November 2001

A PUBLICATION OR THE TITLE COMPANY OF NORTH CAROLINA

     

[In our last newsletter, October, 2001, Part I of this article appeared. It dealt with pertinent general comments, reported cases affecting validity of subordination agreements, a proposed "first draft" statute governing subordination agreements and subordination of one mortgage or deed of trust to another. This is a continuation of that article.] 

SUBORDINATION AGREEMENTS  - Part II 

4. Condominium and planned community assessment liens and declaration subordination clauses  

The "old" and "new" condominium acts provide for unit owners' association assessments and assessment liens. For condominiums the lien must be filed in the clerk of superior court's office and will have priority from that date. G.S. 47A-22(a); G.S. 47C-3-116(a) and (b). The planned community act contains similar provisions. G.S. 47F-3-116(a) and (b). Prior to the planned community act, the declaration governed the method of lien perfection. However, none of the above acts deal with the subordination of the assessment lien. This is particularly unfortunate given MCB Limited. This is because a condominium or planned community declaration will usually contain a provision subordinating any assessment lien that may come into existence to a specifically defined class of future mortgages and deeds of trust. The class might be defined as "any first mortgage," "any mortgage held by an institutional lender," or "any first mortgage held by an institutional lender," or some variation thereof, with "mortgage" defined to include "deed of trust." But those classifications, however specifically defined, do not meet the test of MCB Limited as discussed in 2. above. That is why the MCB Limited opinion should have been better drafted. The court correctly held that an agreement to subordinate in the future upon plaintiff's request "in such amount as may be reasonably requested by" plaintiff was an unenforceable, indefinite agreement to agree in the future. The court should have left out discussion of having to specify the amount and interest rate of the loan to be benefited by the subordination. In MCB Limited, since the parties agreed to the language quoted above, that made the amount relevant and indefinite. Such a difficulty does not exist in a declaration's subordination provision. Therefore, much like in the case of a definite and otherwise "automatic" subordination discussed in 3. above, the case of a declaration's subordination provision should pro- vide a basis to distinguish MCB Limited. In any event, The Title Company will insure priority of a deed of trust over an assessment lien based upon a declaration's subordination clause drawn as noted above notwithstanding MCB Limited. This can be accomplished by adding to a loan policy an ALTA Form 9 endorsement, an ALTA Form 4 endorsement (condominiums), an ALTA Form 5 endorsement (planned unit development), or by using affirmative coverage in Schedule B.  

5. Lease subordinating to a mortgage or deed of trust.  

A lease will often contain a subordination section. Typically; the subordination will specifically define the class of mortgages and deeds of trust to which the lease will become subordinate. Certain subordinations automatically subordinate the lease to any future mortgage or deed of trust within the class. Some of those provisions will obligate the tenant to give what is a confirmatory subordination agreement, confirming the automatic subordination, upon request of the landlord. Certain subordination clauses seem to constitute an agreement to subordinate later, when the particular mortgage or deed of trust comes into existence. Obviously, an "automatic" subordination provision in a lease "will raise "MCB Limited concerns." A title insurer will be asked to insure a lender that a lease containing such a provision is subordinate to the insured deed of trust. It should be remembered that, in North Carolina, only a lease for more than three years must be recorded in order to be valid against a subsequently recorded mortgage or deed of trust. G.S. 47-18(a)(iv) (recording act); G.S. 47-118 (statutory form of memo of lease); G.S. 47-120 (priority effect of recording memo of lease). A lease for a lesser term need not be recorded or, for that matter, be in writing. G.S. 47-18(a)(iv); G.S. 22-2 (statute of frauds). However, those leases can be recorded and the memo of lease provisions in G.S. 47-118 and G.S. 47-120 can be taken advantage of. If a lease has an option to renew that, if renewed, would make the term longer than three years, it would seem that G.S. 47-18(a)(iv) would apply: Note how G.S. 47-118(a)(3), pertaining to the form of a memorandum of lease and its contents, refers to "the term of the lease, including extensions, renewals or options to purchase, if any..." An assignment of a lease for more than three years must be recorded in order to be enforceable against a purchaser for value, lien creditor or holder of a mortgage or deed of trust. Herring v. Volume Merchandise, Inc., 249 N.C. 221, 106 S.E. 2d 197 (1958).  

It would seem that, based on the same logic set out in 4. pertaining to association  liens, a title insurer should insure the subordinate status of a lease, notwithstanding MCB Limited, if the subordination is otherwise definite and applicable to the deed  of trust to be insured. An additional reason exists. A lender may require a subordination, non-disturbance and attornment agreement (an SNDA) from each tenant. 

If the lease has no subordination provision, the SNDA will be the sole subordination document. If that is true, MCB Limited can be strictly complied with or MCB Limited is distinguishable and not applicable. Also, a tenant will be unlikely to con- test the matter given the non-disturbance and attornment provisions in the SNDA that are protective of the tenant. The same should be true if the SNDA is given in addition to a subordination clause in a lease.  

6. Conclusion  

Trying to establish and, for a title insurer, to insure priority based upon a subordination can present several problems for analysis. This analysis is made no easier by MCB Limited, discussed above. The closing attorney should bring any uncertain subordination issues to the attention of the title insurer. A title insurer can help by taking a practical risk. Legislation should be proposed by the Real Property Section and the North Carolina Land Title Association to resolve doubts created by MCB Limited. A discussion of a subordination of a "mechanics' lien" will be the subject of a future article.

HOMEOWNERS' ASSOCIATIONS -- PLANNED COMMUNITIES -- RIGHT TO ENFORCE RESTRICTIONS

The case of Creek Pointe Homeowners' Association, Inc. v. Happ,_____ N.C. App. _____ , 552 S.E. 2d 220 (2001), deals with the standing of a homeowners' association to enforce restrictive covenants. 

Happ, the owner of Lots 27 through 31 lying on both sides of a subdivision street known as Deep Creek Road, erected a fence across that road in violation of the covenants (which covenants granted an easement in the subdivision streets to all subdivision lot owners). Kremer, the owner of Lot 22, and the Homeowners' Association, brought an action to get an injunction requiring Happ to remove the fence, to bar him from replacing it, and to hold him accountable for compensatory and punitive damages and for attorneys' fees. The case contains several significant holdings and observations. 

1. The lower court ruling that the association lacked standing to sue was interlocutory; but affected a substantial right and, therefore, was appealable. 

2. G.S. 47F-3-102(4) applied to the planned unit development retroactively. G.S. 47F-3-102(4) states that "Subject to the provisions of the articles of incorporation or the declaration and the declarant's rights therein, the [homeowners'] association may: . ..(4) Institute, defend, or intervene in litigation or administrative proceedings on matters affecting the planned community[.]" The court also cited G.S. 47F-l-l08, which makes other North Carolina law applicable, unless inconsistent with the North Carolina Planned Community Act (Chapter 47F), and which applied retroactively. 

The Court of Appeals held that "the NCPCA does not automatically confer standing upon homeowners' associations in every case, and that questions of standing should be resolved by our courts in the context of the specific factual circumstances presented and with reference to the 'principles of law and equity as well as other North Carolina statutes' that supplement the NCPCA." (Emphasis is court's, quoting G.S. 47F-1-l08).  

With respect to the standing of the association, the court noted that an association might have standing to bring an action in its own name or in its representative capacity; depending on the circumstances and cited prior North Carolina case law and the "leading case" of Hunt v. Washington State Apple Advertising Commission, 432 U.S. 333, 97 S. Ct. 2434, 53 L. Ed. 2d 383 (1977), which established three prerequisites for the association to sue in its representative capacity:  

[A]n association has standing to bring suit on behalf of its members when: (a) its members would otherwise have standing to sue in their own right; (b) the interests it seeks to protect are germane to the organization's purpose; and (c) neither the claim asserted, nor the relief requested, requires the participation of individual members in the lawsuit.

The Court of Appeals found that the association met the first two elements of the Hunt test with respect to the association's standing to sue over the obstruction of a subdivision street, to the extent injunctive relief was being sought, since Hunt "contemplated situations in which only injunctive or declarative relief was sought." 552 S.E. 2d, at 226. The Court of Appeals held that the association did not meet the third element of the Hunt rule because, instead of seeking only declaratory or injunctive relief, the association sought compensatory and punitive damages and attorneys' fees. 

3. The association had standing to bring the action in its own behalf. 552 S.E. 2d, at 227. This was limited to pursuing  claims alleging injury to the association itself.  

4. Judge Walker dissented in part. The dissent argued that the NCPCA (Chapter 47F) confers representative standing upon the association to enforce the easement rights of the lot owners consistent with the declaration, articles of incorporation and bylaws, citing G.S. 47F-3-102(4). He stated that G.S. 47F-3-102(4) did not confer representative standing in every case. (Emphasis his.) He stated: "Nevertheless, I construe the NCPCA to allow a homeowners' association, both as a real party in interest and in a representative capacity; to pursue litigation in matters affecting the common areas within the planned community; provided such actions are consistent with its declaration, articles of incorporation and bylaws." The dissent stated that the association, in its representative capacity; would have to show that compensatory and punitive damages were appropriate to a situation where the erection of a fence damaged the planned community; including all the lot owners. Thus, the dissent disagreed with the majority's finding that the third element of Hunt had not been satisfied. He would not have required the participation of individual lot owners in the action, particularly given the fact that the common area was at issue. (Judge Walker made instructive comparisons to the rights conferred to the association under G.S. 47F-3-112; G.S. 47F-1-107 and G.S. 47F-2- 118(e).)  

The case should have the same impact on the condominium act, since the act contains G.S. 47C-3-102(a)(4) and G.S. 47C-l-l08, similar to the provisions discussed above.  

PARTITION SALES BY TENANTS IN COMMON -- NOTICE  AND SETTING ASIDE SALES   

In Goodson v. Goodson, ____N.C. App. ___, 551 S.E. 2d 200 (2001), a tenant in common petitioned for partition of five parcels, including Tract C. The trial court appointed two commissioners and ordered a "sale by partition." Tract C was offered for private sale. A contract to sell to Pittman-Korbin for $172,335 was negotiated by one of the commissioners, subject to the property's suitability for residential purposes. On that day; the commissioner served on all par- ties to the petition a notice of sale to Pittman-Korbin, which stated that, pursuant to G.S. 46-28(b), the commissioners would report the sale to the court on June 5, 1997, at which time there would be a 10 day upset bid period. Pittman- Korbin terminated its contract when the property failed a percolation test. Freeman offered $128,310 for Tract C with no contingencies. The commissioners accepted the offer on June 2. The commissioners said they then gave notice of sale to all parties. Two parties said they did not receive notice. On June 17, after the upset bid period lapsed with no upset bid, the trial court entered an order confirming the sale of Tract C. The sale closed on August 29, a final report of sale was filed and the commissioner's deed was recorded the same day: Freeman conveyed Tract C to his parents. They subdivided Tract C into five lots. They conveyed five lots to another son who constructed a house on each of the five lots. The Court of Appeals refused to upset the lower court's finding that the commissioners were negligent in not serving notice and not being entitled to a commission. The plaintiffs also wanted the court to set aside the com- missioner's deed. The Court of Appeals upheld the lower court's refusal to do so. The Freemans, who purchased at the commissioner's sale, were innocent purchasers who were protected in their purchase at the judicial sale.  

The Courts stated: 'A person is an innocent purchaser for value and without notice when he purchases without notice, actual or constructive, of any infirmity; pays valuable consideration, and acts in good faith. Morehead v. Harris, 262 N.C. 330,338, 137 S.E. 2d 174, 182 (1964). In Morehead, our Supreme Court held that, when there has been a bona fide purchase for valuable consideration, the deficiencies in the conveyance must be expressly or by reference set out in the muniments of record title, or brought to the notice of the purchaser so as to put him on inquiry. See id. at 340-41, 137 S.E. 2d at 184. In short, an innocent purchaser takes title free of equities of which he had no actual or constructive notice."  

"'[I]t is well settled in North Carolina that, in the absence of fraud or the knowledge of fraud, one who purchases at a judicial sale, or who purchased from one who purchased at such sale, is required only to look to the proceeding to see if the court had jurisdiction of the parties and of the subject matter of the proceeding, and that the judgment on its face authorized the sale.' Cherry v. Woolard, 244 N.C. 603, 610, 94 S. .2d 562, 566 (1956) (holding the purchaser at a judicial sale acquired good title, despite contentions of defective service to minor defendants)." 

Thus, the court stated that the sale should be upheld as long as the trial court had proper jurisdiction over the parties and the subject matter; and the judgment on its face authorized the sale. Also, the plaintiffs had failed to join as necessary parties the present owners of the five lots - a joinder necessary when a court is asked to void a conveyance to them. 

GOOD FUNDS SETTLEMENT ACT AMENDED 

G.S. 45A-4(2) has been amended effective January 1, 2002. Even if a deposit does not constitute collected funds, a settlement agent may cause a disbursement of settlement proceeds if the deposit is one of the kinds listed in G.S. 45A- 4, including subdivision (2)'s reliance upon "[a] check issued by the State, the United States, or a political subdivision of the State, or an agency or instrumentality of the United States, including an agricultural credit association;" G.S. 45A-4(7) has been amended twice. G.S. 45A-4(7), effective January 1, 2002, reads as follows, regarding a permitted deposit: 

"(7) A check drawn on the account of or issued by a mortgage banker registered under Article 19 of Chapter 53 of the General Statutes that has posted with the Commissioner of Banks a surety bond in the amount of at least three hundred thousand dollars ($300,000). The surety bond shall be in a form satisfactory to the Commissioner and shall run to the State for the benefit of any settlement agent with a claim against the license for a dishonored check." 

The second change to G.S. 45A-4(7), effective July 1, 2002, substitutes "licensed under Article 19A” for "registered under Article 19."   

LEASEHOLDS -ALTA CHANGES LEASEHOLD COVERAGE 

The existent ALTA Leasehold Loan and Leasehold Owner's policies were withdrawn as approved forms by the ALTA effective October 13, 2001. Therefore, to insure a leasehold loan interest, the ALTA Loan Policy (1992) will be used and to insure a leasehold owner's interest, the ALTA Owner's Policy (1992) will be used, with the appropriate new endorsement referred to below. 

In order to clarify how damages will be computed, the ALTA has promulgated two forms, effective October 13, 2001: ALTA Endorsement 13.1 (Leasehold-Loan) (10/13/01) and ALTA Endorsement 13 (Leasehold-Owners) (10/13/01). These can be accessed on the ALTA’s website: www.alta.org. The forms clarify how damages particular to a leasehold estate are determined, particularly with respect to tenant leasehold improvements and relocation expenses. 

Back to Top