Tag Archives: Chain of Title

Typo 2

“There must be some mistake….”

David and Roshan were the first owners of this house in San Marcos, California.

A buyer stuck with his sellers' debt

Within two years the couple refinanced three times, and took out a home equity credit line. Then Roshan filed for divorce.

The court ordered that the house be sold. Since Roshan was uncooperative, David handled the details.

The buyer, Kirk, was quite happy with the home, but puzzled by letters he was getting about an old credit line deed of trust. It seemed the credit line remained open, and was in arrears. Worse, the deed of trust continued to encumber Kirk’s property and the lender threatened to foreclose.

Kirk notified his title company, and within days the mystery was explained.

When it handled Kirk’s purchase, the title company searched the title but failed to find the problem deed of trust because of an error in its description of the property. Mainly, the deed of trust showed the correct lot number, but an incorrect map number. Instead of referring to Map No. 13915 (the correct number) the deed of trust made it Map No. 13925. Otherwise, the deed of trust had the correct property address and assessor’s parcel number.

In its search the title company relied on a geographical index in their automated (computer) database, and the deed of trust was missed since they entered Map No. 13915 in the search field. If instead the searcher had used the grantor-grantee index in the San Diego County recorder’s office, they would have found the deed of trust and it would have been taken care of when Kirk bought the house.

The recording laws in California, like other states, provide that a recorded document imparts constructive notice of its contents. So, legally speaking, Kirk acquired the property subject to the deed of trust and it was enforceable (by foreclosure if necessary) against his interest.

In other words, Kirk was stuck with the sellers’ debt.

Title insurance paid $110,000 to obtain a release of the deed of trust, and the insurance company has only hopes of recovery from David and Roshan.

Moral: To satisfy customer expectations title companies have attempted to streamline real estate transactions through computerized processes and new procedures. There may be new risks involved, but hidden risk has always been a reason for title insurance.

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Typo

A short course on constructive notice, and the bona fide purchaser.

TOPEKA, Ks–When they gave a mortgage against their home Jorge and Toni Colon could not have imagined what was to follow.

The trouble began with a typo. The Colons owned Lot 79 in the Arrowhead Heights Subdivision, but a typist made it “Lot 29” in the mortgage that got recorded.

The house on Lot 79

No one noticed the typo until the Colons filed Chapter 13 bankruptcy, and the bankruptcy court appointed a trustee for the debtors’ estate. Seeing opportunity, the trustee filed pleadings to avoid the mortgage as an interest in the debtors’ real property. If successful the trustee’s action would make the mortgage lender an unsecured creditor, perhaps getting cents on the dollar instead of full repayment.

The trustee’s action was based on section 544(a)(3) of the Bankruptcy Code. This statute gives a trustee (or a debtor-in-possession) legal status of a bona fide purchaser of the debtor’s real property as of commencement of bankruptcy. The purpose is to prevent a debtor from giving favored creditors preferential treatment just prior to bankruptcy.

So section 544(a)(3) offers a trustee protected status of a hypothetical bona fide purchaser, allowing the trustee to avoid a security interest in the debtor’s property (such as a mortgage) that has not been perfected (i.e., recorded) as of the bankruptcy filing date.  A bona fide purchaser, as we know, is one who pays value for property without notice of claims of others to the same property. The bona fide purchaser acquires property free of such competing claims, and has legal protections against them.

But what is legal “notice?” There are two types: Actual notice (what one knows) and constructive notice (as disclosed by public records).

In this case, the trustee argued a hypothetical bona fide purchaser would not have notice of the defective mortgage because it would not be found by a search of land records in the office of the county recorder for Shawnee County, Kansas.

The bankruptcy court agreed with the trustee, and ordered the mortgage avoided for the benefit of the debtors’ estate (controlled by the trustee). The mortgage lender could not foreclose, and would have to get in line as an unsecured creditor.

The court explained the county recorder maintains two indices for land records, a grantor-grantee index (an alphabetical listing by names of parties) and a geographical index (a listing by property legal description). The court said a purchaser (or a title searcher) might rely on the geographical index, solely, and in searching Lot 79 would not find the mortgage against Lot 29. It made no difference, in the court’s opinion, that the mortgage shows a correct property address and assessor’s parcel number.

The mortgage lender appealed and a federal court of appeals reversed the bankruptcy court decision.

The appeals court focused on the Kansas recording statutes, which state that each recorded document imparts notice of its contents, and that each county must maintain a grantor-grantee index. The geographical index is optional.

The court reasoned that the Kansas statutes charge a purchaser with constructive notice of an owner’s entire “chain of title,” to be found by searching names in the county grantor-grantee index. In this case, there were at least four documents in the chain of title linking the Colons with the correct lot number, and by comparing the documents a person with “common sense” should know the disputed mortgage was intended to encumber the Colon home.

So the mortgage lender won, and the mortgage is enforceable.

Moral: Forget the bankruptcy stuff, this is an important case for understanding constructive notice (and when you’re stuck with it). These notions of constructive notice, and rights of a bona fide purchaser, are at the heart of our system of property rights.

Most state recording statutes are similar to those in Kansas, and this well-written decision offers clarity for courts elsewhere. It should have nation-wide implications.

Today most searchers and title companies rely on geographical databases when handling real estate transactions. The geographical search is simply faster and less costly than a grantor-grantee search. But it’s also true the geographical search is prone to error and may miss the document with a bad legal description. Property owners and lenders look to title insurance to cover the risk.  See, for example, the next post, “Typo 2.”

The case is reported as In re Colon, 563 F.3d 1171 (10th Cir. 2009).

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