Coming Attractions: Predatory Leasing

Under the new federal protections for tenants, foreclosure will no longer be "final," in Georgia.

Foreclosures in Georgia used to eliminate second mortgages, all junior liens and all leases. A property after foreclosure had a title about as clean as a title could be without a subsequent quiet title action ("QTA").

Under the new Helping Families Save Their Homes Act, and [``Protecting Tenants at Foreclosure Act of 2009''], leases will survive a Georgia foreclosure. This is a significant change in Georgia foreclosure law and unlike most changes to this area of property law did not come from the Georgia General Assembly but from Washington, DC.

The imposition of a post in time lease will have a significant impact on lending under Georgia law. The purpose of the law is to protect the innocent tenant who legitimately and properly entered into a year lease on a house with a landlord, unaware that the landlord is close to foreclosure. In the early 1990s we used to see this type of abuse with "wrap around mortgages," which have since fallen into disfavor. While wrap-around foreclosure concerned ownership by the second mortgagor/owner, it had the same effect on possession. The foreclosure of the first mortgage wiped out the "owner in possession," many times without notice to the owner. [Georgia does not require Notice of Foreclosure be given to the second mortgage holder.]

Under this new law, Institutional lenders will now be forced to recognize existing leases after foreclosures in Georgia.

While this will accomplish the intent of Congress, to prevent tenants from improperly losing possession of their homes for no fault of their own, it will have significant consequences on lending in Georgia.

The institutional lender will no longer look at a foreclosure title in Georgia as a completely clean title. The foreclosure will continue to wipe out second mortgages, mechanics liens, junior liens but will now be viewed as an event that will not terminate residential leases. In all likelihood, this event will be factored into the pricing of obtaining a first mortgage in Georgia and other states.

The terms of the new law contain the following significant provisions:

1) The tenant must be given a 90-day notice to quit (this is different than current Georgia law in that the longest notice in Georgia is a 60-day notice to quit);

2) The tenant will be allowed to occupy the premises until the end of the stated term of the lease, with some exception);

3) The rent stated in the term of the lease remains the same and the lender may not arbitrarily raise the rent after the foreclosure;

4) If the tenant has a month-to-month lease, or the tenant is a holdover tenant, the 90-day notice is still required. In Georgia, a tenant at sufferance may be evicted summarily. While the provisions of this new law remain somewhat murky, it would appear that a tenant at sufferance may now take advantage of the new 90-day right of notice post-foreclosure. This is a very significant change under Georgia law.

There are some significant limitations stated in the law. They are, the rent stated in the pre-foreclosure lease must be a market based rent. That is, the rent cannot be an absurdly low figure of say $200.00 and have that lease survive foreclosure. The rent must be close to the acceptable market value for rents in the local area. The tenant in lease must be a "bona fide" tenant under the terms of the lease. That is, the owner may not rent the property to his spouse, child, parents or a close relative and then assert the lease post-foreclosure. The lease is contemplated to be an arms-length transaction for a fair market rent to survive post-foreclosure.

Notice how this market rent may be used to manipulate the ability of tenants to be evicted in a post-foreclosure setting. Assume that the debt due under the first and second mortgage pre-foreclosure is $3,500.00 a month. If an investor transferred the ownership (perhaps improperly) to a new investor both the first and the second mortgage would need to be serviced at $3,500.00 a month. If however, a bona fide lease is entered into at market rates for $1,500.00 a month for the same property, the lender will be stuck with that fair market lease at $1,500.00 per month post-foreclosure. That is, the institutional lender will be forced to accept $1,500.00 a month as opposed to the true institutional value of the home which is in the range of $3,500.00 a month. This is a significant change in the economic holding of post-foreclosure properties for institutional lenders.

The new law does contain an exit clause for the institutional lender. If the lender has a contract for sale, the lender can give the tenant 90-day notice and break the post-foreclosure lease and sell the property. In the world of realty, most REO purchasers are not going to wait idly by while they spend two or three months examining and qualifying for the property and then spend another three or four months while the institutional lender evicts the tenant. Thus, the reality of marginally valued residential homes is that the institutional lender will be "stuck" with the tenant until the lease expires.

There are a number of anomalies that seem not to be discussed in this new legislation. In Georgia, a lease for a term less than five years does pass an estate in land. Thus, it would appear that the lease could be written with a mandatory option clause which would allow the tenant to extend from year to year under the terms of the original lease. Thus, an institutional lender may be stuck with a tenant for as much as 4 years and 11 months under Georgia law. No doubt this provision will be litigated. However, I am unable to determine a restriction upon lease extensions by "bona fide" tenants who enter into these leases pre-foreclosure.

No doubt, this new bill will spawn an entire industry called "predatory leasing." In predatory leasing, a "bona fide" tenant will attempt to capture a residential property at the lowest range of acceptable market rental and ride that property post-foreclosure to the end of REO process. Thus, under predatory leasing a tenant will be able to acquire a very high dollar mortgage property for the low end of the residential rental spectrum. It will take two or three years for the industry to determine how this new law impacts both its bottom line and its lending practices. However, I am convinced upon reading this bill that the lending industry will be significantly manipulated by tenants in the near future.

Welcome to coming attractions: Predatory Leasing.

Hugh Wood

Atlanta, Georgia

& & &

TITLE VII-- PROTECTING TENANTS AT FORECLOSURE ACT
SEC. 701. 12 USC 5201 SHORT TITLE.

This title may be cited as the ``Protecting Tenants at Foreclosure
Act of 2009''.

SEC. 702. 12 USC 5220 EFFECT OF FORECLOSURE ON
PREEXISTING TENANCY.

(a) In General.--In the case of any foreclosure on a federally-
related mortgage loan or on any dwelling or residential real property

[[Page 123 STAT. 1661]]

after the date of enactment of this title, any immediate successor in
interest in such property pursuant to the foreclosure shall assume such
interest subject to--
(1) Notice. Deadline. the provision, by such
successor in interest of a notice to vacate to any bona fide
tenant at least 90 days before the effective date of such
notice; and
(2) the rights of any bona fide tenant, as of the date of
such notice of foreclosure--
(A) under any bona fide lease entered into before
the notice of foreclosure to occupy the premises until
the end of the remaining term of the lease, except that
a successor in interest may terminate a lease effective
on the date of sale of the unit to a purchaser who will
occupy the unit as a primary residence, subject to the
receipt by the tenant of the 90 day notice under
paragraph (1); or
(B) without a lease or with a lease terminable at
will under State law, subject to the receipt by the
tenant of the 90 day notice under subsection (1),
except that nothing under this section shall affect the
requirements for termination of any Federal- or State-subsidized
tenancy or of any State or local law that provides longer time
periods or other additional protections for tenants.

(b) Bona Fide Lease or Tenancy.--For purposes of this section, a
lease or tenancy shall be considered bona fide only if--
(1) the mortgagor or the child, spouse, or parent of the
mortgagor under the contract is not the tenant;
(2) the lease or tenancy was the result of an arms-length
transaction; and
(3) the lease or tenancy requires the receipt of rent that
is not substantially less than fair market rent for the property
or the unit's rent is reduced or subsidized due to a Federal,
State, or local subsidy.

(c) Definition.--For purposes of this section, the term ``federally-
related mortgage loan'' has the same meaning as in section 3 of the Real
Estate Settlement Procedures Act of 1974 (12 U.S.C. 2602).

SEC. 703. EFFECT OF FORECLOSURE ON SECTION 8 TENANCIES.

Section 8(o)(7) of the United States Housing Act of 1937 (42 U.S.C.
1437f(o)(7)) is amended--
(1) by inserting before the semicolon in subparagraph (C)
the following: ``and in the case of an owner who is an immediate
successor in interest pursuant to foreclosure during the term of
the lease vacating the property prior to sale shall not
constitute other good cause, except that the owner may terminate
the tenancy effective on the date of transfer of the unit to the
owner if the owner--
``(i) will occupy the unit as a primary
residence; and
``(ii) <> has
provided the tenant a notice to vacate at least 90
days before the effective date of such notice.'';
and
(2) by inserting at the end of subparagraph (F) the
following: ``In the case of any foreclosure on any federally-
related mortgage loan (as that term is defined in section 3 of
the Real Estate Settlement Procedures Act of 1974 (12 U.S.C.
2602)) or on any residential real property in which a recipient
of

[[Page 123 STAT. 1662]]

assistance under this subsection resides, the immediate
successor in interest in such property pursuant to the
foreclosure shall assume such interest subject to the lease
between the prior owner and the tenant and to the housing
assistance payments contract between the prior owner and the
public housing agency for the occupied unit, except that this
provision and the provisions related to foreclosure in
subparagraph (C) shall not shall not affect any State or local
law that provides longer time periods or other additional
protections for tenants.''.
SEC. 704. 12 USC 5201 note. 12 USC 5220 note. 42 USC 1437f
SUNSET.
This title, and any amendments made by this title are repealed,

and the requirements under this title shall terminate, on December 31, 2012.

Hugh Wood, Esq.

Wood & Meredith, LLP

3756 LaVista Road

Suite 250

Atlanta (Tucker), GA 30084

www.woodandmeredith.com

hwood@woodandmeredith.com

Phone: 404-633-4100

Fax: 404-633-0068