posting for

Friday, October 17, 2003

 

by:        Bert Rush

brush@firstam.com

 

CLOSING INSTRUCTIONS/ESCROW AND CLOSING/CLAIMS

 

A federal appeals court in Oklahoma has held that a closing agency may be liable for breach of contract where the agency closed a loan transaction, and recorded the lender's mortgage, without obtaining a first lien position in accordance with the lender's closing instructions. 

 

The only good thing about this case is that it won't be published, so its use as legal precedent depends on local court rules.

 

The case is Old West Annuity and Life Insurance Company v. Progressive Closing & Escrows, Inc., 74 Fed.Appx. 4, 2003 WL 21872555 (10th Cir., Okla., 2003).  Here's the tale.

 

Progressive Closing was selected to handle closing of a loan of $357,500 to be secured by a first mortgage against "undeveloped commercial property."

 

The lender's closing instructions provided in part:

 

"Do not close or fund this loan unless ALL

conditions in these closing instructions...

have been satisfied.

 

 

You are authorized to disburse funds on the

Borrower's behalf and to record all instruments

when you comply with the following:

 

*This loan must record in a 1st lien position

prior to the Loan Commitment expiration date."

 

The transaction closed on October 29, 1999, but the lender's mortgage ended up in third lien position due to prior mortgages recorded August 11, 1999.  Apparently, there was no title insurance.

 

Ultimately, the lender foreclosed, but did not recover any proceeds due to the senior mortgages.  So, the lender sued Progressive Closing for breach of contract, seeking to recover $357,464.

 

The trial court awarded summary judgment to the lender, and Progressive Closing appealed.

 

The Court of Appeals affirmed, holding that the closing instructions created a contract between the lender and closing agency, and that the closing agency's failure to perform its promise to "record in a 1st lien position" could not be excused due to (a) ambiguity within the contract, or (b) impracticability of performance because of faulty "gap search" information received from a third party abstractor.  As to (a), the Court said there was no ambiguity, and as to (b) it said the obligor (closing agency) cannot free itself of contractual duties by delegating them to another, without consent of the obligee (lender).

 

The Court also held that risk of priming liens was not only foreseeable, but was "precisely why (the lender) instructed (the closing agency) not to close or fund the loan unless (lender's) loan would be recorded in a first lien position."

 

Finally, the Court said the proper measure of damages for the breach was the "amount of the loan, less any payments made by the borrower," (i.e., $357,464).  The Court refused to consider appraisal evidence of a lesser value of the security property, based on a foreclosure sale, saying the appraisal was too "speculative."

 

The Court's unpublished decision may be viewed by clicking on the link below.

 

http://ul.firstam.com/landsakes/oldwst101603.pdf

 

Comment:  We've spilled a lot of gigabytes warning of this risk in past postings.  Escrow and closing folk should not accept an instruction to record in a first (or other specific) lien position, but instead should accept instructions to obtain title insurance for the lender subject only to exceptions and other matters of record as approved by the lender.

 

What difference does it make?  To the lender the acceptable instruction offers assurance that the insured priority is backed by the financial strength of a title insurer, and that the lender gets additional benefits such as coverage for costs of legal defense if necessary.   To the closing agency it means that risk of loss will be borne by the title insurer (subject of course to the agency/underwriter agreement), and that acceptance of risk will be compensated by payment of a title insurance premium.  For the title insurer it means not only receipt of premium income, but also that rights and obligations of the parties will be spelled out in a standardized title policy rather than an ill-conceived closing instruction.

 

Questions, comment, argument?  Just press the "reply" button....

 

 

************

 

 

Following Friday's posting, Jim Dondero (Grand Rapids, MI) writes:

 

Progressive Closing & Escrows, Inc. may have deserved the result, having closed this transaction without title insurance. And, as to your comments in this regard vis-a-vis the definition and confidence that title insurance lends to a transaction, I say "amen, brother"!

 

A Savant who remains anonymous writes:

 

Unfortunately this case is not an aberration. When I worked for my first employer in this industry and was underwriting, inter alia, Minnesota, we had a regional manager who -- to accommodate a "good customer" (a builder who ultimately cost the company millions) -- closed titles to, and insured, multitudinous loans on construction loans and sales by this builder . . . many with mechanic's liens (insured over by omission) or within the lien period (and liens subsequently filed). I pointed out the provisions of the closing instructions which, in effect, stated that the funds could not be disbursed without their mortgage being a "first lien" and that his closing them was in violation of these instructions.

 

 

His response was to the effect that he was insuring them as a first lien and therefore complying. My retort was to point out that (a) the two were not equivalent, (b) their instructions were a separate contract and, (c) most importantly, by violating the instructions he created a strong possibility that any claim would fall outside of the conditions and stipulations of the contract.

 

Unfortunately, time proved me right!

 

Alexis Rotkowitz (Tallahassee, FL) writes:

 

We've had a few claims this year in Florida and Georgia under lender policies where we had a complete failure of first lien position under a lender policy and we ended up paying policy limits, and then more, as a result of lender closing instructions requiring a first lien position.  Many lenders are starting to use this language in their instructions in order to be able to "capture" what they can't collect under the title policy (anything in excess of policy limits), under an Insured Closing Protection Letter claim.

 

 

************

 

 

Following up on our posting for 10/17/03, Ryan Byrne (Memphis, TN) writes:

 

Question:   What about the scenario when a lender includes a document in the closing package to the title company, asking us to sign it as the closing agent, stating that the mortgage is a "valid first mortgage" against the property. . . .

 

We always send them back to the lender unsigned. . . . Does that mean that since we didn't sign this "document" that they could not impute a contract with us?  Or is the document not of consequence if the lender includes "first mortgage" language in its closing instructions???

 

We get these documents in our packages all the time. . . . Can there be a contract without our consent?  Seems like there is no "meeting of the minds."

 

Reply by Bert Rush:  First, no, you cannot form a contract without mutual consent.  Or, in other words, one cannot become bound to a supposed contract by silence.  When the parking lot attendant gives you a ticket that says "this is a contract, read carefully, we're not responsible for your vehicle...." that is not a contract.

 

Second, you are right not to sign and return these documents.  The lender is trying to get coverage over and above what is provided by the title policy, by putting escrow/closing on the hook in the event the mortgage does not enjoy first priority (due, for example, to a forgery or intervening matter recorded in the gap).  We intend that the sole coverage for this be provided by the title policy.  Likewise, we should not accept closing instructions that say we are to close when we can record the mortgage in the first position.  Again, we intend that the sole assurance in this regard be via the title policy.  How much to resist these closing instructions is really a business judgment call.  If the lender threatens to pull its business, I think many of our direct ops and agents relent and let the offending provision stay in the closing instructions.  I am copying this to John LaJoie, regional counsel for the southeast region, with the thought he might let us both know how he is currently advising folks on this issue.....

 

Another reply by Teresa McQueen (Tallahassee, FL), who was 'copied' with Ryan's e-mail:

 

Wanted to let you know that in the SE we are not signing these. We are sending them back with the closing package unsigned, sometimes with a note that it goes beyond the scope of title insurance.  We haven't had to fight many battles on this so I have a feeling either the lender too feels this is superfluous to title insurance or our competitors are not signing them either.

 

And, John LaJoie (Tallahassee, FL) responds:

 

I agree.  This issue came up in Florida a few years ago and Wally Senter, the then title insurance coordinator, wrote a memo declaring these letters illegal as unauthorized title coverage.  We have refused to sign them at every opportunity. This issue seems to come up again every few years.

 

My comments are (1) when the transaction closes and before the payoffs are made, the mortgage we insure is not a first mortgage.  So, right at the outset, the letter is erroneous; (2) with a representation like the one proposed, we might as well throw the exclusions, exceptions and conditions and stipulations away.  I do not think that makes sense.  Go through the exclusions from coverage and you will see the dangers of executing these letters.

 

I think we need to keep our positions strong and see what happens.

 

Meanwhile, John Graham (Phoenix, AZ) writes of the holding in the Old West Annuity case:

 

The Burkons and Manley vs. Ticor cases here in Arizona state that.  Is it not the duty of an escrow agent to follow the instructions of the parties to the escrow?

 

Comment by Bert Rush:  Burkons and Manley were companion cases, with factual differences but identical results, decided by the Arizona Supreme Court in 1991.  The cite for Burkons is Burkons v. Ticor Title Insurance Co. of California, 813 P.2d 710 (1991).