Bill seeks to protect debtors’ personal assets from banks

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Two groups that used to work closely together — banks and commercial developers — aren’t holding hands at the party any more.

Banks say they need more leverage to recoup losses when loans go into default.

Developers maintain they are being pushed into bankruptcy because of the way banks handle existing loans and their refusal to reissue lines of credit.

As a result of the controversy, state Rep. James Kerr has sponsored House Bill 11-1139 in the Colorado General Assembly. As of Wednesday, the bill had not come up for a vote. On Jan. 24, it was assigned to the House Judiciary Committee, which heard testimony last week.

The bill states that when collateral-based loans go into default, creditors cannot attempt to collect their debt from the debtor’s personal assets unless they have first attempted to collect the debt by foreclosing on the collateral. Then they may seize assets if proceeds from the collateral don’t cover the remaining loan balance.

Proponents of the bill say thousands of developers in Colorado were forced into bankruptcy during the recession when banks not only took collateral but went after assets, as well.

“Then they started to leapfrog and go after assets first,” Kerr said.

As the financial downturn worsened, land values dropped considerably and construction all but came to a standstill. When developers defaulted on their loans, the land they owned was no longer worth enough to repay the balance of the loan.

Kerr said that even when the collateral was worth more than the note, banks foreclosed on the property and went after the rest of the developers’ holdings.

HB 11-1139 aims to change that by making banks go after the guarantors’ collateral before liquidating the debtors’ assets. A guarantor is essentially a co-signer on a loan. If the debtor defaults, the guarantor is obligated to pay the balance of the loan.

“We don’t want to deny the banks what’s due them,” said Chris Elliott, owner of E5X, a Denver-based development company and chairman of the government affairs committee of the Colorado Association of Home Builders.

“If there’s a default, we want them to take the collateral first. But if the fair market value of property is less than what the bank is owed, they could still go after the guarantor to satisfy the loan,” Elliott said.

Development projects can take years to complete. In the past, developers typically invested in property with the expectation that if the project was ongoing, they could renew their loans when they matured.

That all changed when the recession hit and regulators told banks to limit their commercial real estate lending.

“Since the market crashed, it doesn’t matter how your loan is performing — if it’s attached to real estate,” Elliott said. “Banks say they’re not going to renew it, even if (developers) paid according to the terms of the loan.”

Instead of renewing loans as they had in the past, he said, banks want immediate payment when the loan term ends.

“Banks then circumvent the foreclosure process and come after you and your personal assets,” he said, instead of taking the guarantor’s collateral.

That’s the developers’ side of the story. Banks, not surprisingly, have a different opinion.

Although officials at the Colorado Bankers Association are keeping close watch on more than 100 bills during this legislative session, they are “extremely concerned” about HB 11-1139, said Jenifer Waller, CBA senior vice president.

“It severely limits the value of a guarantor in a loan,” she said. “This bill says we cannot go to the guarantor to pay off the loan until we’ve liquidated all the collateral of the borrower first.”

Because property values have decreased and the market is flooded with undeveloped land, it can long for banks to sell the land

“The overall economic impact would be devastating if this passed. We’d have to have more collateral and tighter lending standards,” Waller said. “In essence, (the bill) shifts the loss completely to the bank instead of sharing the loss with the borrower.”

Waller said the CBA’s concern is two-fold. The bill applies to existing contracts.

“It’s a dangerous road for the state to go down, being able to alter contracts,” she said.

And the banking industry has a general economic concern.

“When you take away one mechanism any lender can use to be made whole, they have to change their lending practices and criteria,” Waller said.

“The end result is less lending. In this economy, it’s a terrible thing to do.”

From House Bill 11-1139

“Unless a loan entered into prior to the effective date of this section explicitly provides otherwise, if a loan is secured by collateral and is in default, the creditor shall not attempt to collect its debt from the debtor’s personal liability unless: the creditor has first attempted to collect its debt by taking lawful possession of, or foreclosing on, the collateral; and the proceeds from the collateral are insufficient to repay the sum of the outstanding loan balance and the creditor’s allowable costs of collection, if any.”