In re Bowers (Bankr. M.D. Ga.) – Erroneous and False Satisfaction Recorded by Unauthorized Third Party Interloper Destroys Security Deed Held by Innocent Mortgage Lender

The following is a case update prepared by Dan Schechter, Professor Emeritus, Loyola Law School, Los Angeles, analyzing a recent decision of interest:

SUMMARY:

A bankruptcy court in Georgia has held that an erroneous and false satisfaction recorded by an unauthorized third party interloper nevertheless destroyed a security deed held by an innocent mortgage lender because the erroneous satisfaction incorrectly stated that the interloper was the assignee of the original loan. [In re Bowers, 2018 Westlaw 6824023 (Bankr. M.D. Ga.).]

Facts: A homeowner executed a security deed in favor of a lender, and the security deed was properly recorded. Two years later, a third party, acting without authorization, erroneously recorded a satisfaction indicating that the security deed had been paid in full and that the third party was the assignee of the security deed. That was a false statement: the promissory note underlying the security deed was not satisfied, and the third party was not the assignee. About a year later, the third party recorded another satisfaction, again wholly erroneously.

For the next nine years or so, the homeowner continued to make monthly payments on the promissory note. Eventually, she filed a Chapter 7 petition. Her trustee filed an adversary proceeding seeking to avoid the lien of the security deed under 11 U.S.C.A. §544(a)(3), asserting his status as a hypothetical bona fide purchaser of the debtor’s real property.

Reasoning: The court granted summary judgment in favor of the trustee, reasoning that the trustee took the property free of the lien of the security deed due to the recording of the satisfaction by the unauthorized third party. The lender strenuously argued that the trustee was on inquiry notice of a flaw in the record, because the erroneous satisfaction was filed by someone with no connection to the underlying chain of title. The court disagreed:

While it is true that [the third party] executed the Satisfactions without a prior recorded assignment, the Satisfactions stated [that the third party] was the holder of the Security Deed by virtue of an assignment. Nothing recorded in real estate records is inconsistent with this statement. From the Security Deed’s recording until after the Debtor filed the bankruptcy case—nearly twelve years—no recorded instruments contradicted the statements within the Satisfactions.

The lender then argued that the lack of an enforceable assignment between the original lender and the third party should itself have put the trustee, as a hypothetical bona fide purchaser, on notice of the problem. The court again disagreed:

[A] hypothetical purchaser would not have known that there was no enforceable assignment between [the original lender] and [the third party]. It is true that the record in this case reflects that [the third party] was never an assignee of the deed to secure debt. But, again, the relevant perspective is that of a hypothetical purchaser. Nothing on the face of the Satisfactions indicates [that the third party] was not assigned the Security Deed. Rather, the instruments expressly state that [the third party] was the owner of the security interest by virtue of an assignment. A purchaser would have concluded that [the third party] acquired the deed through an unrecorded assignment; such a transfer is permitted by Georgia law.

Author’s Comment: Wrong. The erroneous satisfaction was a classic “wild deed,” one executed by a party who was a complete stranger to title. Any prospective purchaser of the debtor’s real property, as of the moment of the filing of the Chapter 7 petition, would have been on notice of the problem.

In order to understand why the flaw would have been so obvious, imagine that you are searching title on behalf of our hypothetical purchaser. Your first move would be to examine the grantee/grantor index, looking for conveyances involving the debtor. You would immediately find the satisfaction, executed and recorded by the third party. That document stated that the third party was the assignee of the original lender’s position.

You would then switch to a grantee/grantor search, viewing the third party as the prospective grantee, searching for a conveyance from the original lender as the grantor (i.e., assignor). Your search would stop right there, since there was no such assignment. Therefore, the prospective purchaser whose interest depended upon the validity of the satisfaction would be on record notice that the satisfaction executed by the alleged assignee, the third party interloper, was a “wild” document, not linked up to the root of title.

Note that the court holds that the mere false statement by the third-party stranger that it had received an assignment was sufficient per se to establish its validity: “[T]he the instruments expressly state that [the third party] was the owner of the security interest by virtue of an assignment.” So what? Does that mean that a forged deed, for example, could become a valid deed, simply because the forger includes magic language stating that the deed was not forged? This is “bootstrap logic,” for lack of a better term.

Note, too, that there is almost nothing that the original lender could have done to protect itself from this after-the-fact interloper. Does this opinion mean that a holder of a security deed must continually check and recheck the record, to make sure that no misguided third party has erroneously recorded a false satisfaction? If that is true, then the unfairness is palpable: the homeowner was making her payments all along, and the original lender had no reason to think that a satisfaction had been filed (and hence had no reason to check the record).

At one point, the court cited a Georgia statute that provides that an unrecorded cancellation or satisfaction of an outstanding security deed is nevertheless enforceable. That is true but irrelevant. The question of the contractual enforceability of a valid satisfaction is an issue that affects the relationship between the creditor and the debtor. By contrast, the failure to record an assignment of a security deed to a party then records a false satisfaction is an issue that affects the relationship between a validly recorded senior creditor (the original holder of the security deed) and anyone claiming under the improperly recorded (and junior) false satisfaction.

Although the court did not indicate the dollar consequences of its decision, one can assume that the complete destruction of the original lender’s security deed was a very substantial loss. As such, I would hope that the lender will appeal this ruling. If so, I predict reversal.

These materials were written by Dan Schechter, Professor Emeritus, Loyola Law School, Los Angeles, for his Commercial Finance Newsletter, published weekly on Westlaw. Westlaw holds the copyright on these materials and has permitted the Insolvency Law Committee to reprint them.