Daily Development for Monday, October 8, 2001

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

MORTGAGES; FUTURE ADVANCE LOANS; PRIORITY: Where mortgage states on its face that it secures a debt of $500,000 represented by a "note of even date," and there is no such note, but rather the parties intend that the mortgage secure an existing "floating loan" arrangement involving potential future advances, mortgagee may reform the mortgage to establish the true secured debt, and a subsequent mortgagee will be subordinate to the claim of the senior mortgagee as established by the floating line of credit, even where, at the time of the second mortgage, the line of credit had been paid down by more than $500,000.

Huntington National Bank v. Merril Lynch Credit Corp., 779 So.2d 396 (Fla. App. 2000)

In 1992, a bank made a "commercial draw loan" represented by a note for $1.5 million. The note was secured by a portfolio of negotiable securities. The note provided that Borrower would repay the stated sum "or so much thereof as shall have been advanced by the Bank at any time and not hereafter repaid." It also provided that the obligations represented by the note could be represented by other notes given in substitution, renewal or extension of the original note, and that any security given to secure the note would also secure such substitution, renewal or extension.

A month later, borrower gave to Bank and Bank recorded a mortgage on certain real estate securing a face amount of $500,000. The printed form of the mortgage referred to a note "of even date . . . and all renewals, extensions and modifications" of that note. But there was no such note.

In 1994, borrower gave to Merrill Lynch a mortgage on the same real estate.

The borrower, over time, paid down the original debt to $156,000 by 1977. At that time, the borrower gave to the Bank a note in that amount, indicating that it was secured by the property that was the subject of the $500,000 mortgage.

In 1998, the Bank alleged brought suit to reform its mortgage to indicate that it secured the original commercial draw loan and the $156,000 note that now represented that loan.

Merrill Lynch argued that the security of the Bank's mortgage was limited to $500,000, and that, since borrower had paid substantially more than that to Bank, the mortgage was satisfied. The court concluded that since there had been no satisfaction of the note, in light of the terms of the original loan obligation that Bank contended was the intent of the parties, the mortgage secured whatever was still owed (presumably up to $500,000).

Most significant was the court's ruling on Merrill Lynch's lack of prejudice by its ruling, which is set forth here in entirety:

[R]eformation of the mortgage to reflect that it secured the [1992 note] would not prejudice Merrill Lynch. Either way, the public records gave Merrill Lynch constructive notice of a $500,000 mortgage in favor of [Bank] for which no satisfaction had been recorded. As long as the debt remained and the mortgage was unsatisfied of record, there was no right to presume that it had been satisfied or extinguished."

Comment 1: Clearly, when a mortgage secures a debt that can be renewed, extended and modified, any party taking junior to that mortgage has the duty to inquire of the mortgagee to ascertain the present state of the indebtedness. There was no misrepresentation by the Bank, just a misunderstanding by Merrill Lynch (assuming that it even checked the record and was aware of the prior mortgage). It's hard to dodge the result here, even though one has little sympathy for the Bank, that was very sloppy in documenting its rights.

Comment 2: Note that one would assume that the debt might have been run right back up to $500,000 or more, so that Merrill Lynch was in fact fortunate to get away with a junior position to a "mere" $156,000. This demonstrates the power of a right to modify in the mortgage instrument.

It appears in the fine print of virtually every commercial mortgage.

Comment 3: In many jurisdictions, a mortgagee has no obligation to provide information about the amounts owed to it or the terms of its arrangements with a borrower. When the inquiry is made of a junior lender, the mortgagee ought to be forthcoming with that information, to the extend it is not precluded from releasing it by privacy right considerations. Duty of inquiry doesn't mean much if the subject of the inquiry clams up. The Restatement imposed upon mortgagees the duty to disclose information concerning balances owed by secured loans. Good idea.

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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