Recent Indiana Mortgage Foreclosure Opinion, Post I of III: Liability – First Material Breach Doctrine
Lesson. Indiana’s “first to breach” defense would appear to be an exceedingly difficult theory for borrowers to establish in most foreclosure cases.
Legal issue. Whether the lender was precluded from foreclosing based upon its alleged contract breach, which purportedly occurred before the borrowers’ default.
Vital facts. Hussain involved a typical mortgage loan. The promissory note had a 15-year term and was secured by the borrowers’ real estate. From the outset, the borrowers struggled to make payments, and the lender assessed a series of non-sufficient funds fees and late fees. The loan ended up in the borrowers’ Chapter 13 bankruptcy case that was later dismissed. The lender then pursued a state court mortgage foreclosure action and filed a motion for summary judgment in the case.
The liability (loan default) aspect of the action surrounded the so-called “first to breach” rule. Specifically, the borrowers tendered an affidavit stating that the lender (not the borrowers) initially breached the promissory note by assessing a $20 NSF fee to the principal due on the loan. The borrowers had bounced a check due at the closing of the loan. Nonetheless, the borrowers contended that the NSF fee amounted to a “unilateral, unauthorized alternation in the terms of the Note by [the lender].”
Procedural history. The trial court granted summary judgment for the lender on liability.
The Court in Hussain outlined Indiana’s elements for a prima facie case for the foreclosure of a mortgage:
(1) the existence of a demand note and the mortgage, and (2) the mortgagor's default…. Ind. Code § 32-30-10-3(a) provides that “if a mortgagor defaults in the performance of any condition contained in a mortgage, the mortgagee or the mortgagee's assign may proceed ... to foreclose the equity of redemption contained in the mortgage.” To establish a prima facie case that it is entitled to foreclose upon the mortgage, the mortgagee or its assign must enter into evidence the demand note and the mortgage, and must prove the mortgagor's default…. Once the mortgagee establishes its prima facie case, the burden shifts to the mortgagor to show that the note has been paid in full or to establish any other defenses to the foreclosure.
The Court cited to Indiana’s “first material breach doctrine,” which provided:
When one party to a contract commits the first material breach of that contract, it cannot seek to enforce the provisions of the contract against the other party if that other party breaches the contract at a later date…. Whether a party has materially breached an agreement is a question of fact and is dependent upon several factors including:
(a) The extent to which the injured party will obtain the substantial benefit which he could have reasonably anticipated;
(b) The extent to which the injured party may be adequately compensated in damages for lack of complete performance;
(c) The extent to which the party failing to perform has already partly performed or made preparations for performance;
(d) The greater or less hardship on the party failing to perform in terminating the contract;
(e) The willful, negligent or innocent behavior of the party failing to perform;
(f) The greater or less uncertainty that the party failing to perform will perform the remainder of the contract.
Holding. The Court of Appeals affirmed the trial court’s summary judgment as to liability.
Policy/rationale. The Court first pointed to language in the note about how payments are to be applied: “payments are first to be applied to any accrued unpaid interest, then to principal, and then to any unpaid collection costs.” The Court reasoned: “the note provides that collection costs will be assessed to the [borrowers], and they do not dispute that the NSF fee is a collection cost.” Further, the lender had established that it performed its obligations under the loan by funding the principal at closing. “The $20 NSF fee in no way prevented [the borrowers] from obtaining the benefit of the loan.” Even more, the evidence established that it was the borrowers who breached by failing to make the initial payment due under the loan and that there was no evidence the lender “committed a material breach of the loan prior to that time.”
I suspect that, at the trial court level, the proceedings were more involved with regard to the minutia surrounding the theoretical applicability of the “first to breach” rule, but in the end the Court of Appeals was having none of it. The meatier parts of the Hussain opinion deal with the issues of damages and evidence, and I will address those matters in the coming days.
Have a great Thanksgiving.
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I represent parties involved in foreclosure cases. 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.