The state of California pulled out of multi-state mortgage negotiations with large U.S. banks, dealing a sharp blow to long-running efforts to secure a broad settlement over allegations of lending abuses.

California Attorney General Kamala Harris wrote in a letter on Friday that she will pursue her own investigation.

California was being asked for a broader release of claims than we can accept and... the relief contemplated would allow too few California homeowners to stay in their homes, Harris said in the letter to government officials leading the talks.

New York had exited the talks in August over a disagreement about how much legal immunity the banks should receive in any settlement.

Representatives of the banks met with Harris last week in an attempt to keep California on board.

The state has faced some of the worst default rates in the country, with an unemployment rate of 12.1 percent and two million residents who owe more on their mortgage than their home is worth.

Eight of the 10 hardest hit U.S. cities in terms of foreclosure rates are in California, Harris said.

State and federal officials have discussed penalties totaling roughly $20 billion from institutions that include Bank of America Corp (BAC.N), JPMorgan Chase & Co (JPM.N), Wells Fargo (WFC.N), and Citigroup (C.N).

The banks are accused of dealing with the deluge of mortgage defaults that began in 2008 by cutting legal corners and unlawfully rushing through foreclosure paperwork, pushing people out of homes they might otherwise have stayed in.

Jason Ware, equity analyst at Salt Lake City-based Albion Financial Group, said California's decision adds to uncertainty about the banks' ultimate liability for the mortgage mess.

I'd rather just see one big battle they'd have to fight than all these smaller skirmishes. It's a difficult stock group to own right now, because of all the uncertainties.