The January 29, 2008 decision by the Indiana Court of Appeals in Bank of America v. Ping, 2008 Ind. App. LEXIS 71 (BankAmericaOpinion.pdf) provides an interesting contrast to the JPMorgan Chase decision addressed in my February 9 post. The Bank of America case shows how a refinancing lender’s mortgage failed to leapfrog the priority position of an earlier-recorded junior lender’s mortgage, which secured a line of credit. The Bank of America result was the opposite of the JPMorgan Chase result, even though the facts were similar.
Oops. In 1999, borrower opened an $80,000 revolving line of credit, secured by a mortgage, with Bank One. In 2001, Bank of America loaned the borrower $103,000, secured by a mortgage, and the borrower used a portion of the proceeds to pay the entire balance on the Bank One line of credit. However, neither the borrower nor Bank of America took any action to terminate the Bank One credit agreement or to release the mortgage. The borrower subsequently incurred more than $76,000 in additional debt under the Bank One line.
Partial subrogation. Similar to the refinancing lender in JPMorgan Chase, Bank of America argued that the doctrine of equitable subrogation entitled it to place its mortgage “into the shoes” of the prior Bank One mortgage. Generally, subrogation requires the subrogee (here, Bank of America) to discharge the entire debt held by the original obligor (the borrower). The Bank of America Court stated:
Partial subrogation to a mortgage is not permitted because it would
have the effect of dividing the security between the original obligee
(lender/prior mortgagee) and the subrogee (lender/refinancing mortgagee),
imposing unexpected burdens and potential complexities of division
of the security and marshalling upon the original mortgagee.
The Court focused on the nature of the loan (a revolving line of credit) and language in the Bank One mortgage regarding termination/release requirements. (See subsequent post discussing this case.) The Court also noted that Bank of America’s request for subrogation was for the amount of the “payoff” but not for the amount of the borrower’s subsequent withdraws. The Court concluded that this constituted a partial subrogation, which is not permitted in Indiana.
Culpable negligence. Unlike the earlier JPMorgan Chase case, the Court in Bank of America applied the “culpable negligence” exception in refusing to permit equitable subrogation. Generally, “a volunteer or one charged with ‘culpable negligence’ may not be entitled to equitable subrogation. . . . ‘Culpable negligence’ focuses on the activity of the party asserting subrogation and ‘contemplates action or inaction which is more than mere inadvertence, mistake or ignorance’.” Id. Here, the Court held that Bank One was culpably negligent in failing to terminate the Bank One mortgage when the payoff funds were submitted.
Lesson learned. The Indiana Court of Appeals, in what may have been a close call considering the reasoning and opposite result in JPMorgan Chase, held:
Bank of America failed to take any affirmative steps to terminate the
Bank One mortgage after Bank of America had paid in full the line
of credit. And, as a result, Bank One held open [borrower’s] line
of credit, and Bank One continued to advance [borrower] funds
from the account. Bank of America’s argument would result in an
inequitable subrogation. Indeed, Bank One did not enjoy a windfall
but advanced additional funds under the line of credit and acted
properly under its Credit Agreement and Mortgage. Given the plain
meaning of the Credit Agreement and the Mortgage that secured it,
it was incumbent on Bank of America to secure a release of the Bank
One Mortgage as a condition of its new loan to [borrower]. That
Bank of America failed to do so should not be allowed to prejudice
Bank One. On these facts, Bank of America is not entitled to invoke
the doctrine of equitable subrogation.
As will be alluded to more in my subsequent post about this case, the lesson for lenders is to obtain and review the loan documents applicable to the loan that is being paid off. There may be, and usually is, language in the agreements mandating that measures be undertaken to secure a release of the prior mortgage and/or to terminate the prior loan agreement. Lenders normally are aware that it’s in their best interests to ensure the prior mortgage has been released. Why that didn’t happen in this case was not explained in the opinion.