Lenders Beware Of The PMR -Sept 2013
Terry Jessop & Bitner Newsletter
Issue 1, September 2013
First In Time May Not Be First In Right
In August 2013, the Utah Supreme Court ruled that the Purchase Money Rule, sometimes called the Vendor’s Lien Doctrine, is alive and well in Utah. The Purchase Money Rule applies to seller financing. It can propel what everyone thought was a second position loan, in favor of the seller, ahead of the bank or credit union, which is supposed to be first position. In cases where the Purchase Money Rule applies, lenders risk losing their priority and their security, and title insurance companies may have to pay substantial claims.
What Do You Mean I’m Not In First Position?
As the Court explained, “the equities favor the vendor,” or seller, of real property over a traditional lender. ( Insight Assets v. Farias, 2013 UT 47, ¶ 9, 321 P.3d 1021.) The theory is that a traditional lender only parts with money. The seller, on the other hand, not only parts with money but with specific real estate, which the seller wants back if the buyer defaults. Said the Court, “The law is more sympathetic to the [seller’s] hazard of losing real estate previously owned than to the third party lender’s risk of being unable to collect from an interest in real estate that never previously belonged to it.” ( Id.) Hence, whenever a seller provides financing to a buyer which is secured by a trust deed, there is a significant risk that the seller’s trust deed will have priority over the bank’s prior-recorded trust deed.
The good news is that the Purchase Money Rule is not absolute. Utah courts have long held that, “where only one of the parties has notice of the other, the recording act, rather than the Purchase Money Rule, should govern and should award priority to the party lacking notice.” ( Id., at ¶ 10.) In other words, if the existence of seller financing is hidden from the bank and the bank records its trust deed in first position in ignorance, the recording act should operate to give priority to the bank. A court is also obligated to consider the fairness of imposing the Purchase Money Rule against a bank.
Saved by Seller’s Procrastination
In Insight Assets, a seller provided financing to a buyer. The seller recorded a trust deed in second position, behind a bank. The buyer defaulted on both loans and the bank foreclosed. Five years passed before seller commenced its own foreclosure action. In the meantime, the property passed to three different owners, each of whom believed that the seller’s trust deed had been cut off by the bank’s foreclosure. Furthermore, the original lender went out of business, making it difficult for the record owner to put on evidence of all of his defenses. Because the seller slumbered on his rights, the Court declined to enforce the Purchase Money Rule. In so doing, however, the Court refused to allow the current owner of the property to defeat the Purchase Money Rule as a bona fide purchaser, who took the property without notice of the vendor’s lien. To the contrary, the Court ruled that the current owner had notice of seller financing because the seller’s trust deed was recorded in the County records.
Are You Protected?
Because the Purchase Money Rule is alive and well in Utah, lenders and title companies should obtain written representations from the seller concerning any financing the seller may provide to the buyer. Contact Terry Jessop & Bitner today for a complete review of your disclosures and other loan documents to see if you are adequately protected from the Purchase Money Rule.
©Terry Jessop & Bitner September 2013