1

CHAPTER 1. CONTRACTS FOR THE SALE OF LAND

REAL ESTATE BROKERS

Commission
 Traditional Rule: commission is earned when broker produces a RWA buyer
 Modern Rule (Ellsworth Dobbs): commission is earned only upon closing / when sale is performed.

Drake v. Hosley (AK) – Court adopts Dobbs Rule; Broker (Hosely) entitled to commission
● Facts: Hosley, broker, enters into an exclusive listing agreement to find buyer for Drake property.
Agreement provided Hosley entitled to 10% commission by locating a buyer “willing and able to purchase
at the terms set by the seller. OR The seller entered into a binding sale during term. Hosley produces a
buyer, sign purchase agreement and set closing, but divorced wife has judgment lien on Drake property.
Wickwire (atty.) said another buyer had already purchased the property.
● Broker wants his commission. He produced “willing and able” buyers. Drake’s fault buyers did not
sign. Hosley was not acting as the buyer’s agent.
● Court Adopts Ellsworth Dobbs Rule BUT still grant Broker his commissions. Exception for
Broker - The seller breached the agency agreement when he sold to a third party; the buyers did not
repudiate the K. Broker fulfilled the terms of the listing agreement.
○ In Dobbs (NJ) - Court said broker starts out representing the seller but if the broker starts
working with the buyer, becomes the agent of both.  This = Alaska; court can take what it
wants
● Malpractice as a matter of law (didn’t need expert testimony)  Drake sued Wickwire. Wickwire
asked whether they had the money; Hosley reasoned that have the money but they were resisting the
close

STATUTE OF FRAUDS & PART PERFORMANCE

General Rule: K for sale of land must be in writing, contain the essential terms and be signed by the party
to be charged under the K
 Part Performance Rule: If K is not in writing - Part performance + Something Else (possession,
make improvements, payment) = Valid K
o Part- performance not a substitute for K, just takes the K out of the Statute of Fraud
requirement of writing
o Part-Performance does not lack of consideration
o Justification  Reliance – Restatement allows specific performance where reasonable
reliance on K or continuing assent of party  Evidentiary - purchaser’s part performance
proof existence of K
 If you leave too many essential terms out, it will not be enforceable

REMEDIES & REAL ESTATE CONTRACTS

SPECIFIC PERFORMANCE
 2

COMPENSATORY DAMAGES  Put affected party into the position as if the contract had actual been
performed; vendor will keep property or sell to someone else

SPECIFIC PERFORMANCE  Grant equitable relief where the damages remedy at law is inadequate;
vendor will convey to the K purchaser, who must pay the full agreed upon price
● Elements in which the application of Specific Performance applies  (1) Extent to which
evidentiary function of the state statute is fulfilled by party conduct; (2) Reliance of the promisee
compared to the reasonable expectations created by the promise creates a compelling basis for relief

Schwinder v. Austin Bank of Chicago (IL) – Grant of Specific Performance was proper. Condo
is unique; (P) were RWA buyers; (D) prevented closing.
● Facts: Scwinder & Londay offered to purchase condo from Austin Bank trustee, Baginski. Baginski failed to
tender deed because of divorce. Signed agreement allowing buyer to move in w/o closing, agree to pay
$1,500 per month until seller able to close. Baginski refused to close on the sale. Schwinder made
improvements and had lived in condo for 2 years. K had a termination default clause → not allowing specific
performance as a remedy, only return of funds. Purchase K = valid & enforceable.
● Analysis of whether a condo is suitable property for specific performance
○ Argument for SP (Gianni) - Because condo units are real estate they are per se unique = entitled to a
remedy in equity
○ Argument against SP (Centex Homes) - A condo unit is typically one of thousands with a nearly
identical structure as the others within the same building = not unique = only entitled to remedy at
law
● Uniqueness of condo allows specific performance as remedy at law inadequate  (1) Condo
was not sold as a sample but substantially upgraded; (2) Made improvements to the unit; (3) most
importantly, Schwinder lived there for 2 years (it’s their home).
● Given the circumstances, it would be inequitable to deny SP  Were RWA to perform at all
times  (1) (P) paid the earnest money to (D); (2) Withdrew their 401(k) for down payment; (3) Obtained
m commitment papers.

MEIK NOTE - Book Note about when Condo Developers Cancel Sales Contracts after the Market
Prices Rise so they can Sell at a Higher Price and all they suffer in Penalty is refunding the purchaser’s
deposit
● Courts are reluctant to just enforce these provisions because they are inherently unfair for the
purchasers, however as Fransworth notes, “If the evidence shows that, at the time of sale, the
parties understood the provision, and intended to enforce it,” than most courts will uphold it.

RECISSION (not used as often)  unwinding of the K

Orr v. Goodwin (NH) - The liquidated damages clause was enforceable and it was the exclusive and
sole remedy they were entitled to because they had accepted the liquidated damages amount as their
method of recovery, effectively barring them from pursuing alternative legal means to obtain actual
damages.
 3
 facts: David Goodwin and several family members (collectively Goodwin) (defendants) entered into
an agreement to purchase real and personal property from Suzanne Orr and Nelson Bolstridge
(collectively Plaintiffs) for $1,020,000. After the parties executed the agreement, Goodwin provided
Plaintiffs with a $10,000 deposit. Later, Goodwin provided Plaintiffs with an additional $15,000
deposit. The parties’ agreement contained a “Liquidated Damages” provision which obligated
Goodwin to surrender any amount of the deposit if he was unable to perform under the terms of the
contract. Goodwin notified Plaintiffs that he would not be able to purchase the property as agreed.
Plaintiffs retained the $25,000 deposit paid by Goodwin. Subsequently, Plaintiffs filed suit against
Goodwin to recover various damages. The trial court granted Goodwin’s motion for summary
judgment. Plaintiffs appealed.
 Issue: In New Hampshire, will a liquidated damages clause be enforced if (1) anticipated damages
as a result of a contract breach are uncertain in amount or difficult to prove; (2) the parties intended
to liquidate damages in advance; and (3) the amount agreed upon is reasonable and not greatly
disproportionate to the presumable loss suffered by the non-breaching party?
 Test for liquidated damages:
 (1) difficulty in ascertaining damages
1. what point do we look to to see if it’s difficult to ascertain the damages?
 this court: look at both the time of signing the contract and at the time
of the breach
 most courts - at the time of the breach
 (2) intention to liquidate damages
 (3) reasonable

 reasonable estimate at the time of agreement of the clause

 And not greatly disproportionate to the presumable loss or injury
 Court:
o (1) no argument against the difficulty (conceded that damages were difficult to ascertain)
o (2) yes intended to be liquidated damages -the section was labeled “liquidated damages” and
the rights in case of a breach were outlined in the section
o (3) the LD clause was reasonable because the sellers listed it for only $20,000.00 less after
the breach

Because the liquidated damages clause was reasonable and enforceable→ The court agrees with other
jurisdictions that a party may choose either liquidated damages or pursue alternative remedies to obtain
damages, but not both. When a party elects to either liquidated damages or an alternative legal route to
obtain damages, the election of one remedy bars pursuit of the other. Here, Plaintiffs accepted the
liquidated damages amount as their method of recovery, effectively barring them from pursuing alternative
legal means to obtain actual damages.

TIME OF PERFORMANCE & TENDER

Time is of the essence  if not in original K, either party is entitled to request a reasonable adjournment;
in granting an adjournment, party may unilaterally impose that time be of the essence as to the re-scheduled
date. If unilaterally imposed, must give notice & reasonable time period.
 4
Miller v. Almquist (NY) – Seller must return buyer’s DP. “Time is of essence” was not included in
the original K; it was unilaterally imposed (effectiveness depends on notice & reasonableness of time
period). Time period for adjournment was not reasonable.
● Facts: Miller contracted to purchase apartment, putting down 10% DP. K provided if buyer defaulted, buyer
would forfeit down payment, but, it did not specify “time was of the essence.” There was a satisfied tax lien
on Miller’s property that had not been discharged preventing purchaser financing and delaying closing; turns
out was satisfied. Miller asks for adjournment of closing and seller agrees but writes “time is of the
essence.” Miller is late in getting proof for bank of satisfaction of lien and cannot close again. Seller claims
buyer has breached and keeps DP, and sells the apartment for a higher price.
● Because it was unilaterally imposed, the effectiveness of the ToE condition depends on notice
and reasonableness of the time period.
○ Notice – sufficiently clear & unequivocal (sent a letter)
○ Reasonableness - Factors for Reasonableness: (1) Object of the contract; (2) previous
conduct of parties; (3) GF; and (4) possibility of hardship or prejudice
■ Reasonableness in this case turns on whether the post-notice time period provided a
reasonable period in which to close
■ Here – (1) Time period = short (Only 2 days given was not sufficient for the buyer;
only six weeks) (2) Seller didn’t extend usual niceties- would’ve closed week later;
(3) Buyer significantly prejudiced, seller would have received all of the purchase
price in cash, instead sold for higher price.
● Not consistent with Maxton 10% DP retention

Meikljohn Notes Regarding “time is of the essence” language

● Unless K language itself or circumstances make “time of essence,” it will not be enforced.
● Where contract language provides “time is of the essence”  Delay is treated as a material
breach. Party who is late may not enforce the contract and innocent party’s duties are discharged
● Where no ‘time is of the essence’ language  Party who is late who tenders performance may
enforce the K by specific performance or rescind and recover earnest money if other party refuses to
perform
 Delay – even if no ToE, an unreasonable delay will be a material breach  courts routinely find 30-
90 days is reasonable.

TITLE TO BE CONVEYED
MARKETABLE TITLE / DAMAGES FOR UNMARKETABLE TITLE
Marketable Title is a title that is free of encumbrances and will not expose purchaser to hazards of
litigation. Every RE K has implied covenant that title will be marketable unless parties agree otherwise.
 Loss of bargain damages – difference between the K price & the market value of the land on the
date of the breach
o Vendor will recover nothing if value risen higher than K price
o Purchaser will recover nothing if property worth less than K price
 5
Haisfield v. Lape (VA) – Line of sight easement renders title unmarketable. H entitled to return of
deposit.
● Facts: Parties enter into land sale contract for farm, and Haisfield make $50,000 deposit of earnest money in
escrow. PA states that $50K will be liquidated damages. Sales K provides: “At settlement seller shall
convey title free and clear of encumbrance but subject to recorded covenants and easements which do not
materially affect use of land. If seller does not cure defect w/in 60 days of notice, purchaser may terminate K
and returned deposit.” One day before the closing, Haisfeld notified seller that there was a restrictive
covenant on the property rendering title unmarketable. Restrictive Covenant on farm was a Line-of-Sight
Easement that was found in the land records saying, “no building shall be built on property visible to
other.” H says this makes title unmarketable; L disagrees. TC found for L (H breached by not going through
with agreement.) This court reverses for H.
● Issue - Whether line-of-sight easement renders title unmarketable to justify buyer’s refusal to close
the transaction? Yes.
● Marketable title: A title that is free of encumbrances and will not expose purchaser to hazards of
litigation.
○ When easements are Open & Visible  Buyer cannot refuse to complete the purchase
○ When easements are NOT Open & Visible  Buyer cannot take this into consideration
when fixing a price to the property. Therefore, can refuse to complete the purchase.
● Court’s Factors for why Line-of-sight easement renders title unmarketable: (1) The amount of
the encumbrance is not definite; (2) The line-of-sight easement acts as a building restriction upon
the property; (3) It is not an "open, visible, physical encumbrance that might have been considered
in the purchase price/negotiation of the property.
● Potential Damages - English vs. American Rule
○ English Rule - Deposit refunded + Any reliance damages
○ American Rule - Deposit refunded + Benefit of Bargain damages

Donovan v. Bachstadt (NJ) – Donovan entitled to compensatory damages (vendee damages) – Loss
of Benefit of the Bargain
● Facts: B contracted to sell RE to D. Finance by purchase money mortgage because usury law
would not allow interest rate over 10½ %. B could not produce good title to property (town did not
foreclose properly; impossible for D to have any title at all). D sues for compensation damages
asserting allowed to get the benefit of the bargain, which should be measured as difference between
10 ½ and 13 ½ interest rates.
● Issue 1 – is D entitled to compensatory damages? Yes.
○ 2 Rules – Breach of K due to Unmarketable Title  Court chooses American Rule
■ English Rule - Where breach occurs b/c seller cannot get good title through no fault
of his own and no bad faith = purchaser may only recover his deposit as damages
(reason for this rule was uncertainty of title)
■ American Rule - Buyer receives benefit of the bargain regardless of reason for
default
○ B agreed to convey marketable title; breached that bargained-for promise.
● Issue 2 – How to Calculate Damages
○ Loss of Benefit of the Bargain Damages - The difference between the contract price and
the market value of property at the date of the breach
○ Court’s Solution - Find a house today that can be purchased under the same Post-K
Position and the Donovan’s will get the difference between the FMV of the house they can
 6
get under those conditions currently and the original price of the Barstadt’s
■ PK / PB
● PK  -14,900; n+m (44,000, 10.5%, 30 yrs); -145; -142.85  + House (FMV
$58,900)
● PB  -14,900; n+m (44,000, 10.8%, 30 yr); -145, -142.85, -145, -142.85  + Little
House (FMV $50,000) (will be worth less at lower int. rate)
● D = $8,900 + $145x2 + $142.85x2
■ Court says – if new house is less than old house, no damages  this does not make
sense.
■ *This case is good because it shows the relationship between sales price & interest
rates

Meiklejohn Post-Case Notes on Marketable Title & Easements

● Every RE K has implied covenant title will be marketable unless parties agree otherwise
● Some courts hold easements that are obviously visible and beneficial do not render title
unmarketable
● Traditionally, existence of land use ordinances does not affect marketability of title.
● Some courts conclude existing violations of zoning/use ordinances can make title unmarketable
 7
EQUITABLE CONVERSION
Equitable Conversion Doctrine  a theoretical change of property realty to personalty (or vice versa) in
order that the intention of the parties may be given effect  equity treats that as being done which should
be done  when the vendee contracts to buy and the vendor to sell (though legal title has not yet passed),
in equity the vendee becomes the owner of the land, the vendor of the purchase money.
● Equitable Title - Passes to the purchaser as soon as an enforceable contract to sell land is formed.
● Legal Title - Remains with seller until the closing and delivery of a deed

Grant v. Kahn (MD) – Grant’s claim of equitable title was superior to the Kahns judgment
creditors – under doctrine of equitable conversion.
● Facts: Grant contracted to purchase a house from Ganz for $320,000. K contained financing contingency
provision. “contingent until 9pm 45 days after date of ratification upon buyer delivering to seller regional
form #100.” Grant never provided Ganz w/ Regional Form #100. But he must’ve obtained a loan because the
parties closed on the sale on July 31, 2007. At time of closing, Grant did not realize the Kahns had obtained a
judgment against for $172,000 on Jul 20 (shortly before closing).
● Issue - Whether Ganz’s interest in the house & land should be considered to be real property as of
July 20, 2007 – the date that the judgment was entered? Yes.
● Financing Condition (Most Common) - If purchaser is unable to obtain described financing, may
withdraw from K and have earnest money returned.
● Rule - A judgment entered on against the vendor after the K has been made does not become a
lien on the realty. Equitable title is superior to a later judgment lien.
● Kahns try to argue no equitable conversion because Grant not entitled to SP because financing
contingency not satisfied. Equitable conversion will place equitable title in the purchaser only if the
K is one under which the vendor would be subject to a decree for SP.
○ Court disagrees  The financing contingency benefited only Grant. Grant could waive the
contingency at any time; K was specifically enforceable by Grant. Parties went through with
the K. K continued to be in effect. If Ganz had refused conveyance, SP of the K would have
been able to Grant.
● Financing contingency consisted of a condition subsequent. The contingency did not prevent the
occurrence of equitable conversion. On July 24, when the Kahn’s judgment against Ganz was
entered, equitable title to the property was held by Grant. Judgment lien could not attach to the
property.
● PP favors Grant  need for transferability of property; should not expose buyer to risks associate
with sellers who have poor credit histories or financial difficulties.  Under Kahn’s theory, a buyer
entered into a K of sale w/ a financing contingency would be exposed to risk of judgment lien
entered against seller after the execution of the K.

Meiklejohn’s Notes Post-Case

● Majority Jurisdictions - Widely accepted that purchaser’s equitable interest is ‘real property’ and
subject to judgment liens
● Mixed Jurisdictions - As to whether a vendor’s interest in real estate sale K is ‘real property’
subject to judgment liens. (Cannefax v. Clement- Does not recognize judgment lien on vendor’s int.)
● Risk of double payment - Purchaser is protected in making payments to the vendor unless and
until purchaser gets actual notice that lien has been docketed.
 8
CHAPTER 2. DEEDS & TITLES

LAND DESCRIPTIONS
Methods
● Government Survey System: Principal Meridian Lines = north to south; Base Lines = east to west;
Parallel to baselines = townships; Townships  Sections  Quarters  Quarter Quarters  etc.
*Works well for agricultural land, but not as well for urban uses (use the next two method for
urban).
● Subdivision plat: may include hundreds of lots, or only 2 or 3. It is prepared by an engineer or
surveyor at the request of the landowner, which is filed as a permanent record in the appropriate
government office. Each lot is numbered and the plat is named.
● Metes and Bounds: involves a written description of the property’s boundaries, usually by a series
of calls, each of which states the location of an individual boundary line. The most common m&b
description is where the bounds are described in successive order.

Descriptions - Descending list of priorities to resolve conflicting information in a description of land in a

deed:
● Natural monuments (trees, rocks, streams)
● Artificial monuments (buildings, curbs)
● Courses (directions in relation to true North)
● Distances (feet, chains, rods)
● Quantity (acres)

Cribbett, Canons of Construction

1. Language of deed construed against grantor, likely grantor
2. Unambiguous description governs over ambiguous
3. Extrinsic evidence allowed to resolve a latent ambiguity but not patent
4. Monuments control distances and courses, courses control distance
5. Useless or contradictory terms stricken
6. Particular descriptions govern over general descriptions
7. An unclear description may be made certain by incorporation by reference
8. If a deed lays out an exception erroneously, good for the whole track
9. When boundary is stream or highway, boundary line extend to the center
10. A deed descriptions includes appurtenances even if not stated

Cities Service Oil Co. v. Dunlap – Title quieted in Dunlap. Disputed strip not included in deed;
not part of Cities’ lease.
● Facts: Rogers brothers (J.F., W.H., F.E., J.W.) owned a rectangular 320-acre tract of land (that they inherited
from Louisa Rogers). All 4 owned – deed each other to divide up the land. Subdivide into 3 lots (grant ¼
interest to one another). A strip of land 66 or 68 feet wide along the West side was allegedly left undivided.
JF’s lot – starts at NW corner of WH’s lot, 440 yards west to Wiley Davis’s NE corner. (problem is 440yrd
 9
is short of Whiley’s lot). Cities is the holder (by assignment & succession) of an oil & gas lease made in
1930 by the heirs of J.F. In 1934 – all 4 brothers lease Dunlap narrow strip of land (68 feet wide, 880 yards
long) across the West side of the J.F. Rogers tract up to David tract.
● Issue - Description is short of description point (Whiley Davis’ NE Corner). Cities wants it
reformed to be correct yardage so it can oust Dunlap.
● Cities arguments -
○ Presumption - Presumption the parties intended to divided the entire tract
○ Tree Stump = Natural Monuments - Deed describes tree stump as boundary w/Davis →
Natural monuments controls over measurements.
○ Road Boundary Rule - If boundary between is a road, boundary in the middle of the road if
grantor owns that far (doesn’t work- deed does not mention road; must reference in deed to
be a monument).
○ Scrivener’s error- clerical mistake. Court should remove the reference to the tree stump
boundary.
○ Cities is a BFP → therefore reformation not allowed. Burden on Dunlap to show Cities is
not a BFP. Cities BFP – no reformation.
● Dunlaps arguments
○ Call in the deed to the J.F. Rogers for the “Wiley Davis Northeast Corner” as the northwest
corner of the J.F. tract was inserted by the draftsman by mistake
○ Course & distance in the deed were correct – and located that corner about 66 feet east of
the Wiley Davis corner
○ Strip left between the east side of the Davis land & the west side of J.F. land was purposely
left undivided to be controlled in common
● Court- Distance amount is a latent ambiguity. Allow admission of extrinsic evidence of witness
testimony/survey report/gear shaft marker. Shows that reference to WD Corner was a mistake.
Dunlap wins.

INTRO TO MORTGAGE FINANCING

Financing is usually one or a combination of:
 A loan from a third-party lender to the buyer
 The taking over by the buyer of the payments on an existing loan that the seller or some former owner obtained
from a third-party lender
 Financing provided by the seller, usually in the form of a deferral of receipt of some portion of the purchase
price.

Mortgage - involves a transfer by a debtor-mortgagor to a creditor-mortgagee of a real estate interest, to be held as

security for the performance of an obligation, which normally is the payment of a debt evidenced by a promissory
note.

Major Ways to Finance a Home

 All cash sale
 Assumption or taking subject to existing mortgage: buyer takes over the seller’s existing mortgage
financing and pays cash equal to the difference between the sale price and the principal balance that remains
on the loan. The buyer may take over the loan by either assuming it (personally liable) or taking subject to it
(not personally liable but will still have economic incentive to repay the loan)
 10
 Seller financing: buyer enters into a mortgage loan or an installment contract with seller for all or a large
portion of the total purchase price.
 Combination of assumption/subject to and seller financing: buyer takes over the seller’s existing
mortgage financing and also gives the seller a promissory note secured by a second mortgage on the property
for part of the difference in price.
 Wrap-around financing: the transaction between the buyer and the seller is structured as seller financing.
The seller has a preexisting mortgage loan on the property and does not pay it off before transfer to the
buyer. Instead, the seller continues to make payments on the underlying loan while the buyer makes
payments to the seller on the new (wraparound) loan.
 Due-on-sale clause: permits the lender to demand an immediate payoff of the loan if the real estate is
transferred.

Basic function of foreclosure: to put the foreclosure sale purchaser in the shoes of the mortgagor as of the time of
execution of the mortgage being foreclosed.

Strict foreclosure: RARELY used today. A decree sets out the amount due under the mortgage, orders it to be paid
within a particular time limit, and provides that if payment is not made, the mortgagor's right and equity of
redemption are forever barred and foreclosed. If the mortgagor does not pay, then title to the property vests in the
mortgagee without any sale.

2 types of Sale Foreclosure:

 Judicial Foreclosure: public sale results after a full judicial proceeding in which all interested persons must
be made parties.  time consuming and costly. In many states, this is the sole method of foreclosure.
 Power of Sale: after varying types of notice to the parties, the property is sold at a public sale by a public
official, by the mortgagee, or some other third party. No judicial proceeding is required.  Available only
where both the mortgage instrument and a state statute authorize it.

Equity of Redemption - The mortgagor CAN’T lose his or her equity of redemption unless there has been a valid
foreclosure.

Statutory Redemption: (about 20 states have it) Becomes available only when the equity of redemption has been
cut off by a valid foreclosure. Permits the mortgagor to redeem for some fixed period of time after the sale.
Redemption amount is usually the sale price.

CHAPTER 3. THE USE OF MORTGAGE SUBSTITUTES

THE ABSOLUTE DEED, THE CONDITIONAL SALE, AND RELATED

TRANSACTIONS – Sale or Mortgage?

Mortgage  Question is – did the parties intend the deed to stand as security for a debt? (An absolute
conveyance is not a m.)

Absolute Deed A deed from the grantor to the grantee, which appears to show that the grantor has “sold”
the real estate to the grantee.

Conditional Sale  Not only is there a deed from the grantor to the grantee, but there is a second written
document that normally purports to confer on the grantor the obligation or option to purchase the real estate
in the deed. It is clear from the second writing that the grantor has the right to reacquire the real estate.
 11

*With absolute deed or conditional sale, question is: whether the circumstances are such as to justify
treating the transaction as a mortgage in substance though the parties did not so intend. When determining
whether an absolute deed or conditional sale should be treated as a mortgage, courts should look to the
totality of the circumstances surrounding the transaction.

Perry v. Queen (TN) – P intended the conveyance to serve as a security device. The sale-leaseback
transaction qualified as an equitable m. Because it was a m, TILA (Truth in Lending Act) applies.
● Facts: 2 mortgages on the property; 2nd goes into foreclosure. P receives letter from D about helping stop
foreclosure; D gives P $11k to bring the mortgage payments current, make additional mortgage payments. In
exchange, P executed a warranty deed to D, which deeded the title to Ps property. Equity in home at time
Queen gets WD is $68,000. Also, they executed a residential lease agreement, a lease and option disclosure,
and a memo of understanding. At the end of year lease, P did not exercise option to repurchase. D tried to
gain possession of property. P sues and says it was a mortgage not an absolute deed.
○ P → Q = Rent (Signed a 1 year Residential Lease Agreement) + Warranty Deed
○ Q → P = 11,113 + Possession w/Promise to Pay Rent + Option to Repurchase = 11,113 + 10,000 +
Remainder of Mortg. = 44,708.81 (repurchase price)
● Issue – Is it a m or agmt. of sale? M.
○ (P) argue – this loan is a mortgage loan transaction – subject to TILA  (D) failed to
comply to TILA requirement re: disclosure, etc. Would give (P) right to rescind the
transaction up to 3 years after its consummation.
○ (D) argue – TILA does not apply.
● For TILA to apply  (1) transaction secured by consumer’s principle dwelling; and (2) annual %
rate exceeds a particular amount OR the fees payable at/before closing exceeds the greater of (a) 8%
of the total loan amount or (b) $400.  (2) = easily satisfied  Q gave P $11,113.99; P was
required to pay $10,000 fee (excessive)
● Was it an equitable m? Yes, an equitable m exists when deeds purporting to convey an absolute
legal & equitable title were in fact meant to grant only a security interest.
● Test to Determine if Mortgage Substitute is actually a Mortgage  is conveyance intended as
security (i.e. mortgage)? Proof that conveyance was intended as security must establish that:
1. GR was indebted to the GE; and
2. GR intended his conveyance to serve as a security device
■ Hensley Factor Test of GR Intent
● Relationship between the parties;
● Whether the parties had access to legal counsel;
○ Court’s View – P not represented by legal counsel at time of transaction indicates P
intended his deed to serve as a security device
● Sophistication and circumstances of the parties;
○ Court View – GR’s who lack sophistication or under stressful circumstances as
more likely to have intended their conveyances to serve as security devices, as
opposed to as transfers of their land.
○ Facts – P high school education; facing foreclosure; Q experienced businessman
● Adequacy of consideration; and
 12
○ Court View - Where consideration is much less than the value of his property, there
is an inference that a security device was intended.
○ Facts – P paid Q $11,113 for a property worth $94,500 = discrepancy is indicative of
P’s intent to convey it as a security device; 12% of prop. value. P had $68,500 worth
of equity.
● Whether the GR retained possession of the property.
○ Court’s View - Where a GR continues to occupy the premises, there is an inference
that a security device was intended
○ Facts – P retained physical possession after he gave Q the WD = Indicates intent as
security device
○ Imp. Distinction Note – The fact that P paid rent to Q while he lived there following
transaction might otherwise indicate Q’s possession of the property, however, it is
mitigated b/c both mortgages remained in P’s name, thus rendering him liable on
them.
■ BOP - The party asserting that a security interest was intended must prove that fact by clear
and convincing evidence.
■ Evidence Considerations  Evidence may be written or oral; SOF is not a bar to proof by
parol that a deed absolute on its face was meant as a mortgage.
● Q tried to argue that P was not obligated to repurchase. Court rejects: P was not obligated to repay
the defendants in an absolute sense, but was required to do so if P wanted to retain ownership of his
property. Accordingly, P was indebted to D.
● *Court got it wrong  not subject to TILA. But even though it was wrong, it was a fair result.

Downs v. Zeigler (AZ) – Mortgage, not an agreement of sale. EE more consistent with a
mortgagor-mortgagee relationship.
● Facts: Ziegler (D) built and owned 4 apt. buildings. Z paid for the land by giving Downs an installment
promissory note for $75,000, secured by a m of the land. Z could no longer meet his financial obligations
(including a $30,000 personal loan). Bank officer contacted his brother, suggested him and 2 other doctors
undertake a refinancing of Z’s property. Doctors made $21,000 available to prevent foreclosure; they
guaranteed Ziegler’s obligation to the bank for $30,000. Agreement – Z agreed to convey to the doctors his
interest in the mortgaged parcel in exchange for the doctors’ agreement to advance funds to bring current the
varies secured indebtedness’s against the property – and to guarantee his note to the bank in the amount of
$30,000. Also had a provision that Ziegler could repurchase the property within a year by paying doctors
their expenditures + $10,000. Transferred title “Subject to” the encumbrances.
○ Z → D (In Exchange for WD): DP + N = 75,000 + M
○ Z → Bank: N = 30,000
○ Dr.’s → Z (In Exchange for “Sell”): Assumption of debt to D + $ (this will allow Z to bring current
his indebtedness). Option to Repurchase within a year by reimbursing Dr’s in full + 10,000.
● Issue  sale or loan?
○ If the agreement is an agreement of sale, Doctors personally liable for payment of the mortgages
(Downs would be third party beneficiaries).
○ If a m (loan), then doctors not liable (a first mtg’ee, absent consideration for the alleged assumption
of liability in the second m, cannot recover from a second mtg’ee). Because Downs gave no
consideration to the Doctors.
 13
● Assumption language – nothing shall be construed as creating relationship of mortgagor-mortgagee  BUT
a deeded intended as security for a debt will be found a m no matter how strong the language of the deed or
any accompanying instrument.
● TEST: Criteria of whether a security device was intended (EE must be clear & convincing to
show that a deed absolute and a separate option to repurchase together constitute a mortgage):
Merryweather Factors:
1. Did negotiations between the parties contemplate a security for a debt?
● Testimony shows that parties contemplated security for the repayment of funds advanced by
the doctors
2. Was the party who sold the option to sell in distress?
● Z was in severe financial distress, being threatened with foreclosures
3. Was the amount advanced close to what the 'grantor' needed to pay an existing
indebtedness?
● Dr.’s bank note of $30,000.00 was the amount that Z needed to pay an existing indebtedness
4. The amount of the consideration paid in comparison to the actual value of the property in
question
5. Is there a contemporaneous agreement to repurchase (yes) ; and
6. What are the actions of the parties in relation to each other? (ie. are their actions ordinarily
indicative of a vendor-purchaser relationship or that of a mortgagor and mortgagee?)
● Dr.’s never as much as inspected the premises, never took possession of or occupied the
same, and never collected any rents accruing therefrom.

THE INSTALLMENT LAND CONTRACT

Installment Land K – most commonly used substitute for mortgage or deed of trust (aka K for deed; long
term land K). Such Ks may be amortized over varying time periods. The vendee may be required to pay off
the balance by a balloon payment. During the period of the K, vendee is usually required to pay the taxes,
maintain casualty insurance, and keep the premises in good repair.

Components of Installment Land Contract

● Financing by the Seller of unpaid portion of purchase price
● Vendee (buyer) gets possession and agrees to make monthly installment payments of Princ + Int
until balance paid off
● Vendor (seller) retains legal title until the final payment is made

Forfeiture clause – in event of default, Eads mortgagor can demand entire balance due. If not paid, K
terminated.

Russell v. Richards (NM) - Forfeiture clause enforced.

● Facts: Russell was an assignee-purchaser under a standard form RE K. Russell pd. $11,188 to the assignors
& assumed $37,938 under the K. At the time of default – Russell had made 72 payments and reduced
principal by $10,782. Remaining principal amount = $26,504. FMV also increased from $48,989 → $82,735.
Russell defaulted. Russell (P) filed suit against Richards’ for damages resulting from default and forfeiture of
her interest in a RE K.
 14
● Rule: Forfeiture provision is enforceable, absent unfairness that shocks the conscience of the
court.
● MJN – When foreclosure sale occurs, Ri (lender) will get the amount that will cover their debt and
anything over will go to secondary lenders or back to Ru (buyer).
● Factors to determine if forfeiture clause shocks the court’s conscience
○ Amount of money already paid towards contract (Equity Accrued/Purchased)
■ Russell makes payments of $10,782 reducing the principal to $26,504
■ Equity = $82,735 - 26,594 = $56,231 Equity
○ Period of possession of the real property
■ Had possession and received benefit from it
○ Market value of the real property at the time of default compared to the original sales
price
■ FMV had risen since over time
○ Rental potential and value of the real property.
■ Russel received profits from renting out three units of the property and, at the time of
default, the entire property was leased for a monthly payment far in excess of the
payment due under the contract.
● Damages
○ TC’s consideration of the down payment was not proper. That amount was paid to the
assignors. Consideration of that amount placed financial responsibility on the Richardses to
return money that was never paid to them.
○ TC consideration of increased FMV was erroneous. The law is that during the life of the RE
K, any risk of loss or enhancement in value accrues to the purchaser. Upon default and
forfeiture, there is no enhancement value to be recovered by the buyer.
○ TC erred in awarding damages for Russell’s loss of her interest under the K. In order to
recover damages, there must be a right of action for a wrong inflicted. Russell’s loss of her
interest did not result from a wrong committed by the Richardses – but from her default
under the RE K for failure to make timely payment.
● This = an example of freedom to K approach

Watkins v. Eads (KY) – Forfeiture clause was void; strict foreclosure abolished in KY.
 Facts: Watkins entered into an installment land sale K with Eads (for residential prop.). K stated a total
purchase price of $125,000 w/ a down payment of $5,000 to be paid upon execution of the K. Forfeiture
clause – in event of default, Eads could declare the total balance due; if not paid within 10 days, the K could
be terminated. Watkins defaulted. Eads sent Watkins a letter notifying him the K was terminated in 10 days.
 The forfeiture clause clearly violates the Sebastian Rule. Therefore, it is void & of no effect.
o KY: no strict foreclosure.
 Court holds that there really is no difference between an installment land contract
and mortgage.
o Sebastian Rule: A RE purchaser – who defaults under an installment sale K – still retains
an equitable interest in the real property and further possesses redemption rights. Watkins
could not waive right to foreclosure. -> Restatement follows this.
 15

ELECTION OF REMEDIES IN INSTALLMENT LAND K

 To the extent that a jurisdiction recognizes forfeiture as a valid remedy, a vendor faces an election
of remedies problem.
 Election of Remedies Doctrine: choice between specific performance or cancellation of K; cannot
have double recovery for a single wrong.

Summit House Co. v. Gershman (MN) – K not cancelled by the sheriff’s sale. Gershmans had
the choice between specific performance or cancellation; they chose SP.
 Facts: Gershmans entered into a K for deed to sell their condo to Summit. K required Summit to make a
balloon payment [a repayment of the outstanding principal sum made at the end of a loan period, interest
only having been paid hitherto] on Oct. 31, 1987. The market value of the condo declined, and Summit sued
to terminate the K. Gershmans counterclaimed for SP, and were awarded SJ in the amount of $107,605.25,
and Gershmans were to convey the property to Summit upon payment. Summit failed to pay the judgment.
Gershmans proceeded to levy execution on Summit’s K for deed vendee’s interest & purchased that interest
for $73,130.18 at a sheriff’s sale. Summit moved for an order that the judgment had been satisfied by the
sheriff’s sale. DC denied the motion - execution sale had not canceled the K; judgment was only partially
satisfied by the sheriff’s sale, and Summit still owed $34,475.07. This court affirms.
 Election of Remedies Doctrine: The choice of remedies would be effectively eliminated if the
vendor knew that the vendee could simply refuse to pay a money judgment and force the seller to
accept the property as full satisfaction of the judgment. If the judgment could be satisfied by sale of
the property, that would mean that cancellation of the K & return of the property is the vendor’s
only remedy against the defaulting vendee.

CHAPTER 4: RIGHTS AND DUTIES OF THE PARTIES

PRIOR TO FORECLOSURE – SOME PROBLEM AREAS

THEORIES OF TITLE: POSSESSION, RENTS, AND RELATED

CONSIDERATIONS
3 Theories of Mortgage Lien – Restatement
 Title Theory – legal title to the mortgaged RE remains in the mortgagee until the mortgage is
satisfied or foreclosed
 Lien Theory – the mortgagee is regarded as owning a security interest only & both legal &
equitable title remain in the mortgagor until foreclosure
 Intermediate Theory – legal & equitable title remain in the mortgagor until a default, at which
time legal title passes to the mortgagee
Deed of Trust (DOT) - Deed that conveys property to a trustee held in trust for the benefit of the lender
 Usually includes a power of sale language (POS)  This allows the trustee to sell the property at
the behest of the seller if the borrower defaults
o No need for judicial foreclosure- saves costs
 16
 Title conveyed by a trustee’s deed relates back to the date when the DOT was executed.

PROBLEM 1 – FORECLOSURE SALE EXTINGUISHES LEASE (IF LEASE

SUBORDINATE TO DOT).

Dover Mobile Estates v. Fiber Form Products, Inc. (CA) – Foreclosure sale extinguishes
existing lease (because lease was subordinate to DOT), FF became a month-to-month tenant.
● Facts: Fiber Form entered into a 5-year lease with Old Town. The lease stated that it was to be subordinate to
any deeds of trust or mortgages on the property, unless mtg’ee or beneficiary elected to have the lease be
superior. Old Town encumbered property with a second DOT to Saratoga. Old Town defaulted on Saratoga
loan. Saratoga foreclosed and Dover bought the property at a trustee’s sale (knew about earlier FF & earlier
lease was a selling point). Fiber Form claims that the foreclosure extinguished the lease between them and
Old Town, and requested reduced rent.
● Court’s Analysis of why Lease is Extinguished by Foreclosure
1. Purchaser at DOT foreclosure sale takes title free of junior or subordinate liens
2. Lease is subordinate to DOT if:
o It was created after DOT is made or
o By subordination agreement within the lease
 Here – lease itself states that it was subordinate.
3. A lease which is subordinate to a deed of trust is extinguished by a foreclosure sale
4. Conclusion - Since legal rights of lessee are extinguished by foreclosure sale, there is no
privity of contract or estate btwn purchaser and tenant.
 Additionally, the parties never entered into a new lease, so FF become month-to-month tenant
& could terminate upon 30 days’ notice.
PROBLEM 2 – SECURITY INTERESTS IN RENTS

Assignment of rents clause (enforceable in every jurisdiction)  if there is an assignment of rent clause,
mortgagee’s right to rents is usually triggered by the mortgagor’s default (rarely can they collect rents
immediately after K).
 MAJORITY RULE: The assignment is perfected against third parties upon recording. The mortgagee
can collect (“enforce”) upon some affirmative action (Ex: notice, default, appointment of receiver)

Millette - Security Natl. perfected its interest when it recorded its DOT containing the assignment of
rents clause.
 Facts: Millettes owned a building. In 1992 they executed a note in favor of Eastover Bank. As security
for the note, the owners executed a DOT, which included an assignment of rents clause. MTGLQ
Investment then buys the mortgage note and DOT from Eastover and retained Security National to
service the loan. Then O’Neal Steel obtained an Alabama judgment against Millettes for $164,335.89.
O’Neal institutes a garnishment action; wants the rent that Millettes collect.
 Situation: Fight between O’Neal and Sec. Natl.  O’Neal argues – until the rent is collected, interest is
not perfected (first in line); it perfected w/ garnishment action  Sec. Natl. says – recording DOT is
enough (and it did this).
 DC held – Sec. Natl. had perfected interest in the rents.
 17
 UCC Article 9 does not apply (rents as security interests) because it does not apply to the
creation / transfer…?
 Court discusses 2 rules:
o Old rule: An assignment of rents gives the mortgagee an inchoate (unperfected) lien
which is perfected only when the mortgagee takes additional action to enforce it.
o *Modern rule: The recording of a mortgage document containing an assignment of
rents gives the mortgagee rights superior to any subsequent third party who would seek
to take a security interest in the leases and rentals pertaining thereto as a type of
collateral.
 Follow Modern Rule  Reward a diligent creditor (gave constructive notice to 3rd parties)
o Public Policy considerations:
 Under the old rule, a judgment creditor can perfect its interest at any time by
properly serving a writ of garnishment, while a mortgagee is prohibited from
taking the requisite “additional action” to perfect until the debtor has defaulted
Notes after Case:
 Absolute Assignment – mortgagee obtains a present title to the rents even though the assignment itself
postpones the right to collect until the mortgagor defaults

PROBLEM 3 – PREMISES LIABILITY - MTG’EE IN POSSESSION

Restatement – a mortgagee who properly acquires “mortgagee in possession” status is held accountable
for that possession to third parties.
Rule: collect of rents alone is not sufficient; must exercise dominion & control over the property
Liability Factors
 Actual Possession = Critical inquiry in premises liability cases
 Standard of Reasonable Diligence - In general, held to the standard of the provident owner to
use reasonable diligence to keep the property in a good state of repair
 Possessor of Land - Determinative factor is whether the defendant actually possesses the
premises. A possessor of land is a person who is in occupation of the land with intent to control
it or; person who has been in occupation of land with intent to control it, if no other person has
subsequently occupied it with intent to control it, or; person who is entitled to immediate
occupation of the land, if no other person is in possession under clauses (a) and (b)
 Indicia of Mortgagee’s Possession w/Apt Buildings - Leasing; Making repairs,
receiving/responding to tenant complaints, and paying bills; Making management decisions

Coleman v. Hoffman – Hunter & Hoffman could be held liable under premises liability claim (as
mtg’ees in possession) but OCI could not. Collecting rents alone is not enough to be a mtg’ee in
possession.
● Facts: Child is injured by a bad railing in apartment complex, Coleman sues everyone on the theory of
premise liability. OCI (brokers) gave loan to the owners (Brown and Clem) of the apartment complex which
was secured by a DOT carrying an assignment of rents provision. Anderson Hunter funded the loan. Hunter
then commences foreclosure proceedings on owners and tells OCI to collect and forward rents. Before the
child’s injury, Hunter hired Hoffman to make repairs and manage the complex. At foreclosure sale, Hoffman
 18
bought the complex (3 months after accident). Mom sues Hunter, Hoffman and OCI on premises liability
theory.
○ Brown & Clem → Anderson & OCI
■ OCI – Collects payments (rent), services DOT
■ Hunter Anderson – Provides funding for loan & B&C executes N + DOT
● WA: Follows lien theory
● Liability: AH& H liable; OCI not
○ AH → collects rents, pays utilities, repairs, hiring decisions
○ Hoffman → made repairs, fired apartment manager
○ OCI → collecting rents is not enough to constitute possession of premises; No premise liability, just
mortgage liability

RECEIVERSHIPS
Equitable Receivership  Judicial appointment of 3rd party to take possession of the property, make
repairs and collect rents  Mortgagee does not take possession- avoids tort liability from mortgagee in
possession
● Lien Theory state: Title to property remains in mortgagor. Receivership is more important
because the mortgagee cannot use ejectment to obtain possession for the mortgagee
○ May be preferable to assignment of rent provision
○ Receiver can take possession and establish cash flow

Most common rule: insolvency of the mortgagor and inadequacy of the security are not enough to justify
the receivership. Rather, there must be shown some additional, distinct, equitable ground  such as danger
of loss, waste, destruction, or serious impairment of the property, to warrant the appointment.

Restatement rule: a mortgagee is entitled to the appointment of a receiver if: (1) the mortgagor is in
default under the mortgage; (2) the value of the real estate is inadequate to satisfy the mortgage obligation;
and (3) the mortgagor is committing waste (Under Restatement, waste includes the failure to pay real estate
taxes, failure to pay insurance premiums, etc.; In other states, waste includes affirmative physical
destruction or failure to repair).

Dart v. Western Savings & Loan Association (AZ) – It was not proper to appoint a receiver.
Default not enough for appointment of receiver  need inadequate security + waste
● Facts: Present FMV = 500,000 – 800,000; 1st Mortgage = Union → Western (balance = 244,478); 2nd
Mortgage = Union → Inland (balance = 55,000); So, Present FMV > Present Combined Debt (299,478). Dart
takes over possession of trailer park when Union gets caught embezzling funds, and Dart defaults on both
mortgages, even though it is receiving 5,000/month from rents. Both mortgages contain clauses for
appointments of receivers. Dart is a good management company, but defaults on both mortgages, even
though it is receiving 5,000/month from rents.
● Both m contain clauses for appointments of receivers but court says that Western and Inland cannot
write a contract that forces the court to use its equitable powers when it is not appropriate
● Rule - Mortgagee’s right to a receiver only arises is there is “something more” than just mere
 19
default  also need inadequate security or waste.
● Here, security was adequate -> property’s appraised FMV exceeded the debt.
● Also, there was no waste -> Dart’s took it upon themselves to fix the place up.

Trustco Bank v. Eakin (NY) – Eakins had the responsibility of giving funds to the receiver because
Eakins’ title & right to possession continued until its equity of redemption was extinguished at
foreclosure sale. The damages occurred prior to the sale. Deficiency judgment awarded to bank.
● Facts: D (the Eakins) bought 2 apartment buildings. Executed M on premises with P (Trustco) for $157,000
and then defaulted. A foreclosure action began and the court appointed a receiver of rents who was
responsible to protect and preserve the mortgaged premises. D’s refused the receivers request for additional
funds to further secure the property. The total amount of rents D gave receiver was $85. Receiver wrote letter
to P explaining what D was doing and P declined to provide any funds to preserve the property. Premises
was sold by P and P sued D for the deficiency.
● Trustco sues Eakins for the deficiency from the sale = 175,000 (debt w/int.) – 75,000 (sale
price)= 100,000 (deficiency)  NY RULE FOR DEFICIENCY JUDGMENT
○ Eakin’s Response - Not at fault, since property was in foreclosure, so bank had
responsibility to fund receiver
● Court Holding = Eakin had Right of Redemption  Eakin Most Liable. Eakin still had a right of
redemption during foreclosure period. Therefore, Eakin had most to lose if property was harmed.
Eakin was the most liable party if waste occurred because no funds were provided to receiver.

Post -Case Notes - Deficiency Judgment- New York Rule vs. Standard Rule
● NY (FMV Limitation): Amount Owed on Loan (–) [greater of either: (a) foreclosure sales price or
(b) FMV]
○ Policy Note - This approach avoids a potential windfall from purchaser bidding less than
FMV and reselling
● Standard: Amount owed on loan (–) foreclosure sales price
● Restatement adopts New York Approach

TORT OF WASTE

Definition - The unreasonable conduct by the owner of a possessory estate that results in physical damage
to the real estate and substantial diminution in the value of the estates in which others have an interest
 Species of Tort  Theory = Impairment of the security

Waste Doctrine - permits a mortgagee to maintain an action for waste against a non-assuming grantee of a
mortgagor.

Prudential Insurance Company of America v. Spencer’s Kenosha Bowl – Spencer’s, even

though non-assuming grantee, can be held liable for the waste committed to the property.
 Facts: Spencer’s purchased property from Delco but did not assume the mortgage. Prudential subsequently
foreclosed on the property and it sold for less than FMV. Prudential sued Spencer’s for waste (b/c they
 20
couldn’t sue for deficiency because Spencer’s didn’t assume the mortgage).  Debt at Foreclosure Sale =
994,497; Sale Price at Foreclosure = 635,000
o Delco → Prudential (N + M)
o Spencer purchases from Delco (Spencer’s did not assume Delco’s debt)
● Court concludes that the waste doctrine permits a mortgagee to maintain an action for waste
against a non-assuming grantee of a mortgagor.
● Here, S had possession and committed acts which resulted in a substantial diminution in
value of property… furthermore, P had an interest in the property -> therefore, all of the essential
ingredients for a waste cause of action are met.
● Waste Total Exceeds Debt Less Sales Price Amount, so the Court lowers the waste damage
award to equal the debt less sales price amount  Amount actually equaled what a typical
deficiency judgment amount would be.
● Use this calculation because the bank’s security interest is damaged… you don’t look at the
damage to the actual property -> look at the damage to what the bank actually owns (which is the
security interest)

Other Remedies for Waste

1. Injunction
2. Mortgage foreclosure

CHAPTER 5. TRANSFER AND DISCHARGE

TRANSFER OF THE MORTGAGOR’S INTEREST

Take Over Existing Loan  Purchaser can “take over” an existing m loan on the property. Title of the
land is transferred to the purchaser, but the existing mortgage is not paid off or satisfied (remains on the
land). Purchaser is usually given credit toward purchase price in an amount equal to the outstanding
balance of the loan being taken over; may pay the remainder in cash or finance the remaining.

METHODS WHEN TAKING OVER EXISTING MORTGAGE  Assumption vs. Subject To

 A transfer is always “subject to” the m; there may also be an assumption
 Assumption = an express promise by the purchaser to make payments and perform covenants in
the note and mortgage  Does not need to be in writing; Does not need separate consideration

Mortgagor’s 3 Avenues for Recovery against Grantee who assumed  If the grantee assumed – the
mortgagor who pays the debt has three avenues to proceed against the grantee:
 Subrogation – if the mortgagee has already foreclosed, and then seeks and recovers a deficiency
judgment from the mortgagor, the latter is entitled to subrogation to the mortgagee’s right to collect
from the grantee. Only available upon payment in full. No subrogation of partial payment
 21
 Reimbursement – if mortgagor pays the mortgage obligation in whole or in part when it due or
delinquent, or she is entitled to reimbursement from the grantee provided that the latter assumed the
mortgage obligation. Full payment not necessary
 Exoneration – if the assuming grantee does not pay the mortgage, mortgagor may obtain a court
ordering requiring them to pay. Specific performance of the assumption agreement.

SUBJECT-TO MORTGAGES

Middleton v. Hancock – Hancock did not assume; so no personal liability.

● Facts: P owned plaza and sold plaza to D. K had a provision that said D “takes over” payments on the loan to
Equity Bank. Deed said the land was subject to a mtg. D missed payments and Bank called P to pay. P was
still personally liable b/c he wasn’t released from the mtg. P brought payments current and sued D.
○ Mid → Equ: N = 1.7mil & M
○ Han → Mid (In exchange for Title & Equity): Current Debt on Property = 1.39mil. “I agree to take
over Note payments” + 710,000 cash to Seller (Language above falls short of “I promise to pay,”
and therefore it is not an assumption).
● Situation: Hancock Stops Making Payments after learning that Middleton has not been released from liability
on the note. Bank threatens to accelerate. Middleton pays off balance on mortgage. M files for
reimbursement from Hancock.
● Court’s response to Middleton when he tries for Reimbursement:
○ Express promise to pay is required for an Assumption to have taken place.  Does not
need to be in writing; does not need separate consideration.
○ BUT “I agree to take over” is not an express promise to pay, creating an assumption
○ Therefore, Hancock is a non-assuming GE and a non-assuming grantee has no personal
liability. Should have expressly asked H to assume or H to take out another mortgage.
● No exoneration or subrogation either
o No exoneration because no assumption
o No subrogation  because Middleton did not pay the whole debt.
● Middleton = out of luck  should have insisted on assumption from Hancock.

Suretyship Relationship w/Recourse Note

● Surety = If Recourse Note, the (mortgagor) is still liable for any default
● If GE assumes the mortgage
○ GE is the Principal (primarily liable)
○ Mortgagee can go after Mortgagor or GE
● If GE simply takes subject to
○ The Real Estate is the Principal (primarily liable)
○ If foreclosure sale does not cover, Mortgagee can go after Mortgagor

SURETY

Surety  when an owner of mortgaged real property sells without paying off and retiring the mortgage,
the mortgage continues to encumber the property’s title in the hands of the purchaser. At the same time, the
 22
original mortgagor remains personally liable on the mortgage debt to the same extent that he or she
was liable. The original owner’s liability is surety.
 Think of a parent co-signing child’s car loan  promise to pay the debt
 Definition of Surety: a person who takes responsibility for another's performance of an
undertaking, for example their appearing in court or the payment of a debt.

Example of a Suretyship: MTGOR gets loan from MTGEE. MTGR transfers to GRANTEE and
GRANTEE assumes. This is fine. If then the GRANTEE goes to the MORTGAGEE to modify without the
MTGORs consent (the mtgor is a surety), and it impairs the surety’s position, the MTGOR is discharged.

First Federal v. Arena’s – Arenas (mortgagors) were released; they had not consented to a change
in interest rates. The grantee & First Federal could not modify the original mortgagors’ agreement
w/o the mortgagors’ consent.
● Facts: Ds executed a note, mtg, and supplemental agreement with P. Then, Ds executed a modification and
extension agreement with P. Later, Ds conveyed the real estate which was the subject of both mtgs to
Richardson. The same day, without consent or notice to the Arenas, Richardson entered into a modification
and extension agreement under which Richardson assumed both mtgs. Richardson defaults, and P tries to go
after Arenas. Subject of this dispute was the reservation of rights clause.
● Issue - Whether the scope of the reservation of rights clause found in paragraph 6 included altering or
modifying the interest rate? It did not.
○ FF argues – did not need consent of Arenas because of the Reservation of Rights clause – that
allowed the mortgagee to deal directly with successors in interest.
○ Arenas argue – the reservation of rights clause made no reference to alternation / modification of the
interest rate; just referred to an extension of time for payment or the decision to forebear or sue
● Reservation of Rights Clause
○ That in the event the ownership of said property or any part thereof becomes vested in a
person other than the Mortgagor, the Mortgagee may, without notice to the Mortgagor, deal
with such successor or successors in interest with reference to this mortgage and the debt
hereby secured in the same manner as with the Mortgagor, and;
■ may forbear to sue, or
■ may extend time for payment of the debt, secured hereby
○ without discharging or in any way affecting the liability of the Mortgagor hereunder or upon
the debt hereby secured
● Court - The only modifications FF could make with Richardson’s were those two. By modifying
the interest rate, they violated this clause and discharged the Arena’s.
● Discharged to the extent of $160K; still liable for $40K.

**Traditional & Restatement Approach to “Arena’s” type situation

● Traditional Approach when mortgagee acts like First Federal
○ After a ‘subject to’ transfer, increase in interest rate without the grantor’s consent discharges
the grantor to the extent of FMV
■ Surety-Principal Relationship - A surety is entitled to stand on the strict letter of
the contract upon which he is liable, therefore, any modification of that contract
 23
without his consent, releases him from all liability
● Restatement
○ Discharged to extent of harm to the surety
 24
TRANSFER OF THE MORTGAGEE’S INTEREST
Secondary Sale – one lender sells or assigns the note & mortgage to another lender (aka an “investor”)
2 Sets of rights that can be transferred
 (1) Right to Enforce  Right to sue on the note or (if applicable foreclosure requirements are met)
foreclose the mortgage that secures it. Mortgagor = the party most concerned with who is entitled to
enforce the note. Designed to protect the maker against having to pay twice or defend against
multiple claims on the note. If maker pays in full, it is discharged & m is extinguished.
 (2) Right to Ownership (or title)  Entitled to the note’s economic value. Owner of the note = the
person who can claim the payments – including regular installment payments, a voluntary payoff,
and the proceeds of a short sale or a foreclosure.
o 2 Ways to Transfer Ownership:
 (1) By a signed, written agreement – such as a K of sale or a written assignment
 (2) By delivering possession of the note to the buyer – provided that there is some
agreement indicating that ownership is to be transferred
o A sale of ownership rights in the n also automatically transfers the corresponding ownership
rights in a RE mortgage securing that n.

The holder of the negotiable instrument is entitled to enforce it. A holder is (1) one who possesses the
instruments; and (2) to whom the instrument is payable. Two types of endorsement: special & blank
(special identifies the person to whom it is payable).
 2-201(b)(21)(A)

Non-negotiable n transferred by assignment. If non-negotiable or not HDC, subject to personal/real

defenses.

UCC Article 9  Governs transfers of promissory notes (Instrument – 9-102(a)(47); Security Interest – 1-
201(b)(35) & 9-203(b))

§ 3-203. TRANSFER OF INSTRUMENT; RIGHTS ACQUIRED BY TRANSFER.

(a) An instrument is transferred when it is delivered by a person other than its issuer for the purpose of
giving to the person receiving delivery the right to enforce the instrument.

Analysis
First – must establish that the n is a negotiable instrument.
● § 3-104 Negotiable Instrument - Instrument is negotiable if signed by maker/drawer; contains an
unconditional promise to pay and no other promises, obligations, or additional undertakings;
payable on demand or at a definite time; payable to order (payee) or bearer
○ *n is not a negotiable instrument if taxes & insurance included (because not a fixed amount of
money)
 25
Next – is person entitled to enforce?
● § 3-201(a) Negotiation - means a transfer of possession, whether voluntary or involuntary, of
an instrument by a person other than issuer (buyer) to a person who thereby becomes its holder.
● § 3-301 - Person Entitled to Enforce Instrument:
○ (1) Holder of the Instrument
○ (2) Non-holder in Possession of Instrument who has rights of holder
○ (3) Person not in Possession entitled to enforce it under §3-309
■ UCC §3-309(a) - person not in possession of an instrument is entitled to enforce the
instrument if:
○ Person who has directly or indirectly acquired ownership of the instrument from
a person who was entitled to enforce it when the loss of possession occurred may
enforce the instrument
■ Transferee of lost instrument need only prove that transferor was entitled to enforce
at time it was lost
Third – Holder in Due Course?
● § 3-302 Holder in Due Course: Holder in due course takes the instrument for value, in good faith,
without notice of defense or claim against it
○ For Value - Elements for taking instrument for value – UCC 3-303  to the extent that the
agreed consideration has been performed or that he acquires a security interest in or a lien on
the instrument otherwise than by legal process; or when he takes the instrument in payment
of or as security for an antecedent claim against any person whether or not the claim is due.
○ Good Faith - Elements for taking instrument in Good Faith – UCC 3-302  Honesty, not
the exercise of due care; Depends on what the holder actually knew about the transaction in
question, and Constructive knowledge is insufficient to demonstrate a lack of good faith.
○ Without Notice of a Claim or Defense Against It - UCC 3-304  it has actual, subjective
knowledge of the defense.
● § 3-305 Right of Holder in Due Course - Takes the instrument free from
1. all claims to it by another and
2. all defenses of party to instrument w/ whom the holder has not dealt
● IF NON-HDC  § 3-306 Claims to an Instrument (handout)
○ Person taking an instrument other than person having rights of a holder in due course, is
subject to a claim of a property or possessory right in the instrument or its proceeds,
including right to rescind and recover the instrument or proceeds.
○ A person having rights of a holder in due course takes free of the claim to the instrument
Close-Connected Doctrine: HDC status is lost if the purchaser of a negotiable note is too closely
connected with the transferor; the purchaser is regarded as lacking good faith  brought up in Dupuis

WHO CAN ENFORCE NOTE?

Kemp v. Countrywide – Bank of NY cannot enforce the note. Never had possession + No proper
indorsement = Unenforceable
● Facts: Kemp goes into bankruptcy and Countrywide files claim behalf of Bank NY to enforce the note and
foreclose
 26
○ Kemp→ Countrywide (N+M): No indorsement; Allonge to Note was unsigned, pay to order of
Countrywide.
○ Pooling and Servicing Agreement
■ Countrywide- seller and loan servicer
■ CWABS, depositor → buys loans, pools, and transfers to Banks, etc. to sell to investors as
securities
○ CWABS → BNY (Kemp N+M in this pool): BNY is trustee for ABS certificates to be sold to
investors “all rights, title, interest and principal receivable”; Pooling Service agreement required
indorsement and transfer
○ MERS → Bank of NY (assigned mortgage): Countrywide did not transfer possession of note to
Bank
● Is Countrywide holder of the note to be able to enforce it? No.
● When a note is transferred, the status of “holder” depends on the negotiation of the instrument to the
transferee
○ Negotiation 3-201(b)
1. Transfer of possession to transferee
● BNY did not take possession during transfer - When CWABS transferred
the N’s rights in the ABS certificate pool, it did not transfer the actual N
● Non-holder in possession (UCC 3-309)- If BNY had possession, it would
have been able to enforce it as a non-holder in possession
○ (1) Holder  never had possession
○ (2) Nonholder in Possession  never had possession
○ (3) Non-holder not in possession  does not apply if you were
NEVER in possession; only if it lost, destroyed, or stolen
2. Indorsement by the holder
● N was never properly indorsed to BNY
● Valid Indorsement - Must be written on behalf of holder on the instrument
or on paper (Allonge) firmly affixed to the instrument. Pinned or clipped to
instrument nor sufficient
● Policy Behind Ruling: Actual Possession requirement protects debtors from multiple claims.
Maker of note must have certainty regarding who is entitled to enforce the note and whether person
demanding payments is a holder so as to not expose mortgagor to risk of double payment.
● *Under the revised version of 3-309, Bank of NY would have won.

Ocwen Loan Servicing v. Kroening – Ocwen entitled to enforce. MERS had the authority to
assign the right to foreclose to Ocwen.
● Facts: Kroening executed a note and mortgage to TBW. MERS was the mortgagee and nominee for
the lender. MERS assigned Kroening note and mortgage to Ocwen. Ocwen acquired all of TBW’s
interest in the Kroening property pursuant to the mortgage. Assignment- “all its rights, title, and
interest in and to a certain mortgage.” Ocwen suing to foreclose.
● Illinois Law - Clear language of mortgage grants assignee the same rights as the mortgagee,
giving assignee the power to step into mortgagee’s shoes.
1. Clear language unambiguously grants MERS the power to assign the Mortgage and the Note
 27
2. In IL – A “holder” includes "any person designated or authorized to act on behalf of such
holder.”
■ MERS fits, above law description in this case because:
● Mortgage names MERS as the mortgagee, plus
● Grants it authority to act on behalf of the holder of the Note, which equals
● As a "nominee" original mortgagee, MERS had the power to assign the
Mortgage instrument to Ocwen.
● Ocwen has shown a valid K, ability to foreclose, and total amount due. Kroening has not put forth
any evidence.
● Ocwen would have been a holder and would have been entitled to enforce the instrument under
UCC analysis as well.
● Difference from Kemp
1. Law in state does not require actual possession. Assignee of rights, agent = MERS, has
authority to assign all the rights of TBW to Ocwen.
2. Ocwen produced a copy of the note endorsed in blank. Signed affidavit.
3. Unlike Kemp- Kroening note has a blank endorsement (payable to bearer)

US Bank v. Burns – Burns loses. US Bank was the holder of the note, and thereby the deed of
trust. US Bank was entitled to enforce the deed of trust.
 Facts: Jeana Burns obtained title to Property through a WD (recorded); Daryl Burns waived any right to the
property (recorded). Jeana executed a note in favor of Aegis in the amount of $496,300. Attached to the note
was a DOT executed in favor of Aegis. DOT listed MERS as the beneficiary; stated that MERS was the
nominee for Aegis. DOT contained an incorrect legal description of the property. Daryl executed a second
waiver – which also contained the incorrect description of the property. MERS executed an Assignment –
assigning all rights, title, & interest in the Deed of Trust, together with any & all notes and obligations – to
US Bank, as Indenture Trustee for the Aegis Asset-backed Securities Trust. US Bank filed suit to reform to
have correct legal description.
 In Missouri – a deed of trust securing a negotiable note passes with it. A party entitled to enforce
the note is also entitled to enforce the deed of trust securing that note.
o Therefore, the court looks at whether U.S. could enforce the note
 Endorsed  Both copies of the note contain endorsements – one specially to US Bank on the
attached allonge, and one in blank on the note itself. The note was payable “to order of Lender.”
The note identifies Aegis as the Lender (Aegis = og holder of the note). US Bank submitted a copy
of the note showing a special endorsement by Aegis to Aegis Mortgage Corp. There is also a blank
endorsement by Aegis.
o Therefore, either way US Bank is entitled to enforce the note and the DOT
 US Bank argued that the blank endorsement, plus possession, makes it the holder of the note.
Burns challenged validity of note submitted by US Bank.
 The documents submitted by both parties confirm that US bank is in possession of the note.

BOA v. Alvardo – Bank of America is entitled to enforce the Note obligation of Alvarado. Even
though Note was lost, it would be unjust enrichment to forgive homeowner’s debt and not allow
foreclosure.
 28
 Facts: Alvarado executed a Note & Mortgage with Washington Mutual Bank in the amount of $292,000,
secured by property. Washington Mutual sold the Note & Mortgage to WaMu Asset Acceptance Corp. –
which was the depositer under a Pooling and Servicing Agreement (PSA). Ownership of the notes and
mortgages was transferred to LaSalle Bank – as Trustee for the WaMu Mortgage Pass-Through Certificates
Series 2006 AR11 Trust. Bank of America is the successor trustee by merger with LaSalle Bank. Alvarado
defaulted on the loan on July 1, 2008. Bank of America claims the right to enforce the note obligation as
Successor Trustee to LaSalle Bank by merger.
 Problem - WaMu lost physical N before this sale. BOA has affidavit from WaMu about losing n.
● Issue - Can the right to enforce a lost note be assigned or transferred? Yes. Unjust enrichment.
● Public Policy - Someone needs to be able to enforce N or be able to release it
● 3-301 Entitled to Enforce  Person not in Possession entitled to enforce it under §3-309
● UCC §3-309  Person who has directly or indirectly acquired ownership of the instrument from a
person who was entitled to enforce it when the loss of possession occurred may enforce the
instrument  Transferee of lost instrument need only prove that transferor was entitled to
enforce at time it was lost
● However, this N was lost before the assignment occurred and the transferee who assigned it
to BOA never had possession.
● Article 3, which covers negotiable instruments, is silent on the issue of assignability of rights under
a promissory note that has been lost  § 1-103 Gateway to the Common Law- The Code does not
displace the CL
■ Doctrine of Assignment - Assignee of rights under Note entitled to enforce it
○ Court doesn’t have to worry about it because there was unjust enrichment
■ Unjust Enrichment - to preclude enforcement by transferee, whose predecessor paid to
acquire rights, would unjustly enrich mortgagor
○ Alvarado would be unjustly enriched if BOA could not enforce

In re Bass – The stamp was an indorsement that transferred the n from Mortgage Lenders to
Emax.
 Facts: Bass executed a mortgage loan with Mortgage Lenders Network USA. MLN sold the loan to Emax
Financial Group. There were 2 additional secondary market transfers. Bass defaulted. Holder of the note (US
Bank) commenced foreclosure proceedings. The borrower contested the validity of the transfer of the loan on
the ground that the note was not properly endorsed because the endorsement lacked a valid signature.
 Indorsement for Transfer  Each transfer requires indorsement (unless person qualifies as non-
holder or can provide a lost note affidavit). The UCC does not require long-form writing of a name;
a complete signature is not necessary; a symbol may suffice (based on intent/circumstances).
o Here – the stamp indicates on its face an intent to transfer the debt from Mortgage Lenders
to Emax.
 UCC presumes signature is authentic and authorized, absent evidence to the contrary.

HOLDER IN DUE COURSE

Boyce v. Amerihome & Planetary – Planetary Bank (trustee) is a holder in due course & is not
subject to the Boyce’s defense of Fraud; PB may proceed to foreclose. Court does not like the result
 29
under the HDC doctrine; but the doctrine is statutory & it is not for the courts to change/question it.
 Facts: Borrowers claim that they were defrauded in their obtaining of a mortgage loan to purchase their
house. Issue with the treasury rate and adjustment dates.
 Boyces have asserted a claim for fraud  Fraud elements: (1) the D made a false representation to the P;
(2) the falsity of the representation was made with reckless indifference to its truth; (3) the misrepresentation
was made for the purpose of defrauding the plaintiff; (4) the plaintiff relied on the misrepresentation and had
the right to rely on it; and (5) the P suffered compensable injury as a result of the misrepresentation.
 HDC immunity from personal defenses  the right of a HDC is entitled to enforce the obligation
of a party to pay the instrument is subject to real defenses, but is not subject to personal defenses
or claims in recoupment stated in subsection (a)(3) against a person other than the holder.
o §3-305(a)(1) lists real defenses: infancy, duress, lack of capacity, illegality, certain types of
fraud, and discharge in insolvency proceedings.
 Fraud in the execution: fraud that induced the obligor to sign the instrument with
neither knowledge nor reasonable opportunity to learn of its character or its essential
terms  real defense
o The personal defenses are not listed in the code but consist essentially of all defenses except
the real ones (Ex: lack of consideration, accord and satisfaction, mutual mistake, etc.)
 Fraud in the inducement: signer knows or can readily find out the nature and terms
of the document, but is induced to enter into it by the other party’s false
representations.  personal defense
 Boyces cannot assert their fraud claim against AmeriHome because it is a personal defense.
AmeriHome is protected by HDC doctrine (because it is servicer of loan for PB; and Planetary Bank is
the holder in due course.
o This = fraud in the inducement  they could have read the terms of the n; they are relatively young,
college-educated, speak English, fully competent

**Note on Non-Judicial Foreclosure

 Securing document is DOT – foreclosure is handled by trustee named in DOT.
 Highly popular among lenders – cheaper and quicker than judicial proceedings.
 Here, a party entitled to enforce the note is also entitled to enforce the DOT securing the note.
 Courts of 8 states, however, have construed their nonjudicial foreclosure statutes as not requiring any proof,
evidence, or even allegation that the foreclosing party has the right to enforce the note.
 Foreclosure without going to court -> power of sale foreclosure -> not permitted in CT

DISCHARGE OF DEBT & M – BY PAYMENT OR OTHERWISE

Prepayment
 CL rule: A mortgagee has a right to refuse an early tender or prepayment of principal or interest.
o Mortgagees sometimes include lockout provisions that specifically prohibit prepayment for a fixed
period of time, or even for the entire life of the loan.
 Restatement rejects the CL rule, providing instead that in the absence of an agreement restricting
or prohibiting payment of the mortgage obligation prior to maturity, the mortgagor has a right to
make such payment in whole or in part.
 30

Rule: A court will refuse to enforce a prepayment only if it “shocks the conscience,” and fees that are
shocking enough are so rare.

Lopresti v. Wells Fargo – No violation of Prepayment law; no violation of Consumer Fraud.

 Facts: Body Max (Lopresti = president of Body Max) executed n & m to First Union - $550,000 loan. First
Union advanced the full $550,000 in loan proceeds to Body Max. Lopresti signed a personal guarantee and
executed a mortgage covering his primary residence. Body Max transferred the funds to TD Bank to pay off
a prior loan. A few years later – Body Max modified the terms of its original n with Wachovia Bank (First
Union’s successor and Wells Fargo’s immediate predecessor) – Modified n also had a prepayment provision,
which would compensate Wachovia for an early payoff based on a “Breakage Fee” formula. In 2010 – Body
Max attempted to refinance the original loan as modified by the 2005 loan – in order to obtain a lower
interest rate / reduce prepayment fees on the loan; Wachovia denied this request. Instead, Body Max obtained
refinancing from TD Bank – requested a payoff amount for the balance of the loan from Wachovia. TD Bank
transferred the total payoff amount of $416,838.78 directly to Wells Fargo  $48,306.41 = prepayment fees.
BM/L challenges pre-payment fee.
 Prepayment Law – Law prohibits the charging of a prepayment fee on a mortgage loan; BUT
applies to Individual Consumers, not commercial mortgagors. Body Max was the actual borrower
& mortgagor under the Wells Fargo loan. Due to its corporate status, the Prepayment Law does
not apply.
 Prepayment fee was reasonable. Bank increased interest from 1% to over 13% to protect its
investment. Here – loan involved sophisticated parties; prepayment terms were clearly spelled out;
breakage fee was a carefully constructed formula to protect investment in case interest rates fell
prior to termination date. Presume reasonable.

WestMark Commercial Mortgage Fund v. Teenform Associates - liquidated

damages clause is presumptively reasonable in a commercial setting between 2 sophisticated
parties.

 facts: 7/28/99 Teenform executed promissory note to Westmark for sum of $3,145,000.00. Note
carried interest rate of 8% and monthly payments were $23,076.90 for period of 5 yrs at which
point balance was due in full. Teenform secured obligation with mtgs on 3 parcels of commercial
property. Teenform fell behind in payments less than a yr later and Westmark filed complaint for
foreclosure. Foreclosure was granted and Teenform appealed the liquidated damages clause that
stated: (1) late charge of 6% of overdue amount and (2) default interest on full unpaid debt of Note
Rate + 2%.
 Two prong test for reasonableness of LD:
o (1) General and reasonable
o (2) The damages should be difficult to ascertain
1. if the court thinks it is too much it will be labeled a penalty (the purpose of contract
law is about restitution, not punishment)
 Courts:

o the liquidated damages clause in a commercial context between sophisticated parties are
presumptively reasonable.
o looks at the totality of the circumstances in order to determine if the clause is reasonable.
o this includes looking at what is permitted by statute and what constitutes common practice
within the industry
 31
o Defendant failed to meet its burden of proof. Default interest rate was reasonable.
 Westmark illustrates, both late fees and default interest are subject to attack on the ground that
they represent attempts to liquidate damages, but fail the test that requires such liquidation clauses
to represent a reasonable advance estimate of the probable actual damages.
 What amount of late charge is excessive? Courts routinely uphold late fees up to 5% or 6% of
the missed installment. (Note: these fees are based on the installment, not the outstanding
principal balance of the loan -- here, even a small % can produce a very large fee.)
 In Metlife, the default interest rate was 12.55%, 3% higher than the contract rate -- Court said this
was a reasonable estimate.

LOSS MITIGATION
MERGER, DEED - IN LIEU OF FORECLOSURE
Deed In Lieu of Foreclosure - When foreclosure is impending, the borrower may offer to deed the
property to the lender, and the lender often will accept the deed for both commercial and residential
mortgages.
 Does not eliminate junior liens. Therefore, a mortgagee that is considering accepting a deed in lieu
should have the title examined to determine whether junior interests exist. If they do, the lender
normally should foreclose.
 Reasons its attractive:
o Avoid the delay and expenses associate w/foreclosure
o Sometimes the mortgagor can persuade the mortgagee who accepts a deed in lieu not to take
action to impair the mortgagor’s credit rating.
 A mortgagee frequently will accept a deed in lieu only if it also gets (1) a property appraisal and (2)
the mortgagor’s affidavit.

Merger Doctrine - When a mortgagee’s interest and a fee title (deed) coincide in the same person, the
mortgage (lesser) merges into the fee title (greater) and is extinguished.
 Merger depends on the intent of the parties (party whom the interests unite). Will not be intended if
against the best interest of that party.
 Can be used as either a defense to the mortgage debt or as argument that the mortgage no longer
exists
 A challenge based on the merger doctrine can be prevented by including a statement in the deed that
the mortgagee does not intend the mtg to merge into the fee title.
 Merger of Rights (Extinguishment): Addresses the narrow question of whether the mortgagor’s
personal liability on the senior debt has been discharged. The senior lien is merged into – or
extinguished by – the title acquired by the lienholder when he acquires the mortgagor’s equity of
redemption under a sale on the junior lien. Primary issue = whether the lender would be unjustly
enriched if he were permitted to enforce the debt.
 Merger of Estates: Generally, when one person obtains both a greater and a lesser interest in the
same property, and no intermediate interest exists in another person, a merger occurs and the lesser
interest is extinguished.
o When the same person owns everything.
 The Merger Doctrine Prevents Unjust Enrichment - Prevents mortgagee from acquiring property
worth value of both mortgages and then collect on senior debt
 32
Mid Kansas v. Dynamic - Merger Doctrine applies. Mid Kansas would be unjustly enriched if it
got the property and sued Dynamic for another $400,000. Merger Doctrine prevents Midstate from
holding Dynamic liable on first n.
● Facts: Lender held notes secured by 1st and 2nd deeds of trust on property. Lender foreclosed on second
mortgage deed of trust and acquired title to the land at the trustee sale. Lender brought actions for balance
due on the 1st DOT.
● Issue: May the lender recover on the balance of the 1st DOT after it has acquired title to the
property at the foreclosure sale of the 2nd DOT? No.
● Merger of Estates (Extinguishment)  When one obtains both senior and junior interest and no
intermediate interest exists in another, junior interest is merged into the senior and extinguished 
Junior mortgage merger into the senior when lienholder acquires mortgagor’s equity of redemption
● Court says this is not the question before it, however… the question is whether Mid
Kansas’s rights under the first lien were affected when it acquired title by foreclosure on its second
lien.
● Merger of Rights  When mortgagee holds both liens and acquires land at foreclosure of junior
mortgage, typically senior lien is extinguished and debt is discharged.  Foreclosure of senior lien
will not extinguish junior lien however.
● The basis of the merger of rights doctrine is that the purchaser at a foreclosure sale of a
junior lien takes subject to all senior liens… and the purchaser is presumed to have deducted the
amount of the senior liens from the amount he bids for the land.
● This is the relevant theory
● Merger Doctrine Applies -> Mid Kansas would be unjustly enriched were it allowed to acquire the
$500,000 property for $100,000 and also sue Dynamic for another $400,000 under the first notes.
○ FMV of total property at Foreclosure Sale - $555,750 - $608,000
○ Sum of Junior and Senior Loan - $527,236.67
○ Mid-Kansas Purchase Price at Foreclosure Sale - $101,986.67
○ Shows price was discounted by the amount of the senior liens

Post-Case Notes - Exceptions to Merger Doctrine:

1. Intent of the Parties - express agreement that no merger shall occur will often preclude finding of
merger
2. Inequitable result - merger does not occur and lien stays where mortgagee paid full value for
property, w/o deducting senior debt  i.e. if FMV is much less than the note

Restatement: takes the position that the merger doctrine does not apply to mortgages or affect the
enforceability of a mortgage obligation.

LOAN MODIFICATION
Home Affordable Modification Program (HAMP) creates the national servicing standards and provides
financial incentives for loan modifications.
 HAMP implemented to help homeowners avoid foreclosure amidst sharp decline in the housing market in 2008
 33
Wigod v. Wells Fargo – Breach of contract claim is met, promissory estoppel is met, claim made
for fraudulent misrepresentation, no fraudulent concealment here, no negligent misrepresentation
claim here, ICFA violation.
 Facts: P had a federal home affordable mortgage program where she entered into a 4 month trial loan
modification, under which it agreed to permanently modify the loan if she qualified under HAMP guidelines.
D found her ineligible after the trial period due to miscalculation of property taxes. P files class action
alleging several things, but court only discusses breach of contract claims and fraud claims.
 Issues/Held
o Whether Wigod has stated claims under IL law against her home m servicer for refusing to
modify her loan pursuant to the federal Home Affordable Mortgage Program? Yes – for
breach of K, promissory estoppel, fraudulent misrepresentation, ICFA violation.
 No – for negligent hiring or supervision and negligent misrepresentation or
concealment.
o Whether the state law claims are preempted by federal law? No.

SHORT SALES
Short Sale - Property worth less than the debt owed; borrowers try to convince the mortgagee and other
lienors to release their liens in exchange for the sale proceeds, though the proceeds are insufficient to pay
the secured debts in full  aka pre-foreclosure sales
 Advantages
o Usually sells for more than at foreclosure sale (marketed by RE agent, unlike foreclosure)
o Safer for purchaser – can inspect the property first (unlike foreclosure)
o Occurs more quickly – 60-90 days (over a year for most foreclosures)
o Less expensive for lenders
o Borrowers avoid the embarrassment/stigma of foreclosure & credit rating may not be as
adversely affected
 Concerns/Roadblocks
o Getting every lienor to release lien
o Borrower may be liable for deficiency after short sale

Espinoza v. Bank of America – No declaratory relief for (P). Still liable for underlying debt.
 Facts: P bought property with 2 mortgages. By the end of 2007, Ps property was secured by two other DOT
(first 2 mortgages paid off). There was a short sale, and BOA and Wash Mut both approved. BOA released
its lien but Washington Mutual didn’t. D (BOA) sent a collection letter to P (Espinoza) for the balance. TC
found for D.
 No declaratory relief under Section 580(d)  Section 580d does not apply; it only applies to protect
a debtor from a deficiency judgment after a foreclosure sale; there was no foreclosure sale here.
o Section 580d prevents a lender from obtaining a personal judgment against a debtor after a
foreclosure.
 No declaratory relief under Section 580(e)  Section 580e applies only to short sales occurring
after the statute was enacted; here, the parties negotiated the terms of the short sale, & the short
sale occurred before the statute was enacted.
 34
o Section 580e prevent a lender that consent to a short sale from pursuing the post-sale
deficiency.
 CA has anti-deficiency statutes for short sales.
CH. 6. FORECLOSURES
ACCELERATION & MARSHALING
ACCELERATION
 Graf - Strict Approach: Mortgagor will not be relieved from acceleration clause for default
occurring by his negligence, mistake or accident -- in the absence fraud, bad faith, or mortgagee
unconscionable conduct
 Taylor - Balancing Approach: Courts have equitable power to relieve mortgagor for inadvertent
default in payment where acceleration produce extreme hardship. Balance “gravity of the fault
against gravity of the hardship.”

Graf v. Hope Bldg. Corp – Find for Graf; entitled to acceleration. No court will interfere with
obligation to pay debt in full under acceleration clause where default results from mortgagor’s
negligence.
● Facts: Graf owned 2 consolidated mortgages securing a single lien on property. Defendant (Hope) holds title.
Acceleration clause provided- “the whole shall become due after default for 20 days.” Herstein is the
President and treasurer of D and was authorized to sign checks on company’s behalf. Secretary made a math
error in calculating mortgage payment. Sent mortgagee notice of the mistake and balance ($401.87) would
be paid when president gets back. Secretary forgets and 21 days later Graf accelerates balance and initiates
foreclosure. Graf refuses payment of deficiency and insist on full payment.
○ Mortgage -> Principle of $335,000, payable in quarter annual installments of
$1,500, beginning April 1, 1925, and continuing until January 1, 1935, when there is to be payment
of the residue ($276,500). Interest is 5.75%, payable quarter annually with the principle
● Negligence is no defense  No court will interfere with obligation to pay debt in full under
acceleration clause where default results from mortgagor’s negligence.
○ Rationale - Absent fraud, bad faith, or unconscionable conduct, certainty of K and stability
of real estate transactions requires enforcement
● Enforcement of acceleration clause is not unconscionable here:
○ Covenant was clear and willingly consented to by both parties
○ Even after Mr. Herstein's return on July 5, two weeks remained before the expiration of the
twenty days.
○ The secretary's forgetfulness during this time is not sufficient excuse for a court of equity to
refuse the prosecution of an action based upon clear agreement.
● Acceleration clauses are neither a forfeiture nor a penalty  Hope still has equitable right of
redemption- pay off debt in full.
● Dissent – Cardozo  Unconscionable to require strict adherence where default is trifling balance,
failure to pay is product of mistake, and mortgagee through his conduct recognizes the mistake and
uses silence or inaction to take advantage of borrower’s mistake
 35
FHLMC v. Taylor – Inequitable & Unconscionable Exception – It would be unconscionable.
● Facts: FHA loan contained an acceleration clause - a deficiency in monthly payment if not cured before the
next payment triggers acceleration. Clause had a grace period of 15 days. If not paid, then late fee. If not paid
by the first of the next month, then acceleration. Taylor - active duty in Philippines - mail delivery took 7 –
18 days. Resulted in several months of payments that were 1 month behind. Lender sought to accelerate and
foreclose.
● Mortgage -> Greg Taylor is mortgagor, Federal Home Loan Mortgage Corp. is mortgagee. Principal
of $13,600 with 8.5% interest paid in monthly installments of $104.58.
● A court may refuse foreclosure when acceleration of debt would be inequitable, unjust result
and circumstances would render the acceleration unconscionable. Here -
■ Military service impairing ability to communicate,
■ Good faith effort on borrower’s part to stay current
■ His daughter was hospitalized in Texas, and he incurred financial hardship
■ The default was technical default, one month behind
● Unconscionable to precipitate the maturity of the entire balance of over $14,000, because of a
technical default of 1 month’s installment. Total evidence indicates a GF effort on the part of
the mortgagors to meet the mortgagee’s conditions of bringing the account current.

Notice of Intent & Tender

● Notice of intent to accelerate is required. Mortgagee must perform some affirmative, overt act
evidencing intent to use acceleration provision.
● If mortgagor tenders arrearages before acceleration = Mortgage is reinstated.
● If valid acceleration before = Acceptance of arrearages only reduces mortgage debt but not
defeat acceleration.
● Restatement Approach - Only full payment of the accelerated debt will satisfy valid acceleration.
Mortgage can only defeat acceleration when fraud defense or mortgagee waived its right to
accelerate
● Waiver or Estoppel- acceleration can be precluded by consistent pattern of mortgagee in accepting
late payments or reliance on oral assurances

MARSHALING
 Marshaling - Equitable doctrine that may dictate the order in which a mortgagee must foreclose
when the mortgage covers more than one parcel of land
 First rule of marshaling = “Two Funds Rule”  two items of collateral  try to avoid elimination
of jr. interests  Where one creditor has rights to several funds to satisfy his claim and another
lienholder has an interest in some but not all of those funds, junior may require the senior to satisfy
his debt from the fund to which he has an exclusive lien on first
 Second rule = Inverse Order of Alienation

Matter of Estate of Hansen – Court develops balancing test to satisfy Marshaling & Manner of
Sale statutes  Marshaling of the mortgaged property to protect jr. was proper.
● Facts: Hansen took out 1st mortgage with Bank of North Dakota for $53,000 covering both surface and
mineral rights. He then took out a 2nd mortgage with State Bank of Towner for $200,000 securing just
 36
surface. H defaulted on both mortgages and BND foreclosed. SBT requested that BND sought satisfaction
from mineral rights first. H wants the surface rights sold before the mineral rights. 2 conflicting statutes
giving each the right to do so.
● Marshaling “Two funds” rule  BND must foreclose on the mineral rights first, on which SBT
has no lien, before seeking satisfaction from the surface rights, so SBT’s interest does not get
extinguished
● Manner of Sale  Hansen may choose order of sale the surface/minerals rights and the order of
sale of the parcels
● Court Decision - Harmonize these statutes: (Balance between borrower and junior)
○ Step 1 - Junior’s Marshaling - Mineral rights must be sold first to protect junior
lienholder’s interest in recovering from shared funds
○ Step 2 - Hansen’ pick - Hansen may choose the order that the parcels are sold

JUDICIAL FORECLOSURE
Judicial Foreclosure - Available in every state; used exclusively or generally in 30% of the states. If the
mortgagee believes that the foreclosure sale will yield less than the debt and wishes to retain the option of
obtaining a deficiency judgment, judicial foreclosure is mandatory.

Strict Foreclosure - allowed in only a few jurisdictions usually with specific rules provided by statute,
typically lien exceeds FMV  some grant; some don’t; middle ground (1) GF & (2) jr. lienor knew of the
sale & permitted purchaser to buy

Lienholders - Because interest in property is subordinate to the senior, junior lienholder must be joined in
a foreclosure and lien will not be extinguished if not joined in the judicial sale. Senior lienholder interest
not affected or prejudiced by foreclosure of junior lease.

Treatment of Leases – If lease is senior to a mortgage, lease generally unaffected by a foreclosure.

Purchaser takes the mortgagor’s interest and becomes lessee’s landlord. If mortgage is senior to the lease,
foreclosure nullifies/ex lease.

Lack of notice of subordinate interest in mortgaged land does not excuse foreclosing party from making
junior lienholder a party to the suit

Limitation- Bona fide purchaser: purchaser at foreclosure sale who acquires title, paying value without
notice of unjoined interest takes free and clear of interest

OMITTED PARTY PROBLEM

Omitted Party Problem - When any party with a right to redeem is omitted from a foreclosure action, his
interest is not terminated by the action
● Omitted Owner  Retains title  Foreclosure sale is void as to his interest.
 37
○ Foreclosure purchaser remains assignee to mortgage and can re-foreclose on the omitted
owner
○ Omitted owner may avoid foreclosure by paying the mortgage debt to the purchaser
(exercise equity of redemption).
○ When he redeems, redeems entire land and cuts off purchaser’s interests in the land
● Omitted Lienor  When a junior lienor is omitted, his lien and his equity of redemption are
unaffected.
○ 2 Remedies:
■ Foreclosure- junior forecloses his interest, senior lien is revived, judicial sale will
convey original mortgagor’s interest but original mortgagee interest stays with buyer
at the first sale
■ Redemption- junior may tender to the buyer of the first foreclosure sale the balance
on the senior lien and receive an assignment of the senior lien- stepping into the
shoes of senior mortgagee but cannot get property
○ Unlikely Remedy - Junior entitled to surplus from senior’s foreclosure sale
● Rights of Foreclosure Purchaser
○ Methods available to the purchaser at the senior sale to protect her interests IF an omitted
junior lienor forecloses or exercises the equity of redemption:
○ Redemption
○ Re-foreclose the first mortgage (the proceeds of the sale will be used to pay off both liens in
the order of their priority)
○ Strict foreclosure (judicial decree that the jr. lien will be canceled unless the jr. pays off the
senior debt within a court specified time period)  only in some jurisdictions

STRICT FORECLOSURE & OMITTED LIENHOLDER

Strict Foreclosure: - refers to foreclosure of a mortgage without a sale of the mortgaged property, being
accomplished by a suit in equity and a decree rendered therein. It extinguishes the mortgagor's equity of
redemption. A decree for strict foreclosure calls for payment of the debt secured within a reasonable period
of time fixed by the court. Upon failure of the defendant or defendants to make such payment within the
time prescribed, all the right, title, and interest, both legal and equitable, of the defendant or defendants will
be vested absolutely and forever unconditionally in the plaintiff.

Restatement approach - Strict foreclosure available only where senior purchaser omission was a mistake
and FMV does not exceed amount of senior encumbrances

*Strict Foreclosure on the Omitted Lienor – Four Approaches

1. Automatically Available
2. Unavailable if Omitted Party is a Junior Lienor
3. Good Faith Case– Purchaser must establish that he bought in good faith, without knowledge of the
outstanding interest and that the holder knew of the sale
 38
4. Equitable Grounds for Relief – There must be equitable grounds for relief + require the omission
must be through inadvertence or mistake un-tinged by bad faith.
● Value of Property – If the value of the property is no more than what was purchased at
original foreclosure sale, presumption that it should be granted

Citicorp v. Pessin – Strict Foreclosure valid. Citicorp was not aware of the assignment to Pessin at
the time of its purchase. Pessin has 60 days to redeem property. (Equitable approach)
● Facts: Citicorp had 1st mortgage on property and Pessin was assigned 2nd mortgage. Citicorp foreclosed on
its first mortgage. Between the time when the foreclosure was drafted and the time in which it was filed,
Pessin was assigned the rights of the 2nd Mortgagee. Pessin is omitted from the sale, and Citigroup requests a
strict foreclosure.
● Mortgages -> Glen Holcombe executed a bond and mortgage to Citicorp for $123,000. On the same
date, Holcombe executed a 2nd mortgage to Rudy Grillo for $19,000. 2nd mortgage was expressly subordinate
to the 1st mortgage. 2nd mortgage was assigned to Pessin in consideration of payment of $10,500.
● Issue - What is the effect of failure to name junior lienholder in foreclosure action? In this case, jr.
lienholder has equitable remedy of redemption.
○ Court allows Citicorp to file strict foreclosure as purchaser in good faith
○ A complainant in a foreclosure action who purchases in good faith at the foreclosure sale is
entitled to file a complaint to force an outstanding junior lienor to redeem its mortgage or be
foreclosed of the equity of redemption.
○ Pessin has 60 days to redeem property at senior lien or have its equity of redemption
foreclosed.
○ Parties left in position would have been if no mistake

FORECLOSURE PURCHASER - RIGHT TO PAY OFF REMAINING LIENS

Portland Mortgage v. Creditors Protective Association – CPA had no right to redeem.

Payment to the county clerk discharged the judgment.
● Facts: Portland held 1st mortgage on Katherine and Byron Randol’s property. Creditors Protective
Association obtained a judgment lien against Randol subsequent in time and inferior to Portland’s
mortgage. Portland foreclosed on the property but did not join CPA and purchased property for its
for $6,214.72. Portland finds out about the judgment lien and filed suit, requesting that CPA be
forced to redeem from the sheriff’s sale. Court entered interlocutory decree reciting an entry of
default against CPA, providing that CPA has 60 days to redeem before final judgment is entered
barring CPA from any rights in the property. Half-hour before CPA set to redeem, Portland pays off
the judgment lien in full satisfaction of the judgment. Sheriff then denied application of CPA to
redeem. CPA filed a motion for an order requiring the sheriff to accept the offer of redemption. The
court denied the motion, and CPA appealed.
 39
● Court Tells CPA - An omitted junior lienholder from senior foreclosure sale, has a right of
redemption, and exercising that is an assignment of the senior mortgage. This right, however, was
available unless it was cut off by an act of the purchaser in paying the amount of the lien on the
property.
● The omitted junior lienholder is in the same position as if no foreclosure had ever taken
place, and he has the same rights, no more and no less, which he had before foreclosure suit was
commenced.
● Portland Paid Junior Lien  Discharged judgment, cutting off CPA’s right to redeem
● Rule of Case - The purchaser at the foreclosure sale stands in the shoes of the mortgagee and
mortgagor, and just like the mortgagor can pay off any remaining liens to free the property
from them.

Post-Case Notes - If CPA did redeem, Portland could have just handed money back and kept the property.

RIGHT OF REDEMPTION

Land Associates v. Becker – Bautista can exercise right of statutory redemption.

● Facts: Land Associates sold property to Becker through a land sales contract. Land Associates files for
foreclosure. 2 DOT & judgment against Becker went on record after the complaint was filed (not joined in
the foreclosure action; did not intervene). Becker conveyed his interest in the property by deed to E&B
Investors. LA bought at Sheriff’s sale, and assigned the certificate of sale to E&B and conveyed the property.
The three creditors assigned their interests to Bautista. Bautista served her notice of intent to redeem on LA
& E&B Investors. Sheriffs refused to proceed with the redemption bc he had already issued a deed to LA.
Bautista is trying to exercise her statutory right to redemption.
● Statutory Right of Redemption  After the property is foreclosed upon the defendant is allowed to
redeem the property within the statutory period of 60 days.
● Equitable Right vs. Statutory Right of Redemption
○ Equitable - Goes until it is foreclosed at sale  May pay off senior debt to take its rights
○ Statutory - Begins after the foreclosure  May redeem and get property by paying
foreclosure sale price
● Doctrine of Lis Pendens - If junior lienholder or mortgagee acquires interest in a property that is
subject to a foreclosure action, they take the interest subject to the foreclosure.  Bind Bautista’s
predecessors in interest by the foreclosure suit.
● The interests did not arise until after the suit because they were not named. Thus, their interests
were foreclosed along with those of the buyer & the lien creditors who were joined in the suit.
Because their interests were foreclosed, their statutory right of redemption then came into existence.
Bautista acquired these rights by assignment.
Distinction - Portland vs Land Associates
● Portland - Recorded interest on the property before foreclosure action began
○ Only entitled to Equitable Redemption as a result of the foreclosure
● Land Associates - Interest occurred after foreclosure action began
○ Entitled to the right of statutory redemption because their interest in the property did not
 40
arise until after the suit

**Redemption by omitted junior lienholder during statutory redemption

● Junior lienholder will attain fee simple title if redeemed within statutory period.
● Foreclosure Purchaser – Methods he can use to protect his interests when the omitted junior lienor
exercises one of the two remedies
1. Redemption – He can pay off the junior lienor (Same right as the original mortgagor). If the
junior lienor redeems the senior debt from the original sale purchaser, he can just pay off the
senior lien by returning the money he was just paid by the junior lienor. At this point he can
also add in money to pay off the amount of the junior lien as well
2. Re-Foreclosure – Stands in the shoes of the original mortgagee, and will include the junior
lienor in the sale. If the price at the sale lands between the amount he paid at first sale and
the total amount of both liens, he will have to pay the excess that is owed to the junior
lienor. Law treats first mortgage as continuing exist for purposes of getting the foreclosure
buyer to get rid of the junior lien.
3. Strict Foreclosure – Judicial decree that the junior lien be canceled unless the junior pays
off the senior debt within a court-determined period.
 41
NONJUDICIAL/POWER OF SALE FORECLOSURE
POS: clause written into a mortgage authorizing the mtg’ee to sell the property in the event of default in a
nonjudicial proceeding
 Notice requirements under POS usually less rigorous than under judicial foreclosure
 Available in about 35 jurisdictions

Process: after varying type of notice, the property is sold at a public sale  also called nonjudicial
foreclosure or foreclosure by advertisement

Defects in the exercise of power

● Trustee’s Duties (DOT) - Owes dual fiduciary duty to take reasonable and appropriate steps to
avoid sacrifice of the debtor’s property and interest
○ To the settlor and
○ To the beneficiary

Common Foreclosure Defects: Procedural challenges such as intentional and negligent chilled bidding,
improper time or place of sale, defective notice of sale, and selling either too much or too little of the
mortgaged land  void v. voidable:

 Some defects are so substantial that they render the sale void. In this situation, the sale transfers no
title to the sale purchaser or subsequent grantees
 Most defects are voidable. In this situation, bare legal title passes to the sale purchaser, subject to
the redemption rights of those who were injured by the sale defect. However, the redemption rights
can be eliminated if a bona fide purchaser acquires the land for value.
o A BFP is a sale purchaser that paid value, is unrelated to the mortgagee, did not have actual
notice of the defects and is not on reasonable notice from documents and the defects were
not noticeable by a person exercising reasonable care at the sale.
 Some defects are so inconsequential that the sale is neither void nor voidable. Such defects include
minor typographical or similar errors that do not prejudice any of the affected parties.

GROSS INADEQUACY

Baskurt v. Beal – Sale set aside (void) because of (1) the grossly inadequate price & (2) the trustee’s
failure to sell only 1 parcel in breach of its duty to act reasonable to protect Beal’s interests.
● Facts: Marion and Mortimer sold two parcels of land to McAlpine in exchange for two notes secured by the
same DOT trust. Note A was $95,000 payable to Mortimer, and Note B was $135,000 payable to Marion. To
free up the property, McAlpine must pay off both notes. McAlpine transfered property to Beal with
Quitclaim deed (get what you have). Beal stopped paying on note B after paying off note A. Marion and
Mortimer’s daughter, Baskurt, institutes power of sale foreclosure non-judicial. Rosenthal joins a partnership
with Joyce and Baskurt and partnership buys the property for $26,781.81, one dollar over the remaining debt
on the property. Beal wants the foreclosure sale set aside.
● Rule - Set aside if grossly inadequate. Even if not grossly inadequate, a low price coupled w/ some
other irregularity in the foreclosure proceeding can be sufficient to render the proceeding voidable.
● Lower Court invalidates sale for grossly inadequate sale price
● Restatement Rule - Grossly inadequate sales price ˂ 20% FMV
 42
○ Where the no foreclosure procedural defects, Court may invalidate if sale price is less than
20% FMV
○ Here- it was < 15%  FMV = 1991 sales price of $225,000 ‘ Sale Price = $26,781.10
● Even if not grossly inadequate, a low price coupled w/ some other irregularity in the
foreclosure proceeding can be sufficient to render the proceeding void.
● Court says that Baskurt as trustee did not have impartiality - not fair to Beal
○ Duty to get better price
○ Did not need to sell both parcels  Sale of either parcel alone would have generated
proceeds sufficient to satisfy amount due (did not reasonably protect Beal’s interests)

FORECLOSURE PRICE AT TRUSTEE SALE MAY NOT BE FMV

● Court may invalidate where substantially less than FMV and procedural defects
● Courts may scrutinize sale price more where mortgagee is seeking deficiency judgment and
retention of the land
● Most defects render sale voidable not void
○ Bare legal title passes to sale purchaser subject to rights of redemption of those injured by
the defective power of sale
● Bona fide purchaser takes free of voidable defects if
1. Purchaser has no actual knowledge of defect
2. Purchaser is not on reasonable notice from recorded docs
3. Defects not such reasonable person at sale would be aware

3 Remedies to Challenged Validity of Power of Sale Foreclosure

 (1) An injunction suit against a pending foreclosure
 (2) A suit in equity to set aside the sale
 (3) An action for damages against the foreclosing mtg.’ee or trustee

DUTY OF MORTGAGEE (BEYOND WHAT IS IN STATUTE)

In Re Edry (Bankruptcy Court in Mass.) – Foreclosure is invalidated. A foreclosing mortgagee may

be required to take steps beyond what the statute requires in order to ensure good faith and
reasonable diligence.
● Facts: Rhode Island Hospital Trust National Bank is the holder by assignment of a mortgage on the home of
the debtor. Debtor, a divorced mother, constantly made late payments. Bank accelerated; gave debtor 30 days
to pay in full. Bank sent Debtor’s most recent check back to her. Commenced foreclosure. Debtor requested
account info be sent to her; it was never faxed as promised. Sale scheduled; Bank hired auctioneer and told
them not to promote through large display ads (even though 80% of Sapperstein’s foreclosures were
advertised that way. Advertised once per week in the legal section of the newspaper for 3 weeks. 4 potential
bidders showed up; 3 qualified. (D) Michael Gurtler placed the winning bid of $86,500. Gurtler paid the
$5,000 deposit, and signed a memorandum stating that the balance was to be pd. within 30 days. FMV at the
time of the foreclosure was $190,000.
● Problem: Advertising procedure in non-judicial sales requires big ad in the real estate section. Seller put it in
the legal notice, small ads. Mortgagee buys at the foreclosure sale for 1/2 its FMV.
● Issues
 43
○ Did mortgagee exercise good faith and use reasonable diligence to protect the rights and
interests of the mortgagor? NO
■ MA Law - Foreclosing mortgagee overseeing sale must do more than just comply
with prescribed statute.
1. Must use reasonable diligence to protect rights of mortgagor.
2. Duty to act for benefit of mortgagor and obtain as large a price as
possible
■ To Invalidate Sale → Need Disparity + Other Circumstances
1. Bank did not use reasonable diligence to protect Debtor interest
2. Sale price 40% of value, w/o adequate advertising
■ Legal ramification = Foreclosure sale was voidable, not void
● Since voidable → title may pass to good faith purchaser
○ Is buyer a GF Purchaser? NO
■ Gutler not a Good Faith purchaser because (1) he was an experienced purchaser and
he had notice if not knowledge, should have known bad procedure and (2) he never
completed the sales transaction. Gets return of deposit
■ If void → no transfer of legal title. If void, would not have to determine if Gulter
good faith purchaser. This = voidable.

If there is a BFP, the owner cannot recover the land and only has an action for damages against the foreclosing
mortgagee. Many courts hold that the measure of damages is the difference between the property’s FMV and the
aggregate amount of liens thereon as of the date of the sale.

CONSTRUCTIVE NOTICE

Glidden v. Municipal Authority of Tacoma – Remand - need to know more in order to

determine whether Municipal Authority met its duty of inquiry and whether it reasonably relied on
Rourke’s assertions
● Facts: Mount Bay is mtg’or; has DOT with (1) Glidden [$37,640.16]; (2) OSB [$88,500]; (3) Municipal
Authority [38,605]. Mount Bay defaulted on its debt to Glidden. Rourke – as trustee under the DOT –
initiated a nonjudicial foreclosure sale of the property pursuant to the power of sale provision in the DOT,
but did not notify any of the jr. lienholders about the impending foreclosure sale – as required by statute.
Rourke only notifies Mount Bay (mortgagor). MA finds out about it from posted notice; asked if she
provided notice to jr. encumbrances & she said yes. OSB initiated its own foreclosure sale.  MA and
Glidden only bidders at foreclosure sale. OSB not there. MA purchased property for $37,845, and Rourke
tendered deed to MA free and clear of other mortgages. Deed has recitals (statutorily required) that (1)
Notice of sale mailed to all persons required; and (2) All legal requirements of DOT were satisfied.
○ Note: Not all Power of Sale statutes require notice to all junior lienholders. This one did.
● Glidden Sues - Void the sale on the basis notice inadequate
○ MA Response - It was a bona fide good faith purchaser and took free
○ OSB Responds - Says sale should be voided as it was a junior lienholder and did not receive
statutory notice.
● Rule - If you have constructive notice of other mortgage interest on property, you have a duty
to inquire about other lienholders.
● Is OSB bound by the sale?
○ Options:
1. Recitals are only prima facie evidence of compliance with statute if BFP
2. If buyer is BFP, it is conclusive
 44
3. Did not receive notice, not bound by sale
● Was MA a BFP?
○ MA did not have notice OSB was left out
○ But, was there a duty to inquire such that had constructive notice.
1. Facts that suggest it could not reasonably rely on Roukes claim that she “always”
notifies jr. lienholders  Municipal Authority had not received proper notice of
Rourke’s sale; It knew about OSB’s sale; Jr. lienholders attend the sale
2. On the other hand – Rourke persistently stood by her claims that she did notify OSB
● Remand; issues of fact cannot be handled on SJ

PRESUMPTION STATUTES  designed to enhance the finality of power of sale foreclosures and the
marketability of titles that they produce.
 (1) Rebuttable Presumption – valid basis for the foreclosure; but it can be rebutted
 (2) Conclusive presumption for BFP – notice only - conclusive presumption in favor of BFPs – but
presumption extends only to notice requirements of sale
 (3) Conclusive presumption for BFP – all aspects of foreclosure – greatest protection for BFP; foreclosure is
void

CONSTITUTIONAL PROBLEMS WITH POWER OF SALE

Ricker v. United States – The foreclosure & sale are void and of no effect. Non-judicial
foreclosure, inadequate notice violates 5th amendment due process.
● Facts: Rickers executed multiple notes to FmHA (Farmers Home Administration -> Agency of DOA)
secured by DOT (6 in total); owns a potato farm. Rickers are in their 70s and retired; substantial unpaid
balances remained on the notes. FmHA official visited farm several times to work out resolution of the debt;
Rickers rejected proposals to transfer the farm to FmHA or rent it out. FmHA decided to foreclose (balance
on notes totaled $17,676.84 plus substantial interest). FmHA mails Notice of Acceleration and Demand of
Payment, stating mortgage would be foreclosure if payment not received. At the end of the 30-day period,
FMHA instituted non-judicial foreclosure proceeding. Published in 2 newspapers for 3 weeks, but no written
notice served on Rickers. Following publication of the notice of foreclosure – the Rickers had 1 year to
redeem the property by satisfying the debt. Rickers made no further payments. July 1974 (2 years after
notice of acceleration), Upton purchases farm at foreclosure sale for $15,600. FmHA delivered a quit claim
deed & took back a purchase money m for $14,400. Rickers seek to nullify sale for violation of 5 th Am.
Rights.
● FMHA violated Ricker’s 5th amendment due process  Government foreclosure was
ineffective
○ Notice  Newspaper notices – which the Rickers did not see – are inadequate, especially
since their name/address was known to FmHA. The Notice of Acceleration does not count
as adequate notice – it’s a threat of foreclosure; but it did not give clear notice that
foreclosure proceedings would in fact be instituted.
○ No waiver  The Rickers did not waive their constitutional right to notice & hearing by
signing the m.
○ Bargaining power  the Rickers are an elderly farming couple, now in their 70s; neither
has more than a 6th grade education; they were unfamiliar with legal documents & had no
 45
prior experience w/ a foreclosure proceeding. They did not read the m & did not realize they
were waiving notice & opportunity to be heard

Warren v. GNMA – No due process violation; government Entity was not one when it was
foreclosing.
● Facts: Warrens purchased property from HUD. They executed a n, secured by a DOT, to FNMA. FNMA was
converted into GNMA – a private corporation wholly-owned by the federal gov. The n & DOT were
transferred & assigned to GNMA. The DOT included a “power of sale” clause. The successor trustee
GNMA deemed the payments on the n to be in default and, as holder of the n, GNMA elected to declare the
entire principal due. Warrens did not respond to the letter. GNMA foreclosed by having the trustee advertise
in a newspaper. GNMA was the purchaser at the sale. The Warrens allege they were denied their 5 th
Amendment rights to notice & hearing PRIOR to the foreclosure sale.
● Standard for finding fed. govt. action = there must exist a sufficiently close nexus between the
govt. & the challenged action of the regulated entity so that the action of the latter may be fairly
treated as that of the govt. itself
○ Here – foreclosure of the DOT was according to its own terms & under the extrajudicial
foreclosure statutes of Missouri. The foreclosure was conducted by the successor trustee
strictly in accordance with Missouri law pursuant to his position as the K’ally appointed
trustee & not as a govt. employee.
● GNMA was a government entity BUT in the exercising the power of sale foreclosure, it was
exercising its independent, commercial power and was not acting within the scope of government
auth.
● No due process Violation because GNMA was not a federal or state actor when it was exercising
the power of sale foreclosure
● Warren may have resisted the foreclosure on grounds of unconscionability  cannot read
(procedurally, maybe; substantive, yes)

Post-Case Notes - Under the Lebron test: would have been federal actors
● Extent to which formed for furtherance of gov. purpose
● Extent to which gov. retains control over corp.
 46
DISBURSEMENT OF FORECLOSURE SALES PROCEEDS –
ENTITLEMENT TO THE SURPLUS
Surplus – remaining equity remaining after the foreclosure sale  represents the remnant of the
equity of redemption and the security that the foreclosure eliminated. It stands in the place of the
foreclosed RE  jr. interest holders are entitled to be paid out of the surplus.
 Foreclosed owner’s claim is usually jr. to the claims of lienors & others whose interest was
eliminated by the foreclosure.
 Hierarchy:
o (1) Any surplus generally goes to the 2nd mortgagee;
o (2) If senior lienholder foreclosures, junior would be wiped out and therefore junior
lienholder entitled to surplus;
o (3) If junior forecloses its mortgage, the senior is not entitled to any surplus because they
still have a security interest in the land;
o (4) Any remaining surplus goes to the mortgagor.

Restatement view: the surplus stands in the place of the foreclosed real estate, and the liens and interests that
previously attached to the real estate now attach to the surplus.

Bank of America v. BA Mort, LLC - Jr. mortgagee is entitled to the surplus. It has a higher
priority claim than Assignee. Jr. Mtg’ee preserved its claim to the surplus. It was timely & proactive
in asserting its rights – it filed a cross-claim in the foreclosure action, appeared, & argued its
position.
● Facts: A fund was created when BA Mortgage LLC foreclosed on its m & the sale of the property resulted
in a surplus of $28,467.43. Jr. Mtg’ee BOA recorded its lien before Assignee obtained its assignment of
right of redemption & made a claim to the right of the surplus. Jr. Mtg’ee has a higher priority claim.
● The surplus stands in the place of the foreclosed real estate and the liens and interests that
previously attached to that real estate now attach to the surplus.
● To maintain its status as lienor, it only needed a valid lien, not a judgment.
o Here - Jr. mtg’ee was timely & proactive in asserting its right to any surplus  it filed a
cross-claim in the foreclosure action, appeared, & argued its position.
● Holding: Junior mortgagee entitled to surplus before assignee because it has a higher priority
claims
Post-Case Notes - Restatement does not allow the addition of language providing that the junior lienor is
not entitled to a surplus from the foreclosure of a senior
 47
REACQUISITION OF TITLE BY MORTGAGOR
REVIVAL OF MORTGAGE
Old Republic Ins. Co. v. Currie – Old Republic is entitled to revival of its 2nd m; Allen owes
$11,395.
● Facts: Curries had two mortgages on the property, one with HUD and the other was a home repair
and mortgage, assigned to OR. Curries filed for bankruptcy, and bankruptcy court entered an order
declaring the lien of OR to the property fixed in the amount of $6,476. HUD then foreclosed and
purchased the property at the sale. HUD eventually sells the property back to Allen Currie. OR
discovered Allen Currie had re-purchased the property and it re-recorded its mortgage. OR waited
10 years, letting interest build, before filing action.
○ OR Lien Revival claim - Since Currie is repurchasing, its lien is revived
○ Curries’ Claim - Bankruptcy extinguished its indebtedness to OR
● RULE: If the mortgagor is the purchaser or reacquires the property, junior mortgage revived
as lien on the property
○ Reacquisition revives the second mortgage if is recourse liability
1. Payment theory - Foreclosure payment on first mortgage moves the second mortgage
in place of the first
2. Covenant to defend title theory - Second mortgage revived contains warranty that the
mortgagor will defend the title against lawful claims
3. Warranty of title theory - Mortgaged property is security for the debt and the
mortgagor will produce the property if the debt is not paid
■ Bankruptcy does not nullify this warranty obligation
● Court Holdings -
1. OR is entitled to have its mortgage revived.
2. OR could not recover the 10 years of 12.5% interest- Doctrine of Laches
● Doctrine of Laches - delay for unexcused unreasonable about of time that is prejudicial to the other
party.  OR’ claim is barred to extent Currie is prejudiced – 10 yr interest. OR should have notified
Currie it re-recorded its mortgage and planned to exercise its rights

Post-Case Notes
1. Revival of mortgage only applies when mortgagor reacquires
2. The principle that a junior lien is revived applies to recourse AND nonrecourse mortgagors
3. Bona fide purchaser takes prop with clear title free of junior liens  Curries should have
purchased property from a BFP
 48

STATUTORY REDEMPTION
Equitable right of redemption – pay the m debt

Statutory right of redemption - A statutory period of time after a foreclosure, mortgagors, their
successors, and some junior lienholders may redeem title to the property by paying the sale price rather
than mortgage debt
● About ½ of states provide for statutory redemption
● Equitable v. Statutory
○ Equitable – only exists when the interest is foreclosed (before foreclosure sale)
○ Statutory – begins after the interest is foreclosed (after foreclosure)

Statutes fall into 2 categories:

● Strict Priority/Ordered Redemption approach: 6 months, priority order in which redemptions can be
made
● Scramble approach: whoever tenders the funds gets it

REDEMPTION STATUTE DOES NOT APPLY TO GOVERNMENT

US v. Stadium Apartments – Idaho Redemption statute does not apply.

● Facts: FHA insured mortgage given by Stadium to Prudential. After Stadium defaults, Prudential assigns
mortgage to FHA. FHA paid Prudential the balance owing on the m. FHA then obtained a default judgment
in federal district court foreclosing the m. Gov’s judgement was for $93,804.97, its bid was $55,100. Court
found property value to be $58,000. The deficiency judgement for $37,728.88. The district judge framed the
foreclosure decree to allow a one-year period of redemption per state statute; federal law provides no
redemption period following sale. FHA appealed this aspect of the decree. The 9th Circuit held – no
redemption period should be permitted following foreclosure.
● Issue - Is FHA, US entity, subject to statutory redemption? No.
● Argument for statutory redemption → Forces up bidding prices
○ Ex: FMV =100K, sale price= 35K, debt=90K one mortgagee
■ The mortgagor can come up with the amount of sale and repurchase for 35K, even if
the debt was actually more.
■ If the mortgagor only has to pay the 35K, it's likely that he's going to try to redeem.
Mortgagee will have a tendency to try to get the price of the sale up higher.
○ Equity of Redemption: Would have to pay full 90K of debt before sale
● Argument against → Chilling effect on foreclosure sale. Fewer 3rd parties willing to bid because of
uncertainty that they may not keep the property if redemption. May lose investment. Mortgagee has
to pay holding costs during the redemption period (taxes, public improvements, costs of repairs,
cost of hazard insurance premium).
● Ultimately - the govt. is not in the RE business. Should not have to manage properties.
● Redemption statutes do not apply to trust deeds (which are popular in CA) – calls into question
whether they accomplish their purpose.
 49

ASSIGNMENT OF RIGHT OF REDEMPTION

Farmers Production Credit Ass’n v. McFarland – Dorothy (assignee) can redeem subject to
PCA lien. PCA had no right to redeem but title of assignee is subject to PCA’s lien.
● Facts: McFarland owed real estate covered by two mortgages. Junior mortgagee (PCA) tried to foreclose,
but senior mortgagee (American Federal) forecloses on the property and buys it at the sale. Mortgagor
assigns the right of redemption to mother Dorothy McFarland. Dorothy redeems first. PCA tries to redeem
as junior lienor.
● Who may redeem?
○ No creditor redemption period existed  Because the assignee redeemed within the 3-
month exclusive period after the sheriff’s sale.
○ Here - Dorothy, the assignee can redeem property subject to PCA lien
■ Junior liens are not extinguished when mortgagor redeems
■ Statutory Redemption nullifies the sale, lien remains.
● Liens of a jr. lienholder or creditor are not extinguished when a mortgagor or
assignee redeems during the exclusive statutory period.
● PCA, as a junior lienor, cannot redeem the property where the assignee has redeemed. The
assignee takes the property subject to PCA’s lien.

Assignment of Redemption Rights

 Assignee of Mortgagor as Redeeming Party: In most jurisdictions, the mortgagor’s statutory
redemption right is assignable.
o Two views with regard to junior liens:
1. In some states, previously existing junior liens against the mortgagor revive against
the redeeming assignee.
2. In other states, the redeeming assignee takes free of such liens
 50
ANTI-DEFICIENCY LEGISLATION AND RELATED PROBLEMS
Traditional/Majority Approach: once the mortgagor goes into default and the obligation is accelerated,
the mortgagee has two options: (1) obtain a judgment on the personal obligation and enforce it by levying
upon any of the mortgagor’s property, and, if a deficiency remains, foreclosure on the mortgaged real estate
for the balance; or (2) foreclose on the real estate first and if the proceeds are insufficient to satisfy the
mortgage obligation, obtain a deficiency judgment thereafter.
o Deficiency judgment is calculated by subtracting the foreclosure sale price from the mortgage
obligation
o In judicial foreclosure, the deficiency judgment is obtained in the same proceeding after the
foreclosure sale.
o In power of sale, the mortgagee obtains a deficiency judgment by filing a separate judicial
action against the mortgagor.
The majority of states limit the mortgagee’s right to a deficiency judgment.

One Action Rule: The mortgagee’s only remedy on default is foreclosure, and he must obtain any
deficiency judgment incident to the foreclosure proceeding.
o The Restatement rejects the one action rule, but holds that the mortgagee may not proceed under
the above options concurrently. (Majority Approach).

NO WAIVER OF PROTECTION OF ANTI-DEFICIENCY STATUTE PERMITTED

DeBerard Properties v. Lim – Purchaser cannot waive protection of anti-deficiency statute, in

exchange for new consideration. The vendor is barred from obtaining a deficiency judgment against
a purchaser in a purchase money secured land transaction. Spangler exception only applies in
construction lending.
● Facts: Lim entered into purchased money secured land transaction with DeBerard (seller-financed loan for
real property) for $3.2 million. In exchange for shopping center, Lim made down payment of $1,120,000,
assumed DOT with bank ($1,913,266.92) and DOT with DeBerard ($170,000). Lims could no longer make
payments, so they hired an accountant to renegotiate the obligations… a forbearance agreement was executed
 Waived 580b protections; Halved the monthly payments from $1,416.67 to $708.33 & reduced interest
rate from 10% to 5%. DeBerard agreed not to foreclose & to subordinate its trust deed to any modification
of the bank loan. Lims defaulted. Bank foreclosed and extinguished DeBerard’s jr. security interest.
DeBerard filed suit on the note. DeBarard sues to collect a deficiency judgment on its DOT since Lim’s
waived their 580(b) protection.
○ Section 580b – A vendor is barred from obtaining a deficiency judgment against a purchaser in a
purchase money secured land transaction.
● Issue - Can Lim’s waive their deficiency judgment protection? No, purchasers are protected in
purchase money transactions.
○ Rationale: (1) Transaction Specific Stabilization Measure -> Keeps the vendor from
overvaluing the property. (2) Macroeconomic Stabilization Measure -> If property values
drop and the land is foreclosed on, the purchaser’s loss is limited to the land that he or she
used as security in the transaction.
● Exception to Non-Waiver  Spangler – in construction lending- can waive protection
 51
○ Exception: Sale of real property for commercial development in which the vendor agreed to
subordinate his senior lien under the purchased money DOT to the liens of lenders of the
construction money for the commercial development.
○ Policy Reason - The amount of the construction loan is usually large. Such that smaller
junior vendor would not be able to protect their interests and buy in at a senior sale.
Therefore, junior should be allowed to bring a deficiency suit against the comm. developer
to protect their interests.
○ Limitation - Limited to where anticipated post-sale use both requires and results in
construction financing that dwarfs the property’s value at the time of the sale. Furthermore,
the purchaser must be in a much better position than the vendor to assess the property’s
possible value and to understand the risks involved in the capitalizing on the property’s
potential. Finally, conferring section 508b’s protection must unfairly thrust the risk of the
failure of the commercial development upon the vendor.
○ Distinction w/Lim Case - Lim case not like Spangler, did not obtain a construction loan
that dwarfed the property’s value at the time of the sale and then proceed to build a more
intensive use.

ANTI-DEFICIENCY & GUARANTORS

Talbott v. Hustwit - Guarantor - anti-deficiency statue

● Facts: Hustwit is guarantor of loan from Talbott to Pacific West Investment Trust secured by DOT. Pacific
defaults and Talbott instituted power of sale foreclosure. Trustee sale held. Talbott purchases with a
$900,000 credit bid. Talbott then sues Hustwits for the deficiency under the guaranty agreement. Sues them
for the difference between the unpaid balance on the loan (1,288,042.36) plus interest and the sale price
(900,000). She wins.
● Anti-deficiency statute- 580(a)  Amount of the deficiency judgment limited to the lesser of
combination of senior and junior liens over FMV or sale price
● Anti-Deficiency statute does not apply to guarantors
○ Hustwit is not protected under the anti-deficiency statute 580(a) because Hustwit is a
guarantor for the trust and is personally liable for the difference between the loan and the
foreclosure price
○ Hustwits are true guarantors because had they not guaranteed the loan, they would not have
personally liable.
● Counterargument: This is a sham guarantee → guaranteeing own debt.
○ Intervivos revocable trust could have been revoked at any time.

Post-Case Notes - Anti-Deficiency Hypo

● Anti-Deficiency Hypo
○ Debt 100,000; FMV 80,000; Sale Price 50,000
○ Without anti-deficiency protection, deficiency 50,000
○ If statute applies, deficiency limited to 20,000
■ Difference between the Debt and FMV
● Some states limit amount of deficiency judgments
 52
1. When mortgage is purchase money when the vendor either takes back a mortgage for a
portion of the purchase price
2. The purpose of the loan is the acquisition of title
3. The property is foreclosed under a power of sale as opposed to judicial foreclosure or other
method subject to judicial supervision
4. The foreclosure is not subject to statutory redemption
● Anti-deficiency applies in New York and is endorsed by Restatement

TORT OF WASTE TO AVOID ANTI-DEFICIENCY STATUTE

Bowen v. Yniguez – Tort claim to avoid anti-deficiency statute to collect damage caused by waste.
● Facts: Bowen enters into installment land K to sell Yniguez an inn. Yniguez purchased the property for
$325,000 giving Bowen $50,000 down payment and a note in the amount of $275,000. $20,000 of the note
was due on a specific date, and the balance was payable in monthly installments for 5 years. Yniguez
defaults and goes into bankruptcy- stay of foreclosure. Y continues to occupy the premises- commits bad
faith waste. Bowen lifts the stay and repurchases at foreclosure sale for $124,000. At that time, $224,590.66
was due on the note. Bowen sues for deficiency, Y counters that the property was essentially stolen.
● *Anti-deficiency rule for purchase money mortgages
○ Prevents unjustly enriching the lender who purchases
○ Double-recovery→ lender could foreclosure on the property and purchase for less than
FMV, collect deficiency judgment, then resell the property
○ Macro-effect: hurts buyer’s ability to buy if personal liability
● Bowen gets around anti-deficiency statute by bringing tort claim for Bad Faith Waste
○ Court applies deficiency judgment
● Bad Faith Waste Definition  Reckless, intentional destruction, alteration, or neglect (party
house); Not in bad faith where waste occurs from financial inability to maintain.
○ Here  decrease in value attributed to waste not market condition
● Damages Calculation : Impairment of P’s security was properly measured by cost to repair
including any loss of profits
● Cornelison – Full credit bid  May not collect deficiency amount if the bid is the full amount of
the debt → security interest not impaired (limited to the difference)

ANTI-DEFICIENCY STATUTE DOES NOT APPLY TO CONSTRUCTION CO.

Mid-Kansas v. Dynamic - Election of Remedy statute, anti-deficiency statute not apply to
construction co.
● Facts: Mid Kansas made two collections of loans with Dynamic (commercial developer) secured by separate
deeds of trust. The first series of loans was for a total of $803,250 all of which were evidenced by 10
separate notes but they all were secured by a single DOT on an unimproved lot. The other loan was taken out
in order to complete construction; this loan was for $150,000 and was evidenced by a single note and DOT.
After Dynamic defaulted, Mid Kan. foreclosed the second deed, instituted trustee sale and purchased the
property at sale. Mid Kansas waives its security on 1st note and sues for balance.
● Is Mid Kansas entitled to deficiency? → Yes, anti-deficiency statute does not apply to Dynamic
○ Limited to and utilized for dwelling one or two-family homes
● Arizona has election of remedies statute
○ Mortgagee may foreclose and seek deficiency or sue on note
 53
● Baker- when the holder of a non-purchase money DOT forecloses by non-judicial sale, the statute
protects the borrower from a deficiency judgment. The lender may not waive the security and sue
on the note.
○ In Arizona cannot circumvent anti-statute by suing on the note

Post-Case Notes
● *****Trustco: New York Anti-deficiency statute; Restatement Approach
○ Deficiency- lesser of diff. between debt and FMV or sale price
● Lessor/Lender: If tenant there first, foreclosure on note will not extinguish lease. If lease postdates
loan, lease extinguished except for redemption
● Merger Doctrines  Merger of Estates: junior lien merged into senior lien when title acquired by
the mortgagee  Merger of Rights: Mid Kansas 102,000 bid took into account its 450,000 senior
lien. Do not want buy w/low sale price, sell for FMV, then collection on the senior debt
BANKRUPTCY
Objectives of bankruptcy system
 To provide an honest but unfortunate debtor with a “fresh start”
 To provide a collective remedy for creditors of an insolvent debtor
o Seeks to protect the value of assets
o Mitigate adverse consequences of the “race to the courthouse”

Types of Bankruptcy
● Ch. 7 (Liquidation) - Entails the liquidation of the debtor’s non-exempt assets to satisfy his or her
creditors according to the priority and amount of their claim.
1. Most common type of proceeding
2. Relief may be sought by the debtor (voluntary) or by the creditors (involuntary)
● Chapter 11 (Business) - Reorganization of corporate and other business debtors
1. Rehabilitation is the purpose of such proceeding
2. Can result in extension of debts and broad judicial control over both secured and unsecured
creditors
3. Foreclosure: Petition  Relief from Stay  Cash Collateral  Avoidance  Plan
● Chapter 13 (Individual) - A Chapter 11 equivalent for individuals. Aimed at the rehabilitation of
the debtor by extension and reduction of both unsecured and certain secured claims.
○ May be used by a individual who owes less than 394,725 in unsecured debt and 1,184,200 in
secured debt

Automatic Stay - Debtor’s First Protection

● UCC Section 362(a) - Most immediate impact of debtor bankruptcy on the real estate mortgagee
○ All foreclosure proceedings, whether judicial or power of sale, are automatically stayed by
filing any of the three types of proceedings
○ Stay is applicable whether or not the foreclosure was initiated prior to the bankruptcy
petition.
○ Also applicable to foreclosure and other proceedings against third persons who have
guaranteed the bankrupt’s consumer debt or put up property to secure it
● Significant Exception - For foreclosure actions brought by the Secretary of HUD on federally
insured mortgages on property consisting of five or more living units
 54
● No longer applies uniformly to all debtors – 2005 Bankruptcy Abuse Prevention and Consumer
Protection Act  Limits the stay for debtors who have had a case pending within the past year if;
o A single or joint case is filed by or against a debtor who is an individual in a case under Ch.
7, 11, or 13 and if a single or joint case of the debtor was pending within the preceding 1-
year period but was dismissed,
o The stay with respect to any action taken with respect to a debt or property securing such
debt shall terminate with respect to the debtor on the 30th day after the filing of the later case.
o However, the stay may be continued beyond the forgoing 30-day limitation of the debtor
files a motion, a hearing is completed prior to the expiration of the original 30-day stay, and
the debtor proves that the filing of the new case is “in good faith as to the creditors to be
stayed.”

Secured v. Unsecured Claims

 Secured  creditors w/ pre-bankruptcy lien  bankruptcy law takes secured creditors as it finds
them on the petition date
 Unsecured  generally, creditors w/o any pre-bankruptcy lien against specific assets of debtor 
receive on pro rata basis, to the extent that assets remain after payment of secured claims / payments
of expenses
 Undersecured  i.e. claim secured by a lien on land that is worth less than the total balance owed to
mtg’ee

2 Types of Plans
 Consensual  Creditors agree
o Debtor has the exclusive right for 120 days to file a plan
 Lender has its hands tied for 4 months. Lender wants to file a liquidating plan
o Put creditors in classes (all similarly situated)
 2/3 in amount, ½ in number
 Class that gets to vote must be impaired
 Non-Consensual  Cram-Down over objection of secured creditor (court will confirm plan)
o Need an accepting impaired class
o Means of forcing a party creditor to accept a treatment that it doesn’t want
o In order to cram down a secured creditor, you need 1 accepting class, and 3 things:
 1) Lender has to retain its lien and you pay the present value of the secured claim
 Court has to come up with a value… there is a lot of litigation about what the
interest rate is
 2) Sale, where the lien attaches to the proceeds
 3) The indubitable equivalent
 Property given back as is (lender doesn’t like this)
o In order to cram down an unsecured creditor
 Absolute priority rule -> unsecured creditors must be paid back before old owners
can hold onto equity

SETTING ASIDE AN AUTOMATIC CHAPTER 11 STAY

Chapter 11 Automatic Stay - From the moment the mortgagor files a Ch 11 petition, the mortgagee is
stayed from foreclosing. Debtor typically continues to operate the estate as a “debtor-in-possession.”

Grounds for relief from stay - for cause, no equity, bad faith, no plan & Absolute Priority Rule
 55
 362(d)(1): for cause/BF  including lack of adequate protection of an interest in property
 362(d)(2): no equity  debtor does not have equity in property; & property is not necessary for re-
org.
 362(d)(3): no plan  Once the mtg.’ee moves for relief from stay, the debtor must either:
o (1) propose a feasible reorganization plan w/in 90 days; or
o (2) begin making monthly payments of interest on the secured portion of the mtg.’ee’s claim
(calculated using the non-default interest rate specified in the m note).
o *If the debtor does neither, court must grant relief from stay & permit mtg.’ee to foreclose.
o *Applies to mtg’ees of single asset RE.
 Absolute priority rule – debtor usually cannot retain ownership under the plan (unless creditors
consent) – because the plan must pay in full all classes of unsecured creditors before a jr. class of
creditors, claims, or interests (including the debtor’s).

In Re Gunnison Apartments, LP - Lenox is entitled to relief under sections 362(d)(1) and (d)(2).
● Facts: Debtor (LP) filed Ch. 11 [2nd filing in past 13 mons). Gunnison is an LP comprised of former
mechanic’s lienholders, which was formed in order to foreclose on an apartment complex after the developer
failed to pay. Gunnison filed for bankruptcy relief. General partner of debtor: PTF Holdings (entity owned
by Anderson). Property subject to DOT, note, Sec Agreement & DOT; note held by Lenox. Debtor acquired
ownership int in the property in 2001, subject to the Note. Stops making payments on note. Lenox requests
that the Court lifts the Stay.
● RELIEF FROM STAY SECTION 362(d)  Court shall grant relief from stay provided
○ Section 362(d)(1) – lack of adequate protection  Creditor Must Prove - decline in value-
or the threat of a decline, in order to establish a prima facie case (to assure collateral is not
diminishing in value)  DECLINE IN VALUE / BF
■ Lenox arg. – prop. Declining in value; in need of repairs
■ Debtor – value of prop. Has increased since filing for bankruptcy
■ Court – Lenox has not established decline in value. In fact, repairs were needed prior
to bankruptcy filing.
■ Here  Lenox did not show a decline in property BUT Gunnison’s bankruptcy
filing was in BF: (1) the property is Debtor’s sole major asset; (2) it is fully
encumbered by Lenox’s lien; (3) Debtor has few employees; (4) on the date of
receivership appointment, several checks were written to some of Gunnison’s
partners; (5) Lenox’s foreclosure action was filed 2 days before Gunnison’s
bankruptcy petition.
○ Section 326(d)(2)  Lack of Equity / Necessity for Effective Reorganization
■ Gunnison has no equity in the property. Lenox’s claim = undersecured. Secured
amount owed on the claim is $5,897,365; prop. Value ranged from $4.4mil. to $5.3
mil.
■ Not necessary for reorg. (D)’s plan for reorg. Creates more questions than answers.
Only assurance of success was based on Anderson’s assurances. Anderson’s “trust
me” approach is not sufficient
● Standard  Gunnison must show “there is a reasonable possibility of a
successful reorg. w/in a reasonable time”
● Bad Faith - F & C Test - Found when the cumulative effect of these individual factors together
paint a factual picture that leads to the inescapable conclusion that use of the bankruptcy laws by the
debtor is inappropriate
○ Able to pay the debt but does not
 56
○ No intent to reorganize under chapter 11, no employees or ongoing business concerns to
protect

Post-Case Notes - Requirement of Adequate Protection for Mortgagee

● Some cts: if there’s an equity cushion in the mortgaged RE
● Other cts: foregoing language is designed to protect against post-filing decline in value of the RE
● Sometimes: mortgagor’s failure to pay taxes or keep place insured, deemed to cause lack of
protection
Ways to provide adequate protection if it is lacking
● Trustee make payments to mortgagee to compensate for decrease in value of mortgagee’s int
● Mortgagee provided with additional lien = to the decrease in the value of mortgagee’s int

SETTING ASIDE PRE-BANKRUPTCY FORECLOSURES

Trustee’s avoidance powers

 Trustee’s Goal = Enlarge the asset pool available to satisfy unsecured creditors claims
 Reason - Since Trustee represents the interests of the bankrupt’s unsecured creditors, this is her
goal

Trustee’s Weapons to Accomplish Goal

1. 558 (Most basic weapon) All Available Defenses - Gives the trustee the benefit of any defense
available to the debtor against the mortgagee even if the debtor waives it after the commencement
of the bankruptcy.
a. This gives the Trustee the power to invalidate the mortgage before the mortgagee based on
usury, fraud, incapacity or other grounds
2. 544(a)(3) BFP status – Affords the trustee, irrespective of knowledge on her part, status as a bona
fide purchaser of real property from under the debtor who has perfected under state law
a. Allows the trustee to defeat any mortgage of the debtor that is unrecorded as of the
commencement of bankruptcy
b. Example – There is an unrecorded mortgage (1st mortgage) worth 10K, and a recorded
mortgage (2nd mortgage) worth 20K. The debtor then files for bankruptcy
3. 551 Trustee Priority – Subrogates the trustee who avoids a senior lien as the senior lienor up to the
amount of the senior debt.
a. Example - If house gets sold at the bankruptcy proceeding for 25K, the trustee gets the first
10K and the recorded second mortgage gets 15K
4. 548 Invalidate Transfers – Transfers made by the debtor within 2 years of bankruptcy may be set
aside by the trustee, as long as: made with intent to hinder, delay or defraud any creditor to which
the debtor was or became indebted
a. Examples
i. A debtor, in order to keep his substantial equity in Blackacre, mortgagee a mortgage
on it within 2 years of filing a bankruptcy petition; or
ii. Debtor attempts a pre-bankruptcy foreclosure sale of his real estate that yields less
than its reasonably equivalent value; or
iii. Insolvent debtor tries to grant a deed in lieu of foreclosure within 2 years of
bankruptcy
b. Solutions
i. Set aside the mortgage
ii. Set aside the sale if it yields less than its “reasonably equivalent value”
 57
iii. Set aside if debtor received less than “reasonably equivalent value” for the transfer
5. 547 Void Mortgages – Mortgages given within 90 days of the mortgagor’s bankruptcy will be
voidable by the trustee
a. Example – Debtor becomes financially unstable. Creditors attempt to acquire real estate
mortgages from the debtor to secure preexisting debt. To the extent that;
i. Granted within 90 days of bankruptcy
ii. Would otherwise enable the creditor to realize more on its claim than it would in a
straight bankruptcy liquidation
iii. Voidable by the trustee

General Rule - Trustee can avoid a transfer if debtor received less than a reasonably equivalent value in
exchange for such transfer & was insolvent on the date such transfer was made

BFP - Reasonably equivalent value’ is conclusively established as a matter of law by the sale price of a
mortgage foreclosure sale that was regularly conducted and noncollusive, and where there was no
irregularity in the sale.
● 548 - Allows property to be brought back into the estate if fraudulent transfer. Debtor intends to
defraud, or property sold for not reasonable equivalent value.
● Prior Rule = Durrett Rule: if sale price is less than 70% of FMV, not reasonably equivalent value
● New Rule - “A fair and proper price or ‘reasonably equivalent value’ for foreclosed property is the
price received at foreclosure sale if it complies with all the requirements of State’s foreclosure
laws.”

In re Talbot (CT) - Strict Foreclosure; BFP Rule applies; Foreclosure price = proper measure.
● Facts: Talbots filed for joint bankruptcy under Ch. 13. Complaint alleges that FHLMC commenced a m-
foreclosure action. Debtors defaulted for their FTA. Entered a judgment of strict foreclosure. Judgment said
FMV was $158K; debt was $137,406.12. Debtors did not redeem. Property vested in FHLMC. Debtors argue
that FMV was really $170K.
○ Debtors want to avoid the transfer of their equity of redemption to FHLMC as constructively
fraudulent  because debtors received less than a reasonably equivalent value in exchange for the
transfer; and they became insolvent as a result
○ FHLMC cites BFP  as a matter of law, the reasonably equivalent value of a debtor’s interest in
property sold at a m foreclosure sale = the price actually received. (BFP rejected that REV = FMV).
● Section 548(a)(1)(B) – permits bankruptcy trustee to avoid a transfer of interest of debtor in
property if debtor received less than “reasonably equivalent value.”
● *RULE – “reasonably equivalent value” = foreclosure price (NOT FMV  FMV = price
reached by willing buyer & willing seller  here, not willing; compelled to sell)
● Applicability of BFP to CT strict
○ Reasons for upholding BFP decision
1. States have an essential interest in the security of their real estate titles
● Whether through strict or regular foreclosure sale
2. Competitive Bidding not required
● Key attributes of a "sale"--competitive bidding--were not essential to the
Court's holding in BFP. Rather, "[the Court held] the states and not the
market, were entitled to define the "value" of property in the mortgage
foreclosure context.
3. Adequate Safeguards in CT System
● Although Strict foreclosure is the default procedure, the court has discretion
to order a foreclosure by sale on motion of either party or on its own
discretion if there is "substantial equity" in the property.
 58

In re Fitzgerald (CT) - Overrules Talbot; FMV = proper measure.

● Facts: Fleet commenced foreclosure action against Fitzgerald. Debtor default – Failure to appear. Judgment
of Strict Foreclosure entered. Debtor did not redeem before Law Day. FMV = $157K; debt was
$135,308.35. Absolute title to property vested in either Fleet/Federal in exchange for full satisfaction of the
m debt. Trustee claims value of property > debt. Claim under 548(a)(1)(B). Federal transferred the property
to the Starys.
● Rule of Case - Since strict foreclosure lacks the only legitimate evidence of value, strict foreclosure
is not entitled to conclusive presumption of reasonably equivalent value.
● Why Court determined BFP defense did not apply
○ 1. CT legislature does not accord a conclusive presumption of "reasonably equivalent value"
to strict foreclosures under state fraudulent transfer law
○ 2. Says BFP Court held that the evidence of value produced by the foreclosure sale process
(i.e., the successful bid) is "the only legitimate evidence of the property's value.
○ 3. Court says that the transfer "price" (extinguishment of indebtedness) affected by a strict
foreclosure is not equivalent to the sales price at a foreclosure sale.
○ 4. Ct determines that because strict foreclosure lacks the only legitimate evidence of value,
strict foreclosure is not entitled to conclusive presumption of reasonably equivalent value
 59
SOME PRIORITY PROBLEMS

PURCHASE MONEY MORTGAGES

Purchase money mortgage is a mortgage that the mortgagee grants to enable the mortgagor to acquire
ownership of the mortgaged land.
 Vendor purchase money mortgage can arise when the seller of land agrees to extend credit to the
buyer for some portion of the land’s purchase price, and the buyer grants a mortgage on the land to
secure the buyer’s obligation to pay the remaining purchase price.
 Third party purchase money mortgage arises when the buyer of land obtains a loan from a third
party (typically a bank, savings loan or other institutional lender), uses the loan proceeds to pay the
purchase price of the land, and grants the third party a mortgage to secure the buyer’s repayment of
the loan.
Characteristics: Usually have higher interest rates than typical bank mortgages
Situation: Often used by buyers without enough saves to cover a traditional down payment (“DP”) or who
cannot get a large enough bank mortgage due to bad credit
Priority disputes - Between vendor PMM and 3rd party PMM, vendor PMM has priority. Unless the
dispute can be resolved by the recording acts or some other means, such as a subordination agreement

RESTATEMENT - Purchase money lenders always have priority over other creditors.

Kentucky Legal Systems v. Dunn - Find for Dunn. As purchase money lender, Community Trust
mortgage has priority.
● Facts: KLS recorded judgment lien on all real property owned by Dunn (1998). Community Trust (Bank)
entered into a third party PMM with Dunn (October 2000). Dunn defaulted on m. KLS argues bank was on
constructive notice; failed to exercise due care in granting loan. Argument as to which creditor has priority.
● **Court adopts Restatement approach  vendor PMM is senior to any previous judgment
liens that arise against the purchaser-mortgagor … even if vendor takes the mortgage with
actual knowledge of the judgment
○ Policy - Rule encourage purchase money financing by lenders
○ General Rule for Test - Third parties who lend money used to purchase real estate in
exchange for a mortgage hold priority over all other recorded liens and judgments
except where otherwise agreed by the parties or specified by statute
● Re: Priority  Circuit Court was correct to follow Restatement – given the lack of guidance in
case law & statute. Third parties who lend money used to purchase real estate in exchange for a m
hold special priority over all other recorded liens and judgments, except where agreed otherwise by
the parties or specified by statute.
● Re: Due Care  KLS argues – Community Trust did not exercise due care.  Court: Community
Trust, as a purchase money lender, did not need to search for judgment liens. They would be given
first priority regardless of whether they had notice of the lien.

Insight LLC v. Gunther – Gunthers’ DOT is junior to the IM mortgage.

 Facts: Summitt owned a 142 acre parcel of land that it wanted to develop into a residential subdivision. The
Gunters owned an 18 acre property adjacent to Summits; they sold property to Summit for $800k in 2006 via
 60
a purchase money agreement. Easyway Escrow was the closing agent. Summit was to pay $1,000 deposit
and the balance was due at closing. Then, Summit contacted Independent Mortgage (IM) for a loan for the
purchase price who gave them the money (not all… $616,000) in return for a mortgage on both parcels. The
Gunters financed the remaining amount ($200,000). Gunters didn’t know about the IM mortgage. Sandpoint
Title was responsible for recording and providing title insurance for both the IM mortgage and the Gunter’s
DOT. Stephanie Brown prepared the documents relating to the IM/Summit mortgage, and Carol
Sommerfield (owner of EasyWay Escrow) prepared the documents relating to the Gunter/Summit DOT. The
IM mortgage was recorded at 4:17 pm and the Gunters DOT was recorded at 4:18 pm. The IM/Summit
mortgage was assigned to Insight LLC. Summit defaults and Insight (as IM’s assignee) files complaint
against Summits and Gunters. Arguing over priority.
 Notice  IM did not have notice of the DOT. Knew about the intent to encumber – did not have
notice of the actual encumbrance.
o This was a race-notice jurisdiction
 The IM/Summit m was a purchase money m.
o IM argues – one continuous transaction
o Gunter argues – DOT before m
o The IM m was a purchase money m because it was executed to enable Summit to
purchase the property in question – in the same transaction as the acquisition of title.
 IM mortgage had priority under race-notice statute -> court basically ignores Restatement.

Impact of Notice on Vendor/Third Party priority

 If both the vendor and the third party are aware of each other, the vendor’s mortgage should be senior.
If neither party has notice of the others mortgage, again vendor should prevail.
 If only one party has notice of the other, the Restatement agrees that the recording act, rather than the
vendor preference should govern, and the party lacking notice should prevail.
 A third party lender may also prevail if a court finds that the vendor’s oral statements and conduct
indicate an intent to subordinate the vendor’s lien to the third party mortgage.

AFTER-ACQUIRED PROPERTY CLAUSE

UCC §9-204(a) allows debtor to grant a security interest in present and after-acquired personal property by
entering into 1 security agreement that is sufficient to cover both types of property

To cover after-acquired property  There must either be express terms OR it must clearly appear from the
language that it was manifest intention of the parties

Hickson Lumber Co. v. Gay Lumber – After-acquired clause valid.

● OUTLIER CASE  First-In-Time Jurisdiction - Whoever has the first mortgage has priority
● Facts: Gay Lumber Co. has two mortgages. The Pou mortgage was executed Feb. 24, 1903 & recorded
March 6, 1903 - contains an after-acquired property clause. The Hickson mortgage was executed Sept. 24,
1903 & recorded Oct. 16, 1903 - embraces 5 tracts of land & 1 locomotive (pulls trains) – all acquired by the
Gay Lumber Co (AFTER the Pou mortgage was recorded). The tracts of land were conveyed by deeds to the
Gay Lumber Co. by the grantors before the execution of the Hickson m and after the recording of the Pou m.
 61
 Basically, Gay Lumber received money from Hickson to buy other property.
● Issue – does the Pou m cover the property described in the m to Hickson? Yes, AAP clause is valid
and subjects subsequently acquired property to the lien and mortgage.
■ Why it is an Outlier - In the majority of jurisdictions, Hickson would have first
priority over the tracts of land that Gay bought with its PMM funds.
● Who has priority? In North Carolina- “First in Time” Pou mortgage
● Hickson’s m = secondary to Pou’s m

Post-Case Notes - How Hickson is an Outlier Case

● Under Kentucky Legal - Hickson should have priority because his money went to purchase the
property
● Restatement Approach - Purchase money lender has priority

DRAGNET CLAUSE
Dragnet Clause - States real estate covered by the mortgage will stand as security not only for the loan but
also for any other debt for which the borrower is already liable or may become liable to lender - generally
upheld, but construed narrowly against mortgagee

First Security Bank of Utah v. Shiew - Find for insurance co. - The m on the Shiews’ home did
not constitute security for the subsequent Security Agreement concerning their cattle venture.
● Facts: The Shiews take out a loan from Bank of Utah for $6,342.48 secured by a mortgage containing a
dragnet clause. All present and future loans would be secured by this house. Shiews get another loan from
the Bank for $8,900 for a cattle-raising venture. Parties entered into a security agreement for this loan (SA
made no reference to the mortgage on home as security and stated that it was the entire agreement). Bank
files action for cattle business loan, awarded deficiency judgment. Bank gets judgment for $4,369 against
Shiew. The house burns down and insurance company issues checks.
○ Bank argues – Dragnet provision on the home made the m security for any other Shiew
indebtedness. Bank argues that the insurance proceeds from the house burning down should have
gone to them to pay off the debt on the cattle loan because the cattle loan was secured by the house
by the dragnet clause.
● Issue - Were the insured premises secured by dragnet clause in the mortgage? No.
● Reasons why the Bank’s Dragnet Clause does not attach to insurance proceeds
1. Dragnet clause was boilerplate.  Not the subject of the negotiations
2. The security agreement was a different transaction.  Home mortgage vs. cattle loan
3. Security agreement failed to mention the mortgage, but the security agreement for the
cattle loan said full agreement between the parties (MC).  No evidence to indicate
second loan was under the security of the first
● Absent clear evidence to the contrary, a dragnet clause will not be extended to cover future
advances – unless the advances are of the same kind & quality, or relate to the same transaction as
the principal obligation. Here, there was no evidence that the parties intended the second loan to be
under the security of the first loan.
 62
*RESTATEMENT Approach to Dragnet Clauses  Will usually not be extended to cover future
advances unless the advances are of the same kind and quality or relate to the same transaction or
series of as the principal obligation secured… OR unless the parties clearly intended the new debt to
be secured by the original mortgage.

The Restatement holds: to be secured under a dragnet clause, the advances must be made in a transaction similar in
character to the mortgage transaction, unless (1) the mortgage describes with reasonable specificity the additional
type or types of transactions in which advances will be secured; or (2) the parties specifically agree, at the time of the
making of the advances, that the mortgage will secure them.

OPTIONAL ADVANCES

Irwin Concrete , Inc. v. Sun Coast Properties, Inc.- a mtg to secure future advances takes
priority over mechanic’s liens accruing after recording of the mtg, unless the future advances are
optional.

 Facts: Olympic mall borrowed 350K from Continental to purchase and develop 179 acres of land
near Gig Harbor -a DOT secured the note. Olympic then conveyed 7 of the 179 acres to Sun Coast
to build a shopping center → the sale contract required Olympic to install a water system on the
remaining 172 acres to provide water for the center. Sun coast then borrowed 1.5 million from
Continental for completion of the center. Olympic then defaulted on its 350K loan and Continental
notified the trustee of the default. Continental then gave notice of the trustee’s sale of the 172 acres
to all whose liens were on record. Hernando Chaves and Associates engineered the water system,
working first for Olympic and later for Sun Coast. Chaves filed a lien on all the land. Continental
bid on the property at the trustee’s sale and bought Olympics interest in the 172 acres.
o Chaves contends that his lien was not foreclosed by the trustee sale because it was senior to
that of Continental .
o Argued that the loan agreement between Continental and Olympic made advances optional
with Continental – thus he claims to the extent of monies advanced after he started work, his
lien was senior.
 Washington rule in Equity Investors: that a mortgage to secure future advances takes priority over
mechanic’s liens accruing after recording of the mortgage, unless the future advances are optional.
where advances are optional, priority is determined when the advances are made
o the contract between Continental and Olympic didn’t allow Continental to disburse funds
based on its own criteria
o Continental was not free to advance or retain the money as saw it fit
o Continental was obligated to loan 350K to Olympic, the only control Continental had over
future advances was ability to see that Olympic spent the loan money for improvements to
the land that  control didn’t render the future advances optional

Notes after the case:

 Majority Rule: there needs to be actual notice

1. If it was optional then C would’ve had to have actual notice of the mechanic’s lien
 new statute in WA: RCWA 60.04.226: doesn’t matter if advances are obligatory/optional - the prior
lien still have priority
 63
 The Restatement rejects the optional advance doctrine – “If a mortgage secures repayment of future
advances, all advances have the priority of the original mortgage.”

adopts a “cutoff notice procedure” → all later advances have priority unless the mtgor has issued a notice
to mtgee terminating/subordinating the mtg to any further advances

REPLACEMENT & MODIFICATION OF SENIOR MORTGAGES: IMPACT ON

JUNIOR LIEN
Restatement Approach - The replacement will retain priority unless there has been a change in terms of
the mortgage that materially prejudices the junior lienholder

Replacement – If a sr. m is released of record & as part of the same transaction is replaced w/ a new m, the
latter m retains the same priority – except: (1) to the extent that any change is materially prejudicial to the
holder of the jr. interest; or (2) to the extent someone is protected by a recording act.
 Replacement will retain priority unless there has been a change in terms of the mortgage that
materially prejudices the junior lienholder

Modification – If a sr. m is modified, the m as modified retains priority – except to the extent that the
modification is materially prejudicial to the holder of jr. interests

Material prejudice = fact-specific inquiry; extension of time is not material prejudice; increased interest
rate / principal amount of indebtedness more likely to be material prejudice

Sovereign Bank v. Gillis – Find for Deutchse Bank  The refinanced m has prior over the LOC
 Facts: WaMu mortgage. Then two more mortgages. Then loan from Independence which was used to pay off the
two mortgages after WaMu. Then Gillises refinanced by borrowing money from WaMu again secured by another
mortgage, which was used to pay off the debt. However, the independence line of credit was never closed
out/discharged of record and Gillises continued to borrow $ from Independence. Gillises default and arguing
over priority with respect to foreclosure.
o Deutesche filed foreclosure action on WaMu refinanced m  equitable subrogation (LOC had been paid
in full at the time of the refinancing & the debt was intended to be discharged)
o Sovereign filed foreclosure action on Independence LOC  LOC was recorded first; LOC was not
properly closed; equitable subrogation cannot be invoked bc WaMu had actual notice of LOC
 Rule - When a m is refinanced by the same lender, the m securing the new loan may be given
priority of the og m under the principles of replace & modification of m.
o Standard: materially prejudicial  The refinancing is usually starving off foreclosure on the sr.
loan  so probably no material prejudice.
o Subrogation does not apply (cannot be subrogated to own loan)  but replacement &
modification do apply
 There should be a cap on the new loan’s priority  because the refinancing exceeds the og loan
o 3 Options for Cap: (1) og $650K; (2) $534K at the time of loan; (3) $482K balance –
refinancing  court could pick any of these
 64
*** Replacement/Modification theories apply if the mortgagee that replaces/modifies the first loan is
the same mortgagee that gave the first loan. Equitable subrogation applies if the mortgagee that
replaces/modifies the first loan is a different mortgagee than the one that gave the first loan.

EQUITABLE SUBROGATION
Equitable subrogation permits a person who pays off an encumbrance to assume the same priority
position as the holder of the previous encumbrance.

Three approaches to determining equitable subrogation where 3rd party lien

1. Majority - actual knowledge of existing liens precludes the application of equitable subrogation,
constructive notice does not
2. Minority - Bars equitable subrogation where actual or constructive notice an existing lien
3. Restatement Approach – A mortgagee will be subrogated when it pays the entire loan of another
as long as the mortgagee was promised repayment and reasonably expected to receive a security
interest in the real estate with the priority of the mortgage being discharged, and if subrogation will
not materially prejudice the holders of intervening interests in the real estate.
■ Notice of intervening lienholder will not be materially prejudiced because remains in
the same position  Only exception where expressly subrogates its interest
■ The question under this approach is whether the payor reasonably expected to get
security with a priority equal to the mortgage being paid

Houston v. Bank of America – Bank of America has priority. Court adopts Restatement
approach.
● Facts: Norwest Mortgage, Bank of America predecessor, held DOT. Houston gave Boone 740K to
invest. Boone made off with the money and quitclaim his house to his wife. Houston gets a lien
against Boone. Boone declares bankruptcy. Judgment not discharged, he is a fraudfeasor. Before
judgment sale of property, BOA intervenes, refinances Norwest’s mortgage for Boone’s wife, and
pays off that senior mortgage, after Houston’s writ of attachment. Arguing over priority position.
● BOA claims - Houston’s lien was subrogated because it paid off Northwest’s senior mortgage, and
by doing that, assumed their priority position
● Issue - Whether BofA was entitled to equitable subrogation, meaning did BofA assume Norwest’s
position of priority? YES. BofA fully paid off the former DOT with the intention that it would
acquire first position; it did not have the intention of subordinating
● Rule - Equitable subrogation permits a party who pays off an encumbrance to assume the same
priority position as the holder of the previous encumbrance
○ EFFECT of Restatement view on Case - Even if BofA knew of Houston’s attachment to
Boone’s property before it lent the money, it would’ve still had priority over the
judgment
● Nuances - Had BofA’s refinancing prejudiced Houston’s rights … some term that made default
more likely, then perhaps equitable subrogation wouldn’t be allowed
 65

Countrywide Home Loans v. First Nat’l Bank of Steamboat Springs – FNB has priority.
Wyoming is a filing date priority jurisdiction.
● Facts: Similar factual situation to Houston. Ketchams have AWL m (1997); get FNB m (2002); get
refinancing loan from Countrywide (2003). Use Countrywide proceeds to pay off AWL m. Ketchams default
to FNB. FNB institute foreclosure. FNB & Countrywide arguing over who has priority.
o FNB – priority under state’s recording statute
o Countrywide – priority under equitable subrogation
● Court declines to apply the Restatement  Wyoming recording statute is Race-Notice = Filing
date priority jurisdiction = Lienholder wins
● Equitable subrogation has no application where a financial institution extends a loan for the
purpose of enabling a mortgagor to pay off an existing m, knowing that a subordinate lien
exists on the RE.
○ For equitable subrogation to apply in this jurisdiction, must be legally bound or paying off in
self-protection.
■ Here the lender voluntarily paid off -> not equitable subrogation
○ ** This is a conflict between fairness and certainty case!
○ If there is a state like Wyoming that does not recognize equitable subrogation, get a
subordination agreement! Intervening lienholder would have to agree to subordinate
themselves to this new lender.

In the Matter of Edward J. Dolan - Notice at the closing was not sufficient to obtain consent when
representing multiple parties in a transaction (closing).

 Facts: Dolan was the attorney for the Borough of Carteret who was trying to solicit proposals from
developers for utilization of certain tracts for low and moderate income multi-family dwelling units.
Gulya Brothers submitted a proposal for a townhouse project. In order to do this they needed to get
variance permits which they did. Then they had to get financing which they had trouble getting so
Dolan took over representation of the Gulyas and he produced the required financing for them.
Dolan also represented the mortgage company in sales involving permanent mortgages used in the
purchase of townhouses from Gulya. A real estate agent went through initial steps of executing the
contract and got FHA approval. Buyers also use Dolan bc of a provision that lowers the costs if the
seller’s attorney is used. Dolan had weeks of time to get consent from buyers but didn’t have them
sign consent form until the closing. One of the buyers brought a claim.
 court analysis:
o Borough & Gulya
1. representing both is contrary to public policy bc a municipal attorney’s public
obligations are such that he must take particular pains to avoid the shadow of
suspicion which inevitably is cast when he begins to entangle himself in a
representative capacity in legal affairs of a developer operating within the
municipality
o buyer & Gulya:
1. they have contrary interests
 66
 buyer and seller want a price that’s best for each of them (not really a
problem in this case though bc the real estate agent made the contract before
Dolan came in w buyers)
 disclosure of information
 developing on schedule
 legal problems
 developing the way it’s supposed to
o Gulya & mtg co
1. conflict:
 term of loan
 interest rate
 court: it would have been okay for Dolan to rep the Gulyas and buyers and mtg co if there would
have been proper notice.

1.why? bc it was low income housing and the FHA was financing and uses its own mandatory
documents so there wasn’t much discretion for Dolan
 What was the consequence?
1. public reprimand

Baldasarre & Neumann v. Butler & DiFrancesco - Attorney had the duty to disclose all of the
information pertaining to the sale and therefore there was an inherent conflict of interest.

 facts: B& N were selling RE property to D and Bu represented both of them. Both parties signed the
waiver of conflicts letter to have Bu represent them both. D’s right to assign was explained,
according to B, to B&N. D turned around and entered into a written contract to sell the property to
M(essano) for a price much higher than the og K (Bu represented D in that transaction). There was
also confidentiality clause in the M K which prevented M from entering the property or listing it for
sale during the term of the agreement. (this was meant to keep it secret from B&N). B&N granted
an extension so that D could get approval. B&N sue bc they find out about the secret assignment
 B&N sue for rescission and compensatory and punitive damages - fraud and Bu’s lpr
 D cross sues for damages for prospective economic advantage under the M K & for specific
performance
 Court:
o Bu had duty to disclose to B&N about the M K when they asked
o to make plaintiffs whole, they are entitled to the balance of the purchase price, $1,930,000,
together with interest on the entire balance from the date they would have closed
o D had no duty to disclose the assignment to B&N
 Compared to Dolan → Bu could not rep both parties bc he was a part of the negotiations
(conflicting interests)

Bale v. Allison- Quit claim deed doesn’t have to have consideration.

 facts: Bob Fletcher took care of brother’s sons J&R when he died. Married sister-in-law for 2 yrs.
Then married Edna Fletcher who had 2 adult sons D&A. Had a cabin that J&R spent time at, then
when married ED, D&A made many repairs and improvements, furnished the place. BF then
 67
married Allison. Made will - left cabin to D&A, $2000 to daughter and then residue to A with the
hope that D&A would let A and J&R use the cabin. BF got sick. J&R came to take BF out for lunch
and he told them that he wanted to give them the cabin so they had him sign a QC deed in front of
notary. Didn’t fill out to whom/what for at first but then re-recorded it with that info a few yrs later.
 D&A argue that there no consideration for the QC deed so the transfer was invalid
 Court:

there doesn’t have to be any consideration for a QC deed