In a priority dispute between a lender and a prior owner claiming fraud by the borrower, the Maryland Court of Appeals recently held that substitute trustees acting for the lender were not bona fide purchasers because they received due notice, through a recorded lis pendens, of the pending claim on the subject property. Despite such constructive knowledge, the Court determined that the substitute trustees had priority to the extent that the borrower's mortgage loan paid off a prior mortgage loan under the doctrine of equitable subrogation.
A copy of the opinion is available at: http://www.mdcourts.gov/opinions/coa/2013/93a12.pdf
After the borrower (the "Borrower") defaulted under a deed of trust dated February 18, 2008 (the "Deed of Trust"), Petitioner-substitute trustees ("Substitute Trustees") filed an action to foreclose on the subject property (the "Property"). In response, the personal representative for the estate of the Property's prior owner ("Respondent") moved to stay and dismiss the foreclosure.
Borrower had acquired the Property from his mother (the "Prior Owner") by means of a deed dated May 30, 2007 (the "Deed"). On January 3, 2008, Respondent filed suit seeking to have the Deed declared null and void as it was procured through fraud. After Respondent's suit had commenced, Borrower executed the Deed of Trust for a loan, part of which was applied to pay-off a mortgage which the Prior Owner had placed on the Property years earlier, on December 6, 2004.
Following the execution of the Deed of Trust, the trial court in Respondent's lawsuit created a constructive trust as a means to carry-out its ruling that the Property be conveyed to the Prior Owner's estate. The court did so, however, without expressly declaring that the Deed was void ab initio.
Thereafter, Substitute Trustees initiated a foreclosure action. After a hearing, the trial court denied Respondent's motion to stay and dismiss.
On appeal, Maryland's intermediate appellate court reversed, reasoning that Substitute Trustees were not bona fide purchasers because they had constructive notice, through a recorded lis pendens relating to Respondent's action, of Respondent's claim to the Property. Significantly, the intermediate appellate court held that equitable subrogation was unavailable to Substitute Trustees because they had invoked it before, rather than after, a foreclosure sale. The intermediate court noted that in G.E. Capital Mortgage Services, Inc. v. Levenson, 338 Md. 227, 657 A.2d 1170 (1995), equitable subrogation applied "to refinance lenders who, after a foreclosure sale, obtain a position of priority." See id. (emphasis added). Substitute Trustees appealed to the Maryland Court of Appeals.
As you may recall, under the doctrine of lis pendens, where there is pending litigation affecting the property, a subsequent purchaser of the property who is not party to the litigation, including a mortgagee, has notice of such litigation and is bound to the judgment rendered therein. See Greenpoint Mortg. Funding, Inc. v. Schlossberg, 390 Md. 211, 225, 888 A.2d 297, 305 (2005).
In addition, in Maryland, equitable subrogation is available where a person pays another's debt due to mistake or fraud, and may apply in the absence of an express or implied agreement. Hill v. Cross Country Settlements, LLC, 402 Md. 281, 313, 936 A.2d 343, 362 (2007). Under the doctrine of equitable subrogation, "[w]here a lender has advanced money for the purpose of discharging a prior encumbrance in reliance upon obtaining security equivalent to the discharged lien, and his money is so used, the majority and preferable rule is that if he did so in ignorance of junior liens or other interests he will be subrogated to the prior lien. Although stressed in some cases as an objection to relief, neither negligence nor constructive notice should be material." Levenson, 338 Md. at 231-32, 657 A.2d at 1172.
On appeal, the Maryland Court of Appeals first considered whether Substitute Trustees' principal was a bona fide purchaser when it had constructive notice through lis pendens of another's claim to the land. Recognizing that the trial judge did not state whether the Deed was void or merely voidable in establishing the constructive trust, the Court of Appeals agreed with the intermediate appellate court that the mere creation of a constructive trust did not implicitly void the Deed.
Nevertheless, the Court held that Substitute Trustees were not entitled to the protections of a bona fide purchaser because they received due notice through application of the doctrine of lis pendens. See Schlossberg, 390 Md. at 225. Specifically, the Court noted that the Respondent filed suit on January 3, 2008, and the Note and Deed of Trust were executed on February 18, 2008.
The Maryland Court of Appeals then considered whether the doctrine of equitable subrogation nevertheless provided an alternative and partial remedy to Substitute Trustees. According to the Court, the principal, believing (albeit mistakenly) that Borrower had a valid deed to the Property, paid off the existing loan of the Prior Owner in order to protect its interests. Although the Court acknowledged that Substitute Trustees had constructive notice of another's claim on the Property, it stated that "constructive notice alone does not defeat the application of equitable subrogation." See Levenson, 338 Md. at 243, 657 A.2d at 1178.
Citing the Levenson opinion, the Court held that, in the "absence of actual knowledge on the part of the subrogation claimant concerning the intervening lien," equitable subrogation applies. See id.
Accordingly, the Maryland Court of Appeals reversed the judgment of the intermediate appellate court, and held that Substitute Trustees were subrogated to the extent that Borrower's mortgage loan paid off the prior mortgage loan.
Ralph T. Wutscher
McGinnis Wutscher Beiramee LLP
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