William H. Metcalfe & Sons, Inc. v. Canyon Defined Benefit Trust

COLE, Judge. In this case we are asked to decide whether a junior lienholder on a portion of real property, foreclosed and sold in bulk, may be fully satisfied from the surplus of proceeds remaining after satisfaction of the primary lienholder without considering another and even more junior lien in the entire property. The controversy revolves around two tracts of real property, one containing thirty-one (31) lots and the other containing ten (10) lots, situated in Prince George’s County and owned by Intercontinental Construction Company. Washington Federal Savings and Loan Association (Washington Federal) is holder of the first deeds of trust on both tracts.

All forty-one lots were in various stages of development. Washington Federal foreclosed on each tract separately, but bulk sales were held in both instances. The first parcel of thirty-one lots contained four lots subject to second deeds of trust held by Canyon Defined Benefit Trust (Canyon). The second parcel of ten lots included seven lots subject to second deeds of trust also held by Canyon.

William H. Metcalfe and Sons, Inc. (Metcalfe) held judgment liens against all of the lots of each tract; however, these liens were subsequent to the recording of Canyon’s deeds of trust. The sale of the two tracts yielded a surplus of $129,234.42 and $112,384.16, respectively, which was deposited in the registry of the Circuit Court for Prince George’s County, pending determination of priority among junior lien credi ⁵⁶⁸ tors. 1 The circuit court determined priority to the funds in accordance with the date judgments were filed or deeds of trust recorded. Accordingly, the circuit court awarded Canyon the entire amount of its liens. The Court of Special Appeals affirmed in an unreported per curiam opinion.

We granted certiorari to review the important question presented. It is a settled proposition of the law that the order of priority for payment of surplus proceeds from a foreclosure sale is based on the general rule “first in time is first in right.” That is, the party whose claim attaches first to the subject property will be first reimbursed for the amount of that claim. 2 Rankin v. Scott, 12 Wheat. 177 , 6 L.Ed. 592 (1827); Aetna Casualty and Surety Co. v. Sherwood Distilling Co., 271 F.Supp. 381, 388 (D.Md.1967). The Rankin Court stated: “The principle is believed to be universal, that a prior lien gives a prior claim, which is entitled to prior satisfaction, out of the subject it binds.” Rankin v. Scott, 12 Wheat, at 179, 6 L.Ed. at 593 . Metcalfe argues that the “first in time” rule of priority should not apply where, as here, Canyon would receive proceeds in satisfaction of its claim out of funds upon which it held no lien.

Metcalfe further contends that Canyon did not fulfill its obligation to appraise or to estimate the value of its property in relation to the entirety of both tracts. In short, Metcalfe urges this Court to limit Canyon’s recovery to a percentage of the surplus attributable only to the sale of Canyon’s eleven lots. Canyon counters that here, the distribution of surplus proceeds by the “first in time” rule of priority is entirely equitable since the circuit court found that the surplus ⁵⁶⁹ proceeds could not be apportioned on a lot-by-lot basis because the entire tract was sold in gross. We do not agree.

This Court heretofore has not determined the proper distribution of surplus proceeds arising upon the foreclosure sale of property covered by a first mortgage, as between the mortgagee of a portion of the property and lienholders on other parts subject to the first mortgage. We granted certiorari to address this important issue. Courts of this State assess competing claims to proceeds of the sale of mortgaged property based on standard principles of equity. See Hamilton v. Schwehr, 34 Md. 107 (1871).

Maryland Rule W75, which governs the distribution of such surplus proceeds, provides at subsection (a): Upon a sale of mortgaged property pursuant to this Subtitle, a person claiming an interest in the equity of redemption may apply to the court ratifying the sale to have the surplus of the proceeds of sale, after payment to the mortgagee of his claim and expenses, paid over to such person, or so much thereof as will satisfy his claim, and the court shall order distribution of such surplus equitably among the claimants thereto. (emphasis added). The pertinent question in this case is what constitutes an “equitable distribution” among junior lienholders where, following foreclosure and satisfaction of a first deed of trust against an entire tract, an insufficient surplus remains to satisfy both the claims of the second lienholder of the entire tract and that of the prior lienholder of only a portion of the property. Unfortunately, there is a dearth of authority precisely on point.

Nonetheless, there have developed in other jurisdictions at least two approaches to the distribution of proceeds under such circumstances. Under the first approach, the junior lienholder whose rights attached first in time will have its claim satisfied first. See, e.g., Banks-Miller Supply Co. v. Smallridge, 154 W.Va. 360 , 175 S.E.2d 446 (1970). That court viewed ⁵⁷⁰ the “first in time” approach as in accord with the general rule that junior liens are satisfied out of surplus in the same order of priority which they held prior to the foreclosure under a deed of trust.

In that case, the West Virginia Court of Appeals held that: [WJhere there has been a foreclosure and sale of a tract of land under a first deed of trust and there is a surplus after satisfying the lien of the first deed of trust and a portion of the tract is subject to the lien of a second deed of trust such lien attaches to the proceeds of sale and the surplus of such proceeds should be applied to the payment of the indebtedness secured by the second deed of trust to the extent, but not in excess, of the value of the land subject to the lien of the second deed of trust at the time of the sale to the exclusion of the holder of the lien of a judgment rendered after the recording of both deeds of trust which is a lien upon all the land covered by the first de^d of trust, including the portion covered by the second deed of trust, but is subsequent in priority to the lien of the second deed of trust. Id. at 367 , 175 S.E.2d at 450 . The policy allegedly fostered by adhering to the “first in time” rule is the protection of the expectation of the junior lienholder at the time he executes the encumbering document. The court pointed out that an alternative approach would impair the value of the underlying security represented in the mortgage to unexpectedly favor a creditor having subsequently created rights: The integrity of the value of the security for the second deed of trust, on which the trust creditor relied when the loan was made, should not be jeopardized or depreciated to the advantage of a subsequent lien creditor whose lien did not exist when the second deed of trust was made; and such creditor should be permitted to share in any surplus proceeds only to the extent that such surplus ⁵⁷¹ exceeds the value of the land covered by the second deed of trust.

Id. at 367 , 175 S.E.2d at 451 . A second case adhering to the theory that as between junior lienholders, one of which holds a lien on only a portion of the subject property, the surplus will be distributed in order of priority in time is Burchell v. Osborne, 119 N.Y. 486 , 23 N.E. 896 (1890). In that case, the foreclosure of a blanket mortgage on eight houses created a surplus. The eight houses also were covered by another blanket mortgage, and some of them by several junior mortgages.

The court awarded the surplus to the junior mortgagees in the order of time that their respective liens against the property were created. The court held that: The whole proceeds of sale formed a common fund, to be applied, first to the payment of the first and second mortgage debts, and then the surplus became, obviously, as it seems to my mind, subject to the claims of lienors upon the lands which had been sold, and applicable to those claims in the order of their priority. Id. at 491-92 , 23 N.E. at 897 . Under the second approach, it has been held that where a portion of property covered by a junior lien has contributed to the creation of a surplus, distribution of the proceeds should be determined by the proportionate share of that lien in the surplus funds.

Instructive on this point is Omaha National Bank v. Continental Western Corporation, 203 Neb. 264 , 278 N.W.2d 339 (1979), in which the holder of a first mortgage on the subject property encumbered in separate parcels to junior lienholders, sought to foreclose on that property. Following the authorized foreclosure sale, several junior lienholders filed applications for the distribution of the surplus remaining after satisfaction of the first mortgage. The Nebraska Supreme Court announced the rule that: When the first lienor forecloses a lien upon one or more tracts which have been encumbered to several junior lienors in several separate parcels, the primary lien ⁵⁷² should be enforced against the entire security