Business Law

Bank of New York Mellon v. Enchantment at Sunset Bay Condominium Ass’n (9th Cir.)

The following is a case update written by Adam A. Lewis, Senior Counsel, Morrison & Foerster LLC, analyzing a recent decision of interest:

SUMMARY

In Bank of New York Mellon v. Enchantment at Sunset Bay Condominium Ass’n, ___ F.3d. ___, 2021 WL 2621181 (9th Cir. June 25, 2021) (“BNYM”), the United States Court of Appeals for the Ninth Circuit (the “Court”), in a 2-1 opinion held that a mortgagee could use its standing under a Nevada quiet title statute to invalidate a condominium association foreclosure sale that wiped out the mortgagee’s junior lien because the sale violated the automatic stay in the borrower’s bankruptcy.

BNYM can be found here.

Facts

Bank of New York Mellon (the “Bank”) held a trust deed on the debtor’s condominium. The condominium project’s home owners association (the “HOA) had a right to record a delinquency lien on the condominium to secure the debtor’s obligations to it. Under Nevada law, when recorded such a lien would be senior to the Bank’s. The debtor defaulted on his payments to the HOA. The debtor filed a Chapter 13 but abandoned the condominium to the Bank and HOA. Even though the automatic stay applied, the HOA recorded its delinquency lien and later foreclosed, selling the unit to a third party (the “Buyer”). The foreclosure wiped out the Bank’s by-then junior lien. Enlisting Nevada’s quiet title statute, the Bank brought a diversity action in federal district court against the HOA and the Buyer to quiet title in its favor because the recording of the delinquency lien and subsequent sale were void (and not merely voidable) under Ninth Circuit precedent as violating the automatic stay of Bankruptcy Code § 362(a).

Accepting the HOA’s and Buyer’s arguments on cross summary judgment motions on the undisputed facts (including that the HOA violated the stay) and citing to Tilley v. Fucurevich (In re Pecan Groves), 951 F.2d 242, 245 (9th Cir. 1991) the district court found that the Bank lacked “prudential” standing to invoke the effect of the automatic stay because it was “‘neither [sic] a party, a debtor, or a trustee in [the underlying] bankruptcy matter.’” Because it was not acting to protect the debtor, the bankruptcy estate or its rights as a creditor of the debtor, it was not among the class of persons protected by the automatic stay. Thus, it lacked “prudential” (as contrasted with Article III Constitutional standing. The Bank appealed and the Court reversed, denying the Buyer’s summary judgment and granting the Bank’s.

Reasoning

The decision comprises three parts. There are the Court’s opinion, a concurring opinion and a dissent. All are of interest.

The Opinion. On appeal, the main argument for the appellees was the Buyer’s that the Bank lacked “prudential” standing under Tilley, that is, that the Bank is not among the class of persons protected by the stay and therefore had no remedy for the stay violation by the HOA and buyer. In rejecting that argument, the Court distinguished Tilley, which involved a bankruptcy order regarding the automatic stay that the bankruptcy trustee did not appeal. Not being protected by the automatic stay except derivatively as a creditor of the estate, the appellant in that case lacked standing to appeal the order. In the present case, however, the appeal was not from a bankruptcy court order directly regarding the automatic stay, but from the order denying the Bank the right to appeal an adverse order under the Nevada quiet title statute. Although the issue in the district court involved application of the stay to the foreclosure by the HOA and purchase by the Buyer, the Bank’s claim was brought under the district court’s diversity jurisdiction to vindicate the Bank’s rights under the Nevada quiet title statute. In that sense, the automatic stay was only incidentally pertinent. Although violation of the stay was the predicate act for the result, it was not the source of the remedy. The question was how does Nevada law treat a federal law violation? The Court then relied on Nevada state court cases holding that that a foreclosure in violation of the automatic stay is void under Nevada law.

The Dissent. Before proceeding to the concurring opinion, it makes sense first to consider the dissent that the concurring opinion addresses. The essence of the dissent is very simple. The automatic stay has three purposes: to protect the debtor from creditor harassment, to afford the debtor the chance for a “fresh start” financially; and to protect the debtor’s creditors as a group by preventing the bankruptcy estate from being carved up unequally. In bankruptcy proceedings, the parties given the power to or charged with vindicating these interests are the debtor and the bankruptcy trustee (or debtor in possession in reorganization cases). The trustee’s ability to enforce the stay protects both the debtor and the estate (that is, the creditors generically); the debtor can also seek court protection for these interests. But in a bankruptcy case creditors themselves cannot directly protect their interest in maximum and equitable distribution of the estate by enforcing the stay. That right is conferred on the trustee or debtor. Nor is this changed by the Nevada quite title statute because it confers no substantive rights, but instead is a purely procedural device that enables parties to vindicate substantive rights created elsewhere. But the stay and bankruptcy law create no such substantive rights in favor of creditors individually. Indeed, in BNYM, although a creditor of the estate, the Bank was not acting as a creditor of the estate, but to protect itself against the alleged senior claim of the Buyer. (Note that in any case the action will have no impact on the estate since the debtor has surrendered the property to the two lienholders.)

The Concurring Opinion. The concurring opinion purports to be a rebuttal to the dissent. Its essential point is that the dissent is stuck in the Ninth Circuit’s old jurisprudence under which an act in violation of the stay is merely voidable, not void ab initio. But under the more recent “void” jurisprudence, the Bank is not asserting a cause of action commended to specific parties (the trustee and debtor) so that the consequence of its violation arises only when raised by a party to which bankruptcy law confides the issue, but a “fact” like any other relevant fact it could raise in litigation: that the foreclosure is absolutely void, in essence that it never happened. .

Authors’ Comment

BNYM raises an issue that probably would require an article to thoroughly dissect. Here perhaps it can be said that the opinion relies on a mischaracterization of the meaning of “void” as contrasted with “voidable”. The stay is a bankruptcy creature emplaced for very specific and finite purposes. Therefore, “void” means “void for purposes related to the bankruptcy case and bankruptcy policies, not for all times and all purposes everywhere. It is not a universal “fact”. Those purposes do not include enabling one creditor to obtain an advantage over another that did not (and does not) exist outside of the bankruptcy. Perhaps this point can be illustrated indirectly by pointing out that when Congress wanted bankruptcy issues to be adjudicated outside of bankruptcy proceedings, it knew how to provide for that. An example is the provisions of Code § 523 that allow certain nondischargeability claims to be adjudicated in the bankruptcy court or later in another forum. Even then, the issue involves adjustment of the debtor/creditor relationship by parties given that power, not a fight between creditors.

A puzzling question is whether the Bank tried to get the bankruptcy court or trustee to stop the HOA’s activities and if not, why not?

These materials were authored by Adam A. Lewis, Senior Counsel, Morrison & Foerster LLC, a member of the ad hoc group, with editorial assistance by Meredith Jury, (bankruptcy judge, C.D. Cal. (Ret.)), a member of the ad hoc group. Thomson Reuters holds the copyright to these materials and has permitted the Insolvency Law Committee to reprint them. This material may not be further transmitted without the consent of Thomson Reuters.


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