Court Ruling Gives Junior Lien Holders Reason to be Wary of Property Sales by Receivers

When a commercial loan secured by a mortgage on income producing real property goes into default and is the subject of a foreclosure, it is common for a receiver to be appointed to manage the property and, often times, to sell the property for the benefit of creditors.  Indeed, receivership orders typically empower receivers to do this. 

These orders also typically include language that permits a receiver to sell receivership property “free and clear of all claims, liens, and encumbrances.”  No statute or court rule expressly grants a judge the authority to allow the sale of receivership property “free and clear of all claims, liens, and encumbrances,” nor do the statutes or rules allow a circuit judge to strip junior liens as a result of such sales – until now.

In Stock Building Supply, LLC v Crosswinds Communities, Inc., et al, ___ Mich App ___; Court of Appeals Case No. 32579 (Sept. 13, 2016), the Michigan Court of Appeals decided, in a case of first impression, two questions:  first, whether a trial court has the power to discharge a mortgage via a sale by a receiver, and second, whether language in a court's order selling property "free and clear of all claims, liens, and encumbrances" includes junior mortgage liens.  The appellate court answered “yes” to both.

MCL 570.1123(2) provides:

The receiver may petition the court for authority to sell the real property interest under foreclosure for cash or on other terms as may be ordered by the court. The sale may be by private or public sale and shall be held in the manner directed by the court. A sale under this subsection shall become final upon the entry of an order of confirmation by the court, unless the court allows a period for redemption. The redemption period, if allowed, shall not exceed 4 months.

To answer the first question – whether the trial court has the power to approve a receiver sale that discharges junior liens – the appellate court went no further than the language in §1123(2), providing that a receiver can petition the court for "authority to sell the real property interest under foreclosure for cash or on other terms as may be ordered by the court."  Without much effort, the appellate court concluded that the statute’s plain language gave the trial court the authority to act on a receiver’s request to sell property and that the trial court can “make decisions regarding the sale after the petition is filed including the terms of the sale itself.” 

Simple enough, a trial court has broad authority under § 1132(2). The statute merely requires that the property be under a foreclosure.  As to the second question – the effect of the trial court’s exercise of its statutory authority – the appellate court went further, concluding that the authority granted in § 1132(2) to approve receiver sales of property on “other terms” includes the power to sell such property "free and clear of all claims, liens, and encumbrances."  Indeed, to accept any other interpretation would mean that “the trial court's authority was limited to only determining what consideration was acceptable for the sale,” a conclusion that would be contrary to the scope of a receiver's authority permitted by established Michigan law.

Borrowing from other jurisdictions the appellate court did tack on the requirement that the proceeds of the receiver’s sale must be applied to the liens on the property, but as is commonly the case, the trial court’s order provided that the sale proceeds would "be distributed in accordance with the same priorities as held prior to consummation of such sale."  Accordingly, under such circumstances the appellate court concluded that the trial court's sale orders were a proper exercise of authority under § 1123(2). 

Lastly, the appellate court looked to see if the trial court’s sale orders discharged any junior mortgages prior to the completion of the foreclosure.  Concluding that a “mortgage” is a “lien” within the meaning of § 1132(2), the appellate court found that the trial court’s placement of the word "all" before "claims, liens and encumbrances" meant that the trial court intended all “burdens” against the property be included within the scope of the order.  As such, and as a result of the trial court’s permitted exercise of its authority that meant that the receiver’s sale would discharge any junior liens, including all subordinate mortgages on the property.

While this outcome was considered a question of “first impression,” in practice the result is neither unique nor surprising. However, since the law is now clear on this point, it makes it incumbent upon property owners, lien claimants and attorneys to pay close attention to not only the authority granted to receivers to sell receivership property, but also the proposed language in any court order authorizing or confirming such a sale.

Unless the receiver sale proceeds are sufficient to satisfy all claims, and that is rarely the case, such sales may very well result in the complete discharge of some or all junior liens – so you had better know where you stand going in.

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