In contrast to other recent well-publicized decisions, a New
Jersey state court has held that, in order to seek foreclosure of a
mortgage that has been securitized, a lender need not demonstrate
actual physical possession of the note memorializing the underlying
debt. In Bank of America, NA v. Alvarado, BER-F-47941-08
(N.J. Super. Ct. Ch. Div. Jan. 7, 2011), the court held that the
plaintiff was entitled to summary judgment striking the
borrower's answer, dismissing her counterclaim and entering
default, even though the plaintiff's predecessor, which was the
original lender, had lost the note before transferring its
interests to the plaintiff. The court found that this result was
compelled by the doctrines of equitable/common law assignment and
unjust enrichment.
The Alvarado decision marks a departure from prior
holdings over the past year in which courts throughout the nation
have been unwilling to allow lenders to enforce their security
interests absent a demonstration of actual physical possession of
the note.1 In Alvarado, the mortgagor
acknowledged that she had executed a note and mortgage in favor of
Washington Mutual Bank ("Washington Mutual") and had
defaulted on the loan in 2008. She challenged the right of the
plaintiff, Bank of America, NA ("B of A"), to foreclose,
however, because Washington Mutual had lost the original note
before transferring its interests. Notably, Washington Mutual had
executed an Affidavit of Lost Note in 2006.
The court in Alvarado, like the courts in prior New Jersey
decisions, Raftogianis and Kemp, started its
analysis with the Uniform Commercial Code ("UCC"), as
adopted in New Jersey. Specifically, the court looked to
N.J.S.A. 12A:3-301, regarding persons entitled to enforce
negotiable instruments. That provision sets forth that the
following three categories of persons are entitled to enforcement:
(1) the holder of the instrument; (2) a non-holder in possession
who has the rights of the holder (i.e., one who has physical
possession as the result of a legitimate transfer, but to whom the
note has not been indorsed); and (3) a person not in possession of
the note, but who was in possession of and entitled to enforce the
note when the loss of possession occurred. The court in
Alvarado acknowledged the Kemp decision, but
found that the bankruptcy court had not considered the merits of
the lost-note claim.
Though the UCC was amended in 2002 to eliminate the requirement
that a lost note could be enforced only by one who had been in
possession at the time of the loss, New Jersey never adopted that
amendment. Accordingly, the court in Alvarado looked to
pre-amendment cases interpreting section 3-301, which were divided
in their analysis. Ultimately, the court found that to allow the
borrower to prevail would lead to the inequitable result that no
one was entitled to enforce the note and that the borrower would
receive a windfall.
The court thus looked to decisions from courts outside of New
Jersey that had found that a lost note could be enforced by one
other than the party that had lost it. The UCC provides that, where
it is silent on an issue, courts may look to common law principles
to supplement the UCC. N.J.S.A. 12A:1-103. The UCC is
silent on the issue of assignability of rights arising under a lost
promissory note. Accordingly, courts finding that a successor was
entitled to enforce a lost note relied on either the common law
doctrine of assignment or the doctrine of unjust enrichment. The
court in Alvarado relied upon both.
The court noted that the defendant had received the benefit of the loan from Washington Mutual and that to allow her to go without repaying it would constitute unjust enrichment. The court also noted that B of A was the assignee of Washington Mutual's rights and that Washington Mutual had intended to transfer all its rights to enforce and collect the debt and debt instruments. Even though there was a colorable argument that the provisions of the UCC did, in fact, preclude the "legal remedy of assignment," the court found that New Jersey courts will recognize an "equitable assignment when the equities of a circumstance so compel."
Finally, the court addressed the UCC requirement that, to find a lost note enforceable by a particular plaintiff, the court must determine that the defendant is adequately protected from future claims of enforceability by other parties. The court determined that defendant Alvarado was adequately protected, given the amount of time since the loss of the original note (which had occurred in 2006), the fact that it was lost almost immediately after execution, and the fact that no other person had stepped forward to make a claim on the note. In any event, the court opined that should such a situation arise, B of A was obligated to intervene and defend so that the borrower would not be held liable twice on the same obligation.
The Alvarado decision marks an important step in New Jersey courts' recognition of the rights of lenders not in possession of an original note. Lenders should recognize, however, that Alvarado addressed the specific circumstance of a lender seeking to enforce a note that was lost by the original lender. Accordingly, the decision (and the UCC provision it interprets) may be narrowly construed by courts going forward. It follows that the best practice in New Jersey is still to secure actual physical possession of an indorsed note prior to filing a foreclosure complaint. Should the note not be available, lenders should hope that other courts will follow the example of the Alvarado court.
Footnote
1. Bank of New York v. Raftogianis, ____ N.J. Super. _____, ATL-F-7356-09, 2010 N.J. Super. LEXIS 221 (N.J. Super. Ct. Ch. Div. Jun. 29, 2010), the court dismissed the plaintiff's complaint, without prejudice, upon a determination after trial that the plaintiff could not prove it had possession of the note at the time the complaint was filed. In In re Kemp, Case No. 08-18700-JHW, Adversary No. 08-2448, 2010 Bankr. LEXIS 4085 (Bankr. D.N.J. Nov. 16, 2010), the court expunged the creditor's proof of claim in a bankruptcy adversary proceeding where the creditor never received possession of the original note from the originating lender.
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