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The Wrong Way for a Trustee to Interplead Foreclosure Sale Proceeds

Like most jurisdictions, California allows for “interpleader” actions, where a party holding funds that it has no interest in can deposit the funds with the court and force other parties with conflicting claims to the funds to litigate over who should receive them.

But there are limits on the ability to file an interpleader action.  A recently published opinion from California’s Second Appellate District — Placer Foreclosure, Inc. v. Aflalo — highlights a scenario where it was NOT appropriate for a foreclosure sale trustee to file an interpleader action and deposit the surplus proceeds from a foreclosure sale.

Facts

Solomon Aflalo borrowed money to buy property, and the loan was secured by a deed of trust on the property.  After the loan fell into default, the trustee under the deed of trust, Placer Foreclosure, Inc.,  conducted a foreclosure sale, at which Pro Value Properties, Inc. was the highest bidder.  The sale resulted in substantial surplus proceeds ($974,786.81) after payment of the amounts due under the loan along with fees and costs of the sale.

Aflalo filed a wrongful foreclosure action seeking to unwind the foreclosure sale, naming both Placer and Pro Value as defendants.

Placer responded by depositing the surplus proceeds with the court and filing an interpleader complaint, which alleged that there were conflicting claims between Aflalo and Pro Value to the surplus proceeds.

The trial court sustained Aflalo’s demurrer to the interpleader complaint and entered a judgment of dismissal against Placer, but denied Aflalo’s request to have the interpleaded funds released to him.

Both Placer and Aflalo appealed.

Court of Appeal’s Opinion

The Court of Appeal affirmed the dismissal of Placer’s interpleader action, and ordered that the surplus proceeds be released to Aflalo.

The court ruled that an interpleader complaint must show that “the defendants make conflicting claims” to the disputed funds, and that the plaintiff “cannot safely determine which claim is valid.”  The court found that these conditions were not present in this case.

Placer argued that the interpleader complaint was proper because it faced liability to Pro Value if it distributed the surplus proceeds to Aflalo.  The court rejected this argument because California’s foreclosure statute directly on point — Civil Code section 2924k — required Placer to disburse the surplus proceeds to Aflalo.

Under section 2924k, a trustee must distribute proceeds from a foreclosure sale in the following order of priority: (1) costs and expenses of the sale; (2) payment of the debt secured by the deed of trust; (3) payment of any junior liens or encumbrances; and (4) payment to the trustor (who is normally the borrower).  Placer applied the sale proceeds in accordance with numbers 1 through 3 on that statutory priority list, but failed to pay the remaining proceeds to Aflalo.

The court also rejected Placer’s argument that the funds were subject to “disputed unresolved claims” under Civil Code section 2924j.  The conflicting claims by Pro Value and Aflalo were not between lienholders who had competing recorded claims before the sale — the type of dispute envisioned by section 2924j.

The court noted that if Aflalo prevailed in his claim to unwind the foreclosure sale, then Pro Value would be entitled to have its purchase money refunded, including the surplus proceeds.  But that potential future outcome did not impact Placer’s present duty under section 2924k to give the surplus proceeds to Aflalo.

Lesson

Under the Placer Title opinion, interpleading surplus proceeds from a foreclosure sale is NOT appropriate where there are no competing recorded claims before the sale, and where section 2924k clearly requires the surplus proceeds be given to the trustor.

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