Lenders, trade groups sue to block California 'zombie mortgage' law

A coalition of mortgage lenders and trade groups has challenged the constitutionality of a new state law aimed at curbing foreclosures related to what are commonly known as "zombie mortgages."

"The challenged provisions of AB 130 supposedly focused on remedying issues related to a narrow class of abandoned debts known as 'zombie mortgages,'" attorney T. Robert Finlay wrote. "However, as enacted, this new California Civil Code section 2924.13 casts a much wider net that drastically reduces--and in many instances eliminates--the enforceability of virtually all loans secured by subordinate liens on residential real property in California."

The colorful term refers to debts, typically tied to subordinate liens such as second mortgages or home equity lines of credit, that resurface years after homeowners believed them resolved. In some cases, they have resulted in collection demands and foreclosure threats, sometimes on liens placed against distressed properties before sale and never disclosed to the new owners.

The "wider net" will not just create unintended consequences, Finlay argued, but should also invalidate the law because it violates the contract clause of both the U.S. and California Constitutions by impairing existing contract and property rights.

He also claimed AB 130 violates the due process, takings, and equal protection clauses of the U.S. Constitution. Finally, Finlay wrote, it is preempted by two federal laws: the Truth in Lending Act and the Real Estate Settlement Procedures Act. California Mortgage Association v. Bonta, 2:25-at-01197 (E.D. Cal., filed Sept. 8, 2025).

These arguments echoed Senate floor debate in late June between Sen. Roger Niello, R-Fair Oaks, and Sen. Scott Wiener, D-San Francisco. Niello warned AB 130 could "do away with second mortgages" because "no one would want to offer them." He also cautioned--correctly, as it turned out--that the law would face constitutional challenges.

"We believe that this provision is constitutional," Wiener replied. "We understand that there is opposition that is stating the contrary."

He added, "This will provide important procedural protections for people with these zombie second mortgages. We know there was so much abuse during and in the aftermath of the Great Recession."

Wiener's office declined to comment when reached Tuesday. Niello's office responded, but efforts to connect with him were unsuccessful.

AB 130 took several steps to prevent foreclosure under these circumstances, particularly when homeowners were hit with unexpected payment demands. It clarified that National Mortgage Settlement funds could be used to pay off these debts. It also prohibited mortgage holders from seeking foreclosure if they had failed to notify a borrower their loan had been sold, or if three years had passed without any communication with the borrower.

The bill also incorporated several exemptions to the California Environmental Quality Act for housing projects, drawn from other Democratic-authored housing bills. AB 130 passed on party-line votes. Gov. Gavin Newsom signed it on June 30.

The plaintiffs also include Chen Wang Qin, whose late husband was an investor who bought distressed loans. She claims the law has interfered with her ability to cash in on these investments.

"Qin is a widow who inherited multiple mortgage loans secured by secondary and subordinate liens that her late husband purchased," Finlay wrote. "Qin has recorded at least one Notice of Default on a loan secured in second position before the senior lienholder recorded its Notice of Default, thereby allowing Qin to foreclose first and sell the property before the senior lienholder could complete its foreclosure. Qin cannot complete her foreclosure proceeding because of the challenged provisions of AB 130, which did not exist when the loan was transacted or when she acquired it."