given the potential unfunded liability. The Amendment, of course, provides no answers. (It is also of note that liability purports to attach to title insurers, who typically are passive participants in real estate transactions, rather than the escrow company/title agency that is actually responsible for preparing and recording closing documents.)

Second, and an important note for collection attorneys, A.R.S. § 33-364(B) states the judgment creditor must have “good cause” to object but fails to define “good cause.” Should a court later find the judgment creditor did not have “good cause” to object, the court may award actual damages, attorney fees, and costs against the judgment creditor.

Third, the statutory language, at least as interpreted by certain commentators, imposes what appears to be an impossible roadblock to sale by a judgment debtor who has the misfortune to be saddled with a relatively large judgment obligation. To illustrate:

Hypothetical #1. Assume (a) sale price of $500,000, (b) priority mortgage lien of $300,000, (c) costs of sale of $25,000, (d) equity of $175,000, (e) judgment lien of $50,000. Under these circumstances, (i) because the anticipated payment to the judgment debtor is less than 80% of $250,000, the title insurer is authorized to record a partial release, and (ii) proceeds are distributed as follows: $25,000 to pay costs of sale; $300,000 to mortgage lender; $175,000 to seller/judgment debtor; $0 to judgment creditor. This makes sense: priority mortgage lien is paid, seller gets full benefit of homestead, and judgment creditor takes nothing.

Hypothetical #2. Assume (a) sale price of $550,000, (b) priority mortgage lien of $300,000, (c) costs of sale of $25,000, (d) equity of $225,000, (e) judgment lien of $50,000. Everything is the same as under Hypothetical #1, except that (i) because the anticipated payment to the judgment debtor is more than 80% of the $250,000 homestead exemption, the title insurer must comply with the notice and objection procedures of amended § 33-964(B), and (ii) proceeds are distributed as follows: $25,000 to pay costs of sale; $300,000 to mortgage lender; $225,000 to seller/judgment debtor; $0 to judgment creditor. Setting aside the central illogic of the statute (why are the partial release and notice requirements tied to a percentage of the homestead, rather than to a percentage of the judgment lien?), this continues to make sense.

Hypothetical #3. Assume (a) sale price of $650,000, b) priority mortgage lien of $300,000, (c) costs of sale of $25,000, (d) equity of $225,000, (e) judgment lien of $50,000. Everything is the same as under Hypothetical #2, except that, because there will be proceeds available, after satisfaction of the homestead, to pay the judgment lien, the judgment creditor will be paid in full; proceeds are distributed as follows: $25,000 to pay costs of sale; $300,000 to mortgage lender; $250,000 to seller/judgment debtor; $50,000 to judgment creditor; $25,000 to seller. Again, this makes sense; since sufficient funds are available, above and beyond the homestead, the judgment lien will be paid in full, with excess proceeds to seller.

Hypothetical #4. Assume (a) sale price of $650,000, b) priority mortgage lien of $300,000, (c) costs of sale of $25,000, (d) equity of $225,000, (e) judgment lien of $500,000. Everything is the same as under Hypothetical #3, except that, because there will be insufficient proceeds available, after satisfaction of the homestead, to pay the judgment lien in full, it will not be possible to satisfy the homestead and pay the judgment lien. Logic suggests under these circumstances, that the distribution should be as set forth in Hypothetical #3, except that 100% of the proceeds, after payment of costs of sale, the priority mortgage lien, and the homestead, should be paid to the judgment creditor to reduce (but not pay in full) the judgment lien. The problem, however, is that there is nothing in the statue expressly entitling the seller, under these circumstances, to a partial release of the judgment lien. In a recent seminar sponsored by the Arizona Consumer Bankruptcy Counsel, the question was posed (albeit with a lesser judgment amount) whether, under these circumstances, the transaction could close with a partial payment to the judgment creditor; the answer given was “NO! Need to pay judgment in full for a release.” While the statutory basis for this answer is obscure, the consequence is to preclude the owner/judgment debtor from accomplishing a voluntary sale, despite that the rights of the judgment creditor would be protected by causing all of the available proceeds, beyond the homestead, to be applied to the judgment debt. And yet, consistently with current law, § 33-1103(A)(4) would allow the judgment creditor, under identical circumstances, to cause the property to be involuntarily sold, so long as the debtor’s equity exceeds the homestead amount, despite that the proceeds of an involuntary sale would inevitable be less than the proceeds of the proposed voluntary sale. Perhaps these is logic to this outcome, but it escapes us.

Given the language and purposes of HB 2617 as outlined above, the overall impact of the statutory amendments is neither as severe or one-sided as some have suggested. Nevertheless, it is expected that there will be litigation and, potentially, further statutory revisions, before the intent and effect of the amendments become clear.

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