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Actual Notice of an Adverse Interest
Slade Smith
   

Merely receiving a notice of foreclosure by a junior lender does not trigger a senior lender’s duty to notify its title insurer of a possible title insurance claim, a Missouri Court of Appeals has ruled.

In 2004, a Missouri borrower granted a $40,000 home equity mortgage to Citibank. In 2005, the same borrower granted a $168,000 mortgage to America's Wholesale Lender (AWL). AWL entered into a subordination agreement on February 4, 2005, in which Citibank agreed to subordinate its Home Equity mortgage to AWL’s mortgage. The title insurance agent that did the title work for the AWL transaction agreed to record the subordination agreement, but failed to do so, and its underwriter issued a lender’s title insurance policy on AWL’s mortgage, insuring the mortgage to be in a higher priority position than Citibank’s home equity mortgage.

In 2011, the borrower began failing to make payments on the Citibank home equity mortgage, and Citibank foreclosed on it. Notices of the foreclosure were sent to AWL, but AWL did not notify its servicer, GreenTree, about the foreclosure notice, and so GreenTree did nothing to stop the foreclosure sale. Citibank bought the property at the foreclosure sale in September, 2011. On March 1, 2012, Citibank sold the property to a private purchaser, who financed his purchase with a mortgage that was recorded on March 2, 2012.

It is not clear exactly how AWL learned that something might be amiss with its mortgage priority. But in very early March, it ordered a title report on the property, and when the results of the title report came back on March 7, 2012, AWL learned that the Citibank home equity mortgage had had record priority over its mortgage because the subordination agreement had not been recorded, and that its mortgage had been extinguished by the 2011 foreclosure sale. The subordination agreement was finally recorded five days later.

AWL, through its servicer, GreenTree, filed a claim to the title insurer. But the title insurer denied the claim, because according to the insurer AWL had not given it timely notice of the claim—it claimed that AWL should have notified it of a possible claim when it had gotten the foreclosure notice. AWL sued the insurer, but the trial court agreed with the title insurer that AWL should have submitted a claim promptly when it got the notice of foreclosure.

But an appeals court reversed the trial court decision, because only actual knowledge of an interest adverse to an insured’s interest, as insured, triggers an insured’s obligation to notify the insurer of a claim. While the notice of foreclosure might have triggered AWL to take action to be on the safe side, the notice itself only indicated that mortgage lender that was supposed to have a mortgage that was inferior to AWL’s according to its policy was foreclosing. If a mortgagee with an inferior position to AWL foreclosed, AWL would still have retained its first priority position on the property if it had that first priority position in the first place. So, if the state of the title of AWL’s mortgage were as the title insurer insured it, the foreclosure notice would not have represented actual knowledge that AWL’s priority position was compromised.

AWL didn’t gain actual knowledge that its priority position was compromised until it got the results from its title report after the foreclosure sale. AWL then notified the title insurer within seven days of gaining actual knowledge that its mortgage was a lower priority than Citibank’s home equity mortgage because the subordination agreement hadn’t been recorded. That’s probably fast enough, and the title insurer will likely have to pay the claim at the very least, and possibly a penalty for vexations refusal to pay a claim and AWL’s attorney fees as well.

 



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