More Lender Peril: When Courts Don’t Understand Foreclosures

We have long opined that mortgage foreclosures are a pursuit laden with obscure issues of law and practice.  If a court misses one of those obscurities, it can impose loss, time and expense upon a lender or servicer, as a recent case dismayingly slams home: Rossrock Fund v. Cumberbatch, Sup. Ct., Kings Co., Index No. 1189/08, July 24, 3013.

This matter appears to have been accursed from the outset, an all too common foreclosure fate nowadays.  In an action begun in January, 2008, the plaintiff was rejected no less than three times in merely seeking a pro forma order of reference!  Some time prior to the third application, the plaintiff had taken a deed in lieu of foreclosure and, although hardly uncommon, the court was puzzled as to the role of the grantee of that deed in lieu and what consideration had been paid to the borrower. (It should not have been concerned.)  The court then wondered if continuing the foreclosure was even necessary.

So here is the first concept missed by the court.  When a lender takes a deed in lieu, one reason might be to dispose of a borrower interminably delaying the action.  The borrower is typically released from deficiency liability in exchange for the deed.

But if there are other liens, judgments or mortgages on the property, the foreclosure still needs to continue – to accomplish the usual goal of extinguishing those encumbrances when the foreclosure sale is conducted.  To avoid merger (the mortgage would evaporate if it was held by the same party as now owned the property) the lender has the deed conveyed by the borrower to an entity created by the lender for that very purpose – standard stuff, no mystery, done as a matter of course.  But this so disturbed the court that it denied the third application for an order of reference and required a full explanation of the deed in lieu transaction as a prerequisite to a fourth application.

The lender complied, but that led to denial of the fourth attempt on the ground that the new owner of the mortgaged premises (the entity created by the lender) was a necessary party to the action but had not been made a party.  This then exposes the second misconception.

When a foreclosure is begun, a lis pendens is almost invariably filed.  This document binds all parties who subsequently obtain any interest in the property – as if they had been named and served in the action.  So if a borrower in foreclosure sells his house to his cousin, it is irrelevant to the foreclosing plaintiff.  The cousin’s interest will automatically be wiped out by the foreclosure sale – and the concept is the same for the recipient of a deed in lieu.  Therefore, the new owner did not have to be brought into the foreclosure as a party; the denial of the order of reference was without foundation.

Discretion being the better part of valor, the plaintiff will no doubt name the new owner and then apply yet a fifth time for an order of reference.  The lender was correct in its path, but suffered years of delay and expense nonetheless.

In this instance, lenders might just wonder if this is justice in action.

Mr. Bergman, author of the four-volume treatise, Bergman on New York Mortgage Foreclosures, LexisNexis Matthew Bender (rev. 2017), is a partner with Berkman, Henoch, Peterson, Peddy & Fenchel, P.C. in Garden City, New York. He is also a member of the USFN, The American College of Real Estate Lawyers, The American College of Mortgage Attorneys, an adviser to the New York Times on foreclosure issues and writes a regular servicing column for the New York Law Journal. He is AV rated by Martindale-Hubbell, his biography appears in Who’s Who In American Law and he has been for years listed in Best Lawyers In America and New York Super Lawyers.