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BlogsPublications | December 1, 2016
4 minute read

COA: “replacement” senior mortgage does not retain priority in quiet-title action to the extent loan amount is increased

When a senior mortgage is discharged and replaced with a new mortgage, and the junior mortgagee conditions its own discharge and replacement on no new money being lent and recordation of the replacement mortgage, then the new senior mortgage does not retain its priority position with respect to the excess, said the Michigan Court of Appeals in Wells Fargo Bank, N.A. v. SBC IV REO, LLC and Capital National Bank, No. 328186. The court refused to apply the doctrine of equitable subrogation, which in a quiet-title action places a new mortgage in the same priority as the discharged mortgage if the identity of the mortgagee remains the same and the junior lienholders are not prejudiced, to the amount over and above the loan amount secured by the original senior mortgage.

Wells Fargo Bank, N.A. (“Wells Fargo”) was the successor in interest to the senior mortgage that secured a home loan by Option One Mortgage Corporation (“Option One”) to the homeowners. Option One’s original senior mortgage was duly executed and recorded in December 2003. SBC IV REO, LLC (“SBC”) was the successor in interest to the junior mortgage that secured a loan by Capitol National Bank (“Capitol”) to the homeowners. Capitol’s original junior mortgage was duly executed and recorded in August and September 2004.

In April 2005, the homeowners attempted what amounted to a “refinancing” of the Option One senior mortgage. Option One issued a new loan of $520,000, secured by a new mortgage. Of the loan proceeds, $458,109 were used to pay down the original senior mortgage, and $34,566 were disbursed to the homeowners (after fees). Under the plan, Capitol’s junior mortgage was to be discharged and replaced, with a subordination agreement to keep Capitol as the junior lienholder.

Capitol’s subordination agreement, however, was conditioned on no new money being loaned and on the proper recordation of the replacement mortgages to retain the priority position. Neither condition was met, as the homeowners pocketed $34,566 as noted above, while the discharge of the original senior mortgage was never recorded. Capitol faxed its discharge to the title company in connection with the closing, but it was unaware of the increase in the principal amount. For purposes of public record at the register of deeds office, the Capitol mortgage was not discharged and was superior to the replacement Option One mortgage.

Some years later, Wells Fargo purchased the Option One loan and received an assignment of the replacement mortgage. The documents associated with that transaction show that Wells Fargo knew about the situation with the Capitol junior mortgage before it accepted the assignment. The following year, SBC purchased the Capitol loan and accepted an assignment of the mortgage.

In October 2013, SBC foreclosed on its mortgage, claiming that the loan was in default with nearly $700,000 owed. At the subsequent foreclosure sale, SBC purchased the property under a sheriff’s deed. Before the statutory redemption period expired, Wells Fargo sued Capitol and SBC, seeking to enforce Capitol’s faxed discharge or use the doctrine of equitable subrogation to elevate its interest above SBC’s, despite its record priority.

The trial court dismissed Wells Fargo’s claims, ruling that the discharge of the Capitol mortgage was subject to conditions precedent that were not met, and that doctrine of equitable subrogation did not apply because the additional funds made Option One’s a new mortgage, and not a mere refinancing.

The Court of Appeals agreed that Capitol’s faxed discharge was neither valid nor enforceable. The increase in principal amount prevented Capitol’s promise to discharge the mortgage and record the discharge from becoming enforceable.

As to the issue of equitable subrogation, the court disagreed in part with the trial court’s ruling. Equitable subrogation is available in a quiet-title action to place a new mortgage in the same priority as a discharged mortgage if the new mortgagee was the original mortgagee and the holders of any junior liens are not prejudiced as a consequence. The court clarified that CitiMortgage, the most relevant precedent, did not indicate that equitable subrogation is entirely unavailable if funds are lent to a mortgagor above and beyond the amount needed to satisfy the original loan. The court then held that the junior lienholder—SBC, through its assignment from Capitol—is prejudiced by equitable subrogation only to the extent that money is added to an otherwise ordinary refinancing transaction.

Thus, the court held that Wells Fargo’s interest should be placed in senior priority, as the original Option One mortgage was, but only as to the loan amounts not encompassing the new or additional monies.