Daily Development for
Wednesday, November 4, 1998

by: Patrick A. Randolph, Jr.
Professor of Law
UMKC School of Law
Of Counsel: Blackwell Sanders Peper Martin
Kansas City, Missouri

MORTGAGES; FUTURE ADVANCES; PRIORITY; SUBORDINATED PURCHASE MONEY LENDERS: Because of terms of future advances statute, construction lender does not lose priority to subordinated purchase money mortgagees where construction lender fails to monitor the developer's use of construction loan proceeds.

Perry v. Carolina Builders Corporation, 493 S.E.2d 814 (N.C.App. 1997).

Sellers sold 3 lots to Developer, and, in connection with such sale transaction, Lender obtained a first priority construction loan deed of trust on each such lot, which also secured future advances. After the recordation of the construction loan mortgage, Sellers recorded a purchase money deed of trust on each such lot.

Evidence adduced at trial demonstrated that a substantial portion of the construction loan funds was not used for the construction of dwellings on the respective lots, contrary to the requirements of the construction loan documents.

Sellers attacked the priority of the construction loan deed of trust, arguing (a) that, because Lender had no obligation to advance funds that were not used for construction of improvements, the funds were not secured by Lender's deeds of trust, and (b) that Lender had breached a fiduciary duty to Sellers. The trial court granted a motion to dismiss to the construction lender following plaintiff's case.

On appeal, Held: Affirmed: The court of appeals placed great reliance on a statute, enacted in 1996, providing for the priority of security instruments given to secure future advances. The court found that Lender's deeds of trust complied with the requirements of such statute, and, as a result, that all future advances secured thereby were deemed to have the same priority as if such advances had been made at the time of the execution of such deeds of trust.

The court also rejected Sellers' claim that Lender owed them a fiduciary duty.

Reporter's Comment: Interestingly, the reported decision does not discuss, and the parties apparently did not argue, whether Sellers' deeds of trust enjoyed a purchase money priority. It is unclear whether this resulted from explicit subordination provisions in Sellers' deeds of trust, from an absence of North Carolina case law according a purchase money priority, or from oversight.

Editor's Comment 1: If, indeed, the North Carolina common law recognizes purchase money priority, then it is possible that this case stands for the novel proposition that the purchase money priority rule is overcome by a statute providing that a future advances mortgage gives priority to advances "as if made at the time of execution" "from the time and date of registration" of the future advance mortgage. In other words, a future advance mortgage recorded prior to a purchase money mortgage would have automatic priority as of time of recording. This result likely was not the intent of the legislature and is not compelled by the language of the statute.

Editor's Comment 2: It appears that the plaintiffs or the court, or both, simply got off on the wrong tangent. The real question was whether, assuming that the recording of the purchase money mortgages second indicate a wilfull subordination, this subordination was valid when the lender permitted distribution of the loan proceeds to purposes other than those provided under its own documents. There certainly is lots of law on this point, especially in California, but outside of California the majority of the cases find no duty on the part of the construction lender running to the subordinated purchase money lender. It would have been useful, however, if the court here had acknowledged the relevant concepts at work, even if it ultimately came to the same result.

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