In Indiana, An Unrecorded Mortgage Has Priority Over A Subsequent Judgment Lien

Lesson.  While perhaps counterintuitive, in a lien priority dispute between a mortgagee holding an unrecorded prior mortgage and a creditor holding a perfected subsequent judgment lien, the mortgagee will prevail.  

Case cite.  In Re Moss, 2015 Bankr. LEXIS 4413 (N.D. Ind. 2015) (.pdf). 

Legal issue.  Whether an unrecorded mortgage has priority over a subsequent judgment lien.

Vital facts.  The facts were undisputed that the mortgage was not recorded.  There also was no dispute that the judgment lien, which had been created after the execution of the mortgage, was perfected.

Procedural history.  Moss arose out of a Chapter 7 bankruptcy case and specifically an adversary proceeding filed by the Trustee against various creditors.  The opinion dealt with cross-motions for summary judgment filed by the Trustee and a lender/mortgagee.  Without getting too far into the bankruptcy weeds, the opinion in part involved the Trustee’s 11 U.S.C. 544(a)(3) lien avoidance powers, as well as the Trustee’s section 547(b) and 551 powers to avoid preferential transfers. 

Key rules. 

• Very generally, section 544(a)(3) “empowers a bankruptcy trustee to avoid any transfer of property that is avoidable by a bona find purchaser of real property.”  Indiana real estate law controls who would be a bona fide purchaser and “what constitutes constructive notice sufficient to defeat a bankruptcy trustee’s section 544(a)(3) power.”
• Mortgages in Indiana take priority according to the time of filing.  Ind. Code 32-21-4-1(b).  This statute’s purpose “is to protect subsequent purchasers, mortgagees, and lessees of real property.” 
• Indiana judgments constitute a lien upon real estate when the judgment “has been duly entered and indexed in the judgment docket.”  I.C. 34-55-9-2.  However, “a prior equitable interest [in the land] will prevail over a judgment lien.”  In other words, judgment liens are subordinate to prior “legal or equitable liens.” 
• The Indiana Supreme Court has determined that “the [equitable] lien of an unrecorded mortgage has priority over that of a subsequent judgment.”  As between the parties to a mortgage, the lack of recording does not affect its validity. 

Holding.  The Court granted summary judgment for the Trustee and held that the judgment lien was subordinate to the unrecorded mortgage because the judgment creditor could not be considered a BFP (bona fide purchaser for value).  Again, the bankruptcy aspect of the opinion was somewhat complicated and beyond the scope of my blog.  But, for the record, the Court concluded that the Trustee, itself a BFP as a matter of bankruptcy law, could “effectively recover [the mortgagee’s] priority status for the benefit of the bankruptcy estate” so as to render the interest of the judgment creditor secondary and subject to the Trustee’s “recovered [senior] interest.”  Then, ironically, the Trustee was able to use that senior status to avoid the mortgage as a preferential transfer – read the opinion for a deeper dive into the BK issues.   

Policy/rationale.  The outcome in Moss turned on the purpose of the recording statute, which “operates to protect only subsequent good faith purchasers, lessees, or mortgagees for valuable consideration.”  The statute could not be used as a sword by the judgment creditor.  A judgment lien is not purchased for consideration, unlike deeds, leases or mortgages that are consensual in nature.  Judicial liens are creatures of statute and are not granted “for value.”  Thus the judgment creditor in Moss was not a BFP and, as such, could not defeat the mortgage.  In the context of the bankruptcy, the Court reasoned that “not upholding the unrecorded mortgage … would work to provide a windfall to some creditors at the expense of others who had no part in the failure to record.” 

Related posts. 

• Judgment Lien Principles Courtesy Of The Indiana Supreme Court
• Indiana Judgment Liens Are Subordinate To Prior Liens, REVISITED
• Actual Knowledge Defeats Indiana’s Bona Fide Purchaser Defense Too

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I frequently represent judgment creditors and lenders, as well as their mortgage loan servicers, that are entangled in lien priority and title claim disputes.  If you need assistance with a similar matter, please call me at 317-639-6151 or email me at [email protected].  Also, don’t forget that you can follow me on Twitter @JohnDWaller or on LinkedIn, or you can subscribe to posts via RSS or email as noted on my home page. 

Can The SBA's Right Of Redemption Be Purchased After A Sheriff's Sale?

The situation.  A client engaged me to bid for a commercial property at a recent sheriff’s sale, but another party outbid us.  However, the sale was unusual in that the Small Business Association (SBA), which was a junior mortgagee, retained a post-sale one-year statutory right redemption under 28 U.S.C. 2410(c).  (The SBA essentially is the U.S. Government.)  The right arose out of the SBA’s loan to the borrower secured by a second mortgage on the subject real estate.  The client and I wondered whether we could acquire title to the property through the purchase of the SBA’s right of redemption, which would enable us to redeem the property from the sheriff’s sale (pay off the sheriff’s sale buyer) and slide into ownership. 

Redemption law.   As noted by my prior posts of 2/1/08 and 5/15/08, generally there is no post-sale right of redemption in Indiana.  The sheriff’s sale is the end of the line for the borrower and all other lienholders.  There are, however, various federal statutes granting the U.S. Government a post-sale right of redemption, and those rights typically will be spelled out in the foreclosure decree (as they were in my recent matter).  See, for example, my 7/23/10 post dealing with a federal tax lien.  In my case, the SBA’s right stemmed from the junior mortgage and Section 2410.

Transferrable?  Candidly, we didn’t know whether we could buy the SBA’s judgment and, most importantly, its right of redemption.  Why not?  We thoroughly researched the subject but could find no law definitively answering the question one way or the other.  In other words, we could find no statute and no case law saying that we couldn’t do this.  So, the client decided to move forward, and we were able to connect with the right people at the SBA to initiate negotiations.    

SBA’s position.  We formally offered to buy out the SBA (at a discount).  Whether by virtue of the law, policy, or a combination of the two, here is how the SBA’s in-house legal department politely responded to us (paraphrased):

The SBA cannot sell its right of redemption to the unsuccessful bidder; we can only release it or execute upon it.  This is because the right of redemption is specific to SBA and is not transferrable.  The unsuccessful bidder could enter into an agreement with the SBA to redeem the property in exchange for the escrow of the judgment amount, plus costs, interest, and the SBA’s full principal and interest balance.  The SBA can then assign all the other loan documents, but your client, the unsuccessful bidder, won’t need the mortgage because, once SBA redeems, your client will become the owner.  Once these funds are escrowed, the SBA goes into court and redeems, gets title and then turns around and resells the property to the party that puts up the funds (your client).

In the end, our client could accomplish its objective – just not how we originally thought.  We would never actually buy the redemption right but instead would enter into an agreement with the SBA to essentially purchase the property from the SBA after the SBA exercised its right of redemption.  The scenario really was better for us because the SBA, not the client, would take the lead with exercising the right of redemption.   

Outcome.  Unfortunately for the client, our case took an unexpected turn when the successful bidder at the sheriff’s sale got wind of our plan and negotiated with the SBA himself.  We understand he offered to pay off the SBA in exchange for its release of the right of redemption – a simpler transaction - at a price our client was unwilling to pay.  What we’ll never know is whether the SBA would have negotiated down off of its demand for full payment of its junior debt in order to deal with us.  We assume in certain cases that the SBA would do so, but in our unique case apparently the winning bidder was willing to pay full value, or at least far more money than what our client had offered (and what the property was worth).  As an aside, by virtue of the sheriff’s sale and the post-sale SBA transaction, the winning bidder made both the plaintiff/senior mortgagee and the SBA/junior mortgagee whole – a rarity in commercial foreclosure cases. 

What did we learn?  In concept, a third party can in fact deal with the SBA with respect to its right of redemption.  As such, there is a path to post-sale ownership.  Of course any such third party will, at a minimum, be required to pay off in full the winning bidder for the price paid at the sheriff’s sale.  The amount required to pay the SBA, however, appears to be negotiable and will vary depending upon the circumstances of the particular case.  An investor would only consider this if he or she perceived there to be value in the property over and above the price paid at the sheriff’s sale – which again would be a rare case. 

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I frequently represent investors who acquire real estate at sheriff’s sales or who purchase senior commercial mortgage loans that I subsequently foreclose.  If you need assistance with a similar matter, please call me at 317-639-6151 or email me at [email protected].  Also, don’t forget that you can follow me on Twitter @JohnDWaller or on LinkedIn, or you can subscribe to posts via RSS or email as noted on my home page.  

Indiana’s Strict Foreclosure Statute Applied Retroactively: Senior Mortgage Interest Resurrected

Lesson.  If your foreclosure lawyer omits a junior lienholder in the foreclosure suit, Indiana’s statutory remedy of strict foreclosure should prevent the junior lienholder from leapfrogging into a senior lien position, even if the omission occurred before the enactment of the statute in 2012. 

Case cite.  U.S. Bank v. Miller, 44 N.E.3d 730 (Ind. Ct. App. 2015).

Legal issue.  Whether a junior lien slid into first position based upon the common law doctrine of merger.  Or, could the senior lender’s first priority mortgage be resurrected by Indiana’s strict foreclosure statute, Ind. Code 32-29-8-4?

Vital facts.  The complicated but thorough U.S. Bank opinion decided a lien priority dispute between a senior lender/mortgagee and a junior lender/mortgagee.  Senior lender obtained a foreclosure judgment against its borrower and a junior lender, which held a mortgage securing the borrower’s home equity line of credit.  The problem was that the senior lender’s default judgment against the junior lender was defective due to improper service of process.  In other words, the junior lender was not bound by the original decree of foreclosure.  Thinking that the junior mortgage had been terminated, the senior lender bought the property at the sheriff’s sale and then resold the property to a third party. 

Procedural history.  Once the junior lender became aware of the situation, it sought to set aside the default judgment and assert a senior position in the property.  At the same time, the senior lender pursued a strict foreclosure action to clear title.  The trial court consolidated the matters and ruled in favor of the junior lender based upon the doctrine of merger.  The senior lender appealed, essentially claiming that the case instead should be decided by I.C. 32-29-8-4.   

Key rules. 

U.S. Bank rubbed off the scab from the Citizens State Bank case dealing with the competing law of “merger” and “strict foreclosure” – issues I addressed in detail in 2011 and 2012 (see posts below).  For nerd lawyers, Judge Kirsch’s opinion in U.S. Bank summarizes all sorts of Indiana foreclosure-related principles in addition to the merger doctrine and strict foreclosure.  Because the case involved events both before and after the enactment of the 2012 legislation, one of the core questions was whether the strict foreclosure statute could be applied retroactively. 

Very generally, the doctrine of merger operates to extinguish a senior lender’s mortgage lien upon the purchase of the mortgaged property at the sheriff’s sale and re-sale to a third party.  In turn, neither the senior lender nor the third party would have priority in title over a junior lender omitted from the foreclosure proceeding.  On the other hand, common law strict foreclosure provides an avenue for the senior lender to clear title over an omitted junior lienholder by filing suit to demand redemption of the senior lien.  Failing such redemption, the court could decree the junior lien terminated. 

I.C. 32-29-8-4 resolved the conflict under Indiana law. 

Holding.  The Indiana Court of Appeals reversed the trial court’s summary judgment in favor of the junior lender.  The Court remanded the case to the trial court to decide the case based upon I.C. 32-29-8-4.  This basically meant that the senior lender won the case. 

Policy/rationale.  The Court’s reading of the 2012 legislation led to the conclusion that the statute should be applied retroactively.  The result was an equitable one.  The facts were undisputed that the junior lender funded the HELOC knowing that the senior lender’s far larger purchase money mortgage pre-existed it.  In addition, despite the changes to Indiana law during the course of events, the Court noted that “considerations of the doctrines of merger and strict foreclosure played no part in the expectations that [the junior lender] had when it granted [the borrowers] their loan.”  And, the application of Indiana’s new strict foreclosure statute would not impair the junior lender’s rights when it acted, or otherwise affect its duties or liabilities.  In short, “the application of [I.C. 32-29-8-4] will return [the junior lender] to the position that it knew it occupied – that of a junior lienholder.”   

Related posts. 

• Indiana Legislation, 2012: Part 3 Of 3 – Sheriff’s Sale Buyers And Omitted Junior Lien Holders Impacted By Creation Of Strict Foreclosure Statute
• Indiana’s New Strict Foreclosure Statute: Dangling Issues
• Indiana Supreme Court Speaks To The Doctrine Of Merger And The Remedy Of Strict Foreclosure

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I frequently represent lenders and their mortgage loan servicers in lien priority disputes, and we have successfully utilized I.C. 32-29-8-4 to protect a senior lender’s lien.  If you need assistance with a similar case, please call me at 317-639-6151 or email me at [email protected].  Also, don’t forget that you can follow me on Twitter @JohnDWaller or on LinkedIn, or you can subscribe to posts via RSS or email along the left side of this page.