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Prestige Title eNews
Issue 20: Summer 2013

Court of Appeals Limits Reach of Lien Law 22 Subordination Penalty

Lenders of building loan mortgages may take heart from a recent Court of Appeals decision which stands for the proposition that a failure to file a building loan contract does not necessarily subordinate an acquisition mortgage notwithstanding its consolidation with a building loan mortgage, which has been subordinated to the lien of subsequently filed mechanics liens.

New York’s Lien Law protects contractors, laborers and materialmen by providing a level of financial transparency to a construction or repair project that they may consider participating in.  Lenders who are providing building loans are required to provide a statement that shows prospective contractors how much money is available to them to pay for their services and or materials, so that they can make a prudent decision on whether to become involved in the construction project.  Specifically, Section 22 of the lien law requires the filing of a building loan agreement and a Section 22 Lien Law Affidavit. 

The building loan agreement is defined by the Lien Law as a contract between the lender and owner in which a lender expressly agrees to make loan advances secured by a mortgage, which advances are made to fund the cost of the improvements to be made by the owner.  In addition to this agreement, the Lien Law requires the making of the Section 22 Lien Law Affidavit in which the borrower verifies the consideration paid for the building loan and expenses incurred in making the building loan and most importantly the net sum available to the borrower for the improvement.  These instruments must be filed in the county where the property is located, giving a prospective contractor the opportunity to determine whether it will be compensated for its services, building materials and labor.  For new building loan mortgages, the building loan agreement must be filed before or simultaneously with the recording of the building loan mortgage.  For modified building loan mortgages, the statute gives a mere 10-day window to file the building loan agreement, which period runs from the signing of the modification of the building loan agreement.

If the building loan agreement and lien law affidavit are properly made and filed, the Lien Law protects the lender’s building loan mortgage from all subsequently recorded mechanic’s liens.  In the event that a building loan agreement and affidavit are not duly made and filed, or if the lien law affidavit contains a material misstatement, the lender’s lien law’s protection is removed, giving all subsequently filed mechanic’s liens priority over the lender’s building loan mortgage.

Perhaps less clear is what the Lien Law says with regard to purchase money, or acquisition mortgages that are consolidated with later created building loan mortgages.  A not uncommon scenario is one in which a purchaser gives a mortgage to finance its purchase of real property, and thereafter gives another mortgage to finance improvements made to the property.  When a building loan mortgage is consolidated with the lien of a previously existing acquisition mortgage, and the Lien Law’s building loan agreement provisions have not been adhered to, does the Lien Law allow subsequently filed mechanic’s liens to gain priority over the building loan mortgage only, or both the lien of acquisition mortgage and the building loan mortgage as consolidated?  This is issue considered in Altshuler Shaham Provident Funds, Ltd. V. GML Tower, LLC, decided on June 11, 2013.

Altshuler involves a failed redevelopment of a hotel complex in Onondage County.  The owner of the property financed the purchase of the property in 2005 with a $7 million mortgage.  Thereafter, in 2007 the owner refinanced the property, by assigning the remaining indebtedness to a new lender.  A loan agreement was created in 2007, in which the lender agreed to loan $10 million in two tranches, one in the amount of $5.5 million for the payoff of the existing acquisition mortgage, and the second in the amount of $4.5 million for the redevelopment of the property into residential condominiums and commercial space.  The first tranche was secured by a mortgage of $5.5 million that was recorded in 2007.  A loan agreement was never filed prior to, or simultaneously with, the county clerk in connection with the 2007 mortgage.  The remainder of the loan was eventually disbursed and the two tranches were secured by a $10 million mortgage that was recorded in 2008.  No building loan agreement was filed in conjunction with the recording of the 2008 mortgage. Upon a default of the mortgage, the lender instituted a mortgage foreclosure action seeking first priority to the proceeds of the foreclosure sale.  As can be expected, the contractors who provided materials services and labor to the project sought to have the lender’s mortgage declared subordinate to their subsequently filed mechanics liens.

The Supreme Court found in favor of the mechanics lienors, holding that the entire $10 million mortgage was subordinate to the subsequently filed mechanics liens.  The court refused to grant priority to the portion of the mortgage that was attributable to the $5.5 million acquisition mortgage. The Appellate Division affirmed the Supreme Court’s decision.

On appeal to the Court of Appeals, the court found that the lender had failed to comply with the lien law when it did not file a building loan agreement in 2007 nor a modification to the building loan agreement in 2008.  Notwithstanding the lender’s failure to comply with the Lien Law’s building loan agreement filing requirements, the court held that the previously filed mechanic’s liens only gained priority over the portion of the mortgage attributable to the construction of the improvements, and not with respect to the assigned acquisition mortgage.  In reaching its conclusion, the court focused on what it believed was the legislative goal of the statute. The court stated that, “[t]he Legislature enacted section 22 to permit contractors on construction projects “to learn exactly what sum the loan in fact made available to the owner of the real estate for the project.””  It further stated that, “Section 22 does not explicitly state that the entire interest of each party to an unfiled building loan contract is subject to a later-filed notice of lien, and we do not infer such a limitation,” as made by the Appellate Division in Atlantic Bank of N.Y. v. Forrest House Holding Co. (651 NYS 607). Rather the court relied on the precedent set forth in Yankee Bank for Finance & Savings, FSB v. Task Associates, Inc. (731 F.Supp 64).

ADDITIONAL ITEMS OF INTEREST

 

New Mortgage Foreclosure Filing Requirement for Residential Properties

Starting August 30, 2013, all foreclosure actions affecting owner-occupied residential property must be commenced in compliance with the recently amended portions of the New York Civil Practice Law and Rules.  The changes are designed to address the problem of the so called “shadow docket”, which describes the backlog of commenced but stalled foreclosure cases that have not been brought before a judge.  The goal of the amendment is to ensure that borrowers are able to reach the settlement conference quickly, thereby allowing them meet with the lender and the court to (1) review the rights and obligations of the parties; (2) explore options to avoid foreclosure; (3) evaluate loan modifications or other settlement options; and (4) streamline future court proceedings in the event a settlement is not reached.  Delayed settlement conferences work to the homeowner’s disadvantage by allowing fees and costs to accrue on the loan, making it more financially difficult for the homeowner to reach a foreclosure alternative.

Under the amended Section 3012-b of the CPLR, the documents needed to commence a foreclosure action now include a “certificate of merit,” in addition to the summons and complaint.  The Office of Court Administration has provided a form of certificate of merit that complies with statute, which is available at the following web link:

http://www.nycourts.gov/ATTORNEYS/foreclosures/CertificateOfMerit.pdf

The certificate of amendment requires the attorney for the foreclosing plaintiff to:

  1. 1. Identify the representatives of the plaintiff with whom the attorney has consulted regarding the mortgage under foreclosure.

  2. 2. State that there is a reasonable basis for the commencement of the action and that the plaintiff is entitled to enforce the mortgage, security agreement and note or bond.

  3. 3. Provide copies of the mortgage, security agreement and note or bond, assignment(s) of mortgage, modification agreements, consolidation agreements, or other instruments of indebtedness.

  4. 4. Provide copies of affidavits that certain loan documents have been lost, destroyed or stolen, if applicable.

 

Failure to comply with the provision may be cause for dismissal of the complaint without prejudice, denial of accrual of interest, costs, attorneys’ fees and other fees relating to the mortgage debt.

Section 3408(a) of the CPLR has also been amended to require the filing of proof of service of both the complaint and the certificate of merit upon the defendant, within in 20 days of the service.  The pre-existing requirement for a mandatory conference to be held within 60 days after the date of filing of proof of service on the defendant remains.

The changes which were signed into law on July 31, 2013 replace the “Lippman Affirmations” which only required the foreclosing plaintiff to state that the plaintiff had standing to foreclose.

Mortgage Recording Tax Rate on Multiple Condo Units determined by Borrower’s Intent

A recent advisory opinion issued by the NYS Dept. of Taxation and Finance provides insight into calculating mortgage recording tax on mortgages affecting multiple condominium units.  In TSB-A-13(3)R, petitioners requested an advisory opinion after having paid the highest mortgage tax rate on a mortgage covering two uncombined condominium units.  The petitioners already owned a condominium unit which they had purchased from the condominium sponsor and which was encumbered by a mortgage in the amount of $880,000.  Thereafter, the petitioners sought to purchase an adjacent unit, from a private party.  The intent in purchasing the adjacent unit was to physically combine the two units into one unit.  The condominium’s rules were such that the petitioners were prohibited from altering the adjacent unit because they did not own it.  Although no alterations were actually made, the petitioners were able to consult with the condominium’s board of managers, architects, contractors and the Dept. of Buildings with regard to their intended plans to combine the two units. Prior to closing on the adjacent unit, the petitioners submitted to the condominium’s managing agent a request to combine the units.  The purchase of the adjacent unit was financed by spreading the existing mortgage encumbering the original unit over the adjacent unit and obtaining additional funds to create a consolidated lien encumbering both units.   The mortgage tax paid on the mortgage was at the highest rate.  Condominium board approval of the proposed alteration and the Dept. of Building’s work permit were not issued until after the closing.

In making its analysis for the advisory opinion, the Department acknowledged that the highest mortgage tax rate was initially applied because the transaction involved multiple condominium units that were not already combined into one residence.  It did not however stop its analysis there.  Instead, the Department drew upon a 2006 NYC Tax Appeal Tribunal’s ruling concerning a calculation of NYC Real Property Transfer Tax on a similar transaction.  In that instance, the court cancelled an assessment at a higher RPTT rate because there was evidence that, “the record clearly reflected the buyer’s intention to combine the three units into one residential space.”  In reaching that analysis, the Tribunal attention was focused on the purchaser’s “immediate intent” to combine the units following the purchase, as evidenced by the purchaser’s submission of architectural drawings, as well as the purchaser’s pre-closing request to the condominium board to combine the units. 

Based on this analysis of the RPTT calculation, the Department reasoned that the facts of the present case showed a “clear intent to combine the two adjacent units into one primary residence,” and accordingly held that the mortgage recording tax rate should be calculated at the lower residential rate.

If you have any questions or would like further information regarding any of the articles in this newsletter, please contact Keith Eng, Esq. at (212) 651-1200 or keng@prestitle.com.  

Also, if there are any topics that you would like us to include in future newsletters, please feel free to e-mail us with suggestions at info@prestitle.com.

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