lien priority issues in residential settings · 2020-01-12 · lien priority issues in residential...
TRANSCRIPT
LIEN PRIORITY ISSUES IN RESIDENTIAL SETTINGS
Texas Land Title Institute
December 8, 2016
Presented by
G. ROLAND LOVE NORTH AMERICAN TITLE COMPANY
8070 Park Lane, Suite 200 Dallas, Texas 75231 Phone: 214-720-1020 Fax: 214-265-7125
email: [email protected]
Board Certified in Commercial, Farm and Ranch, and Residential Real Estate Law by the Texas Board of Legal Specialization, and admitted to the U.S. Patent and Trademark Office.
Representative Experience
Real Estate curative matters
Title and real property disputes
Title insurance coverage
Regulatory matters before the Texas Department of Insurance
Extensive appellate practice throughout the state
Experience in all aspects of title industry, including entities,
escrow, title insurance and RESPA
Intellectual Property litigation and licensing
Professional & Community Involvement
AIDS Interfaith Network (AIN) (Advisory Committee)
College of the State Bar of Texas (Fellow)
Consumer Credit Counseling Service of Greater Dallas (Now Transformance) - (Board of Trustees)
Dallas Bar Association (Certified Mediator; Past Chair, Legal Ethics Committee and Law in the Schools Committee)
Dallas Bar Foundation (Life Patron Fellow)
American College of Real Estate Lawyers (Fellow)
Dallas Inter Soccer Club (Director and Manager)
Dallas Volunteer Attorney Program – Lawyers for Affordable Housing (Mentor)
Episcopal School of Dallas (Director)
North Texas Housing Coalition (Director)
Park Cities YMCA (Board of Directors; Sports Committee)
St. Michael's School (Vice President, Board of Trustees)
State Bar of Texas (Real Estate, Probate & Trust Law Section, Council Member and Chair 2016-2017)
State Bar of Texas (Special Prosecutor)
State Board of Texas Title Examination Standards Board
State Bar Board of Legal Specialization (Examiner)
Tarrant County Bar Foundation (Fellow)
Texas Bar Foundation (Life Fellow)
Texas Bar CLE, Advanced Real Estate Drafting Course (Chair)
Texas Land Title Association (Chair, Legislative Committee; Chair, Title Insurance: A Primer For Lawyers; Past Chair, Defense Counsel Committee; Director and Vice-Chair, PAC; Instructor)
Texas Land Title Institute (Chair - 17 Years)
Texas Land Title PAC (Vice-chair, Board of Trustees)
Texas Real Estate Commission (Instructor)
The 500, Inc. (Director)
United Way – Tocqueville Society (Member); Advocacy Committee (Vice-Chair)
YMCA Indian Guides Program (Nation Chief)
Roland Love Texas Region President North American Title Company
Dallas t: 214.720.1020 f: 214.265.7125 e: [email protected]
Southern Methodist University, Dedman School of Law J.D., 1977
Editor, Southwestern Law Journal
Thomas P. McElroy Award, Texas Civil Practice
Texas Bar Foundation Outstanding Law Review Article Award
Texas A&M University B.S., Electrical Engineering,
1974
summa cum laude
College of Engineering Outstanding Senior Award
Department of Electrical Engineering Bolton Award
National I.E.E.E. Outstanding Student Paper
YMCA Partners with Youth Sustaining Campaign (Chair)
YMCA Youth Sports Program (Director and Coach)
Awards & Recognition
AIN – Crystal Hope Award
Dallas Inter Soccer Club - Volunteer of the Year
Texas Bar Foundation Outstanding Law Review Article Award
Texas Land Title Association Peggy Hayes Teaching Excellence Award
Texas Land Title Association President's Award (2005, 2014)
Texas Land Title Association Professional Excellence Award
Texas Land Title Association Special Certificate of Appreciation (2013)
Texas Super Lawyers, Real Estate, Commercial Litigation, Texas Monthly, 2005-2013
Presentation Topics
Ad Valorem Taxes
Authority to Close
Construction Contracts and Lien Issues
Escrow Issues and Curative Matters
Ethics – Issues Faced by Real Estate Attorneys
Federal Compliance at the Closing Table
Foreclosure - Real Property Title Issues
Legal Documents
Legislative Updates Regarding Real Property
Liens Common to Real Property Closings
Mechanic's, Contractor's or Materialman's Liens
Minerals – Title Insurance Issues
Mortgage Fraud
RESPA/Tex. Ins. Code/P-53
Texas Homestead/Home Equity Issues
Title Insurance Affirmative Coverages
Title Insurance and Survey Considerations
Title Issues in Bankruptcy
Admitted to Practice
Texas, 1977
U.S. Patent and Trademark Office
U.S. District Courts for the Northern, Southern, Eastern and Western Districts of Texas
U.S. Court of Appeals, Fifth Circuit
U.S. Court of Appeals, Eleventh Circuit
U.S. Supreme Court
Personal Interests
Tennis, skiing, fishing and sailing; active as a community volunteer with a number of organizations focusing on individual financial counseling, housing, education, and children.
TABLE OF CONTENTS
I. INTRODUCTION ....................................................................................................................... 1
II. ADDRESSING PRE-EXISTING LIENS .................................................................................. 1
A. RELEASES OF LIEN......................................................................................................... 1
B. ASSIGNMENTS & TRANSFERS OF LIENS .................................................................. 4
C. ASSUMPTION OF AN EXISTING DEBT ....................................................................... 6
D. CONVEYANCE “SUBJECT TO” AN EXISTING LIEN ................................................. 6
E. WRAP FINANCING .......................................................................................................... 7
F. HOME EQUITY LINES OF CREDIT ............................................................................... 8
III. CREATION OF NEW LIENS— ASSURING VALID AND PRIOR ..................................... 8
A. PRACTICE TIPS ................................................................................................................ 8
B. PERMISSIBLE LIENS AGAINST THE HOMESTEAD .................................................. 9
C. THE NON-BORROWING SPOUSE ON TRANSACTIONS ........................................... 9
D. HOME EQUITY LIENS ................................................................................................... 10
E. CONSTRUCTION LOANS ............................................................................................. 11
F. SELLER FINANCE.......................................................................................................... 11
G. MISCELLANEOUS ISSUES ........................................................................................... 12
IV. LOSING LIEN PRIORITY .................................................................................................... 13
A. AD VALOREM TAXES .................................................................................................. 13
B. PACE LOAN PROGRAMS ............................................................................................. 13
C. PRIOR PERFECTED CONSTRUCTION ....................................................................... 14
D. FAILURE TO TIMELY RECORD .................................................................................. 14
E. FORFEITURE .................................................................................................................. 14
F. FRAUDULENT TRANSFER .......................................................................................... 14
G. EQUITABLE SUBORDINATION .................................................................................. 14
H. WHEN EQUITABLE SUBROGATION YIELDS TO THE RECORDING STATUTE 14
V. TRAPS FOR THE UNWARY ................................................................................................. 18
VI. CONCLUSION....................................................................................................................... 20
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I. INTRODUCTION
In addition to creditworthiness as a factor in most loan transactions, a loan is typically underwritten based on the value of real property collateral, and obviously so in a non-recourse basis. One of the best ways to assure lien priority is to address the priority and creation of security instruments from the onset. This includes the lawyer taking a role in reviewing the title commitment and in particular checking the legal description and the vesting documents. Typical errors in the legal description include the type of description that matches the survey description, typographical mistakes, and the use of old descriptions that are no longer relevant or mismatched to revised plats or boundary line agreements.
Pre-existing rights should be checked, particularly for third party agreements, for a purchase option, or for rights of first refusal. These rights can be found in leases, management agreements and the like. If there is a tenant, it is typical to obtain an estoppel letter or similar agreement from that tenant regarding any claimed rights in the property. Counsel should also confirm actual authority for execution of documents.
II. ADDRESSING PRE-EXISTING LIENS
Schedule “C” of a Title Commitment will typically contain those matters that must be dealt with, or “cured”, before funding a deal and issuing a title policy. The most common Schedule “C” items are liens, whether voluntary liens (such as deeds of trust and vendor’s liens) or involuntary liens (such as ad valorem tax liens, mechanic’s, contractor’s, or materialman’s liens, judgment liens, state tax liens or even federal tax liens). It is critical to be always be mindful never to close a transaction without first assuring a payoff of all Schedule “C” liens. It behooves counsel to carefully review the commitment, the vesting deed and the loan agreement, but also to review existing documentation such as leases, management agreements and third party agreements. These should be reviewed particularly for rights of first refusal or option agreements. Also any tenants should be contacted to see if preexisting rights are claimed and an estoppel letter or the like may be warranted.
Schedule B Exceptions should be reviewed to check for restrictions, reserved rights and easements, or even purchase rights. If an existing lien is not going to be paid at closing, for example if the lien is being assumed or the purchase being taken “subject to” an existing lien, the existing lien will be moved from Schedule “C” to Schedule “B” of the Title Commitment. The existing lien will then be listed on
Schedule “B” of the final policy, meaning it is an exception to the title policy. This should only be done intentionally and as part of the consideration.
A. RELEASES OF LIEN.
1. Generally. Without the continued existence of a debt, security for that debt may not be retained. Thus, a debtor is entitled to a release of the lien upon payment of the debt. See Norriss v. Patterson, 261 S.W.2d 758 (Tex. Civ. App.—Fort Worth 1953, writ ref’d n.r.e.). The holder of the debt is obligated to prepare and execute a proper release of lien(s), and the borrower is under a duty to pay the reasonable expense of this preparation and execution. See Bayless v. Strahan, 182 S.W.2d 262 (Tex. Civ. App.—Amarillo 1944, writ ref’d w.o.m.).
a. Know what you are releasing, and prepare the legal document accordingly. Examine the document; do not just prepare the document from a title commitment.
b. Some lender payoff statements include a “release preparation and recording fee”. In those instances, the lender will prepare and record the release. There is merit to preparing a release nonetheless, and sending it with the payoff funds, transmittal letter, and self-addressed stamped envelope. You can then assure recording of the release when the original is sent to you. Unrecorded releases serve little value.
c. Practice Tips:
(1) Any original, unrecorded release of a lien provided by a seller or borrower should be independently verified.
(2) Be cautious if a seller presents a “Discharge of Mortgage” purporting to release institutional lenders. A Discharge of Mortgage mentions that a mortgage has been “discharged,” may now be discharged of record, meaning that the Mortgage is cancelled and void, and that the lien debtor agreed to the use of the UCC 3-401 (signature by power of attorney).
(3) If a release of lien is unavailable (i.e. lender no longer in business), under some circumstances, underwriters will accept a Lien Payoff Affidavit when accompanied by a payoff letter, copy of a release, HUD statement reflecting the payoff, copy of a cancelled check or the like. The affiant will often indemnify the title company and the underwriter against the defect.
2. Language: Release of Debt Secured by Deed of Trust & Vendor’s Lien.
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“That, the undersigned, the legal and equitable owner and holder of that one certain Promissory Note in the original principal sum of $444,444.00 dated June 4, 1991, executed by JACK UVALDE and wife, ANGELINA UVALDE, payable to the order of THEREFORYOU BANK, being secured by Vendor’s Lien retained in Deed dated June 4, 1991, filed June 5, 1991, recorded under Instrument No. D911873545, of the Deed Records of Tarrant County, Texas and further secured by Deed of Trust to TRAVIS UPSHUR, Trustee, filed for record under Instrument No. D911873546, Deed Records of TARRANT County, Texas, against the following described property situated in TARRANT County, Texas, to-wit:…”
3. Language: Release of Debt Secured by Deed of Trust Only.
“That, the undersigned, the legal and equitable owner and holder of that one certain Promissory Note in the original principal sum of $444,444.00 dated June 4, 1991, executed by JACK UVALDE and wife, ANGELINA UVALDE, payable to the order of THEREFORYOU BANK, being secured by Deed of Trust to TRAVIS UPSHUR, Trustee, filed for record under Instrument No. D911873546, Deed Records of TARRANT County, Texas, against the following described property situated in TARRANT County, Texas, to-wit:…”
4. Language: Partial Release of Lien.
a. When one or more tracts of land are collateral for a note, the parties to a deed of trust might agree to a partial release if partial payment is made on the mortgage debt. See Murchison v. Freeman, 127 S.W.2d 369 (Tex. Civ. App.—El Paso 1939, writ ref’d). Sometimes, this takedown is outlined by agreement in the loan documents, and other times it is by agreement of the parties. See Gregg v. Texas Bank & Trust Co., 235 S.W. 689 (Tex. Civ. App.—Beaumont 1921, writ ref’d).
b. “Holder of the Note acknowledges its partial payment and releases from the lien only the property described above.”
5. Language: Partial Release of Abstract of Judgment (other than Federal AJ’s).
a. “For value received, Holder of Abstract of Judgment releases only the Property from the Abstract of Judgment and from all liens held by Holder of Abstract of Judgment, without regard to how they were created or evidenced.”
b. Prior to September 1, 2007. Texas statutory law was not clear prior to 2007 as to the effect of an abstract of judgment on homestead property in Texas. Attorneys would have to rely on Texas case law, such as Tarrant Bank v. Miller, 833 S.W.2d 666 (Tex. App.—Eastland 1992), to convince holders of AJ’s to execute a partial release of lien to clear an abstract of judgment before closing a conveyance of a homestead free and clear of the AJ.
c. Section 52.001 of the Texas Property Code. (effective September 1, 2007)
(1) The statutory change made it clear that an AJ does not attach to homestead property of the judgment debtor as long as the property remains the homestead of the debtor.
(2) Affidavit to Lift Abstract of Judgment Lien on Homestead. For AJ’s filed on or after September 1, 2007, the statute provides a means to release the AJ affecting homestead property through the use of an affidavit. If the statutory requirements for the affidavit are satisfied, once the affidavit is filed in the deed records of the county in which the property is located, the AJ is released as a lien on the described property. However, the judgment creditor can file a “contradicting affidavit.”
(3) Underwriters will not rely on the Affidavit to Lift Abstract of Judgment Lien on Homestead without reviewing it first and assuring adequate time has passed for objection.
d. AJ against the Other Spouse.
(1) Texas law provides that an abstract of judgment against one spouse does not attach to the other spouse’s separate property. See Ferguson v. Kuehn, 246 S.W. 674 (Tex. Civ. App.—Austin 1922, no writ); Texas Family Code, Sect. 3.202(a).
(2) Beware: Many underwriters treat an AJ against one spouse as clouding title to all property. There are exceptions, but it is the obligation of the sellers and not the title company to establish community vs. separate property. Texas Family Code, Sect. 3.202(b)
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e. Practice Tip - Just because the judgment debtor claims that the property is homestead, it will not be removed from a title commitment.
6. Be Diligent In Doc Prep.
a. “For and in consideration of the full and final payment of all indebtedness secured by the aforesaid lien or liens, the receipt of which is hereby acknowledged, the holder has RELEASED and DISCHARGED, and by these presents hereby RELEASES and DISCHARGES the above-described property from all liens held by the undersigned securing said indebtedness.”
b. Compare: “… from the above described liens held by the undersigned securing said indebtedness.”
c. Compare: “Holder of the Note acknowledges its payment and releases the property from the lien.”
7. Release of Mechanic Liens.
a. Background. When a debt for labor or materials advanced to improve real property is not paid, a person who furnishes the labor or materials may file in the real property records an affidavit claiming a lien against the real property in order to secure the indebtedness. The claimed lien(s) needs to be properly released to assure a new voluntary lien’s priority.
(1) The Texas Property Code creates an obligation on the person furnishing the labor or materials to furnish a release of the indebtedness and any lien claimed (to the extent of the indebtedness paid) to a requesting party not later than the 10th day after the date of receipt of a written request for a release. See Tex. Prop. Code Ann. § 53.152(a).
(2) The release must be in a form that would permit it to be filed of record. See Tex. Prop. Code Ann. § 53.152(b).
b. Extinguishment by Foreclosure. Foreclosure of a prior recorded deed of trust does not always extinguish a subsequently filed mechanic’s lien affidavit.
(1) Removables. To the extent that the mechanic’s lien affidavit claims a lien against removables, the lien will not be extinguished. The question becomes which improvements are removables (removed without causing material damage) versus fixtures, a question that underwriters understandably interpret very conservatively. What is a removable versus what is a fixture is determined by case law in Texas.
Unfortunately, the case law across the state is very inconsistent.
i. Removables: carpet, door locks, doors, metal door frames, door latches, ticket booth at a drive in movie, wall switches and plugs, electrical control panels, mirrors, bathroom hardware, light fixtures, movie screens, pumps, signs, sink, speaker stands, toilets, landscape vegetation
ii. Not removables: electrical conduit, wiring, and junction box, window frames, lumber to build a house, paint, roof
(2) Inception Date. The inception date of all mechanics’ liens on the construction project is the date that the first person (not a particular claimant) supplied labor or materials on the project. It is inherently difficult to determine the date the commencement of construction began on the project.
c. A mechanic’s lien or an affidavit claiming a mechanic’s lien filed as required by statute may be discharged of record by:
(1) Recording a release signed by the claimant pursuant to statute. See Tex. Prop. Code Ann. § 53.157(1).
(2) Failing to foreclosure the lien in the county in which the property is located within the time period prescribed by statute. See Tex. Prop. Code Ann. § 53.157(2).
NOTE: Most underwriters will not allow you to insure around a recorded mechanic’s lien based on a mechanic’s lien being barred by limitations without underwriting’s approval.
(3) Recording a final Court order providing for a discharge of the lien. See Tex. Prop. Code Ann. § 53.157(3).
NOTE: underwriters will require the judgment to be non-appealable.
(4) Filing a bond to indemnify against the lien. See Tex. Prop. Code Ann. § 53.157(4). (i.e. Bond to Indemnify Against Lien under Tex. Prop. Code § 53.171 et seq.)
(5) Filing a bond to pay the liens or claims. See Tex. Prop. Code Ann. § 53.157(5). (i.e. a Bond to Pay Liens or Claims under Tex. Prop. Code § 53.201 et seq.)
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(6) Recording a certified copy of an order removing the lien pursuant to statute and a certificate from the clerk of the Court that states that no bond or deposit as described by statute was filed by the claimant within 30 days after the date that the order was entered. See Tex. Prop. Code Ann. § 53.157(6).
d. Language: Release of Mechanic’s and Materialman’s Liens.
(1) “Whereas _________ (“Claimant”) has heretofore on or about __________ (date) attempted to assert a Mechanic’s and Materialmen’s Lien on the property below (by Affidavit filed in Volume _____, Page ________, Real Property Records, Tarrant County, Texas: (insert Legal); Whereas __________, the owners of the Property, have reached an agreement with Claimant for the release of said lien against the Property; Now, therefore, Claimant hereby releases the described Property from its above referenced mechanic’s lien in consideration for $10.00 and other valuable consideration, the receipt and sufficiency of same being hereby acknowledged.”
(2) Include the signature of Claimant, along with proper acknowledgment. Record the release in the real property records of the county in which the property is located.
e. Underwriters sometimes will insure around mechanics’ liens if the party(ies) executes an acceptable indemnity backed by a cash deposit, usually 1.5 or 2 times the aggregate amount of the mechanic’s lien, but most borrowers do not want to advance (or more likely, are unable to) this sizable cash deposit.
B. ASSIGNMENTS & TRANSFERS OF LIENS.
1. Overview. A transfer of the mortgage debt has the effect of transferring the mortgage and the lien reserved to secure it. See Nutt v. Anderson, 87 S.W.2d 760 (Tex. Civ. App.—Fort Worth 1935, writ dism’d). Generally, absent a clause limiting assignments, a deed of trust is assignable. An assignee of the mortgage stands in the shoes of the one assigning the mortgage and may assert those rights that the assignor could assert, including bringing suit. See Crowell v. Bexar County, 351 S.W.3d 114 (Tex. App.—San Antonio 2011).
2. Language: Assignments & Transfers of Lien.
“For value received, Holder of Note and Lien transfers and assigns them to Transferee without recourse, representation or warranty, whether express, implied or otherwise, the above-described note, together with the indebtedness it evidences, and with all liens and any
superior titles held by the Transferor securing the payment of the above described note.”
3. Refinance. In a transaction where the existing lender, or a new lender, is refinancing an existing debt, the lender will require a loan policy insuring that the refinanced lien is valid and prior, and will expect to take the position of the existing lien that is being paid off in the refinance. In refinance transactions, it is imperative that: (a) the payoff of the existing lien be documented; (b) there are no new funds being advanced, but reasonable costs necessary to refinance can be subject to lien; (c) the new deed of trust contains proper renewal and extension language; and (d) prepare, insure execution, and record a transfer of lien from the existing lender to the new lender, especially when the lenders are not identical. The transfer of lien is a better practice to clarify the record, but many lenders will not provide a transfer of lien because of continuing liability concerns.
a. Background. The maturity date of a deed of trust may be extended by agreement of the parties and the note may be renewed. See Wehmeyer v. Domingues, 286 S.E.2d 194 (Tex. Civ. App.—San Antonio 1956); Yates v. Darby, 133 Tex. 593, 131 S.W.2d (Tex. Comm’n App. 1939). Neither creates a debt or lien but instead continues the original obligation and the lien securing the obligation. See W.C. Belcher Land Mortgage Co. v. Taylor, 212 S.W. 647 (Tex. Comm’n App. 1919).
(1) This holds true even if the mortgaged property was conveyed to another. See Sohio Petroleum Co. v. Gunter, 205 S.W.2d 110 (Tex. Civ. App.—Eastland 1947, no writ).
(2) A lienholder who acquires a second lien subject to the rights of the senior lienholder is bound by any valid agreements extending the senior lien. See Mercer v. Daoran Corp., 676 S.W.2d 580 (Tex. 1984).
(3) Title Insurance Exceptions: intervening lien in favor of the United States or any Federal Corporations, agencies, departments or other instrumentalities of the United States; a Criminal Restitution Lien; or a super priority lien in favor of a local governmental entity like an ad valorem tax lien, Workforce Commission, weed liens, demolition liens, street assessments liens etc. These liens must be released or subordinated to the renewal deed of trust.
b. Continuation of Existing Debt not Presumed. When a new mortgage is executed to secure a new loan for the purpose of paying off a prior mortgage, the new mortgage is not a renewal of the prior mortgage where
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there was no contractual or other relation between the two mortgagees regarding the prior debt unless there is a disclosed intention of the parties. See Amicable Life Ins. Co. v. Slovack, 217 S.W. 200 (Tex. Civ. App.—Austin 1919, writ ref’d).
c. Language: Renewal & Extension in the Deed of Trust.
(1) “Renewal and Extension. The Note hereby secured is given in modification, renewal and extension (but not in novation or in accord and satisfaction) of the sum left owing under that certain Promissory Note in the original principal sum of $612,000.00 dated August 18, 2010, executed by JACK UVALDE and wife, ANGELINA UVALDE and payable to the order of THEREFORYOU BANK, more fully described in a Deed of Trust executed by JACK UVALDE and wife, ANGELINA UVALDE for the benefit of THEREFORYOU BANK dated August 18, 2010, recorded in under Document No. D210201405, Deed Records of Tarrant County, Texas; additionally secured by assignment of leases and rents dated August 17, 2010, executed by JACK UVALDE and wife, ANGELINA UVALDE to THEREFORYOU BANK recorded in under Document No. D210201409, Deed Records of Tarrant County, Texas; further secured by UCC Financing Statement filed August 31, 2010, under Clerk’s No. D210211821, Deed of Trust Records of Tarrant County, Texas. It is expressly agreed that such sum left owing on the above described Promissory Note was advanced by Southwest Bank to the holder thereof and that said liens are hereby renewed, extended and carried forward in full force and effect to secure the payment of the Indebtedness.”
(2) “All or a portion of the proceeds of the note secured by this deed of trust represents funds advanced by Beneficiary to Grantor and that Grantor used in part to discharge a prior note in the original principal sum of $______ which is dated ___________, executed by __________ and payable to the order of _____________. The prior note is secured by a deed of trust on the property from ____________ to __________, Trustee, which is dated _________ and recorded in Volume ______, Page ______, of the Real Property Records of _________ County, Texas (and if applicable, describe the vendor’s lien). Grantor acknowledges that the lien(s) securing the prior note is valid, that it subsists against the property, and that by this instrument it is renewed and extended in full force until the note is paid, even if the prior lien is released and not assigned to the Beneficiary;”
d. Subrogation.
(1) Texas has long recognized the common law principle of equitable subrogation. When funds of a new lien are used to payoff an existing lien, the new lender is subrogated to the lien rights of the existing mortgagee to the extent of the payoff funds. When the new lien is improperly perfected or fails, the laws of subrogation allow for recovery of at least the funds advanced to payoff an existing lien. So even though a lien may have arisen or subsequent to a prior recorded lien, the subsequently filed deed of trust has priority over the intervening lien to the extent that the loan proceeds were used to pay off a mortgage that had priority over the intervening lien.
(2) See LaSalle Bank Nat’l Ass’n v. White, 246 S.W.3d 616, 618-19 (Tex. 2007) (holding that lender was equitably subrogated to prior lienholders’ interest and, thus, could pursue recovery “for the refinance portion of the loan proceeds” that were used to pay purchase-money and tax liens on homestead property); see also Benchmark Bank v. Crowder, 919 S.W.2d 657, 661 (Tex. 1996) (holding that bank that loaned money to homeowners to pay federal taxes was equitably subrogated to federal tax liens against property and stating that “[o]nce valid, the lien [did] not become invalid against the homestead simply because the original debt [had] been refinanced”).
(3) As a general practice, subrogation language should be in every deed of trust as a savings clause. Require subrogation language to be contained in the deed of trust in every refinance transaction where closing costs and related fees are included in the principal amount of a new loan.
(4) “It is understood and agreed that the proceeds of the Note, to the extent the same are utilized to renew and extend any indebtedness or take up any outstanding liens against the property, or any portion thereof, have been advanced by Beneficiary at Grantor’s request and upon Grantor’s representation that such amounts are due and payable. Beneficiary shall be subrogated to any and all rights, remedies, powers, privileges, liens, titles, and security interest owned or claimed by any owner or holder of said outstanding indebtedness or lien, however remote, regardless of whether said indebtedness or lien is acquired by assignment or is released by the holder thereof upon payment.”
e. Practice Tip - Document Payoffs. Always remember to document the flow of funds in order to preserve subrogation rights. Document payoffs to reflect the loan payoff: (1) on the closing statement; (2) with a written payoff statement; and (3) with a copy of the payoff check or wire.
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f. Once a Home Equity Loan, Always a Home Equity Loan. If the existing loan to be “refinanced” is a home equity loan, then the new loan also must be a home equity loan (it is not really a refinance). Article XVI, § 50(f) of the Texas Constitution provides that if any portion of a new loan is used to pay off a prior home equity loan, the new loan must be processed as a home equity loan (or a reverse mortgage). Otherwise, the new loan cannot be secured by a valid lien against the homestead.
But take a situation where the borrower moves away, rents the prior homestead house, establishes a new homestead, and later wants to refinance the HEL on the house that used to be his homestead. Does the refinance transaction have to be a HEL? There is a divergence of opinions on this one among underwriters. Most will insure a Deed of Trust lien under these circumstances.
4. COLLATERAL ASSIGNMENTS.
a. The security instruments (i.e. the deeds of trust) with real property as the underlying collateral can be bundled themselves and used as collateral for a new, larger loan. In such situations, the underlying security instruments are “collaterally assigned” to the new lender to secure a new promise to pay.
b. Read the collateral assignments carefully. Many of them do not actually “collaterally assign” the underlying security instruments, but instead actually assign the individual security instruments to the new lender. When this is the case, the new lender, because they are actually the owner and holder of the underlying debt, must consent and join in any assignment or release.
5. UNRECORDED ASSIGNMENTS.
a. Today’s Mortgage Climate. Unfortunately, with the inception of MERS, lenders have not made it a practice to record assignment of liens. Add to that problem the number of failed lending institutions. At the same time, there is the proliferation of servicers and the expansion of Texas law that allows servicers to perform the functions traditionally reserved only for the holder of the notes. What has resulted is an environment that makes it difficult to determine the true holder of any note, and it can be difficult to know who to request a payoff statement from, not to mention who will be signing the release of lien.
b. Practice Tip. Always prepare and send the transfer of lien to the lender on a refinance. Keep a copy of the transmittal letter and the transfer of lien in your file.
c. Refusal to Transfer. Some lenders refuse to transfer the lien and will only release the lien, citing “lingering liability” issues. Underwriters usually accept this practice because of the equitable subrogation principles.
C. ASSUMPTION OF AN EXISTING DEBT.
1. In some instances, a purchaser of encumbered property agrees to take title to real property and, as part of the purchase price, assumes the existing debt with or without any additional consideration. This generally requires the consent of the lender. The seller remains liable to the existing lender unless the lender agrees to release the seller from further liability. When the financing involves an assumption of a mortgage, prepare an Assumption Deed and an Assumption Deed of Trust.
2. Although it is rare to encounter assumable loans held by mortgage companies or banks, it is not uncommon to encounter assumptions when seller financing is involved, especially since older loans tend to earn higher interest rates.
3. If additional consideration is given for the purchase above the assumption of the outstanding balance of the existing debt obligation, and if that consideration is a loan and not cash, then that new loan for only the additional consideration is a separate, second and inferior debt obligation, and the deed of trust should be prepared as such.
D. CONVEYANCE “SUBJECT TO” AN EXISTING LIEN.
1. Generally. Unlike the assumption scenario, when a purchaser buys real property “subject to” an existing lien, the purchaser does not personally assume the existing lien. See International & G.N. Ry. Co. v. Concrete Inv. Co., 263 S.W. 265 (Tex. Comm’n App. 1924). In this scenario, the buyer of real property encumbered with a lien agrees to purchase the real property “subject to” the prior encumbrance.
a. Except, if the purchaser agrees to pay some of the installments of the existing mortgage debt, Texas courts hold that the purchaser assumes the debt. See North Texas Building & Loan Ass’n v. Elder, 66 S.W.2d 379 (Tex. Civ. App.—Fort Worth 1933, writ ref’d).
b. Except, if a purchaser agrees to pay a certain sum for the purchase, but only actually pays the vendor the difference between the sum named as the purchase price and the debt on the land, the purchaser actually
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assumes payment of the prior lien indebtedness, notwithstanding that the deed recites that the land is purchased “subject to” the lien. See Fidelity Union Fire Ins. Co. v. Cain, 28 S.W.2d 833 (Tex. Civ. App.—Dallas 1930, no writ).
2. Required Notice. Texas Property Code Section 5.016 (effective January 1, 2008).
a. The Property Code requires that notice be sent by the owner of a residential property to the purchaser and every current lienholder if the sale will not pay a recorded present lien.
b. Notice must be in a separate written disclosure in at least 12-point type that identifies each lienholder; states the amount of debt secured by each lien; specifies the terms of any contract or law under which the debt that is secured by the lien was incurred, including as applicable the rate of interest, the installment payments, and the account number; indicates whether the lienholder has consented to the transfer of the property to the purchaser; specifies the details of any insurance policy; states the amount of property taxes; and includes a disclosure substantially similar to the one provided in the statute.
c. The stated purpose is to protect unsuspecting purchasers from buying residential properties without knowledge of prior liens being taken subject to or wrapped.
d. The statute provides that the failure to give notice does not invalidate the conveyance. However, if a contract is entered into without the seller providing the notice, the purchaser may terminate the contract for any reason on or before the seventh day after the date the purchaser receives the notice in addition to other remedies provided by law.
3. Practice Tips:
a. Modify your Deed of Trust language for a Deed of Trust in a Conveyance “Subject To” in the “Other Exceptions to Conveyance and Warranty” section.
b. In your final title policy, the new lien(s) created in the transactions will be listed on your Schedule B along with the existing lien(s), whether or not the purchaser assumed the existing lien(s) when buying the real property “subject to” the existing lien(s). Most underwriters also require exception specifically to any “due on sale” provision in an existing deed of trust.
c. The title insurance company will likely require that that notice information to the parties be provided at closing and most have a form to use before insuring.
E. WRAP FINANCING.
1. Generally. At times, a purchaser of land encumbered with a lien to pay an existing debt agrees to pay a particular sum as consideration for the purchase which includes the amount owed to the first lien holder. The old borrower maintains liability for the original loan.
a. By way of example, Jack Uvalde owns Tract 1 encumbered by an existing lien with an outstanding balance of $50,000.00 to Thereforyou Bank. Mr. Uvalde sells Tract 1 to Travis Swisher for $100,000.00 with wrap financing. In other words, the financing wraps around the existing debt. So Mr. Swisher makes his monthly payments to Mr. Uvalde on the $100,000 debt obligation, and Mr. Uvalde in turn continues to pay on the $50,000.00 debt obligation.
b. There are obvious risks to the purchaser, but there are times that the benefits of the wrap to the purchaser outweigh the risks i.e. if the buyer is unable to obtain a loan, or is unable to obtain a loan at the lower interest rate of the existing lien.
c. Some attorneys refuse to prepare wrap financing documents based on the fact that the financing structure violates the contractual terms of the existing deed of trust i.e. the existing deed of trust contains a “due on sale” clause. A “due on sale” Disclosure and Hold Harmless Document should satisfy this concern. In addition the due on sale is a contractual provision, which the lender may or may not choose to treat as a default.
d. Many title companies now require that all “wrap” transactions be first approved by underwriting before closing and insuring.
2. Practice Tip. Do not forget about the seller Notice required by Tex. Prop. Code § 5.016. In an insured transaction, remember that most underwriters will require that the information contained in the notice be provided at closing and that there are exceptions in Schedule B to the underlying deed of trust (including any “due on sale” provision) and to the “wraparound” deed of trust.
3. Language: Wrap Financing in Deeds of Trust.
“The lien created by this deed of trust is subordinate to the lien securing the unpaid balance of a prior
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promissory note in the original principal amount of FORTY-FIVE THOUSAND AND NO/100 DOLLARS ($45,000.00), which is described in and secured by a deed of trust recorded in DOCUMENT NO. D204037969 of the real property records of TARRANT County, Texas. Grantor has not assumed payment of the prior note, but Lender is obligated to pay it according to its terms. Lender agrees to timely pay all installment payments due on the prior note and to deliver to Grantor a good and sufficient release of the prior deed of trust at or before the time Grantor pays the Note secured by this deed of trust to Lender. The warranty deed with vendor’s lien referred to above provides that in the event of default in payment of the prior note, Grantor will have the right to cure any such default as long as Grantor is not in default in payment of the Note secured by this deed of trust or in default in performance of the covenants of this deed of trust. If Grantor cures a default in payment of the prior note, Grantor may receive credit on the Note secured by this deed of trust for all amounts so paid as of the date of the payment, in accordance with the terms of the Note.
“If Lender fails to make when due any deposit to the tax and insurance reserve fund provided for under the deed of trust securing payment of the prior note, Grantor will have the right to make the deposit to the tax and insurance reserve fund as long as Grantor is not in default in payment of the Note secured by this deed of trust or in performance of the covenants of this deed of trust. If Grantor makes such a deposit, Grantor will receive credit on the tax and insurance reserve fund provided for in this deed of trust for all amounts so deposited, as of the date of the deposit.”
F. HOME EQUITY LINES OF CREDIT.
1. Overview. In Texas, owners can obtain a line of credit secured by their homestead real property. These loans are called a Home Equity Credit Loans (HELOC).
2. Practice Tip - Close the prior Line of Credit in the event of new HELOC. When there is an unreleased and open HELOC, “close” the line of credit before closing a new loan. If you fail to close the line of credit, the borrower retains the ability to make draws on the equity line after obtaining a payoff statement. When that happens, the funds collected at closing to payoff the HELOC are insufficient, and the HELOC remains an unreleased lien with priority over the new insured lien.
(1) Most title companies have a closure/”freeze” authorization letter for the borrower(s) to sign that can be sent to the lender before a payoff is issued. This will help protect from late penalties, new charges, annual
fees or assessments that may have intervened after the date of the original payoff statement.
(2) A second letter should be sent with the payoff funds and release, confirming that the account is closed and requiring the lender to satisfy the mortgage or deed of trust. Keep copies of this documentation in your file.
(3) Remind the borrowers that the account is closed; not to take any more draws out on the line of credit; and to locate and destroy all checks, credit cards, etc. associated with the equity line of credit.
(4) Obtain an updated payoff statement no more than two days prior to paying off the HELOC in full.
III. CREATION OF NEW LIENS— ASSURING VALID AND PRIOR
When part of a purchaser’s payment for real property will be a loan, or when the owner of real property is obtaining a new loan secured by real property, affirmative steps should be taken so that the lien(s) created in the transaction is valid and prior.
A. PRACTICE TIPS.
1. Read the contract and all addenda between the parties. Do not assume anything.
2. Compare the contract to the title commitment i.e., does the property described in the contract match the property in the title commitment? If the legal description on the deed of trust is referenced as an Exhibit “A,” has Exhibit “A” actually been attached? Is the owner of record reflected on the title commitment actually the party that signed the contract?
Adequate Legal Description. One that either within itself or by reference to another document provides the means by which the land may be identified with reasonable certainty. See Morrow v. Shotwell, 477 S.E.2d 538, 539 (Tex. 1972).
3. Take note of the Borrower defined in any closing instructions as compared to the Buyer on the purchase contract, the use of powers of attorney, required endorsements, special instructions etc.
4. Reasonable and necessary closing fees may be included in a new loan and in the amount of a loan policy insuring a deed of trust or mechanic’s lien on homestead property. Most title insurance underwriters limit the aggregate maximum closing fees to be 10% of the loan amount. Examples are the loan origination fee, closing fee, tax service fee, courier fee, loan discount
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points, tax certificates, document preparation, termite inspection etc. Keep in mind Home Equity Loans have a cost limitation based on the principal amount – a 3% cap.
B. PERMISSIBLE LIENS AGAINST THE HOMESTEAD. There are only eight permissible liens against a homestead. Any other lien claims against a homestead are considered void. See Laster v. First Huntsville Properties, 826 S.W.2d 125, 129 (Tex. 1991). See also Op. Tex. Att’y Gen. DM-366 (1995).
Permissible liens include:
a. Purchase money;
b. Improvements;
c. Ad valorem property taxes;
d. Owelty;
e. Refinancing a federal tax lien;
f. Home equity;
g. Reverse mortgages; and
h. Conversion or refinance of a lien secured by a manufactured home attached to the homestead.
Of course, liens predating the establishment of the homestead take precedence and are not invalid because of the subsequent homestead character.
C. THE NON-BORROWING SPOUSE ON TRANSACTIONS.
1. Generally. There are times when only the husband or wife is the borrower under the terms of a loan secured by real property. This could happen for a variety of reasons, including the agreement of the parties, the creditworthiness of the parties, and sometimes as a result of the lender requirements. It is extremely important to deal with the non-borrowing spouse in both conveyances and refinances correctly in order to insure that the new loan is valid and prior. See attached Chart, Appendix I, for an overview.
2. Record Title Holders are Identical to Borrowers. In this basic situation, all parties sign the note and deed of trust.
3. Homestead; Purchase Money Contract; Both Spouses on Contract; Wife is the Only Borrower.
a. Basics. Since both spouses are on the contract, both spouses should be on the vesting deed. Both spouses should be listed as Insureds on Schedule “A” of a title commitment. Only the wife must sign the note since she is the only obligor on the note.
b. Texas Case Law. Texas Case law does not require the signatures of both spouses on a homestead purchase money lien in order to be valid. See Skelton v. Washington Mut. Bank, F.A., 61 S.W.3d 56, 60 (Tex. App. - Amarillo 2001, no pet.); See also Nationwide of Bryan, Inc. v. Dyer, 969 S.W.2d 518, 521 (Tex. App. - Austin 1998, no pet.). Skelton involved spouses that purchased a homestead with only the husband signing the note and deed of trust. The Skelton Court found that the lien was a permissible lien against the homestead, even though the wife did not join, and even in light of Texas Family Code § 5.001 prohibiting the sale or encumbrance of the homestead without the joinder of both spouses. The Skelton Court explained that the prohibition does not apply to purchase money liens used to originally acquire the property since, at the time of acquisition, the property was not the homestead. One can question this rationale, but the vendor’s lien assigned to the lender will still protect the purchase money loan.
c. Underwriting Guidelines. You will find that title insurance companies generally require that all record title owners, whether the transaction is a purchase or a refinance, must be grantors on the deed of trust and must sign and acknowledge the deed of trust.
d. Pitfalls. In this scenario, be careful because lender drawn legal documents (both the deed and the deed of trust), especially when the lenders are using the Texas Fannie Mae/Freddie Mac Uniform Instrument 30441/01, will often only show the borrowers in title and may fail to join the spouse as a grantor on the deed of trust.
4. Refinance of Homestead; Husband Only is Borrower.
a. Conveyance. Lenders for refinances will often require a deed from husband conveying ½ interest in and to the real property to the wife. Of course, this transfer has community property and estate consequences beyond just the transfer. Lenders often justify their requirement by pointing to the lack of consideration from husband to wife for wife to agree to be a co-borrower on the loan. This argument works when the property is not homestead (because wife has no expectation of ownership of husband’s separate property), but clearly falls apart when the property is their homestead.
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b. Acknowledgment Regarding Lender Required Conveyance. In a situation where lender requires a conveyance in order to make the loan, many underwriters or doc prep attorneys require that the parties sign an Acknowledgment Regarding Lender Required Conveyance at closing so that the parties are made aware that the lender, not the title company or its underwriter, required the conveyance.
c. No conveyance. When there is no required conveyance by the lender, both spouses must still sign and acknowledge the deed of trust on a refinance in order to create a valid lien on homestead property, no matter who holds record title to the property. Because the homestead interest of the non-borrowing spouse exists at the time that the lien is created, the joinder of the non-borrowing spouse is required in order to create a valid lien on homestead. However, the non-record spouse may be shown as “joining and signing pro forma only” in both the grantor clause and in the signature block. An alternative practice may be to sign “as his interest may appear.”
D. HOME EQUITY LIENS.
1. Home equity loans are created and carefully limited by the Texas Constitution. The common “cash-out” refinance is actually a Home Equity Loan. Many out-of-state lenders are unaware of these requirements, leaving the lawyer, if one, and the title company in the position of making sure that the legal documents are correct and the loan is closed in accordance with Texas law. The title insurance endorsements T-42 and T42.1 insure that 18 specific constitutional requirements have been met, specifically:
a. That each owner and each spouse has given written consent to the loan.
b. That the Deed of Trust contains the disclosure that the extension of credit is the type of credit defined by Section 50(a)(6), Article XVI, Texas Constitution.
c. Documents must be executed at the office of a lender, attorney, or title company to be a valid lien. (Not a nursing home, mobile notary, or place of borrower’s employment).
BUT if the transaction closes at lender’s office or attorney’s office (even an office of a P-22 attorney), then some of the coverage under the endorsement may be deleted. Most lenders will not accept this limited coverage and will want the loan closed at the title company.
d. That the loan funds are not disbursed earlier than the 4th calendar day after closing.
e. That the election not to rescind is not signed on or before the date of the note.
f. That there are not fees collected or disbursed that were not shown on the lender approved HUD.
g. That there were no blanks in the documents when signed.
h. That the borrowers executed a written acknowledgment as to fair market value at the time they signed the note.
i. That there was no prior home equity loan on the land closed within one year of the closing.
j. That the closing statement was provided to the borrower(s) at least one calendar day before the day of execution of the note.
2. A HEL must be made by a bank, savings and loan, or federally chartered instrumentality, and must be against only a Texas homestead.
3. Real property collateral must be 10 acres or less of urban, or 200 acres if rural for a couple or family unit (individual, 100 acres).
4. The property must not be subject to ad valorem tax exemption for agricultural purposes for the lien to be valid. But, if the real property is designated as AG, but used primarily for dairy production, a home equity lien could be valid according to the Texas Constitution. But how does one know if the use was really primarily to produce milk? What if part of the land was used for dairy and another part AG? This is a tough call, so usually underwriters will be conservative and not insure an HEL under these circumstances.
5. The HEL is not valid unless the mortgage is signed by all persons in title, and their spouses, even though it may not be the homestead of all owners. See Texas Constitution, Art. XVI, Sect. 50(a)(6)(A); Art. XVI, Sect. (k)(1).
6. The result of the June 2013 Texas Supreme Court case Norwood is a strict and limited use of POAs in HEL transactions, if the underwriter allows the use of POAs at all. The underwriters that do permit POAs to be used in closing HEL loans require the following:
a. POA is executed at the Texas office of the lender, an attorney at law, or a title company. See Fin. Comm’n
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of Tex. v. Norwood, No. 10-0121, at *32-33 (Tex. June 21, 2013).
b. Most will not rely on a POA executed prior to the Norwood case (usually a date earlier than June 21, 2013).
c. Most will require the POA to be a Texas Statutory Durable POA and must be transaction specific. Remember that the POA form in the Estates Code changed as of January 1, 2014.
d. Be sure to obtain specific approval if an HEL closing includes a POA.
Practice Tip. The title insurance endorsements still leave a number of constitutional requirements, including closing costs, disclosures, and timing. Lender’s counsel must take care to assure all of the steps have been satisfied.
E. CONSTRUCTION LOANS
1. Date of Commencement. It is inherently difficult to determine the date of commencement of construction on the project. But it is imperative that work does NOT begin on the project until after the construction loan deed of trust, mechanic’s lien contract or security agreement is recorded. Otherwise, the construction loan will not be valid and prior but instead, will be inferior to all mechanics’ liens filed on the construction project (remember, the inception date of all mechanics’ liens on the construction project will be the date the first person supplied labor or materials on the project. This includes the building of the fence around the project, the delivery of lumber for the foundation, etc.
a. Talk to the borrower and builder and gather information.
b. Does the lender seem diligent about the Commencement Date, or does the Lender even understand its importance? Is the lender conducting a site visit the day of closing and taking pictures?
c. If work has already commenced, stop the closing immediately and contact the underwriter. The underwriter will probably require lien waivers and perhaps a property inspection by someone from the title company. A new contract for the remaining work may be required.
d. Document your file.
2. Title Insurance Issues.
a. Interim Construction Binders. Interim Construction Binders are governed by Procedural Rule P-16. Effective November 1, 2005, there was a major change in the industry. Procedural Rule P-16 provides that, in residential and commercial transactions, the Interim Construction Binder is only available when:
(1) The borrower is the original contractor who is also the record title holder of the real property upon which the improvements are to be constructed; and
(2) The security document for the debt is not in the form of a mechanic’s lien contract.
b. Procedural Rule 8 (P-8). The issuance of a Title Policy Before the Completion of Improvements:
(1) Procedural Rule P-8(a) provides that when an owner’s policy is to be issued for an amount that includes immediately contemplated improvements, the policy must contain the “limitation of liability” clause.
(2) Procedural Rule P-8(b) provides that when a loan policy is to be issued for an amount that includes immediately contemplated improvements, the policy must include the “pending disbursements exception” and a general mechanic’s lien exception.
c. Completion of Improvements Endorsement. At the end of construction, the owner and lender will request the issuance of a completion of improvements endorsement to the owner policy and the loan policy.
(1) The endorsement will: (i) remove the “limitation of liability” or “pending disbursements” clause from the policy; (ii) remove the general “mechanic’s liens” exception from the policy; and (iii) will amend the survey exception to the policy if said coverage was not provided for in the original policy, or update the survey coverage to the date of the completion of improvements endorsement if the coverage was originally provided in the policy.
d. Although the cost of the endorsement is $0.00, there is a $50.00 down-date endorsement fee for each policy so that title effective date of the policy is brought to date.
F. SELLER FINANCE.
1. Although seller financing has always provided the most creative alternatives to the traditional financial institution financing, Federal and state laws of recent years have definitely constrained its attractiveness and availability.
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2. Recent changes by the Texas Legislature have mandated more notices and disclosures in the alternate financing deals.
3. The Texas Legislature has passed the Texas Secure and Fair Enforcement for Mortgage Licensing Act (T-SAFE) as a part of the Texas Finance Code. Sellers must be careful when negotiating the terms of a residential mortgage loan because the Act sets out who must be licensed, the process for obtaining a license and the penalties for originating loans without a license. Seller financiers must be careful to fall within an exception to the Act (i.e. an owner of residential real estate who in any 12-consecutive month period originates no more than five residential mortgage loans to purchasers). Despite these recent changes, seller financing remains an alternative, attractive when a buyer fails to meet traditional loan qualifications.
4. A thorough review of the various provisions of a deed of trust for seller financing can be found in the Texas Real Estate Forms Manual, but particular attention should be paid to subordination, escrows, and due on sale.
5. The due on sale clause can be an impediment for a property owner who wishes to sell the property without payment in full of the debt. The likelihood of the lender calling the obligation due under a due on sale clause could depend on how the real estate economy is doing. If the buyer continues to pay the loan payments when due, it is less likely that the bank would actually call the loan due but still the bank’s choice. When the market interest rate is higher than the interest rate on the note, lenders might be more prone to enforce the due on sale clauses. It is nearly universal practice for institutional lenders and private lenders to include due on sale provisions in deeds of trust.
G. MISCELLANEOUS ISSUES.
1. Marshalling of Assets. This clause is very useful in commercial transactions where there is more than one piece of collateral for a debt. A waiver by the borrower of any rights that the borrower might have to the marshaling of assets gives the lender flexibility when selling assets under the terms of a deed of trust after default.
a. Language.
(1) “Mortgagor hereby waives all rights of marshalling in the event of any foreclosure of the liens and security interests hereby created.”
(2) “Other Security. Mortgagee may resort for the payment of the indebtedness secured hereby to any other security therefore held by Mortgagee in such order and manner as Mortgagee may elect in its sole discretion. To the fullest extent permitted by applicable law, Mortgagor waives any and all rights it may have to require marshalling of assets.
b. Definition. Marshalling is process of organizing, ranking, and distributing funds in a manner set forth by law as being the most effective way to discharge debts that are owed to various creditors. When a lender has two possible funds in the hands of a debtor to whom the lender can resort to satisfy the lender’s demand, and a second claimant has an interest in only one of the funds, the second claimant can force the lender to satisfy the claims out of the fund in which the second claimant has no lien.
2. Partial Invalidity Clause.
a. Language. “If any portion of the Note cannot be lawfully secured by this Deed of Trust, payments will be applied first to discharge that portion.”
b. Many underwriters require the partial invalidity clause in the deed of trust:
(1) on refinance transactions;
(2) when the seller receives cash back on purchase transactions involving a homestead; or
(3) even when any closing costs are included in the principal amount of the new loan, whether purchase money loans, traditional refinance loans, construction loans or reversion mortgages on homestead property.
3. TREC Third Party Financing Addendum.
a. Being familiar with this addendum is important so you can answer questions of agents when asked. A new form was effective January 1, 2016.
b. The addendum is necessary in those situations where the contract provides for third party financing. It is no longer only for credit approval. The street address should be indicated at the top of the form, and appropriate box checked for the type of financing. Financing Approval = Buyer Approval (loan terms available & lender requirements related to Buyer’s assets, income & credit history satisfied) and Property Approval (appraisal, insurability, etc). Time is of the essence. The addendum authorizes the lender to release information related to financing approval to the buyer and the seller or their representatives.
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4. Future Advance Clauses.
Generally a mortgage can be made to cover future debts or advances. The earliest case on this subject is Freiberg v. Magale, 70 Tex. 116, 7 S.W. 684 (1888). This case held that a mortgage expressly providing that it shall secure future indebtedness of the mortgagor of any kind will protect future indebtedness of the mortgagor of any kind will protect the mortgagees, who have guaranteed and made subsequent payments of debt of the mortgagor of a different nature from those named in a mortgage, as against subsequent purchasers with notice of the mortgage.
A previously filed construction deed of trust lien containing a future advance clause would have priority over subsequent mechanic’s liens. (Regold Manufacturing Company v. Maccabees, 348 S.W.2d 864 (Tex. Civ. App.-Fort Worth 1961, ref. n.r.e.)
However, the terms of a future advance clause of deed of trust may limit its effect on future loans. In A. J. Wood, Jr. v. Parker Square State Bank, 400 W.W.2d 898 (Tex. 1966) a deed of trust granted a first bank a lien on an indebtedness “as well as all other indebtedness which may accrue or become owing in the future. . . .” Subsequent thereto, second bank was given a deed of trust, which lien was expressly subordinated to the prior deed of trust lien. Then, the first bank purchased a note executed by same debtor from a third party. When the first bank foreclosed its lien, it included the total amount due on the first lien and the purchased note claiming that it was a future advance. The second bank, by agreement with the first bank, paid the balance due on the first deed of trust and placed the balance due on the third note in escrow pending a judicial decision on the rights of the respective parties. The Supreme Court held that the purchase of the note did not represent a sum of money advanced for or loaned to debtor within the terms of the deed of trust. Furthermore, it is not “all other indebtedness” because it is not a direct loan made by the first bank.
In First Baptist Church v. West, 121 S.W.2d 528 (Tex. Civ. App.-San Antonio 1938, no writ), the bank lent funds to a church for church construction with knowledge that a prior deed of trust had been field to secure subsequent advancement of funds for church equipment after construction was completed. The note and prior deed f trust were sold to persons not having knowledge that the loan was never funded. The construction loan bank sues claiming a priority due to the fact that the former loan was not funded. The court held that the purchasers of the notes were bona fide
purchasers for value without notice and that the original deed of trust retained its priority.
IV. LOSING LIEN PRIORITY
The below items are a list of the most common ways an established and valid lien might lose its priority even though it is first in time. Some of these have been discussed briefly in the foregoing paper but hopefully this will provide something of a brief bullet point checklist along with some suggestions as to how the situation can be avoided. Accordingly, the most common ways by which a lien in a residential setting may lose its priority are as follows:
A. AD VALOREM TAXES.
Ad valorem taxes, including a transfer of tax lien pursuant to Chapter 32 of the Tax Code. Counsel should be aware of the timing of the creation of the transfer of tax lien because the legislation has regularly changed notice requirements and the level of foreclosure required will change according to the date at which the transfer of tax lien occurred. Losses of lien priority due to ad valorem taxes can be avoided by escrow, an annual check of the records, and a proof of tax payment clause in the deed of trust.
B. PACE LOAN PROGRAMS.
Also, in 2009, Texas adopted legislation enabling “property-assessed clean energy” (PACE) financing. See Tex. Local Gov’t Code 399.001-.019. These are governmental use of bonding and taxing authority to raise funds, to lend, to finance renewable energy improvements on a voluntary basis for commercial and residential properties. These loans are often paid through an additional assessment of real property taxes and have the same priority as tax liens. The statute is carried out by local government and is only available in a few places. In addition, the holder of a mortgage lien must give written consent. Section 399.010. Hoewever, there is a further concern if the loan is insured or to be purchased by the Federal Housing Finance Authority on July 6, 2010 FHFA issued a policy statement that prevents Fannie Mae and Freddie Mac from purchasing mortgages and properties with PACE financing. See Fed. Hous. Fin. Agency, FHFA Statement on Certain Energy retrofit Loan Programs (July 6, 2010). http://www.fhfa.gov/webfiles/15884/PACESTMT7610.pdf (classified PACE assessments as prior loans for underwriting purposes). On the same day the Office of the Comptroller of the Currency issued a bulletin stating “[t]his lien infringement raises significant safety and soundness concerns that mortgage lenders and
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investors must consider.” Office of the comptroller of the Currency, Bulletin on Property Assessed Clean Energy (PACE Programs, OCC 2010-25 (July 6, 2010), available at http://www.occ.gov/news-issuances/bulletins/2010/bulletin-2010-25.html.
C. PRIOR PERFECTED CONSTRUCTION.
Prior perfected construction can cause a loss of lien priority because mechanic’s lien claims relate back to the initial work on the project. See Tex. Prop. Code § 53.124 and Diversified Mortgage v. Blaylock, 576 S.W.2d 794 (Tex. 1978). In addition, a constitutional lien claim may be available on a limited basis if there was evidence that work had commenced or was in progress. A constitutional lien is not effective against a bona fide purchaser and is generally confined to a “brick and mortar” type claim by general contractors. See Irving Lumber Co. v. Alltex Mortgage Co., 446 S.W.2d 64 (Tex. Civ. App. – Dallas 1969), aff’d, 468 S.W.2d 341 (Tex. 1971). Mechanic’s lien issues can be avoided by appropriate lien waivers, inspection of the premises, and establishing the date of commencement of construction.
D. FAILURE TO TIMELY RECORD.
A failure to timely record can result in a preference under the Bankruptcy Act or a transfer to a bona fide purchaser including creditor claims which may be created before the deed of trust is recorded. The best practice to avoid this situation is to record as soon as possible. With electronic recording it is possible to record almost simultaneously with the closing.
E. FORFEITURE.
A mortgage lien can be lost when real property is forfeited to the United States government due to various types of criminal activity. There are a significant number of federal forfeiture provisions, which include those included in the Comprehensive Drug Abuse Prevent and Control Act of 1970, the Currency and Foreign Transaction Reporting Act of 1970, and the Racketeer Influenced and Corrupt Organizations Act of 1970. Generally, these forfeitures are governed by the Civil Asset Forfeiture Reform Act of 2000. Though the lien on the real estate is extinguished, a lender who had no knowledge of the illegal activity may have a takings claim under the Fifth Amendment of the United States Constitution. Annot., Right of Mortgagee and/or Lienor to Compensation When Property Subject to Mortgage and/or Lien is Taken by Federal Governmental Forfeiture Based on Criminal Acts of Owner, 136 A.L.R. Fed. 593. There is no real sure way to avoid this.
F. FRAUDULENT TRANSFER.
This is of course addressed above, but lack of notice in loans or sales for value should avoid a fraudulent transfer determination. Fraudulent transfers can also cause the loss of lien priority. In particular, 11 U.S.C. Section 548 of the United States Bankruptcy Code provides for fraudulent transfers and setting aside of a transaction made or within two years before the filing of the bankruptcy petition. Those cases that have invalidated mortgages and deeds of trust based on actual intent to default have listed the following factors to determine intent:
In cases invalidating mortgages and deeds of trust on the alternative basis of actual intent to defraud, courts look to the following “badges of fraud” in determining a debtor’s actual intent: insolvency or indebtedness of the transferor, lack of consideration for the conveyance, the relationship between the transferor and the transferee, the pendency or threat of litigation, secrecy or concealment, departure from the usual method of business, the transfer of the debtor’s entire estate, the reservation of benefits by the transferor, and the retention by the debtor of the possession of the property. In determining fraud, courts look at the circumstances surrounding the loan transaction at the time of the transaction.
G. EQUITABLE SUBORDINATION.
Equitable subordination has been discussed. It is extremely rare except in insider lending situations. Equitable subordination is most commonly found in the context of bankruptcy, See 11 U.S.C. Section 510, but it is rare that equitable subordination is invoked against an independent third party lender. The lender must have engaged in inequitable conduct that has resulted in harm to other creditors or conferred an unfair advantage on the lender. See In Re Winstar Communications, Inc., 554 F.3 82 (3d Cir. 2009). In the case of insiders that made the lenders equitable subordination is much more likely to be found.
H. WHEN EQUITABLE SUBROGATION YIELDS TO THE RECORDING STATUTE.
Probably the most troubling area where lien priority can be easily lost is in the refinance scenario. Many times an intervening interest is not identified or ignored because of subrogation principles, but this can give way to a bona fide interest arising out of the intervening interest. This is particularly true in a home equity loan “refinance” situation where there is simply a release of lien and a new home equity loan. Loss of priority similarly can occur in a deed of trust refinance
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situation where there is no specific contractual subrogation. Transfers of liens are obviously extremely useful and can prevent loss of lien priority but are often resisted when there is a subsequent different lender in connection with the refinance. Any time a home equity loan or a reverse mortgaged is used to pay off a home equity loan, a very careful title search should be made. The problem which can arise from an intervening creditor or record title holder is still the subject of some significant case law. Two cases likely control the outcome of this dispute: AMC Mortgage Services, Inc. v. Watts, 260 S.W.3d 582, 586 (Tex. App—Dallas 2008, no pet.) and Bank of America v. Babu, 340 S.W.3d 917, 924 (Tex. App.—Dallas 2011, pet. denied).
In Watts, the Dallas Court of Appeals found that the purchaser of real property at a foreclosure sale was a bona fide purchaser and did not take title subject to what the bank contended was refinances of existing liens. There, Lillie Gonzalez (“Gonzalez”) purchased a property in 1996 with two loans, one from Long Beach Mortgage, secured by a deed of trust, and one from the seller, Richard Smith (“Smith”), secured by a deed of trust that was expressly subordinate to the Long Beach deed of trust. 260 S.W.3d at 584. Smith then assigned his deed of trust to HSH Corporation. Id. In 1999, Gonzalez refinanced the Long Beach loan with a loan from Ameriquest, and a release of lien was filed for the Long Beach deed of trust. Id. Ameriquest’s deed of trust included a “Renewal and Extension Exhibit,” which stated that “the transaction was in renewal and extension, and not extinguishment” of the Long Beach loan. Id. Gonzalez subsequently refinanced the Ameriquest loan in 2000 and in 2003 through new home equity loans with Ameriquest. Id. Each time she refinanced, Ameriquest filed a release of its prior lien. Id. However, the 2000 and 2003 home equity deeds of trust did not include any “Renewal and Extension Exhibit” like the 1999 deed of trust, although the deeds of trust did include non-specific contractual subrogation provisions. Id. In 2004, Gonzalez defaulted on the Smith loan that had been assigned to HSH Corp. HSH then foreclosed on the property and sold it to Benny and Latrasa Watts (the “Wattses”) at foreclosure. Id. In 2005, Ameriquest foreclosed on its 2003 home equity deed of trust. Id. at 584-85. Below is a graphical representation of the relevant transactions:
After the foreclosure, Ameriquest filed suit to evict the Wattses, and the Wattses sued to quiet title. Id. The trial court granted summary judgment in favor of the Wattses, holding that the 1996 Smith deed of trust was superior to Ameriquest’s 2003 deed of trust. Id. at 585. The appellate court affirmed, finding that because the 1999 refinance deed of trust was expressly released by the 2000 deed of trust without a renewal and extension clause, the 1996 Smith deed of trust became the first in time lien, ahead of Ameriquest’s 2000 and 2003 home equity deeds of trust. Id. While the court of appeals appeared to believe that Ameriquest was equitably subrogated to the 1999 refinance deed of trust, it found that the Wattses were bona fide purchasers and therefore not subject to Ameriquest’s claim of title through equity. Id. at 586-87. According to the court:
Nothing in the documents filed in the Dallas County real estate records indicates the debt secured by the 1999 deed of trust was paid with the proceeds of the 2000 and 2003 home equity extensions of credit. Instead, the records show the 1999 deed of trust was released in November 2000. When [Ameriquest] released the 1999 refinance deed of trust, the 1996 Smith deed of trust appeared to become the superior
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lien because the 2000 and 2003 deeds of trust were later in time and did not appear to relate to the 1999 refinance deed of trust. When HSH foreclosed on the Smith deed of trust, all liens inferior to the Smith deed of trust were extinguished. Nothing in the records gave [the Wattses] actual or constructive notice of [Ameriquest’s] claim that the 2003 deed of trust was not extinguished by the foreclosure of the Smith deed of trust or that equitable subrogation made the 2003 deed of trust superior to the Smith deed of trust.
Id. at 586-87. In so holding, the court focused on the absence of documents filed in the real property records indicating that that the Ameriquest 2000 and 2003 home equity deeds of trust were simply refinances of the 1999 deed of trust. Id. at 587. While the settlement statements plainly showed a payoff of the prior loans, the settlement statements were not on file. Id. The court acknowledged that both the 2000 and 2003 home equity deeds of trust contained non-specific contractual subrogation provisions stating that:
Lender shall be subrogated to any and all rights, superior title, liens and equities owned or claimed by any owner or holder of any liens and debts outstanding immediately prior to execution hereof, regardless of whether said liens or debts are acquired by Lender by assignment or are released by the holder thereof upon payment.
Id. at 584. However, it never analyzed the impact of those provisions on Ameriquest’s claim of superior title.
Like Watts, Bank of America v. Babu dealt with the intersection of a claim to title based on equitable subrogation and the bona fide purchaser affirmative defense. There, John K. John and his wife (the “Johns”) purchased a property in 1997 from Jacob A. George (“George”) with a loan from George secured by a deed of trust. 340 S.W.3d at 919. In 2003, George assigned a portion of the deed of trust to First Western Federal Savings Bank (“First Western”), including 36 of the payments due under the loan to the Johns and ending with the payment due on September 15, 2006. Id. at 920. In 2004, George filed a release of his 1997 deed of trust, the Johns conveyed the property to George, and George filed a deed of trust in favor of the Johns securing his loan for the purchase of the property. Id. A year later, George obtained a loan from Bank of America (“BofA”) secured by a deed of trust against the property, and the loan proceeds were used to pay off the portion of the debt/lien assigned to First Western. Id. In 2006, George defaulted on his 2004 deed of trust to the Johns, and the Johns foreclosed on
the property and sold it to Babu. Id. Below is a graphical representation of the relevant transactions:
In 2007, BofA filed suit against Babu seeking a declaratory judgment that the release of the 1997 deed of trust in favor of George was void (i.e., George could not release the 1997 deed of trust because it had been assigned to First Western) and that BofA was equitably subrogated to the amount it paid to release the lien assigned to First Western. Id. at 920-21. The trial court held in favor of Babu, finding that he was a bona fide purchaser and therefore not subject to BofA’s alleged interest in the property. Id. at 921-22. Relying heavily on Watts, the Dallas Court of Appeals reversed, holding that Babu was not a bona fide purchaser because:
[N]o release of the lien rights assigned to First Western . . . was on record at the time of the [Johns’] foreclosure sale. Therefore, unlike in [Watts], the property at issue was not purchased with “full knowledge and constructive notice” that the prior lien had been released.
Id. at 924. According to the court, because there was no release of First Western’s lien (even though BofA had fully paid it off in 2005), Babu had constructive notice of unreleased lien rights in favor of First Western
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that were superior to his interest in the property. Id. at 924-25. Interestingly, there is no discussion of whether BofA’s deed of trust contained a renewal and extension clause. Rather, the court focused on the absence of a release of the deed of trust assigned to First Western. The court concluded by finding that because BofA was equitably subrogated to First Western’s lien, BofA had a superior, equitable subrogation lien in the amount of its payoff of First Western’s lien. Id. at 928-29.
ANALYSIS
1. Lack of Recorded Notice. If there is an absence of any “renewal and extension” language in the relevant deeds of trust and the explicit releases of those deeds of trust, there is a good argument that a purchaser from an intervening interest is a bona fide purchaser whose title to the Property is superior. See Watts, 260 S.W.3d at 586.
There are two key elements to equitable subrogation: (1) the person whose debt was paid was primarily liable on the debt, and (2) the claimant paid the debt involuntarily. Murray v. Cadle Co., 257 S.W.3d 291, 299 (Tex .App.—Dallas 2008, pet. denied). The burden is on the party claiming equitable subrogation to establish entitlement to it. Id. at 300; Monk v. Dallas Brake & Clutch Serv. Co., Inc., 697 S.W.2d 780, 782 (Tex. App.—Dallas 1985, writ ref’d n.r.e.). Because the refinancing lender pays off the amount due and owing under the original equity deed of trust, the subsequent lender should be able to establish that it is equitably subrogated.
However, like Watts, if there is no evidence filed in the real property records providing constructive notice that these deeds of trust were refinances of the original home equity loan, the purchaser from the intervening interest can claim superior rights as a bona fide purchaser. Moreover, each time the loan is refinanced, the prior deed of trust was released and the new deeds of trust may fail to include a “renewal and extension clause,” only non-specific contractual subrogation clauses. As noted above, the court in Watts ignored the general contractual subrogation provisions in the Ameriquest deeds of trust, which suggests that contractual subrogation provisions do not provide sufficient notice of prior, related liens and equitable subrogation claims.
Notably, courts have allowed equitable subrogation claims where the prior lien has been released and where there is no indication that a renewal and extension clause was included in the new the deed of trust. In Farm Credit Bank of Texas v. Ogden, the First Court of Appeals in Houston explained that a
“lender’s right to subrogation is not affected by the lender obtaining a release or a discharge of the earlier lien, rather than an assignment.” 886 S.W.2d 305, 312 (Tex. App.—Houston [1st Dist.] 1994, no writ) (citing Med Ctr. Bank v. Fleetwood, 854 S.W.2d 278, 287 (Tex. App.—Austin 1993, writ denied); Leonard v. Brazosport Bank, 628 S.W.2d 216, 220 (Tex. App.—Houston [14th Dist.] 1982, writ ref’d n.r.e.)). In Diversified Mortgage Inv. v. Lloyd D. Blaylock General Contractor, Inc., the Texas Supreme Court found that a lender was equitably subrogated in the amount it paid to release a prior vendor’s lien. 576 S.W.2d 794, 799 (Tex. 1978). While the vendor’s lien was explicitly released and the release of lien recorded in the real property records, the lender’s equitable subrogation lien was still superior to the intervening mechanic’s lien on the property. Id. at 807.
However, in both Ogden and Diversified, there were no third party purchasers and thus the bona fide purchaser affirmative defense was never addressed. The lenders claiming equitable subrogation simply sought to obtain lien priority over intervening liens. These holdings are in line with the basic purpose of equitable subrogation, which is not to defeat the claims of innocent third party purchasers, but rather to “protect a lienholder from intervening liens, at least to the amount of the initial lien, when the lienholder has discharged a prior superior lien.” Id. (emphasis added).
The Restatement (Third) of Property also indicates that a bona fide purchaser with no notice that a prior mortgage was to be preserved by subrogation “should be protected from subrogation.” In Mortgages, Section 7.6, the Restatement explains that:
[A] junior mortgage or other subordinate interest in the real estate may be sold to a good-faith purchaser after the first mortgage is discharged. The purchaser of the junior mortgage may believe, from the appearance of the public records, that he or she is acquiring a first lien on the property. Even if the payor who discharged the first mortgage immediately recorded his or her own mortgage, it may not be apparent to the purchaser of the intervening interest that the priority of the old first mortgage will be preserved by subrogation. Such purchasers should be protected against subrogation unless they had actual knowledge that the payor’s advances were used to pay the first mortgage. (emphasis added).
The Restatement then suggests that the payor could file an “appropriate action” to immediately assert its right to subrogation or a lis pendens to give constructive notice of its equitable subrogation claim and thereby defeat any bona fide purchaser defense.
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While such actions may not be practical in reality, the Restatement appears to be in line with the holding from Watts.
2. Purchase at Foreclosure Does Not Preclude Bona Fide Purchaser Status.
Texas Property Code § 51.009(1) provides that a “purchaser at a sale of real property under Section 51.002 acquires the foreclosed property ‘as is’ without any expressed or implied warranties, except as to warranties of title, and at the purchaser’s own risk.” However, that risk does not deprive the purchaser of status as a bona fide purchaser. In Diversified, Inc. v. Walker, the court explained that the “general effect of a ‘good faith purchaser for value without notice’ does not apply to a purchaser at a void foreclosure sale.” 702 S.W.2d 717, 721 (Tex. App.—Houston [1st Dist.] 1985, writ ref’d n.r.e.) (emphasis added). The implication is that where the foreclosure is valid, the purchaser may be a bona fide purchaser. See id. In both Watts and Babu, the courts of appeals found that the third party purchasers at the foreclosure sales could have been bona fide purchasers. The Wattses were, in fact, bona fide purchasers because they did not have notice of any outstanding, prior liens. Babu was not a bona fide purchaser because he had constructive notice of First Western’s unreleased assigned deed of trust. Accordingly, a third party’s purchase of real property at a foreclosure sale does not preclude that purchaser from obtaining bona fide purchaser status. This is not without disagreement in the cases, but possibly more importantly, the bona fide purchaser from the foreclosure purchaser may attain that status.
3. If Purchaser Did Not Pay Adequate Value for the Property, She May Not be Bona Fide Purchaser.
To qualify as a bona fide purchaser, the purchaser must have paid “valuable consideration” for the property.1Watts, 260 S.W.3d at 586. However, “a purchaser who pays a grossly inadequate price cannot be considered a good-faith purchaser for value.” Phillips v. Latham, 523 S.W.2d 19, 24 (Tex. Civ. App.—Dallas 1975, no writ) (citing Nichols-Steuart v. Crosby, 29 S.W. 380, 382 (Tex. 1895); Hume v. Ware,
1A bona fide purchaser does not lose his or her status as such simply because his or her grantor was not a bona fide purchaser. “An innocent purchaser for value from one who purchased with notice of an unrecorded deed or other instrument, or from one who was not a bona fide purchaser because no valuable consideration was paid, is as fully protected as if he or she had bought without notice and for value from the vendor of the person from whom he or she purchased.” Tex. Jur. Records & Recording Laws, § 110 Purchasers from Purchaser with Notice or Without
28 S.W. 935, 936 (Tex. 1894); cf. Hopper v. Tancil, 3 S.W.2d 67, 70 (Tex. Comm’n App. 1928, jdgm’t adopted)). “A sales price of more than fifty percent of property value is not “grossly inadequate” as a matter of law.” Trest v. Mortg. Elec. Registration Sys., No. 4:12-CV-752, 2014 U.S. Dist. LEXIS 78013, at *29 (E.D. Tex. June 9, 2014) (citing Terra XXI Ltd. v. Harmon, 279 S.W.3d 781, 788 (Tex. App.—Amarillo 2009, pet. denied)).
4. Any Possession of the Property by the Borrower at the Time of the Foreclosure Purchase May Serve as Constructive Notice of the Lender’s Interest in the Property.
“A purchaser of property is charged with constructive notice of all claims of a party in possession of the property that the purchaser might have discovered on proper inquiry. A purchaser has the duty to ascertain the rights of a third-party possessor where the possession is visible, open, exclusive, and unequivocal.” Apex Fin. Corp. v. Garza, 155 S.W.3d 230, 234 (Tex. App.—Dallas 2004, pet. denied) (citing Madison v. Gordon, 39 S.W.3d 604, 606 (Tex. 2001) (per curiam)). To the extent a borrower occupied the Property in a visible, open, exclusive, and unequivocal manner at the time of the foreclosure purchase, the purchaser may be charged with constructive notice of the borrower’s claim to the Property.
However, assuming arguendo that the Borrower occupied the Property in a sufficiently conspicuous manner at the time of the intervening purchase, whether or not knowledge of the Borrower’s possession would also include knowledge of the subsequent lender’s interest in the prior liens is unclear. Constructive knowledge of the former debtor’s interest in the purchased property was not addressed in either Watts or Babu.
V. TRAPS FOR THE UNWARY
Below is a list of areas in which a lack of careful attention can result in a loss of priority. Every practitioner should be alert to these scenarios and take
Consideration (citing White v. Frank, 40 S.W. 962, 966 (Tex. 1897) (“The fact that Mrs. Stribling paid for the land by crediting the purchase money upon a claim she held against the estate may have precluded her from claiming as a bona fide purchaser for value – but it does not preclude her grantee who paid value to her.”)); see also Nelson v. Bridge,39 Tex. Civ. App. 283, 289 (Tex. Civ. App. 1905) (“[A]n innocent purchaser for value from one who is not an innocent purchaser for value may be protected, not-withstanding the attitude of his vendor.”).
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steps to assure that lien priority is not lost. Some of the more prominent scenarios are listed as follows:
1. Property owner associations will have clauses in the restrictive covenants of record which will subordinate to some extent to voluntary liens. (Note that condominium regimes subordinate by law to a “first deed of trust lien recorded before the date of” delinquency. Tex. Prop. Code § 82.113.) Counsel should always check the language and assure that the type of lien being created will be superior to the HOA lien. This is particularly troublesome when there is a second mortgage or a home equity loan as particularly some of the older covenants, conditions and restrictions do not subordinate to these. It is rare that an association will subordinate its lien through a specific document to be recorded, though some will agree to provide notice to the lender in the event the borrower is behind in connection with payment or dues or assessment. In the event of an inferior lien and foreclosure, the lender needs to take care to comply with redemption requirements of Tex. Prop. Code § 209.011.
Note also that FHA will not accept reverse mortgages that went in first lien status.
2. One should take care to assure compliance with the home equity loan requirements. In particular, remember that a home equity loan is required if the proceeds are being used to pay off another home equity loan and the property is still a homestead. In addition, a reverse mortgage may be used.
3. Bona fide purchasers can result from foreclosure sales including subsequent conveyances or a sheriff’s sale pursuant to Texas Civil Practice and Remedies Code § 34.045-.046 or a tax sale redemption. See Tax Code § 34.21.
4. USCS 7425(b) generally provides that a Federal Tax Lien is not disturbed where notice of the tax lien was filed more than 30 days before a nonjudicial sale of a prior statutory lien and the IRS was not given notice of the sale 25 days prior to the sale unless the IRS has otherwise consented to the sale. In the absence of the required notice or, notice is untimely, sale of the property pursuant to foreclosure sale has the effect of extinguishing the deed of trust lien and elevating tax lien of IRS from junior to senior lien status, and subsequent efforts to then give IRS notice and re-foreclose are ineffective. Southern Bank of Lauderdale County v. I.R.S., 770 F.2d 1001, (11th Cir. 1985) cert. denied. Should notice be timely given, IRS still has right to redeem within 120 days as provided in Code provisions.
5. A Correction Instrument pursuant to Tex. Prop. Code 5.017-.031 is subject to the rights of an intervening good faith interest without notice.
6. Removables, regardless of the chronological recording of an affidavit claiming a lien, will take priority over the construction lien of the lender or the purchase money lien. Removables are a fact question and create an awkward and difficult negotiating position in connection with payoffs and releases.
7. A lender should be careful with deeds in lieu. A typical deed in lieu preserves the lien pursuant to Texas Property Code § 51.006. However, what often occurs is that the lender will at a subsequent time choose to sell the property and at that time release its lien. A careful title search should be made to be sure there have not been any intervening claims or property rights created during the time from the original loan to the time of the proposed release of the lien.
8. Divorces can also create significant problems if there is not a recorded conveyance. Of course, a divorce decree that has conveyancing language can be recorded, but that happens rarely. Most divorces contemplate a recorded transaction which often is not accomplished. In the event that there is nothing of record severing the community and transferring title to another party, subsequent lien creditors, particularly federal tax liens, can attached to the entirety of the property even when the federal tax lien is only against the spouse that was to convey the property interest. See Prewitt v. U.S., 792 F.2d 1353 (5th Cir. 1986).
9. Federal tax liens have not been overlooked here, but are generally inferior to purchase money liens and the federal tax lien priority is based upon the time of recording the notice of the lien. See 26 USC § 6323.
10. A Transfer on Death Deed is not effective until the death of the Grantor. It will not protect title against involuntary liens.
11. A purchase money lien for homestead needs to be created as part of the purchase transaction, not at a later date.
12. If the commencement of construction does precede the recording of the lender’s deed of trust, the construction should be stopped and all suppliers and subs paid. Recordable lien waivers should be obtained. On the other hand, if a prior contract does not have provisions allowing for overruns or changes in scope, a new separate contract should be executed with the new separate scope of work.
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VI. CONCLUSION
As discussed, addressing lien priority in the context of residential closings focuses largely on review of the existing situation and proper documentation, but also addressing homestead issues. Moreover, once pre-existing liens are addressed and a new lien is properly created, a lien against residential property can still lose its priority to subsequent occurring events. The most troublesome situations arise from taxes, construction, and refinance situations without addressing intervening interests. Finally, a number of commonly occurring situations exist where inattention can result in a loss of lien priority. In particular, improper handling of a divorce and transfer of title, deeds in lieu of foreclosure, and removables in the context of construction can result in difficult issues of lien priority which may be avoided. Finally, lien priority dictates a careful review of property association liens and the subordination language in the recorded CCR’s. Generally, if proper attention is given at the time of the creation of a lien and the debt and lien status are regularly monitored, lien priority can be properly established and rarely lost.
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APPENDIX I
#1: Borrowers are Identical to Record Title Holders
#2: Homestead- Purchase Money Contract, Both Spouses on Contact, Wife is only Borrower
#3: Refinance of Homestead; Husband only Borrower**
Contract H & W H&W N/A Note H & W W H Deed of Trust* H & W W or W&H?
underwriters require W&H, pro forma
H &W, pro forma
Vesting Deed H & W H&W N/A
* Must be grantors on Page 1 of deed of trust and must sign
** Same result if non-homestead community property