As the housing market crisis winds down, an unanticipated yet pernicious issue has reared its head across the country – expiring statutes of limitations that threaten to reward the most delinquent borrowers with “free” houses.
In one of the most stark – and most widely publicized – examples of this phenomenon, a bankruptcy judge in New Jersey in the In re: Washington case pronounced that “no one gets a free house,” only to conclude his opinion with a finding that the mortgage holder that failed to complete a foreclosure within six years of filing the action and accelerating the loan lost all ability to enforce its lien, allowing the borrower to walk away with a free house. Fortunately for the mortgage holder, that decision was reversed by the U.S. District Court for the District of New Jersey.
The In re: Washington court muddled its conclusion (as is evident from subsequent decisions by other courts citing it) by emphasizing that the term “acceleration” was not defined in the statute listing limitations periods and that it could not be assumed that filing a foreclosure accelerates the maturity date of the mortgage. Nevertheless, the main, albeit somewhat lost, value of this decision is an attempt to stress the purpose of a foreclosure action as a means of clearing a property title and distinguish a statute of limitations that governs an action to collect a debt, an action on a note, from an action to clear title, an action on a mortgage.
This distinction, if possible to make under other states’ laws governing foreclosures, may be useful for mortgage holders both in pushing back on borrowers claiming the benefit of shorter statutes of limitations governing collection on delinquent notes and in aiding courts struggling with the dilemma of awarding borrowers “free houses.”
Ohio is no different from many other judicial foreclosure states; the statute of limitations applicable to foreclosures, based on the Uniform Commercial Code provision governing enforcement of negotiable instruments payable at a definite time, is six years from either 1) the ultimate due date or 2) the date of acceleration of the entire balance due under the note. Also unremarkable is Ohio’s position that, barring any intervening reinstatements of the debt, the acceleration occurs when a written notice of acceleration is first given to the borrower or when a foreclosure is first filed.
What does stand out in Ohio is that earlier this year, the Ohio Supreme Court, in the Holden decision, clarified Ohio law on standing and explained that although a mortgage holder of a borrower who has been discharged in bankruptcy had no standing to seek personal judgment on the note against the borrower, the mortgage holder did have standing to foreclose the mortgage and pursue a judicial sale of the property. Thus, the maturity date set out in the mortgage is not accelerated by calling the entire note balance due.
The court explained that upon a mortgagor’s default, the mortgagee may choose among three independent remedies to try to make itself whole by bringing an action to 1) seek a personal judgment against the mortgagor to recover the amount due, without foreclosing on mortgaged property, 2) enforce the mortgage via ejectment and receive income from the property to satisfy the debt, or 3) cut off the mortgagor’s right of redemption, determine existence and extent of mortgage liens, and have the property sold to satisfy the debt secured by the property. The court stressed that a mortgage holder that has standing to enforce the note at the time a foreclosure is filed, but cannot seek a personal judgment on the note, can still proceed with a separate equitable foreclosure action requesting judicial sale of the property to satisfy the debt in default.
Following Holden, an Ohio court of appeals further elaborated that there is a distinction between “a party not entitled to obtain judgment on a debt” and “a party not entitled to enforce a note.”
The former cannot sue in personam “for monetary relief” but can proceed in rem “against the property itself.” The Wiley case concerned an action against an obligor on the mortgage who never executed the note. The note was executed by a borrower who died before the foreclosure was initiated and whose estate was not joined in the case. The court found that the holder of the note could proceed strictly in rem against the living mortgagee but still had to join either the deceased borrower or her estate to establish standing to enforce the note in this manner.
The distinction between the different types of remedies available to secured creditors articulated in Holden and then in Wiley should have particular significance in cases for which the statute of limitations applicable to collection on the note – typically six years following acceleration or filing of the foreclosure action – has expired but the maturity date set out in the mortgage has not yet arrived. Availability of a separate in rem remedy when an in personam judgment cannot be obtained necessarily means that acceleration of the debt on the note does not bring with it acceleration of the due date on the mortgage and that a separate limitations period is applicable to an action on the mortgage.
In fact, even before the Holden decision, a bank in Ohio had argued that because a mortgage is separate from a promissory note, the statute of limitations governing collection on notes should not be a barrier to a foreclosure action. The bank appealed the trial court’s dismissal of a foreclosure action, which was based on the purportedly expired six-year statute of limitations governing collection on notes secured by real property. The court of appeals ultimately determined that the trial court erred in ruling that the statute of limitations governing collection on the note expired and consequently declined to consider the argument concerning different statutes of limitations applicable to actions on notes and actions on mortgages.
Recognition of the distinct remedies available to mortgage holders for which the statute of limitations to enforce the note has expired is not unique to Ohio. The In re: Washington District Court, in overruling the bankruptcy court’s decision, explained that the “purpose of [New Jersey’s foreclosure statute] is to ease the process of clearing title, not to allow debtors to evade payment,” and stressed that mortgages remain clouds on titles beyond expiration of statutes of limitations governing collection on notes in default.
Florida courts also recognize that even when a lender is precluded by a statute of limitations from bringing a foreclosure to collect on a note, the mortgage lien remains a cloud on the property title until five years after the maturity date set forth in the mortgage. Thus, under Florida law, a lender that is out of time to collect a money judgment from its borrower can, nevertheless, enforce the mortgage lien at any time the debtor attempts to sell the property before the mortgage maturity date, plus five years.
All of this is to say that what may look like an expired foreclosure statute of limitations under a particular state’s law may not be the end of the road for lenders working through their portfolios of their most delinquent loans. In every situation, the lender should evaluate applicable state law to understand whether it can make an argument that it is entitled to enforce the mortgage lien in rem and have the property sold regardless of any statute of limitations bar that may exist to its ability to collect on the note from the borrower.
Natalia Steele is a partner in the Cleveland office of Vorys, Sater, Seymour and Pease LLP and a member of the litigation group, where her practice is focused on civil business litigation. She can be reached at firstname.lastname@example.org.