California homeowners who decide to put their homes for short sale can breathe a sigh of relief. Beginning January 2011, Senate Bill 931 takes into effect – this provides protection to short sale sellers, in that, first trust deed lenders can no longer go after the sellers for the remaining balance of the loan. Once they approve a short sale, lenders will agree to accept the sale proceeds as full payment, and will discharge the remaining amount owed.

Note that this applies only to first lienholders, which means 2nd mortgage lenders can still exercise the option to collect the remaining balance of the loan.

In all cases, the new law does not affect purchase money loans, since California is a non-deficiency state. In other words, if you short sale your property and you have never refinanced your loans, nor have taken any cash out against your home, your short sale will not result in any deficiencies owed to your lenders.

Even without this law, I have seen more and more lenders who are allowing short sales as full payment for mortgages owed. However, they may be harder on the approval terms, e.g., asking for cash contribution, negotiating requiring a higher purchase price, disallowing a lot of fees, etc. Just know that after this hurdle, there is nothing more to worry about!

BUT…

Per the senate bill, this law does not limit the lenders from suing the homeowner for fraud with respect to the sale of the property. And that’s a messy web to be entangled with.