Daily Development for Tuesday, January 22, 2002

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; PRIORITY: Casualty insurer which paid loan to bank on casualty loss is entitled to assignment of bank's note and deed of trust and to priority over subordinate lien.

Southern Mississippi Planning and Development Dist. v. ALFA General Ins., 790 So.2d 818 (Miss. 2001).

Bank and Redevelopment District had first and second mortgages respectively on a furniture company property. Both mortgages required casualty insurance with mortgagee clauses. Each insurer, therefore, was in essence an "additional insured." There was a fire "of suspicious origin" that destroyed the premises. The proceeds of the insurance were enough to pay all of the first mortgage note and all but $20,000 of the second mortgage.

The insurer denied liability to the owner of the furniture company, and in a lower court proceeding a court determined that it had no liability to the owner. The court also concluded that, under a Mississippi statute, the insurer was entitled to be equitably subrogated to the position of the first mortgagee and that the first mortgagee was required to assign its note and mortgage to the insurer.

Later, the insurer sued to foreclose on the first mortgage. The District, which also was foreclosing on its mortgage, argued that it was entitled to first priority as to the $20,000 still owed to it.

The District argued that it was an insured that had not been "made whole" as to its loss, and that therefore it was inequitable for the insurer to have a prior position to it. It asserted that this "made whole" rule was an established part of insurance law. The court concluded that a rather specific Mississippi statute providing for subrogation and an assignment of the mortgagee's rights to the insurer under these circumstances resolved the case in favor of the insurer. It further concluded that the equities were not in favor of the District:

"[T]he District was not an insured, but merely a third party beneficiary, who willingly entered itno a commercial transaction with knowledge of the risks involved. Further, unlike [a personal injury claimant], who was not placed in the same position he occupied prior to the injury, the District, as a third party beneficiary, remained in its same position as possessor of a second and subordinate deed of trust."

The court went on to reiterate that, in any event, it was applying a statute.

Comment 1: The clear purpose of the subrogation rule, the court makes clear, is to avoid a windfall to the insured who was barred from his own recovery due to his involvement in the fire. One would think that it would be easy for the court to read the statute in such a way as to provide subrogation against this party, without necessarily resolving issues of priority concerning third parties.

Comment 2: The statute does nothing more than reiterate a basic common law, rule, also echoed in the language of the insurance policies themselves, conferring subrogation upon the insurer when the insurer pays a mortgagee but is able to avoid liability to the principle insured. But policies also contain a provision that states that subrogation shall not be invoked in preference to the rights of any insured party, and courts have read this to protect junior mortgagees who are insurance beneficiaries in this situation.

Nelson and Whitman, in the attorney's version of their excellent treatise, discuss the authorities here and indicate that the established line of authority favors the second mortgagee when it is covered (as it clearly was here) by the insurance policy. Nelson & Whitman, Real Estate Finance Law, Third Ed. (West 1993). The court does not cite this discussion (which appears to be still the "original Osborne" in its precise wording) nor any of the authorities upon which it relies. There is no reason for the statute to alter the common law result here. The case is wrongly decided.

Comment 3: The likely upshot of this case is another round of negotiations between mortgagees and insurance policy writers to be certain that the policy is clear. Of course, one suspects that the real problem here is that either the attorneys or the court weren't fully braced on the established law in this area.

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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