Daily Development for Friday, January 28, 2000

By: Patrick A. Randolph, Jr.
Professor of Law
UMKC School of Law
Of Counsel: Blackwell Sanders Peper Martin
Kansas City, Missouri
randolphp@umkc.edu

MORTGAGES; VALIDITY; UNLICENCED LENDER: Notwithstanding the fact that the lender was required to have a license to do business in the state at time of a mortgage loan, and did not have one, lender can nevertheless foreclose on the mortgage upon default.

Bennett v. Bourne, 5 S.W.3d 124 (Ky. 1999)

Kentucky law provides that it is unlawful for a person to transact business in the state as a mortgage loan company or mortgage loan broker is he is not licensed or exempt from licensing. The statutes exempt from licensing consumer finance companies licensed in other states.

It appears that the lender in this case was exempt because it was licensed in other states, but at the time of the loan it had not filed a claim of exemption, as then required by Kentucky law. (More recently, the law has been amended so that the filing requirement would not be required for lenders of this type.)

The borrower argued that the mortgage was unlawful and void and that the lender was prevented from foreclosing it. The trial court granted summary judgment for the lender, but the Court of Appeals reversed and held the mortgage was unenforceable.

On appeal to the Kentucky Supreme Court: held: Reversed. Mortgage is enforceable upon default.

The court pointed out that the legislature in fact had identified certain situations in which a contract would be rendered unenforceable by the fact that one of the parties was not lawfully licensed to enter into such a contract. But the legislature did not make such a provision with respect to mortgage loans.

But, as the court of appeals had noted, Kentucky in the past has invalidated contracts as a penalty for unlicenced behavior even when the statutes did not apply. For instance an unlicenced business broker is barred from collecting a commission. The Supreme Court, in an comment that really doesn't appear to comport with the reality of the situation, commented that the here was not interested in collecting "a commission or fee, but only principal." Nowhere else in the opinion is there an indication that the lender has limited its foreclosure claim to principal only and no interest, and, of course, this would not typically be the case.

But the Supreme Court notes that the Kentucky legislature has provided expressly for circumstances under which a mortgage would be void (limited to collection of principal only), and does not identify the fact that the mortgagee has no license as a circumstance justifying voiding. The court appears to view this as an indication that the legislative intent would not permit broadening of the circumstances in which a mortgage can be declared unenforceable.

The Supreme Court also notes that it is likely that a large number of out of state lenders would find themselves in the same position as the lender here if the court found the mortgage to be unenforceable. It speculates that many lenders in fact qualified for the exemption, since they were licenced in other states, but never applied for such an exemption in Kentucky.

Comment 1: The reasoning is murky and unsatisfying, especially the distinction of the case involving the unlicenced mortgage broker, but the fact, as the court notes, invalidation of a mortgage is a pretty stiff penalty for failure to apply for an exemption that is readily available under the circumstances. Note that the opinion does not appear to be limited to that circumstance, and conceivably could apply to loans made by lenders who are not licenced anywhere. The court assumes the lender would have qualified for the exemption, but there are no findings to this effect, and the court does not remand, but simply reinstates the foreclosure sale order.

The court's language, if not its holding does provide some seeds to support a future court in drawing the distinction and applying this case only to the narrow facts presented.

Comment 2: The problem of licencing slides over into the problem of "qualifying to do business." Many jurisdictions deny the protection of the courts to entities who are not qualified to do business in their state because they are not registered with the Secretary of State. Lenders proposing to undertake a loan program in a given state ought first to ascertain whether the making of a loan or the foreclosure of a loan constitute "doing business" within the meaning of the appropriate state laws. Most lenders discover that the answer to the first question is "no," so long as the lender does not open an office in the state, and as to the second question, they hope they never have to find out.

Comment 3: The editor hasn't dealt with these state law issues in some time, and suspects that many DIRTers are more expert than he, as loans made across state lines and even multistate loan companies are a growth industry. Are the traditional rules and obstacles still there? Are there even more licencing requirements? Or is the general trend to let the money flow?

Readers are urged to respond, comment, and argue with the daily development or the editor's comments about it.

Items in the Daily Development section generally are extracted from the Quarterly Report on Developments in Real Estate Law, published by the ABA Section on Real Property, Probate & Trust Law. Subscriptions to the Quarterly Report are available to Section members only. The cost is nominal. For the last six years, these Reports have been collated, updated, indexed and bound into an Annual Survey of Developments in Real Estate Law, volumes 1‑6, published by the ABA Press. The Annual Survey volumes are available for sale to the public. For the Report or the Survey, contact Maria Tabor at the ABA. (312) 988 5590 or mtabor@staff.abanet.org

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