Ohio is a "race state" with regard to mortgages. Mortgages take effect in the order of their presentation. "The first mortgage presented shall be the first recorded, and the first mortgage recorded shall have preference." O.R.C. 5301.23. Recorded mortgages have priority over other encumbrances or conveyances if they record first, and without knowledge of any prior interests. O.R.C. 5301.25. So, with these "other" encumbrances Ohio is a "race-notice" state. Simple enough, and easy to determine lien priority.
Equitable subrogation, however, mucks that all up. Basically, when a mortgagee finds that it doesn't have the priority it thought it did (like when they miss a lien and neglect to pay it off) they ask the court to apply the doctrine of equitable subrogation to move them up the line. When the doctrine is applied, the mortgagee in need of rescue is bumped up to the priority of a prior lien that it paid off.
For example: Able buys a house and takes out a mortgage with First Bank on June 1, 2012. He takes out a second mortgage with Second Bank on August 1, 2012 to send his son to college.
The next year, interest rates drop and he refinances for a better rate with Third Bank on December 1, 2014. But, Third Bank uses a shoddy title agent who orders its title search from India. The search misses the mortgage to Second Bank. Thus, Third Bank only pays off First Bank when its loan closes. It assumes that it has a first mortgage and the shoddy title agent issues a policy insuring a first lien position.
When Able defaults on his mortgage, and Third Bank begins the foreclosure, it is surprised to learn that it is actually in a second lien position because its mortgage was recorded after the Second Bank mortgage - which never got paid. So, Third Bank asks the court to apply the doctrine of equitable subrogation so it can "step into the shoes" of First Bank. If the court does so, First Bank will have priority over Second Bank (at least to the extent that First Bank was paid off with funds from Third Bank).
The Ohio Supreme Court in ABN AMRO v. Kangah, made it more difficult for lenders to get this very preferential treatment. The Court found that equitable subrogation was "an equitable remedy that is appropriate only when the equities clearly favor the party asserting it." Then it concluded that equity did not favor applying the doctrine when the requesting party was negligent (or their title company was negligent). And, if the lender seeking equitable subrogation had a title insurance policy, it didn't even need an equitable remedy - it could simply file a claim with the insurer. In my opinion, the Court nailed this one! They got it perfect.
Unfortunately, those who didn't like the result of that case have lobbied the Ohio legislature to pass H.B. 201. This bill makes equitable subrogation automatic, regardless of whether the equities favor it. Worse yet - it requires subrogation even where the equities do NOT favor it, e.g. when the mortgagee asking for the remedy was negligent, even if it actually knew of the junior liens, and even if it has a title insurance policy.
Sec. 5301.234. (A) A mortgage encumbering real property granted to secure funds that are used to satisfy a prior mortgage or lien on the real property shall be subrogated to the priority of the prior mortgage or lien that was satisfied, to the extent of the amount satisfied, if both of the following apply:
(1) The parties to the mortgage granted to secure funds that are used to satisfy a prior mortgage or lien intend that mortgage to have the priority of the satisfied mortgage or lien.
(2) At the time the holder of a subordinate mortgage or lien received its interest, the holder expected the interest to be junior to the satisfied mortgage or lien.
(B) A mortgagee seeking to be subrogated pursuant to division (A) of this section shall not be denied subrogation for the priority of the satisfied mortgage or lien for any of the following reasons:
(1) The mortgagee is engaged in the business of lending.
(2) The mortgagee had actual knowledge or constructive notice of a mortgage or lien over which the mortgagee would gain priority through subrogation.
(3) The mortgagee committed a mistake or was negligent or a third party committed a mistake or was negligent.
(4) The lien for which the mortgagee seeks to be subrogated was released.
(5) The mortgagee obtained a title insurance policy.
(C) Notwithstanding the application of division (A) of this section, the holder of a subordinate mortgage or lien shall retain the same subordinate position that the holder would have had if the prior mortgage or lien had not been satisfied.
Here is what I find so crazy - I would even say offensive - situations where a mortgagee asks for subrogation are completely avoidable! This is why we do title searches. And, we have title insurance to protect against this exact risk. Title insurance companies charge a premium for the express purpose of insuring against a loss of priority for this exact scenario.
What kind of message does it send when we have a whole industry built up around the concept of "risk avoidance" and rather than expect them to actually do a thorough title search to "avoid this risk" we simply change the law to eliminate the risk all together?
So, here we have a completely avoidable risk, that title companies voluntarily assume for a profit, and we are going to statutorily eliminate the risk. Does that make sense to anyone?
We are really close to the point where refinancing lenders don't need a title search, and from a risk/benefit analysis they probably don't need title insurance. It doesn't matter what other liens are out there - or even if they know that other liens are out there - they will be statutorily subrogated into a first lien position anyway. Whether they deserve it or not.
This is just plain bad policy.
Of course, the law also includes another provision which increases the penalties for lenders who fail to release their mortgages in a timely manner. This part of the bill is great! If a mortgagee doesn't release its mortgage within 15-days of receiving a statutory notice, it is subject to reasonable attorney fees, costs, and damages of $100 for each day of noncompliance up to $5,000.
As much as I think we need to add some teeth to the law requiring mortgagees to release their liens when paid, I still cannot get behind H.B. 201. Apparently, I am alone. I have not yet found any group publicly opposing this bill.
Not surprisingly, it is supported by the Ohio Land Title Association, the Ohio Association of Independent Title Agents, the Ohio Association of Realtors, and the Ohio Bar Association. Of course, they mostly focus on the benefits on having mortgages released in a timely manner - not the windfall the legislature is gift wrapping for title industry that would rarely ever have to pay a claim for loss of priority again (which, remember, is something they charged a fee and voluntarily agreed to do).
I really hate to see the good work that most of us in the title industry do get diminished by a bill that places so little value on a thorough title search that it is willing to say "it doesn't matter - you can move to the front of line no matter what a good search would have shown." And, I'm sure you all remember how the title industry defends its premiums when its pointed out that only about 6% is paid out in claims, right? Its the curative work that the title industry does. In other words, that thorough title search we do, and then following up to fix any problems (making sure encumbrances are paid and released) is the real value - making sure you don't have a claim.
But, not in Ohio... not anymore (assuming the bill passes, of course). Now, if the funds are going to be used to satisfy a first mortgage - you get first lien position. With or without a title search at all - it doesn't matter.
H.B. 201 sends the wrong message. Though it has already passed the House, unanimously, I hope somebody in the Senate takes the time to think about why we have a title insurance industry. And, because we do have a title insurance industry, we do not need statutory subrogation. Particularly when it includes language blessing subrogation for negligent lenders (and title companies). Since when do we REWARD negligence?!
And, if you still aren't convinced... one of the state's larges foreclosure firms likes H.B.201. We wouldn't want to slow down a foreclosure because the lender doesn't have the lien position they thought they did.