Foreclosure Sales: When Does a Debtor Lose the Ability to Interfere with the Sale?

In re Vertullo, 593 B.R. 92 (Bankr. D. N.H. 2018) –

A mortgagee that sold a chapter 13 debtor’s home in a prepetition foreclosure auction but had not yet recorded a foreclosure deed sought relief from the automatic stay in order to evict the debtor. In the meantime, the debtor filed a plan that proposed to cure the prepetition mortgage defaults and continue payments. The bankruptcy court had to decide whether the mortgagee had completed the foreclosure sale within the meaning of the Bankruptcy Code and whether the debtor retained sufficient interest in the property to allow her to exercise a right to cure the mortgage defaults.

The mortgagee sold the property to a third party buyer at a foreclosure auction in January 2017. The debtor filed a chapter 13 case in May 2017 that was dismissed in March 2018 for failure to make plan payments. The debtor filed another chapter 13 case in April 2018. At that point the mortgagee still had not recorded a foreclosure deed.

The mortgagee sought relief from the automatic stay in the second case based on its contention that the debtor had nothing more than a bare possessory interest so that the property was not part of the bankruptcy estate. The debtor then filed a plan which proposed to cure prepetition defaults and to continue making payments. On the one hand, the debtor argued that the mortgagee never completed the foreclosure sale since it did not record the foreclosure deed, so she was still entitled to cure. On the other hand, the mortgagee argued that at the conclusion of the foreclosure auction the debtor was divested of all interest in the property so that it did not even become part of the bankruptcy estate.

Under applicable state law a foreclosing mortgagee “‘shall within 60 days of the sale’ record in the appropriate registry of deeds ‘the foreclosure deed, a copy of the notice of sale, and his affidavit setting forth fully and particularly his acts in the premises.'” The statute goes on to provide that if recording is prevented by a bankruptcy automatic stay, the time is extended until 10 days after expiration of the stay.

Once the deed is recorded “title to the premises shall pass to the purchaser free and clear of all interests and encumbrances which do not have priority over such mortgage.” If the mortgagee does not timely record the deed and affidavit, the sale is “void and of no effect only as to liens or other encumbrances of record with the register of deeds for said County intervening between the day of the sale and the time of recording of said deed and affidavit.”

An early bankruptcy case (Hazelton) held that there was no reason to obtain relief from the automatic stay to record a deed after a prepetition foreclosure auction without regard to whether the foreclosure deed was recorded. Since the debtor’s right of redemption expired at the close of the auction, it had no remaining interest and the property did not become part of the bankruptcy estate.

However, a subsequent decision (Beeman) held that enactment of section 1322(c)(1) of the Bankruptcy Code abrogated the Hazelton decision for chapter 13 cases. This chapter 13 provision states that notwithstanding nonbankruptcy law, a default under a mortgage on the debtor’s principal residence can be cured “until such residence is sold at a foreclosure sale that is conducted in accordance with applicable nonbankruptcy law” (emphasis added).

The Beeman court decided the Bankruptcy Code provision was unambiguous: (1) it preempted state redemption law, (2) under section 1322 cure and reinstatement rights were cut off when “a foreclosure sale process is complete,” and (3) state foreclosure law determent when the process ends. Under the applicable state statutes the sale process ended when the deed was recorded.

The bankruptcy court generally followed the Beeman decision for the next 15 years until it was questioned in a First Circuit BAP decision (LaPointe). LaPointe concluded that section 1322 refers to when the foreclosure process is complete as to the mortgagori.e. when the foreclosure auction is complete, not when the deed is recorded.

Not surprisingly, this created a great deal of uncertainty about the state of law. The bankruptcy court announced that it was using this Vertullo case to resolve the uncertainty to the extent possible. It concluded that there appeared to be a factual error in the LaPointe reasoning, and in addition to misunderstanding the Beeman case, the LaPointe legal reasoning was “problematic.” So, the bankruptcy court determined that Beeman was the proper approach and announced that it would continue to follow that case.

Accordingly, the bankruptcy court held that the debtor was entitled to propose curing and reinstating the mortgage because as of the petition date the mortgagee had not completed the foreclosure sale by recording the deed. In addition, the motion for relief from the stay was denied because it was based solely on the proposition that the debtor had no cure rights.

The exact point in the foreclosure process when a debtor loses the ability to interfere with the sale by filing bankruptcy can be a tricky issue. Although this case dealt with the special circumstance of a chapter 13 bankruptcy, the same basic question arises in other cases. Typically a foreclosure sale is evidenced by a recorded document of some type. It behooves a purchaser to assure that the document is recorded as soon as possible.

Vicki R Harding, Esq.

About BankruptcyRealEstateInsights

Vicki R. Harding was a partner in the Detroit office of Pepper Hamilton LLP who moved to Arizona seeking warmer weather. Ms. Harding continues to handle commercial transactions with an emphasis on real estate and bankruptcy issues (but no longer owns a snow shovel).
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