In a very recent decision, First California Bank v. McDonald, 2014 WL 5408418 (Cal. App.) (October 24, 2014), a California appellate court has determined that a lender’s consent from only one of its two borrowers to the borrowers’ sale of the portion of the lender’s real property collateral violated the one form of action rule and prohibited the lender from obtaining a deficiency judgment.

In the First California Bank decision, a husband and wife borrowed approximately $1.5 million from their lender. To secure the promissory note, the husband and wife executed a deed of trust encumbering a parcel of real property located in Wasco, California (the “Wasco Property”). The wife also granted the lender a deed of trust on her separate property located in Shafter, California (the “Shafter Property”) as additional collateral. Within approximately six months following the date that the borrowers entered into the loan with the lender, the husband died. Shortly thereafter, the loan went into default.

On an unspecified date, the wife sold her separate property, the Shafter Property, and agreed that the net proceeds would be paid to the bank. However, the lender did not obtain the consent of the husband or the husband’s probate estate to either the reconveyance of its deed of trust on the Wasco Property or the lender’s acceptance of the proceeds from the sale of the Shafter Property.

Following the borrowers’ default and the sale of the Shafter Property, the lender filed a complaint for judicial foreclosure against the husband’s probate estate. (A deficiency judgment was not sought against the wife since she filed for bankruptcy relief). After the judicial foreclosure sale was completed, the lender then moved for summary judgment against the husband’s estate for the deficiency judgment. The trial court granted the summary judgment in favor of the lender. The appellate court reversed the trial court’s ruling and found that the lender was not entitled to a deficiency judgment against the husband’s estate because the lender failed to obtain the consent of both borrowers, the husband and the wife, to the wife’s sale of the Shafter Property. Specifically, the First California Bank Court ruled that a secured lender is only entitled to a deficiency judgment in a judicial foreclosure action if all of the lender’s collateral is included in the judicial foreclosure action, unless all of the borrowers waive this requirement. Because neither the husband nor the husband’s estate waived the requirement that all of the collateral be subject to the judicial foreclosure action, the court barred the lender from obtaining a deficiency judgment.

The First California Bank case is a very important decision not only because of the Court’s insistence that the lender strictly comply with all of the requirements of judicial foreclosure before a deficiency judgment is issued but also by virtue of the draconian penalty suffered by the lender if not all of the requirements for judicial foreclosure are strictly followed. In particular, the First California Bank court prohibited any recovery for the lender on the deficiency owing to the lender following judicial foreclosure, without any showing of bad faith or intentional wrongdoing on the part of the lender and without any showing that the market value of the Shafter Property was less than the sales price for the property obtained by the wife. Due to the improving economy, many secured lenders are considering judicial foreclosure as an option to maximize their recovery. Accordingly, it is critical for lenders to keep in mind that failure to follow all of the requirements for judicial foreclosure, regardless how technical they may appear, can lead to awful results.

The one form of action rule and judicial foreclosure can get quite confusing.