Court Upholds Defective Foreclosure Deed

Bankruptcy Petition Filed Too Late to Prevent Sale
By Christopher R. Vaccaro
Special to Banker & Tradesman

The vast majority of mortgage loans are repaid without incident, but when they go into default, peculiar twists and turns can ensue. A federal district court decision issued in January, involving a home in Framingham, offers an example.

Andy Tran mortgaged his home to Citi­zens Bank in 2008, to secure a modest home equity line of credit. He defaulted several years later, resulting in a foreclosure auc­tion sale by Citizens Bank in 2022. Herbert Jacobs was the successful bidder at the foreclosure sale, with a $235,000 bid price. Jacobs signed a memorandum of sale after the auction.

A few weeks later, a foreclosure deed to Jacobs was recorded, together with an affi­davit of sale from Citizens Bank stating under oath that the foreclosure complied with Massachusetts law. However, the re­corded foreclosure deed to Jacobs was missing Citizens Bank’s notarized signature page. This omission turned out to be a costly embarrassment for those involved.

After the defective deed was recorded, Jacobs demanded that Tran vacate the property. Tran promptly filed a Chapter 13 bankruptcy petition and an adversary pro­ceeding in the bankruptcy court to recover the property. Tran claimed that the foreclo­sure deed was defective because of the missing notarized signature, and therefore the property remained part of his bank­ruptcy estate. Citizens Bank and Jacobs contested Tran’s claim, and the parties filed cross-motions for summary judgment with the bankruptcy court.

The bankruptcy court ruled in favor of Citizens Bank and Jacobs. According to the court, Tran could not undo the foreclosure sale to Jacobs, because Tran lost his rights to the property, known as an equity of re­demption, when the foreclosure auction concluded and Jacobs signed the memoran­dum of sale. The delivery of the foreclosure deed was unnecessary to extinguish Tran’s equity of redemption, and Citizens Bank’s recorded affidavit of sale provided adequate notice of the foreclosure sale to third par­ties. Accordingly, the foreclosure sale extin­guished Tran’s equity of redemption, and Tran could not use bankruptcy law to dis­rupt the sale to Jacobs.

A Question of Applying Bankruptcy Law

Tran appealed the bankruptcy court’s de­cision to the U.S. District Court for Massa­chusetts, maintaining that his rights to the property were not extinguished by the fore­closure auction alone, and the defective foreclosure deed failed to extinguish his eq­uity of redemption. Tran also argued that Citizens Bank’s recorded affidavit of sale did not serve as a substitute for a valid fore­closure deed.

The federal district court noted that all of the material facts of this case were uncon­tested; namely, Citizens Bank conducted a foreclosure auction where Jacobs emerged as the winning bidder, a foreclosure deed and affidavit were recorded at the registry but the deed lacked a notarized signature page, and Tran filed his bankruptcy petition after the deed and affidavit were recorded. Because these crucial facts were uncontested, the dis­trict court only needed to determine whether the bankruptcy court properly applied Massa­chusetts law in ruling that Tran lost his equity of redemption to the property before he filed his bankruptcy petition.

The district court examined decades of Massachusetts appellate court decisions when considering the parties’ arguments. Tran relied heavily on a 1924 Supreme Judi­cial Court case holding that a borrower’s eq­uity of redemption was not extinguished until the foreclosure deed was recorded. But the district court cited more recent Massachusetts appeals court decisions holding that the foreclosure auction and the signing of the memorandum of sale extin­guished the borrower’s equity of redemp­tion. The district court observed that the SJC had agreed with those later decisions. The district court also noted that the bank­ruptcy court in Massachusetts, which is a federal court, had concurred with the more recent approach taken by the Massachu­setts courts.

The district court followed those later de­cisions, and upheld the bankruptcy court’s ruling in favor of Citizens Bank and Jacobs. The court also affirmed the bankruptcy court’s holding that, even though the fore­closure deed lacked a signature page, the recorded foreclosure affidavit provided suf­ficient notice of the foreclosure sale to po­tential good faith purchasers. Therefore, Tran could not successfully invoke provi­sions of the Bankruptcy Code that allow bankruptcy trustees and debtors in posses­sion to avoid real estate transfers that are not recorded at the registry of deeds.

The district court’s decision makes it clear that if a debtor wants to prevent a foreclosure sale, it should file a bankruptcy petition before the auction begins, instead of waiting until after a foreclosure deed to the winning bidder is recorded.

Download the article as seen in  Banker & Tradesman on February 26, 2024. Learn more about Christopher R. Vaccaro.