Thursday, October, 22, 2009
Peter A. Sarasek (Quarles & Brady LLP) explains how the transactional lawyer can aid the non-real estate litigator once a loan ends up in court
PLI: How can a deal lawyer provide value to the litigators who are engaged to commence a mortgage foreclosure proceeding?
PETER A. SARASEK: Let's examine the typical stages of the mortgage loan
foreclosure process. The mortgage loan foreclosure process varies from
state to state, and the procedural laws of each applicable state need
to be consulted and followed in foreclosing any mortgage loan. Some
states, such as Illinois, see 735 ILCS 5/15 §§1501-1512, for example,
have an explicit mortgage foreclosure statute which sets forth the
requirements for a mortgage foreclosure complaint, and addresses the
different issues involved in foreclosing a mortgage loan; other states
may not have a single, comprehensive piece of legislation, but may
require the lender's counsel to be familiar with many statutes and the
substantive case-law of that jurisdiction for guidance.
Regardless of the differences among the states in the rules to
be followed in foreclosing a mortgage loan judicially in that state,
there are typically five main phases in every judicial foreclosure
proceeding: 1) drafting and serving the foreclosure complaint; 2)
seeking the appointment of a receiver; 3) the prove-up and entry of the
foreclosure decree; 4) the foreclosure sale, and bidding at the sale;
and 5) post-sale confirmation and conveyance of the property.
Phase 1—Drafting the Mortgage Foreclosure Complaint: The first
phase of the judicial mortgage foreclosure process is the drafting of
the mortgage foreclosure complaint, followed by serving it on the
necessary parties to the proceeding. What are some of the issues that
arise at this stage where the deal lawyer can provide guidance and
value to the litigators preparing the pleadings?
- After a mortgage loan is first made, the interests of the mortgagee
and holder of the note may be transferred from the original lender to
another party. In naming the plaintiff in a foreclosure proceeding, is
the current noteholder and mortgagee licensed to do business in the
state where the complaint will be filed and able as a result to avail
itself of the courts of that state? Or, is there a statute or other
basis for exempting the holder from such licensing requirement? Note
that while the mortgage may be an instrument enforceable against the
mortgagor, the current mortgagee may not be able to enforce that
mortgage in a given jurisdiction if the noteholder/mortgagee is not
licensed to do business in that jurisdiction or if there is no
exemption available that exempts the lender from such licensing
- Who are the defendants that need to be named as necessary
parties to the lawsuit? The deal lawyer can help the foreclosing
litigator obtain and review minutes of foreclosure by which the title
company will identify parties it will expect to be named as defendants
in the foreclosure lawsuit in order for the title company to later
insure title to any party acquiring the property at a foreclosure sale.
In addition, the complaint will need to name all parties having an
interest in the property, even non-record interests not otherwise
disclosed by a title report (such as the members of a borrower limited
liability company, or guarantors who might be affected by the
foreclosure of a mortgage guaranteed by them); the deal lawyer should
know not only the name and likely address of the borrower mortgagor,
but should also know the names and addresses of the borrower's
constituent entities. In addition, the deal lawyer should know the
names and addresses of parties who might be liable for a deficiency
judgment, or liable for breach of any non-recourse carveouts under the
- What defaults under the loan documents should be alleged as
the basis for entitling the mortgagee to foreclose? Have all cure
periods expired? Has the loan been properly accelerated? The deal
lawyer can help the litigator understand the loan documents and confirm
the basis for the lender's ability to foreclose.
- What are the lender's damages that need to be set forth in
the foreclosure complaint? Has basic interest been calculated
correctly? Has default interest been calculated correctly? Do the loan
documents give the lender the right to collect an involuntary
prepayment fee in connection with the foreclosure, and is that fee
enforceable in the applicable jurisdiction? The deal lawyer can work
with the client in ensuring that the client's damages are calculated
correctly, and that all monies to which the lender is entitled are
included in the prayer for relief.
- Where should the complaint be filed? Is there diversity of
citizenship to permit a filing in federal court, and will the federal
courts in the state permit foreclosure lawsuits to be filed in federal
court, or will the federal courts in the state view foreclosure
proceedings as local in nature to be filed in state court rather than
federal court? The deal lawyer knows and appreciates the client's
desire to see the case move along quickly, and can explain to the
client why the attorneys are recommending that the case be filed in one
jurisdiction rather than another.
Phase 2 — Seeking the Appointment of a Receiver: The second
phase of the judicial mortgage foreclosure process is the initiative by
the lender to oust the borrower from possession of the property and put
a receiver in its place. While the litigation attorney will draft the
appropriate motions and prepare for any receivership hearing, some
basic questions must first be addressed, and the deal lawyer can help
address them. For example,
- Do the loan documents expressly provide for the appointment of a
receiver, and what conditions must be met before the lender is entitled
to such an appointment?
- Even if the loan documents provide for appointment of a
receiver, what other grounds exist to support that appointment? Is the
property in any state of disrepair? Has the borrower failed to pay real
estate taxes? Are there numerous vacancies at the property with no
effort by the borrower to secure new tenants?
- Who should be the receiver? Unless the local jurisdiction
reserves to the court the naming of a particular party to serve as
receiver, the lender may be able to designate a party preferred by it
to function as the receiver in the foreclosure proceeding.
- Does the lender want to limit the discretion of the receiver
to operate the property, make improvements, enter into new leases, or
is it willing to agree to provide the receiver with some latitude in
operating the asset during the judicial proceedings? The lender must
remember that the receiver is an officer of the court, and accountable
to the court; the receiver is not the agent of the lender, and the
lender has no right or ability to seek to control the conduct or
decisions of the receiver. Typically, the receiver must seek court
authority before it can execute a new lease, or proceed to engage in
significant repairs to the property, and the lender will have a chance
to voice its opinion in court when the receiver and its counsel seeks
such specific authority to act.
are just some of the types of questions a deal attorney should consider
with his client and discuss with the litigators when the lender seeks
appointment of a receiver for the property.
Phase 3 — The Prove-up and Entry of the Foreclosure Decree: In
some cases, where there are no issues of contested fact, the lender and
its counsel can seek to obtain a summary judgment in favor of the
lender. In other instances, a full hearing on the merits of the
lender's cause, and the opportunity given to the defendants to
challenge the propriety of the foreclosure proceeding, may be required.
Regardless whether there is a basis for summary judgment, or whether a
full hearing with witnesses will be required, the deal attorney has an
important role to play:
- If there is a contested hearing, or if only prove-up testimony by
the lender is required, who should be the witness speaking on behalf of
the lender? The deal lawyer knows his lender client well, and should
know who can speak with authority and confidence in a foreclosure
hearing. The deal lawyer can also help prepare that witness for the
hearing, and serve as a buffer and advocate as the witness works with
the deal lawyer's litigators who are not otherwise known to the
- All of the damages alleged in the foreclosure complaint will
need to be recalculated and updated before they can serve as the basis
of prove-up testimony and find their way into a foreclosure decree. A
number of individuals in the lender's organization may be involved in
developing the final numbers (e.g. the accounting department, the loan
officer, members of the lender's internal workout/litigation team,
etc.). Experienced deal attorneys know that just because the lender's
employees provide the numbers to be included in the prove-up affidavit
or testimony, that does not in and of itself mean that they are
correct. Someone outside of the lender should doublecheck and confirm
the propriety and accuracy of the calculations, and the deal lawyer is
often the best person available to provide that second look.
Phase 4 — The Foreclosure Sale and Bidding at the Sale: After
the lender proves its right to foreclose and a foreclosure decree is
entered, the property will then be scheduled to be sold at a judicial
foreclosure sale. All states will require that notice of the sale be
published a number of times prior to commencement of the sale. Once the
required notices are given and published, the sale can then take place.
- Does state law give the lender the right to engage a private party
to conduct the sale, or must the county sheriff conduct the sale? In
Cook County, Illinois, for example, the county sheriff's office is
often busy with its other duties and is not able to conduct a
foreclosure sale as quickly as a private party might otherwise be able
to do. State statutes in this instance permit the lender to secure the
services of an approved private party (e.g. an affiliate of a title
company) to conduct the sale. The deal lawyer can help the litigation
attorneys recommend to the client whether a sheriff's sale or private
party sale should be pursued.
- At the foreclosure sale, the selling officer will entertain
bids from the parties present at the sale. The lender will want to bid
in at least the amount of its outstanding principal, so that any other
bidder will then be required to bid an amount greater than the
principal outstanding under the lender's loan.
- Should the lender's bid include regular delinquent interest,
and/or default interest, and/or the amount of any involuntary
prepayment fee? These are questions the lender's own accounting staff
needs to determine, and the deal lawyer needs to work with the lender
in finalizing the bidding instructions to be provided to lender's
counsel and followed at the foreclosure sale. The amount bid by a
lender at a foreclosure sale will have income tax implications: for
example, the recovery by the lender at a foreclosure sale of any sums
greater than the principal amount outstanding under the loan may
constitute income to the lender and trigger tax liability at the state
and/or federal levels.
- The deal lawyer should be present at the sale and understand
what the lender counsel team should do if another party submits a bid
higher than the initial bid of the lender. If a junior lender, for
example, seeks to protect its position by submitting a higher bid,
should the first lender submit another bid in order to recover further
sums owing to it? The deal lawyer knows his/her client, and can develop
bidding instructions ahead of time to deal with all of these
contingencies at the foreclosure sale.
Phase 5 — Post-Sale Confirmation of the Sale, and Issuance of the Selling Officer's Deed:
Just because there was at least one bid at the foreclosure sale does
not mean that the winning bidder is entitled to a deed to the property
upon payment of the amount of the highest bid to the selling officer.
Rather, the lender must report to the court the results of the sale and
seek an order confirming the sale. If the court were to find the amount
of the winning bid inadequate for some reason, the court could reject
the outcome of the sale and order another sale of the property.
Assuming that the court confirms the sale, a certificate of
sale will then be issued to the successful bidder which will entitle
that party to receive a judicial deed to the property sold at the
- If the lender is the successful bidder at the sale and its bid
confirmed by the court, should the lender take title to the property in
its name or in the name of some other party? The deal lawyer should
consult with his client to determine whether the lender is prepared to
step into an ownership position in the property, or whether the lender
wishes to create a separate entity specifically for purposes of holding
title to the foreclosed property.
- Once the lender is ready to have a deed issued to it or its
affiliate or some other party, has the party taking title arranged for
insurance to be put in place at the property?
- If the lender is taking title directly or indirectly to the
property, has it entered into a management agreement with a property
management company to now manage the property?
- Has the lender's counsel provided the title company with
copies of the key foreclosure pleadings and foreclosure decree, and is
the title company ready to insure good title of the lender in the
- Should the lender, after taking title, release its mortgage
lien from the title records, or keep that lien on the property in case
an unexpected third party lien arises that could be foreclosed again
via the mortgage of record?
« Peter A. Sarasek (Quarles & Brady LLP) urges transactional attorneys to get more involved in client mortgage foreclosures
are all considerations which non-real estate litigators cannot handle
and address by themselves, and which the deal lawyer can help address
with the client.
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