What Happens to Excess Proceeds After a Foreclosure Sale in Arizona?

In Arizona, there are two primary ways to secure payment for a lien on real property: a trustee’s sale and a judicial foreclosure. The two procedures have some technical differences but the same end result: the property that is the security for the lien is sold to generate proceeds to pay the lien. There is no theoretical limit on the amount of liens with which one can encumber a piece of real estate, but the first lien created is senior to the second lien created. The second lien is senior to the third lien created but junior to the first lien, and so on down the line.

What happens, then, when a junior lienholder wants to foreclose on its lien? This occurs frequently with homeowners associations that want to foreclose their lien for HOA dues or other assessments, and those HOA liens are typically junior to the lien for the property owner’s mortgage loan.

So, for example, say that Celeste has a home with a mortgage balance of $200,000 owed to Union Bank. Celeste also has failed to pay her HOA dues for some time, and she now owes her HOA $5,000. The HOA forecloses its junior lien and holds a judicial foreclosure sale where Omar buys Celeste’s property for $40,000. The HOA gets paid its $5,000, but what happens to the other $35,000? What about the $200,000 that is owed to Union Bank? Did Omar get a great deal and purchase a home worth at least $200,000 for only $40,000?

No, Omar is not that lucky (and, if Omar is bidding on property at a judicial foreclosure sale, he should already know this. If he does not, he should think about different investment opportunities). The senior lienholder, Union Bank, has an intact lien on Omar’s property; the judicial foreclosure sale did not affect Union Bank’s lien. Omar has to make the mortgage payments to Union now, or he will face foreclosure from Union Bank.

But what about the $35,000? Does Union Bank get to take that money, too? That is the question the Arizona Court of Appeals, Division Two, answered in August of this year in Tortosa Homeowners Association v. Garcia (2 CA-CV 2021-0114). The court said no, Union Bank does not get that money. There is a statute that directs how the excess proceeds are to be paid, A.R.S. Section 33-727(B), and the senior lienholder argued in Tortosa that the statute directed payment to “other liens” in order of seniority, not just “junior liens.” The Court of Appeals went through numerous other authorities to show that interpretation is contrary to established law regarding the disposition of excess proceeds and reasoned, correctly, that the recourse of the senior lienholder is the intact senior lien that remains on the foreclosed property, not the excess proceeds. The excess proceeds flow down to the junior lienholders and then, finally, to the owner of the property.

So, in our example above, Celeste actually would receive the $35,000 in excess proceeds, given that there are no other junior liens in my example.

The senior lienholder in Tortosa deserves credit for making a unique argument, but ultimately the right decision seems to have attained. A senior lienholder is protected in a foreclosure sale and gets to keep its lien. That should be recourse enough.

Arizona Court of Appeals Issues Federal Land Patent Easement Decision

In Underwood v. Wilczynski, Division Two of the Arizona Court of Appeals issued an opinion clarifying certain rules applicable to easements granted pursuant to a federal land patent under the Small Tracts Act; 43 U.S.C. §§ 682a through 682e (repealed 1976). This case arose in Pinal County, so Division Two, located in Tucson, decided the appeal.

The case involved a dispute between three residential landowners: a trust, Underwood, and Wilczynski. Wilczynski owned landlocked property that required access through either the trust property or Underwood’s property. The Wilczynskis argued their property had legal access pursuant to 33-foot easements granted in federal land patents (FLPs) that ran along the boundaries of the trust and Underwood properties.

The Court of Appeals upheld the basis of the trial court’s ruling, which was summary judgment in favor of the Wilczynskis granting them access through the Underwood property (the trust did not dispute that Wilczynski could have access through the trust property). In upholding the ruling (and also vacating some portions of the actual judgment, which the Court of Appeals found had some technical errors), the Court of Appeals clarified some unique aspects of FLP easements:

1. FLP easements may only be used for access if necessary - if other physical and legal access to a parcel exists, the FLP easements are not necessary and therefore may not be used for convenience.

2. FLP easements, when necessary, may not necessarily be used to the full extent of their grant like other easements. In Underwood, the Court of Appeals found it was incorrect to say the Wilczynskis could use the entire 33-foot easement to enter the Wilczynski property when 33 feet was not necessary to construct an adequate access road. That is unlike other express easements that may be used as a matter of right up to the full extent of the express grant.

3. If a parcel needs to use an FLP easement out of necessity and has multiple FLP easement options to use for access (here, the Wilczynskis could have placed a road entirely on the trust property, entirely on the Underwood property, or half on both properties (this last option is the one the Wilczynskis chose)), the parcel needing access may choose where to place its access, and the burdened property owners (the trust and Underwood) cannot ask the court to force the parcel needing access to choose differently based on some external criteria.

Unique rules apply to FLP easements that make the legal rights and obligations of those easements slightly different than express easements in Arizona. The Court of Appeals does not issue a large number of opinions dealing with easements, and it was interesting to see how it dealt with these unique issues.

Arizona Flooding Damage Statutory Claims Not Guaranteed a Jury Trial

I have represented many clients who have either pursued their neighbors for property damages resulting from flooding or had to defend themselves against claims they flooded someone else’s property. As natives to the state know, flooding is no small concern in Southern Arizona despite the desert climate.

"A river runs through it (Tucson, Arizona)" by Distraction Limited is licensed under CC BY 2.0

One important tool to litigate flooding claims is A.R.S. § 48-3613. That statute requires any person who “engage[s] in any development which will divert, retard or obstruct the flow of waters in any watercourse” to procure a floodplain use permit allowing the development.

If a person engages in prohibited development without a permit, a court must require that person either to remove the development or to secure a permit. The court may award any person whom the unpermitted development harms his or her damages, attorney’s fees, and costs.

But who decides whether or not a person has engaged in conduct the statute prohibits - a judge or jury?

In Williams v. King, 460 P. 3d 303 (Ariz. App. 2020), the Arizona Court of Appeals held a judge, not a jury, should decide all matters relating to statutory flooding claims based on A.R.S. § 48-3613 because no statute or constitutional provision explicitly provides a right to jury trial for such a claim.

In practice, that holding means most flooding damage lawsuits will have two finders-of-fact: a jury will decide common-law tort claims like negligence or trespass, but a judge will decide the statutory claim under A.R.S. § 48-3613. Both parties should be aware of this bifurcated decision making from the outset and strategize accordingly.

Arizona Court of Appeals Clarifies Attorney Fee-Shifting Statute

In February of 2020, the Arizona Court of Appeals (Division One) issued an interesting opinion regarding the attorney fee-shifting statute, A.R.S. § 12-341.01. In Fields v. Elected Officials Retirement Plan, 459 P. 3d 503 (Ariz. App. 2020), the Court of Appeals held that a fee agreement between a client and lawyer that provided the lawyer would be paid only the full amount of any fee award if a court awarded statutory recovery of attorney’s fees but also required the client to petition the court for such an award was a genuine financial obligation of the client to the lawyer.

"Losing Hand" by Damian Gadal is licensed under CC BY 2.0

The State of Arizona, an additional defendant in the case, had argued in the trial court and to the Court of Appeals that the fee agreement did not really obligate the client to pay anything since there existed a significant possibility the trial court would not award recovery of attorney’s fees and, therefore, an award of fees under A.R.S. § 12-341.01 was unavailable.

The Court of Appeals held the fee agreement at issue was a contractual obligation that bound the client to do two things: 1. Seek an award, and 2. Pay any award over to the lawyer. The conditional nature of the obligation to pay did not eliminate the client’s obligation.

This is important to the work I do because I often have real estate clients who are seeking a remedy against a government entity against whom an award of attorney’s fees may be available under A.R.S. § 12-348. I have structured fee agreements like this before, though perhaps not quite this elegantly. Fields v. EORP provides an important blueprint for lawyers and clients to structure their fee agreement before the lawyer begins representation. The decision ensures lawyers can undertake cases that might be in the public interest but not easily paid for by the client at an hourly rate or using a traditional contingency fee recovery from an award of money damages.

If you have a zoning or eminent domain case that might involve litigation against a government entity, I am able to help. Fields v. EORP provides another tool to enable me to take such cases.

Adventures in Land-Use Law: Who Owns that Tree?

I have always believed a strong selling point for being a real estate lawyer is we get to answer such burning questions as, "Who owns the sidewalk?" or, "Can I cut down my neighbor's tree branches?" It is the latter of these two questions the Vermont Supreme Court addressed recently in Alvarez v. Katz, 2015 VT 86 (VT. 2015).

And the answer? I bet you'd never guess: It depends.

If your common property line passes through the trunk of the tree, the tree is a "line tree," you own the tree in common with your neighbor, and neither you nor your neighbor may destroy the tree by cutting the portion lying on one or the other side of the property line.

However, if the trunk of the tree lies completely within your neighbor's property but the branches and roots overhang or intrude upon your property, you may freely cut those branches and roots, even if to do so would be to destroy the tree. For an example, take a look at the scene from Door to Door (a movie I highly recommend beyond its utility illustrating land-use issues):

One caveat: this is a case from Vermont, and other states are free to establish their own rules. In Arizona, it might be important whether the branches and roots are actually causing you injury. Consult a Tucson real estate lawyer who can help determine your rights to cut down tree branches and roots intruding on your property before you bring out the chainsaw.

The Importance of Expert Witnesses and Lawyers Who Know How to Use Them in Eminent Domain Litigation

A recently decided California case illustrates the vital importance of having the right expert witnesses and lawyers who know how to use them to support a property owner in condemnation litigation. The property owner in San Diego Gas & Electric Company v. Schmidt received a jury award of $8,034,000 - over eleven times the $712,000 the utility company claimed was appropriate.

San Diego Gas & Electric (SDG&E) was taking a portion of the Schmidts' property to build a transmission line. The taking would split the property, which was vacant land, down the middle. SDG&E's appraiser felt "residential development or habitat mitigation [open space purchasable as an offset to development in other areas]" was the highest and best use of the vacant property. The Schmidts presented a convincing case the highest and best use of the property would be for eventual aggregate mining (aggregate mining is the mining of construction materials like sand a gravel).

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The impressive element of the case, and the reason it is noteworthy, is the synergy that the Schmidts' lawyers achieved between two experts - one mining expert, Mr. Warren Coalson (his actual name), and Mr. Orell Anderson, an experienced mining appraiser. It takes some doing to convince a jury that the value of vacant property should reflect its highest-and-best-hypothetical use as a mining operation, but that is exactly what Coalson, Anderson, and the Schmidts' lawyers did.

How did they do it?

The first and most obvious hurdle Schmidt had to clear is one of the oldest tricks in the condemnor's playbook, the "You Could Never Use That Property For Anything" defense: SDG&E claimed county authorities would never permit a mining operation on the Schmidt property, thus the mining value of the property had already been lost long ago when the county instituted mining permit regulations in the 1980s. See? Your property has no value. The government took it away long ago when it decided you could never use your property for anything.

Pima County is notorious for using this tactic - particularly when it comes to the numerous floodplain regulations and prohibitions on construction within watercourses. The City of Tucson likes to use their Major Streets and Routes Plan (which sometimes places desired-future-roadway widths deep into private property) to contend the City already owns most of the frontage around town anyway, so why should the City have to pay for the mere formality of transferring title to itself?

Fortunately, the Schmidts' lawyers were prepared. Coalson had completed a market study of construction aggregates and concluded supply did not match anticipated future demand, making the county likely to permit more mining operations in the near future. Anderson conducted an empirical study of mining permitting in the county and found mining operations had been permitted at a rate of 71.4%, and therefore concluded the likelihood of the Schmidt property being permitted for mining was reasonably probable. First hurdle: cleared. 

The second hurdle Schmidt had to clear was properly valuing a vacant piece of property at its highest-and-best use as a mining operation when few comparable sales of such property existed. Appraisers use three approaches to valuation: the comparable sales approach (find other properties sold recently similar to the subject property and use those sales prices to extrapolate the subject property's value), the cost approach (vacant land value + depreciated cost to reconstruct improvements = subject property's value), and the income approach (present value of income stream realizable from subject property = subject property's value). Since the comparable sales and cost approaches were not feasible, Anderson conducted an income approach.

Using the income approach in eminent domain cases is tricky. First, in California and Arizona, the appraiser should show that the comparable sales approach is not viable for the subject property. Anderson did this. Then the appraiser must avoid two traps the courts prohibit: using estimated business profits as a proxy for income and extracting the value of the land from the profits from a hypothetical sale of the hypothetically developed property. The income approach must reflect value as extrapolated from the income derived from the real estate, not the income derived from the business on the real estate. 

Presenting a quality opinion of value using the income approach is where the synergy between Coalson and Anderson shone through. First, Coalson testified that mining companies pay landowners a royalty rate on the materials the mining company extracts, which Coalson stated would be 15 percent for the Schmidt property. This was based on Coalson's supply/demand analysis. Coalson also provided a CALTRANS-sponsored study for which Coalson was on the technical review panel that stated the future price for the mined materials would be $15 per ton.

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Unlock large jury verdicts with the right expert witnesses and lawyer.

Anderson reduced Coalson's $15 per ton rate to $11 per ton to reflect the uncertainty of securing the proper permits. Anderson then took the 15% royalty rate, $11 per ton, and 2 million ton per year capacity of the Schmidt property and determined the Schmidt property aggregate mine would result in a $3.3 million per year income stream to the property owner. Then, to arrive at a final value, Anderson used an 8.5% discount rate (reduced yet again to account for more uncertainty with the permitting process) to determine the present value of a $3.3 million per year income stream. The final value of the property, or, in other words, what a person would pay for a property with a potential income stream of $3.3 million per year, was $10,359,000. 

The jury believed Coalson and Anderson and found SDG&E must pay $8,034,000 of the $10,359,000 for taking the Schmidts' property. Second hurdle: cleared.

Getting the valuation problem right in an eminent domain case is vital. If you have the right expert witnesses, even the thorniest valuation issues can go very smoothly. However, if your lawyer does not understand what is required or if the expert witness presentation is missing a key piece, the jury can struggle to find its path to a large verdict. San Diego Gas & Electric Company v. Schmidt is a good reminder to check to be sure all of the expert testimony you will present forms a coherent whole that makes it easy for the jury to justify a large award. 

July 2014 Updates

The Arizona Court of Appeals, Division One, issued two opinions recently regarding land-use issues:

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Hopefully you do not own a lot in a subdivision that looks like this.

Mandamus not available to force county to call subdivision improvement construction performance bonds: In Ponderosa, et al. v. Coconino, et al., the court stated that the decision to "call," or enforce, a performance bond ensuring construction of subdivision improvements when a developer defaults on its obligation to construct those improvements is discretionary. An action in mandamus - or, an order from a court ordering an entity to do that which it is required to do - is not available to force a county to call the bond. Where does that leave property owners who purchased lots in a subdivision with the expectation the improvements would be built? The court left open whether a county could be liable in damages for the failure to call the bond. I would suggest exploring breach of fiduciary duty as a viable claim for such damages, especially if the county did call the bond but, for whatever reason, the improvements were still never constructed.

Res Judicata does not bar ADEQ's claim for UST remediation costs and penalties when UST owner misrepresented ownership of UST in previous proceedings: This decision in State v. Arnett is not earth-shattering in its conclusion: during the bankruptcy of an entity the Arizona Department of Environmental Quality (ADEQ) thought owned an underground storage tank (UST), the true owner of the UST, a party to that proceeding, did not disclose his ownership. The bankruptcy proceeding therefore did not bar ADEQ from later pursuing its remedies against the true owner of the UST because the law generally does not allow a person to benefit from his or her own fraud.

May 2014 Updates

The Arizona Supreme Court handed private property owners a victory in City of Phoenix v. Garretson:

“Consistent with our prior cases, we hold that a property owner is entitled to compensation if the government either completely eliminates or substantially impairs the owner’s access to an abutting road and thereby causes the property’s fair market value to decrease. As noted above, however, a landowner who claims or establishes only substantial impairment is not entitled to compensation unless the remaining access is unreasonably circuitous.”

— City of Phoenix v. Garretson, Arizona Supreme Court

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The Arizona Supreme Court

Arizona law is now crystal clear regarding the complete destruction of access. Before Garretson, lawyers for condemnors had argued that complete destruction of one access point was non-compensable if the property retained other, non-circuitous, and reasonable access to the road network. Garretson prevents condemning authorities from eliminating one point of access completely for a property to a certain road without paying for any devaluation that occurs to the property as a result. 

The facts of Garretson were first related in this space here. And, as suggested here, the Supreme Court essentially affirmed the Court of Appeals, albeit while substituting a Supreme Court opinion for the written opinion of the lower court.

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Government lawyers are never nice to anybody.

Attribution: http://xkcd.com/1332/ Under Creative Commons Attribution NonCommercial 2.5 License 

There are three great things about the ruling. First, superior courts, where trial of these cases occurs, now have a clear statement of the law upon which they can base their rulings.

Second, private property owners are entitled to compensation for access restrictions, which most people intuitively perceive as decreasing the value of real estate. (Whether or not this perception is true is sure to be hotly contested.)

Finally, private property owners now are able to bring into being the parade of horribles surely elucidated in the briefs the city and those aligned with the city submitted to the Supreme Court. The fear of the city and those aligned with it, expressed in those briefs, was surely that lawyers defending property owners would push to extend a favorable ruling to try to capture compensation for every destruction of access in a way that would threaten the very existence of a free society as we know it.

This is known as a "slippery slope" argument (see right), and the city and its minions were, to some extent, correct. For instance, I believe this ruling gives rise to a claim for just compensation when temporary complete destruction of access occurs during construction of improvements even if the access will be re-opened once construction is complete. Temporary complete destruction of access occurs frequently. 

Congratulations again to Dale Zeitlin on giving us a great case with which to go forward once more unto the breach. 

January 2014 Updates - Unpacking Arizona Supreme Court Discretionary Review

The Arizona Supreme Court has granted the petition to review the City of Phoenix v. Garretson decision of the Arizona Court of Appeals, Division One. Southern Arizona Public Works discussed the appellate decision here. The supreme court will hear oral argument in the case on January 22, 2014.

What does the supreme court's decision mean? In Arizona, civil litigants generally do not have an absolute right to supreme court review. The Supreme Court of Arizona may exercise its discretion to grant a petition for review, but does so infrequently in civil cases. In the court's 2012 fiscal year (July 1, 2012, through July 1, 2013), it received 313 civil petitions for review and granted only 12 petitions, or 3.8%.

The conclusion most lawyers draw from the discretionary nature of supreme court review and the court's limited exercise of it is the court grants petitions for review primarily when it wishes to correct an error at the appellate level, which would bode unwell for the Garretson decision and those who support the decision's reasoning and outcome. However, most lawyers would admit the supreme court sometimes grants review if it wishes to clarify the law by affirming the reasoning of the appellate court and elevating that reasoning into a supreme court opinion. 

How likely is it that the Arizona Supreme Court granted review in Garretson simply to affirm the court of appeals?

The answer is: unlikely, but more likely than you might think, depending on how you interpret the data. In the last 16 years, the Arizona Supreme Court has granted 247 petitions to review civil cases and has affirmed the appellate court only 36 times, or 14.5% of the time. Here is a breakdown:

Arizona Supreme Court Petition for Review Affirmances 1998-2013

However, during the four full years of Rebecca White Berch's term as Chief Justice, the court affirmed 30-40% of the civil cases the court elected to review. This graph demonstrates the trend:

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Arizona Supreme Court Petition for Review Results 1998-2013

The trend line demonstrates a change in attitude over time from the Zlaket court to the Berch court. The reasons for this trend are best left to (probably pointless -- but amusing) speculation, but there is a clear, data-based suggestion the current court looks more favorably upon elevating appellate decisions to become the law of the land. Further, the chances of affirmance in Garretson may be more likely than this analysis shows because this data does not account for partial affirmances. A case partially vacated with regards to, say an award of attorneys' fees, was not coded as "affirmed," even though the court may have affirmed the salient portion of the appellate court's analysis.

It is correct to say the supreme court's decision to grant the petition for review in Garretson is a victory for the petitioner. It would be incorrect to assume, however, the outcome in the supreme court is assured. Good luck to the lawyers arguing the case on January 22nd - Mr. Ayers for the City of Phoenix and Mr. Zeitlin for Garretson. But a little more luck to Mr. Zeitlin. 

Arizona Clarifies Just Compensation Owed in Eminent Domain When Owner Loses Driveway Access to Public Street

There is an update to this post here. 

In City of Phoenix v. Garretson, the Arizona Court of Appeals has clarified the law regarding the just compensation a condemnor must pay for restricting a property owner's access to an adjoining street as a result of taking a portion of the property through eminent domain.  

The decision discusses the long, tortuous route the Arizona courts have taken to finally arrive at a very simple rule:

“The government may not completely remove or substantially impair a property’s existing access to an abutting roadway without providing just compensation to the owner. ”

— City of Phoenix v. Garretson

The Garretson property is located in downtown Phoenix, and the City of Phoenix took a temporary construction easement along the north boundary of the property to construct the Phoenix METRO light rail. Garretson claimed that he was owed money because, in constructing the light rail, the City blocked Garretson's driveways onto East Jefferson Street. 

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The Garretson property in downtown Phoenix.

The City off Phoenix raised arguments that previous Arizona cases have suggested that a property owner is owed no money for loss of access unless the remaining access is unreasonably circuitous. Arizona has also suggested destroying such access is allowed pursuant to the City's police powers and therefore noncompensable. 

The Court of Appeals dispensed with the City's arguments, which is a victory for private property owners. Now there is no ambiguity in Arizona law regarding the circumstances in which a condemning authority must compensate a property owner for restricting access to a public street. Congratulations to Mr. Dale Zeitlin, of Zeitlin & Zeitlin, P.C., who represented Mr. Garretson.