G.E. Capital Mortgage Services, Inc. v. Levenson

RODOWSKY, Judge. This case involves the operation and effect of equitable subrogation on the priority of liens against realty. Subrogation is “the substitution of one person to the position of another, an obligee, whose claim he has satisfied. ... The basic principles underlying subrogation are the same as those in constructive trusts, prevention of merger, and equitable liens, ie., restitution to prevent forfeiture and unjust enrichment.” G.E. Osborne, Handbook on the Law of Mortgages § 277, at 561 (2d ed. 1970) (Osborne).

Although the doctrine of equitable subrogation may be applied in many contexts, one context involves the refinancing of a mortgage. Osborne states: “Where a lender has advanced money for the purpose of discharging a prior encumbrance in reliance upon obtaining ²³² security equivalent to the discharged lien, and his money is so used, the majority and preferable rule is that if he did so in ignorance of junior liens. or other interests he will be subrogated to the prior lien. Although stressed in some cases as an objection to relief, neither negligence nor constructive notice should be material.” Osborne, § 282, at 570. In the action before us a mortgage lender refinanced a first mortgage, unaware that judgment liens had arisen against the subject realty before the first mortgage was released and the new mortgage placed on the property.

On foreclosure the new lender bought the property for less than the refinanced debt. The circuit court ruled that, under equitable subrogation, all liens against the realty, ie., the judgment and new mortgage liens, were extinguished, as if the refinanced first mortgage had been foreclosed. Cf. Blanch v. Collison, 174 Md. 427, 431 , 199 A. 466, 468 (1938); Leonard v. Groome, 47 Md. 499, 504 (1878); A. Gordon, IV, Gordon on Maryland Foreclosures § 10.03, at 351-52 (3d ed. 1994) (Gordon).

In Levenson v. G.E. Capital Mortgage Seros., Inc., 101 Md.App. 122 , 643 A.2d 505 (1994), the Court of Special Appeals ruled that, under equitable subrogation, the new lender, as foreclosure purchaser, held the realty subject to the lien of the first mortgage for the amount refinanced and subject to the judgment liens, as if there had been a foreclosure sale under a third lien subject to superior liens, so that the only lien extinguished was that of the new mortgage. Cf. Tolzman v. Gwynn, 267 Md. 96, 99-100 , 296 A.2d 594, 596 (1972); Baltimore Fed. Sav. & Loan Ass’n v. Eareckson, 221 Md. 527, 529-30 , 158 A.2d 121, 123-24 (1960); Gordon, § 10.01, at 349-50. Under the latter analysis, the foreclosure sale proceeds were to be credited against the portion of the new mortgage debt that exceeded the refinanced balance of the released first mortgage.

Levenson, 101 Md.App. at 137 , 643 A.2d at 512 . For the reasons explained below, we agree with the analysis of the circuit court. The party advocating the circuit court model of equitable subrogation is the petitioner, G.E. Capital Mortgage Services, ²³³ Inc. (G.E. Capital). G.E. Capital says that the refinancing and foreclosing mortgagee was its “predecessor.” Brief of Appellant at 2.

The party advocating the Court of Special Appeals model of equitable subrogation is the holder of the judgment liens, the respondent, Steven A. Levenson (Levenson). The public record facts out of which this problem arose are set forth below. Of significance is that the names Yolanda Salcedo, Yolanda M. Better, Y. Maria Benson, Yolanda M. Benson, and Yolanda Benson are of one and the same person. She is the daughter of Miquel and Yolanda Better.

The property is improved residential realty at 11 Gatespring Court in the Cockeysville area of Baltimore County. April 15, 1980: Deed from Albert J. Bertini and wife to Miquel Better and Yolanda Better, his wife, as to an undivided half interest, and to Jaime Salcedo and Yolanda Salcedo, his wife, as to an undivided half interest. April 15, 1980: Deed of trust securing $60,000 in favor of First Federal Savings and Loan Association of Annapolis (First Federal) from Miquel Better, Yolanda Better, his wife, Jaime Salcedo and Yolanda Salcedo, his wife. April 23, 1986: Deed from Jaime Salcedo and Yolanda Salcedo to Yolanda Salcedo as to an undivided half interest.

There was no monetary consideration for this deed, which recites that it was made “pursuant to a Separation and Property Settlement Agreement.” June 23, 1988: Levenson secured three judgments by confession in the Circuit Court for Baltimore County against Yolanda M. Better. These judgments aggregated $94,076. March 21, 1990: Deed from Miquel Better and Yolanda Better to Y. Maria Benson (also known as Yolanda M. Benson) as to an undivided one-half interest in 11 Gatespring Court. April 6, 1990: Execution of a deed of trust from Yolanda M. Benson to Trustee for Travelers Mortgage Services, Inc. (Travelers), the holder of a note secured thereby in the ²³⁴ amount of $131,200.

The Travelers’ deed of trust stated in part: “This Deed of Trust is a refinance of an existing Deed of Trust dated April 15, 1980 unto the Trustees for First Federal Savings and Loan Association recorded in Liber No. 6155, folio 238, which has been paid in the amount of $56,283.14, and the borrower herein certifies that said property is her principal residence and that she was one of the original borrowers of the aforementioned Deed of Trust.” April 17, 1990: Acknowledgement of payment endorsed on original deed of trust note by First Federal. May 3, 1990: Deed of trust to Travelers recorded. January 2, 1991: Original note, with acknowledgement of payment by First Federal, recorded. Y. Maria Benson had applied on February 28, 1990 to Travelers for the aforesaid loan.

In the written loan application Y. Maria Benson did not disclose as liabilities the judgments in favor of Levenson. Travelers’ title examination did not pick up the judgments in favor of Levenson. On February 12,1991, power of sale foreclosure proceedings were instituted against the security. The advertisement for sale described the instrument empowering foreclosure as the deed of trust dated April 6, 1990.

The statement of mortgage debt accompanying that docketing was signed by G.E. Capital as holder of, or agent for the holder of, the note secured by that deed of trust. Several days prior to the public sale of 11 Gatespring Court the trustee for G.E. Capital obtained from a current title report actual knowledge of the Levenson judgments. The title insurer was notified, but no decision concerning the priority status of the Levenson judgments was made by G.E. Capital, its trustee, or its title insurer as of the date of sale. Counsel for Levenson attended the sale, and, prior thereto, he advised the trustee that Levenson claimed priority over the deed of trust securing G.E. Capital.

By telephone the trustee sought and obtained instructions from G.E. Capital. That ²³⁵ lender would bid up to, but not above, $45,000, an amount roughly approximating the difference between the debt secured by the April 6,1990 deed of trust and the amount of the Levenson judgments, with interest. If any bid exceeded $45,000, the auctioneer was to withdraw the property from sale. G.E. Capital’s rationale was that it could not be hurt if it bought in at $45,000, even if the Levenson judgments had priority.

The respective parties to this action frankly acknowledge that they were not consciously aware of the doctrine of equitable subrogation at the time of the sale. Levenson did not bid. G.E. Capital successfully bid at $45,000. After the sale had been ratified, and before any report by the auditor, Levenson filed a petition in the foreclosure action seeking a determination that his judgments had priority over G.E. Capital’s deed of trust.

In response, G.E. Capital contended that, under equitable subrogation, G.E. Capital stood in the shoes of First Federal and enjoyed a first priority to a maximum of $56,283.14, an amount that comfortably absorbed the $45,000 credit bid. The refinancing lender’s legal position is that the junior liens of the Levenson judgments and of its own deed of trust were extinguished by foreclosure of the first lien acquired by subrogation. Consequently, G.E. Capital submits, it purchased the property free of liens and can convey an unencumbered title to a contract purchaser. Levenson’s position is that, under the circumstances of this case, equitable subrogation does not apply.

He emphasizes that G.E. Capital advertised the sale as one made under an instrument recorded later than his judgments. Because his liens appeared to have priority, and because G.E. Capital never asserted a first priority based on equitable subrogation until after the foreclosure sale had been conducted, Levenson had no reason to bid at the sale, and, Levenson submits, he was thereby prejudiced. Had he bid cash to the amount of G.E. Capital’s subrogated claim, he. would then have been in a position to increase his cash bid by credit utilizing the principal amount and accumulated interest of his judgments. In ²³⁶ this way, he may have acquired the property at foreclosure.

Having been deprived of that opportunity Levenson submitted in the courts below that equitable subrogation should not be applied, and he argues before us that the Court of Special Appeals’ resolution of the matter should be affirmed. Alternatively, Levenson argues that he was not given in advance of sale the notice that a junior lienor is entitled to receive, both constitutionally and under Maryland statutes and rules of procedure, so that equitable subrogation may not extinguish his liens. The circuit court, by judgment of June 17, 1993, ruled that G.E. Capital was subrogated to First Federal’s first lien for the entire $45,000 mortgage foreclosure purchase price, and that the foreclosure extinguished Levenson’s judgment liens and the lien of the 1990 deed of trust to Travelers. On Levenson’s appeal the Court of Special Appeals agreed that equitable subrogation applied, but it disagreed with the circuit court as to how the doctrine operated in the present case.

The intermediate appellate court conceptually divided the lien of the G.E. Capital 1990 deed of trust into two components. One component, the “subrogated lien,” represented that part of the secured indebtedness used to pay off, and obtain the release of, the First Federal deed of trust, that is, $56,283.14. 101 Md.App. at 134-35 , 643 A.2d at 511 . The second component, the “remainder lien,” secured the balance of the amount advanced under the 1990 deed of trust. Id. at 135 , 643 A.2d at 511 .

The Court of Special Appeals held that “[i]n order to foreclose its equitably subrogated lien, the proper course for G.E. to have followed would have been to institute a declaratory action, or petition in the foreclosure proceeding, to establish an equitably subrogated lien, then advertise and foreclose as subrogee to the First Federal deed of trust.” Id. at 137 , 643 A.2d at 512 . But G.E. Capital had not done this. Because of that failure the foreclosure actually conducted “was of G.E.’s deed of trust.” Id. The court further held that ²³⁷ “the foreclosure sale was subject to G.E.’s equitable subrogation to the First Federal deed of trust and to Levenson’s liens.

We also hold that G.E.’s subrogated lien does not merge with its ownership of the property as purchaser at the foreclosure sale. Thus, the $45,000 in foreclosure sale proceeds should be distributed to G.E. to be applied to the remainder lien. G.E. holds title to the property subject to its subrogated hen and to Levenson’s liens, while the remainder lien and any other junior liens are extinguished by the foreclosure sale.” Id. (emphasis added).

The Court of Special Appeals uses the phrase, “subject to,” in the technical sense, as if a third lien were being foreclosed without joinder or consent of the prior lienors. See Tolzman v. Gwynn, 267 Md. at 99-100 , 296 A.2d at 596 ; Baltimore Fed. Sav. & Loan Ass’n v. Eareckson, 221 Md. at 529-80, 158 A.2d at 123-24 ; Gordon, § 10.01, at 349-50. G.E. Capital petitioned this Court for a -writ of certiorari which we granted. The petition raises two questions.

The first question asks whether the intervening judgment liens are extinguished “when the amount bid at the foreclosure sale does not exceed the portion of the debt entitled to be equitably subrogated to the first-priority position of the refinanced deed of trust.” The second question asks “[wjhether the right to equitable subrogation to the priority position of a refinanced deed of trust must be established prior to the foreclosure sale in a power of sale foreclosure either by a declaratory judgment or ruling in the foreclosure case if the foreclosure is to extinguish an intervening judgment lien.” Levenson opposed the petition, but he did not raise any additional issues by conditional cross petition. The great majority of case law holds that one who pays the mortgage of another and takes a new mortgage as security will be subrogated to the rights of the first mortgagee ²³⁸ as against any intervening lienholder. 1 The court in Metropolitan Life Ins. Co. v. Craven, 164 Or. 274, 279 , 101 P.2d 237, 239 (1940), said: “Our examination of the authorities leads us to the conclusion that, numerically, the greater weight of authority is to the effect that one, advancing money to discharge a prior lien on real or personal property and taking a new mortgage as security, is held to be entitled to subrogation to the prior lien as against the holder of an intervening lien of which he was excusably ignorant.” See, e.g., Burgoon v. Lavezzo, 92 F.2d 726, 735-36 (D.C.Cir.1937); Federal Land Bank v. Henderson, Black & Merrill Co., 253 Ala. 54, 59 , 42 So.2d 829, 833 (1949); Southern Cotton Oil Co. v. Napoleon Hill Cotton Co., 108 Ark. 555, 560-61 , 158 S.W. 1082, 1084-85 (1913); Wilkins, Neely & Jones v. Gibson, 113 Ga. 31, 52 , 38 S.E. 374, 383-84 (1901); Emmert v. Thompson, 49 Minn. 386, 392 , 52 N.W. 31, 32 (1892); Union Mortgage, Banking & Trust Co. v. Peters, 72 Miss. 1058, 1071 , 18 So. 497 , 500 (1895); George A. Hoagland & Co. v. Decker, 118 Neb. 194, 198 , 224 N.W. 14, 15 (1929); Faires v. Cockerell, 88 Tex. 428, 437 , 31 S.W. 190 , 194 (1895); Martin v. Hickenlooper, 90 Utah 150, 178-79 , 59 P.2d 1139, 1152 (1936). The commentators and treatise writers also agree with this principle: “If A’s aid to B happens to take the form of a payment of the X mortgage, instead of an assignment, A nevertheless will be subrogated to the lien of that mortgage, equity keeping it alive so that the junior liens will retain their former position.

Thus A can foreclose the X lien, by ²³⁹ subrogation, as a first mortgagee, against the junior liens as well as against B as mortgagor, despite the fact that, formally, the X mortgage appeared to have been discharged.” 2 G. Glenn, Mortgages, Deeds of Trust, and Other Security Devices as to Land § 340, at 1424 (1943); see also E. Frank, Title to Real and Leasehold Estates and Liens 181-83 (1918); 2 L. Jones, Law of Mortgages of Real Property § 1119, at 569-70 (8th ed. 1928); R. Kratovil & R. Werner, Modern Mortgage Law and Practice § 31.01, at 493, 495 (2d ed. 1981); G.S. Nelson & D.A. Whitman, Real Estate Finance Law § 10.7, at 718-19 (2d ed. 1985); Osborne, § 282, at 571; 37 Cyclopedia of Law and Procedure, Subrogation 471-76 (1911); Comment, Subrogation — An Equitable Device for Achieving Preferences and Priorities, 31 Mich.L.Rev. 826, 834 (1933); Note, Subrogation of One Paying Off a Mortgage to the Rights of the Mortgagee, 21 Colum.L.Rev. 470, 471 (1921); Note, Subrogation of Purchaser to Rights of Senior Mortgagee Against Junior Encumbrances, 48 Yale L.J. 683 , 688-89 (1939). Early Maryland cases recognized subrogation as applied to a surety, but in the mortgage situation the early cases in this Court denied subrogation on the basis that the first mortgage was released when paid instead of having been assigned to the payor. See, e.g., Gardenville Permanent Loan Ass’n v. Walker, 52 Md. 452, 455 (1879); Boyd v. Parker, 43 Md. 182, 202-03 (1875); Heuisler v. Nickum, 38 Md. 270, 276 (1873); Neidig v. Whiteford, 29 Md. 178, 182-83 (1868); Swan v. Patterson, 7 Md. 164, 176 (1854); Alderson v. Ames, 6 Md. 52, 57 (1854); Woollen v. Hillen, 9 Gill 185, 194 (1850); Clabaugh v. Byerly, 7 Gill 354, 363 (1847); see also R.M. Venable, The Law of Real Property and Leasehold Estates in Maryland 209 (1892) (“But it is to be borne in mind that if on payment of the mortgage by some person entitled, the mortgage is released, there would be no rights of the mortgagee to which the person making payment can be substituted, and he will not have the benefit of the mortgagee’s lien on the property.”); cf Drury v. ²⁴⁰ Briscoe, 42 Md. 154, 163 (1875) (subrogation allowed as first mortgage was never released). This Court first applied subrogation in the mortgage context in Milholland v. Tiffany, 64 Md. 455 , 2 A. 831 (1886).

In that case a husband who had pre-existing debts acquired realty, financing the acquisition by a purchase money mortgage. He then conveyed the property to his wife, as a gift, and the husband convinced a friend to pay off the purchase money mortgage and to take a new mortgage in its place. Creditors of the husband successfully set aside the transfer to the wife of the equity in the property, but this Court held that the property remained subject to the lien of the mortgage made to the friend. The new mortgagee was subrogated to the claim of the original purchase money mortgagee, and the security for the amount of the refinancing took the character of a purchase money mortgage.

Affirming the ratification of an auditor’s account in the husband’s insolvency proceeding that awarded the new mortgagee priority over subsisting creditors, this Court said that unless the new mortgagee were substituted for the purchase money mortgagee, the former “must necessarily lose the money advanced and paid by him on account of the mortgage; and the payment thus made would enure to the benefit of [the husband’s] subsisting creditors. It does seem to us, therefore, that he is upon the plainest principles qf justice, entitled to the right of substitution.” 64 Md. at 462 , 2 A. at 835 . Subrogation in the mortgage context was also involved in Finance Co. of America v. Heller, 247 Md. 714 , 234 A.2d 611 (1967). The first mortgage in that case encumbered a large tract.

The owners of the land conveyed part of it to one Banks, without obtaining a partial release of the first mortgage. Banks agreed with his grantors to pay his proportional part of the first mortgage payments and taxes. Banks placed a second mortgage on his parcel, but he did not contribute to the first mortgage payments. The owners of the larger parcel paid one hundred percent of the first mortgage installments ²⁴¹ for a period of time, but eventually defaulted.

When the first mortgage was foreclosed, the sale produced a small surplus. In the auditor’s account the owners of the larger parcel were awarded, under the theory of subrogation, reimbursement for the amount paid on behalf of Banks, thereby reducing the amount of the surplus available toward the second mortgage on Banks’s parcel. We held this priority by subrogation to be proper. The holder of the second mortgage “was in no worse position than it would have been had the [owners of the larger parcel] made none of the payments due by Banks.

This is so because the second mortgagee knew that the conveyance of the equity of redemption was subject to the first mortgage and that the entire tract of land was therefore primarily liable for the debt secured thereby.” Id. at 718 , 284 A.2d at 613. The Maryland precedent presenting facts more analogous to the instant matter is Bennett v. Westfall, 186 Md. 148 , 46 A.2d 358 (1946). In that case a judgment was obtained against a husband and wife who owned property encumbered by a first and a second mortgage. After the second mortgage had matured the parties thereto agreed upon an extension which was effected by releasing the second mortgage and executing a new mortgage securing a greater debt.

That increase ultimately was held to be usurious interest for the forbearance. The second mortgagee had not examined title before releasing the second lien and taking the new mortgage. WTien the second mortgagee discovered the intervening judgment, he sued to have the lien of the released second mortgage declared to be in effect. Affirming a decree granting that relief, this Court said: “It is clear that appellee’s failure to consult the Land Records in no way affected the appellant.

It certainly did him no harm. If his contention is sustained in this case it will do him a great deal of good, and this, too, because of