Homeowners Win New Battle on Insurance Funds : Ruling: State Supreme Court lets stand decision that gives property owners--not mortgage lenders--control of most quake payments.

Ending a precedent-setting legal dispute spawned by the Northridge earthquake, the California Supreme Court has let stand an appeals court ruling that homeowners, and not their mortgage lenders, should control most earthquake insurance payments.

In a decision released in October, the Supreme Court refused to review the case of Phyllis S. Ziello of Northridge, whose battle over insurance proceeds came to represent the quandary that scores of homeowners and lenders found themselves in after the devastating 1994 arthquake.

The Supreme Court’s lack of action in the matter means that the 2nd District Court of Appeal decision--a ruling widely viewed as a landmark victory for property owners--prevails.

Ziello, a 72-year-old widow, sued First Federal Bank of California over a Safeco Insurance check for $62,101, which the bank refused to endorse after she refused to spend the money to repair her heavily damaged home.

Although Ziello herself is still embroiled in litigation, her case could free up millions of dollars in insurance proceeds for other property owners, especially now that the Supreme Court has affirmed the lower court’s decision.

“The lenders were using the appeal as an excuse not to release the money owed to the property owners,” said Richard Close, president of the Sherman Oaks Homeowners Assn.

“That’s really the tragedy,” Close said. “People are being pushed around and they don’t know they’re free to do with the money whatever they want.”

A lawyer for First Federal, Beth Ann R. Young, cautioned that property owners’ control of the funds is still subject to the terms of their individual loans and insurance policies--even if they were not required to buy the earthquake insurance and did so voluntarily. So not all property owners may be automatically entitled to the insurance proceeds, she said.

But Close and Ziello’s lawyer, Lyle Mink, maintained the ruling nonetheless applies to the vast majority of property owners. The Supreme Court’s refusal to review the case only affirms property owners’ rights to insurance proceeds, they said.

Said Close: “It’s over.”

The fight over who should control insurance settlements began within weeks of the Northridge quake, when many property owners scrambling to rebuild homes and businesses discovered that checks from private quake insurance policies were made out to both them and their lenders.

The checks could not be cashed and spent without the lenders’ endorsement, a detail that delayed countless restorations as lenders and property owners haggled over which repairs, if any, ought to be made.

In Ziello’s case, Mink said, she wanted to delay earthquake repairs to deal with other financial problems, including the fact that she had fallen behind on her mortgage and was facing foreclosure.

Young, the bank’s lawyer, said First Federal was concerned that Ziello wanted to pocket the cash and walk away from the house, leaving the bank with a seriously impaired piece of collateral. That’s why the bank refused to endorse the insurance check until Ziello agreed to repair the house.

Ziello’s lawsuit against First Federal also tried to stop it from foreclosing on her home by claiming it had violated state law by going after the insurance money before the real estate.

She lost that issue, and the bank was able to foreclose on her home. But in the more significant part of its ruling, the appeals court said the insurance money should belong to whoever is named on the policy. If the lender is not named in the policy, it has no right to the proceeds, the appeals court ruled.

Complicating Ziello’s case was the listing of First Federal as “loss payee” on her Safeco policy. So the appeals court sent her case back to Superior Court for a trial to determine how the bank was listed that way, and whether Ziello intended it. The matter is pending--further complicated by the fact that Ziello has filed for bankruptcy and needs a trustee’s approval to go to trial.

But no matter how that aspect of the case is resolved, Close said, the ruling concerning property owners’ control of insurance funds will stand.