Complex Closing Stories
Part I
Foreclosures, Bankruptcy & Creditors’
Rights in the Mean Streets
Foreclosure
The effect of a
foreclosure is:
To extinguish
interests of
borrower/owner
and most junior
lien holders
Foreclosure
Foreclosure
DOES NOT extinguish:
Matters with record priority
Ad valorem taxes
Junior IRS liens (filed w/in 30 days)
-must give 25 days notice
-subject to redemption period
But proceed with CAUTION…
If the foreclosed borrower is the grantee at
the foreclosure sale, all matters subordinate
to the foreclosure will re-attach!
Foreclosure
In 2007 & 2008 calls for reform and
protection for borrowers were
widespread.
 Mod in a Box (FDIC, IndyMac Loan Modification Model)
 Troubled Assets Relief Program (“TARP”)
 Temporary Liquidity Guarantee Program (“TLGP”)
 Proposed Senate Bill (expanding “cram down”
provisions)
Foreclosure
In North Carolina, the General Assembly
passed the
Emergency Foreclosure Reduction Program
“EFRP”
 Designed to reduce the number of
foreclosures
 Allows Commissioner of Banks to use funds
for prevention
 EFRP focuses primarily on subprime loans
Continued.
Emergency Foreclosure Reduction Program
“EFRP”
Subprime loan defined in NCGS §45-101:
 Originated on or after 1-1-05, but
before 12-31-07
 Meets definition of rate spread home
loan under NCGS § 24-1.1F(a)(7)
 Chart by Office of Commissioner of
Banks reflecting rate triggers for rate
spread home loans
Continued.
Emergency Foreclosure Reduction Program
“EFRP”
If loan is “subprime” then it must comply with
the following criteria in foreclosure:
 Notice 45 days PRIOR to FILING Notice of
Hearing (See NCGS § 45-102) including:
 Itemization of ALL past due amounts;
 Itemization of any other charges that must be paid in
order to bring the loan current;
 A statement that the borrower may have options
available other than foreclosure and with whom the
borrower could discuss those options
Continued.
Emergency Foreclosure Reduction Program
“EFRP”
If loan is “subprime” then it must comply with
the following criteria in foreclosure:
 Notice 45 days PRIOR to FILING Notice of
Hearing (See NCGS § 45-102) including:
 Contact information for the mortgage lender and
mortgage servicer or an agent for either who is
authorized to work with the borrower to avoid
foreclosure;
 Contact information for one or more HUD-approved
counseling agencies to assist borrowers in NC avoid
foreclosure; AND
 Contact information for the Consumer Complaint
section of the Office of the Commissioner of Banks.
Emergency Foreclosure Reduction Program
“EFRP”
• EFRP - File with AOC
• Within 3 days of sending Notice
• Certain information with respect to borrower
and loan
• AOC to create database
Emergency Foreclosure Reduction Program
“EFRP”
• Commissioner of Banks to review
• Commissioner selects loans appropriate
for foreclosure avoidance efforts
• Commissioner may extend foreclosure
filing date up to 30 days
“EFRP” Certification
• NCGS § 45-107 requires foreclosure notices
include certification that:
– Notice under § 45-102 and information under §
45-103 have been provided; AND
– Time periods have elapsed
– Note: a material, inaccurate statement on
certification results in:
• Dismissal with prejudice; and
• Payment of borrowers costs
More “EFRP”
• Fifth Element under NCGS § 4521.16(d)
– Clerk must determine if
– Debt is not a subprime loan as defined in §
45-101(4); OR
– If subprime loan - pre-foreclosure notice
was provided and all time periods have
elapsed
“EFRP” Best Practice!!
Best Practice Pointer
• Foreclosing parties submit
information on all loans to AOC
• Can obtain a “Non-Subprime Loan
Certificate”
Deeds in Lieu of Foreclosure
• High Scrutiny
• Ripe for duress
• Courts look for conveyances
• by grantors’ own free will
• for adequate consideration (debt
forgiveness is not per se adequate)
Deeds in Lieu of Foreclosure
Best Practice Pointer
• Language for Deed in Lieu:
• Absolute conveyance
• Fair and adequate consideration
• Including satisfaction of deed of trust
(recoding info)
• Grantor declares conveyance is freely and
fairly made
• Tax Stamps – Amount of obligation released
plus any additional consideration
Deeds in Lieu of Foreclosure
Affidavit of
Grantor req’d
by title insurer.
Deeds in Lieu of Foreclosure
• Intervening Matters
– Junior DT’s, judgments, claims of lien
– NOT cut off by deed in lieu
– Must be cancelled/satisfied
Deeds in Lieu & Bankruptcy
• If Borrower files for bankruptcy AFTER
having given a deed in lieu:
–
–
–
–
Can deed in lieu be set aside?
Was there adequate consideration?
Was there duress?
…in other words was the deed fraudulent as to
other creditors of the borrower?
• Old Rule of Thumb – consideration must be
at least 80% of appraised value.
• Old Rule still valid??????
Deed in Lieu with a Twist?
At lender’s instruction,
borrower conveys to 3rd party
LLC
• LLC is wholly owned by
lender
• LLC was created to take title
to property for liability
purposes
• However, LLC pays nothing
for the property…
continued
Deed in Lieu with a Twist?
Bankruptcy court will
focus on consideration to
the grantor
So long as debt is being
forgiven by parent lender,
the conveyance should
pass muster.
Bankruptcy &
Local Transfer Taxes
• Chapter 11 Plan approves conveyance of property
• Under §1146(a) of the Code conveyances are to be
made without imposition of stamp tax or similar
tax
• But see:
– Florida Dept of Revenue v. Piccadilly Cafeterias
• Plan must be confirmed for exemption to apply
– State of Florida v. TH Orlando, Ltd
• Exemption applied to the transfer of a non-debtor’s
property
Bankruptcy
Sales Free & Clear
• § 363(f)
• Court orders property sold free and clear of
all liens under §363(f) of the Code
• Subject to 10 day appeal period
• Reliance on order “transferring liens to
proceeds”
• Clear Channel Outdoor, Inc. v. Nancy
Kupfer held sales are not free and clear if
timely appealed
Bankruptcy
Deposits by Contract Purchasers
• What happens to deposits?
• If held by escrow agent – terms of
contract should control
• Terms not clear - escrow agent will
require consent of all parties (and
including bankruptcy court/trustee)
to release
Bankruptcy
Deposits by Contract Purchasers
• What happens to deposits?
• If held by contract seller/debtor, then
bankruptcy court & trustee are
involved
• Is contract purchaser an unsecured
creditor?
• What if funds are used to improve
property?
Loan Workouts
• Inspired by threats of foreclosure and
bankruptcy
• Parties may agree to some form of
workout
• Modification of the loan terms and a
forbearance agreement
• Affect the priority of the loan/deed of
trust?
Loan Workouts
ALTA 11
• Lender requests an endorsement,
such as an ALTA 11
• ALTA 11 acknowledges an amendment
to the terms of the loan and states the
priority has not changed
Loan Workouts
ALTA 11
Requirements for an ALTA 11:
• Recordation of satisfactory modification
agreement; AND
• Update on attorney’s certification of title
(including any amendments, modifications,
assignments or other matters affecting the
insured deed of trust)
Loan Workouts
ALTA 11
• Novation
• Do any intervening matters (even potential
intervening matters) exist
• Do changes create a novation?
• What becomes of priority???
Loan Workouts
Novations
• What is a Novation?
• NC case law is fairly vague.
• Novation is “a substitution of a new
contract or obligation for an old one which
is thereby extinguished… novation implies
the extinguishment of one obligation by the
substitution of another.” Tomberlin v. Long
Continued
Loan Workouts
Novations
• Requisites for a
novation:
– a previous valid
obligation
– agreement of all
parties to a new
contract
– the extinguishment
of an old contract;
AND
Continued
– the validity of the
new contract.”
Anthony Marano Co.
v. Jones
– Intent is also
considered
Loan Workouts
Novations
• Novation - Anthony Marano Co. case
– Defendant executed a first note to his
lender
– A year later the defendant executed a
second “demand note” to the same lender
– Interest rate was reduced
– Change was only a modification - did not
extinguish and replace the original
obligation.
Continued
Loan Workouts
Novations
• Advancement of
New Funds
• New funds not
covered by the
original note/deed
of trust:
• Changes that create
new money or
otherwise replace
original agreements
must be highly
scrutinized
• Subordinations
may be required
– will result in a
novation; or
– at least a new
priority for those
new funds
Continued
Loan Workouts &
Title Policies
• What if a lender makes concessions in a
workout?
• Condition 9(c) of 2006 ALTA Loan Policy:
– The Company shall not be liable for loss or
damage to the Insured for liability voluntarily
assumed by the Insured…(also in 1992 Loan
Policy)
• If modifications weaken or create defects in
insured interest – Defense for title company
• Obtain title company’s consent in advance
(endorsement)
Best Practice Pointer
Cram Downs and Lien
Stripping
• Ability to remove Deeds of Trust
• Title companies willing to insure interests
that are consistent with proper order
• Proposed Senate Bill allows bankruptcy
judges to:
• Lower interest rates,
• Reduce principal, and/or
• Shorten the term of the primary mortgage/deed of
trust on a home residence
• Bill gives troubled homeowners leverage
Creditors’ Rights and Title
Coverage
• Requested by owners and lenders
• Lender on Construction loan to
Uptown Condos may require
• A purchaser from Uptown Condos
may require
• Prior approval needed
• Considered ultra-hazardous title
coverage
Creditors’ Rights
• What interests are involved?
– Rights of unsecured creditors which may
become superior to the rights of purchasers and
secured creditors
– Result of actions taken by a debtor prior to
entering bankruptcy
– Actions are seen as unreasonably harmful to
unsecured creditors
– May include certain transfers of property
interests which become voidable
– Two types: Fraudulent transfers and
Preferences
Creditors’ Rights
Fraudulent Transfers
• Intentional – Done to hinder, delay or
defraud a creditor
• Constructive – No intent to defraud,
but any of the following exists:
• the transfer is made when the transferor is
insolvent;
• the transfer renders the transferor insolvent;
or
• the transfer leaves the transferor with
unreasonably small capital to continue it’s
business
Creditors’ Rights
Preferences
• Insolvent grantor makes a
transfer before entering
bankruptcy
– transfer favors fewer than all
creditors
• Time periods for preferential
transfer:
– 90 days prior to bankruptcy
filing
– 1 year if transfer is to an
“insider”
Creditors’ Rights
Title Coverages
• Basic Coverages under 2006 Policies
– Limited Current Transaction – Current
transaction being treated as a preference as a
result of (1) Failure to timely record or (2)
Failure to impart notice to third parties [Covered
Risk 9(b) Owners; Covered Risk 13(b) Loan]
• Prior Transactions
– Challenge to prior transaction in the title chain
based upon creditors’ rights, including
fraudulent and preferential transfers [CR 9(a)
Owners; CR 13(a) Loan]
Creditors’ Rights
ALTA 21-06 Endorsement
• Coverages beyond those contained in
the 2006 Policies require an
endorsement
• ALTA 21-06 provides coverage for the
avoidance of an insured interest based
the occurrence of a fraudulent
transfer or preference on or before the
Date of Policy
Creditors’ Rights
ALTA 21-06 Endorsement
• Issuing ALTA 21-06
– High risk coverage for title companies
– Claims – Not big numbers, but big dollars
– Information not of record - credit risk
determination
– Difficult to issue (especially in current
climate)
Creditors’ Rights
ALTA 21-06 Endorsement
• Information required for underwriting:
–
–
–
–
–
–
Structure of transaction
Parties involved (related?)
Consideration to be paid
Intended use of loan proceeds
Financial status of borrower and/or seller
Any other information that may affect the
nature of the risk
Creditors’ Rights
Use of Funds as a factor:
• How are the funds being used?
• Acquire or improve borrower’s
property
• Disbursement to shareholders,
members…
• Repayment of loans (institutional or
individual investors)
Creditors’ Rights
ALTA 21-06 Endorsement
• Information required for underwriting:
–
–
–
–
–
–
Structure of transaction
Parties involved (related?)
Consideration to be paid
Intended use of loan proceeds
Financial status of borrower and/or seller
Any other information that may affect the
nature of the risk
Creditors’ Rights
Based on our fact pattern:
• Owner’s coverage at the time Uptown
Condos acquires the property:
– Demonstrate that the transaction is
“arms-length” and for fair market value
Creditors’ Rights
Based on our fact pattern:
• Lender’s coverage at time that Uptown
Condos takes out the original
construction loan:
– Confirm that all loan proceeds are being
used to improve the property, then the
structure is favorable for approval
Creditors’ Rights
Based on our fact pattern:
• Lender’s Coverage at the time Uptown
Condos refinances its construction loan:
– Proceeds used to pay off the existing loan and
further improve the property, then the structure
is favorable.
– Note - Uptown’s financial difficulties may offset
the structure.
– Unrecorded loans – more information needed
– Cash-out is an issue
Creditors’ Rights
Based on our fact pattern:
• Lender’s coverage if lender forecloses,
purchases at foreclosure, takes title
(or has related entity take title) and
requests a new policy:
– Demonstrate no equity (the loan balance
equal to or greater than the property
value) in the property.
Creditors’ Rights
Based on our fact pattern:
• Lender’s coverage at the time Uptown
Condos refinances and the funds are
used to purchase other property for a
related entity:
– Strong financials statements would be
required for the parties involved
(indemnitor would probably be required).
Creditors’ Rights
Transaction Structures with Risk:
• Leveraged Buyouts (Corporate or
Partnership)
• Mortgages to pay dividends or partnerships
distributions (i.e. “cash-out” refis)
• Mortgages cosigned by different entities
• Mortgages to repurchase corporate stock
• Mortgages securing unsecured pre-existing
debts to same lender
Creditors’ Rights
Transaction Structures with Slight Risk:
• Refinances of existing mortgages
• Refinancing of existing unsecured
debt by a different lender
• Purchase money mortgages