Daily Development for Monday, August 14, 2006
by: Patrick A. Randolph, Jr.
Elmer F. Pierson Professor of Law
UMKC School of Law
Of Counsel: Blackwell Sanders Peper Martin Kansas City, Missouri dirt@umkc.edu

MORTGAGES; EQUITABLE SUBROGATION; EQUITIES OF SUBROGATING LENDER; VOID MORTGAGE:   Where lender’s mortgage is void because of failure to comply with Texas home equity loan restrictions, lender nevertheless will be subrogated to the lien of the mortgage it refinanced.

LaSalle Bank N.A. v. White, 2006 WL 1152337 (Tex. App. 5/3/06) (not yet released for publication)

The Texas constitution prohibits use of a home equity loan on homestead agricultural property.   The kind of agricultural property that is protected is outlined in the Texas statutes.   Lender, asked to refinance a first mortgage loan on certain property used for agricultural purposes, but was assured that the property would be reclassified so that it did not fall under the home equity prohibition.  The lender advanced $266,000, of which $185,000 was used to finance the original purchase money mortgage. 

Later, when the borrower defaulted, the borrower argued that the mortgage was void because it was illegal under the Texas Constitution.  The court agreed, interpreting the statutory categories protected by the Constitutional restriction more broadly than the lender would have liked.

Nevertheless, the court held that this lender, that had made an illegal mortgage loan, nevertheless could benefit from equitable subrogation. Thus, its position was protected to the amount of the original first mortgage refinanced.

The court noted that to hold that a void homestead mortgage could not be the subject of equitable subrogation might frustrate the ability of a homesteader to get good loans. 

“To hold otherwise, in fact, would defeat the very purposes of the homestaed protection.  Homestead owners must have the ability to renew, rearrange, and readjust the encumbering obligation to prevent a loss of the homestead through foreclosure.” 

Comment 1: Note that the borrower wasn’t estopped from asserting the invalidity defense because she was not the party who failed to reclassify the property.  She requested reclassification, but the ball got dropped, apparently, by the local County appraiser, as reported by The Title Insurance Law Newsletter in its June, 2006 edition.

Comment 2: For another case involving subrogation following the voiding of a mortgage, see Ethridge v. Tierone Bank, 2006 WL. 1280957 (Mo. App. 5/11/06), discussed under the heading “Tenancy by the Entirety; Mortgages, the DD for 8/16/06..   

MORTGAGES; EQUITABLE SUBROGATION; EQUITIES OF SUBROGATING LENDER; NEGLIGENCE: Lender that refinances prior loan after intervening loan is recorded only five days before recording of refinancing mortgage  is not negligent in failing to identify intervening loan, and is entitled to equitable subrogation.

GMAC v. Massimo, Docket No. F-5394-05 (Sup. Ct. N.J., Cancery Division, Somerset, Hunterdon & Warren Counties, 5/26/06)

Although only a trial court decision, this case has some interesting facts worth noting in this rapidly developing area.

Borrower had mortgaged his property first to Ivy, and only a few months later executed another mortgage to Advantage.  A year later, Borrower wished to refinance the Ivy Mortgage, and Advantage agreed to cancel and later rerecord its mortgage so that Ivy could record a new, refinance mortgage.  Apparently Ivy did so.  Borrower then executed a new mortgage in favor of Advantage in November, 2002, but advantage didn’t record it until May, 2003. 

After the first refinancing with Ivy was complete, Borrower, seeing that rates were still dropping, asked if Advantage would refinance the Ivy mortgage.  Advantage, perhaps because it was not in the business of being a first lien lender, referred Borrower to GMAC.  GMAC then refinanced the Ivy Mortgage Five days after the this refinancing, Advantage recorded.   GMAC did not record its mortgage until a few weeks after that.

Thus, at the time that GMAC refinanced the Ivy mortgage, Advantage had a lien on the property.  After Borrower stiffed everybody, Advantage claimed it had a lien prior to that of GMAC.

The court noted that the agreement that Advantage had made to withdraw its mortgage from the record to facilitate refinancing of the Ivy loan was an agreement that did not include GMAC, and GMAC was not an intended beneficiary.  Therefore, there was no contract subordination.

But GMAC claimed a right of equitable suibrogation to the amount of the Ivy mortgage that it had refinanced, approximately $502,000 of its total $606,000 loan.  The court agreed.  It noted that in New Jersey, equitable subrogation is not available to a negligent lender.  But Borrower had warranted to GMAC that there were no prior mortgages on the property, and apparently the court was of the view that it was too much to expect GMAC to be on notice of a mortgage that had been recorded only five days before it refinanced the Ivy mortgage.

Comment 1: Although the court states that GMAC’s mortgage in fact secures $502,000 in a position prior to Advantage, the classic rule would be that GMAC is subrogated to Ivy’s mortgage, including Ivy’s terms..  But if this technical distinction likely is moot where the whole property is in foreclosure and the terms of the mortgages are not materially different for these purposes.

Comment 2: Keeping in mind that the real party in interest here likely is the title insurer that insured GMAC’s priority, is it appropriate to conclude that a lender should be aware of documents recorded five days earlier than its deal?  Well, doesn’t that depend upon the indexing practices of the local recorder, the standards of the trade, and the care taken by the title examiner?  If we say that the Lender’s practices are at issue, and not those of its title examiner, then we should only look to whether it retained a title company to search title and insure.  The court seems to be of the view that the state of the record matters, and that the bank is not scot free just by relying on a title insurer.  But where do we go from there?

Readers are encouraged to respond to or criticize this posting.

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