Mortgage Enforcement: Dot Those “i”s and Cross Those “t”s – Or Else

by Pepper Hamilton LLP
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In re Demers, 511 B.R. 233 (Bankr. D. R.I. 2014)

A chapter 13 debtor objected to the portion of a mortgagee’s claim consisting of expenses related to foreclosure of its mortgage. She argued that since the mortgagee failed to comply with notice requirements under the mortgage, the foreclosure expenses were not valid.

The debtor defaulted in June, and the mortgagee sent a notice of default in September. The notice stated: “If foreclosure is initiated, you have the right to argue that you did keep your promises and agreements under the Mortgage Note and Mortgage, and to present any other defenses that you may have.”

The debtor failed to cure, so the mortgagee accelerated the note and initiated foreclosure proceedings. Before the foreclosure sale took place, the debtor filed a chapter 13 bankruptcy petition.

The mortgagee filed a claim for ~$14,200. This included counsel fees, advertising costs and title costs of ~$2,000 relating to the foreclosure proceeding. The debtor objected to the foreclosure costs, arguing that the mortgagee failed to provide proper notice of default prior to acceleration, and thus was not entitled to recover the charges.

Specifically, paragraph 22 of the mortgage required the mortgagee to give notice of “the right to bring a court action to assert the non-existence of a default or any other defense of Borrower to acceleration and sale.” The debtor argued that the mortgagee was required to give her notice of the right to bring a court action as a condition precedent for exercising the power of sale to foreclose.

The mortgage also provided in paragraph 14 that the mortgagee could charge the borrower for services performed in connection with the borrower’s default, and the note provided that the borrower could be required to pay all costs and expenses in enforcing the note, including reasonable attorneys’ fees.

The mortgagee responded: (1) it was not required to use the exact language in the mortgage and it did advise the debtor of her right to dispute the default, (2) even if it did not comply with the notice provision, the mortgage and note entitled it to collect the costs, (3) any non-compliance was a technical failure that was a non-material breach, and (4) in any event several years earlier the debtor received numerous notices of default that did contain language regarding the right to bring a court action, so she was on notice.

The court noted that this was a question of state law. Under state law the note and mortgage constituted one agreement and must be read together since they were executed in the course of a single transaction to accomplish the same purpose (i.e., to obtain a loan). The court next determined that in reading the note and mortgage as an integrated contract it was clear that compliance with the notice requirement was a condition precedent to the right to accelerate and pursue foreclosure. The mortgagee was required to give notice of a right to bring court action. Since it did not, it was not entitled to accelerate the note and foreclose the mortgage.

Even if the court had determined that there was an ambiguity, it would have construed the contract against the drafter (i.e., mortgagee). Further it found that the mortgagee had an implied covenant of good faith and fair dealing. Thus, the mortgagee had a duty to comply with the terms of the mortgage, which included an obligation to inform the debtor of her right to bring court action. The actual language used in the notice of default – that the debtor had a right to argue defenses – did not make it clear to whom to present the argument and defenses.

The court then proceeded to reject each of the mortgagee’s arguments, including the argument that notices given approximately four years earlier were sufficient. The court felt those notices were completely irrelevant.

In sum, (1) the notice was defective in that it did not mention the right to court action, (2) proper notice was a condition precedent to the right to accelerate and foreclose, and (3) consequently the mortgagee was not entitled to recover the costs of the foreclosure process.

As this case amply illustrates, a lender should pay careful attention to the requirements of its loan documents. For notices this includes both the content of the notice and the method of delivery. Nine times out of ten (or even 99 times out of 100) minor errors don’t matter. But then there is the one time when they do.

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