Murky Days Ahead for Real Estate, Title Insurance Industries During COVID-19 Era

It goes without saying that we are living in interesting times. Until recently, who even knew the words and phrases “coronavirus,” “COVID-19,” “social distancing” or “shelter in place” existed? Who knew that toilet paper would be such a hot commodity? A run on bottled water because we lack water in the United States? Hand sanitizer is now more expensive than French wine?

The pandemic has turned society and the business world upside down. Among the many businesses adversely affected are those in the real estate market. Transactions are delayed or cancelled. (The buyer of 44 Art Van stores in bankruptcy is “pausing”). Register of deeds offices are closed. Borrowers are being asked to sign affirmations that they will not refinance or enter into additional transactions relating to the property during this time.

It is anticipated that when the pandemic has subsided, and folks get back into the workplace from their shelters/workplaces at home, and the extent of the economic damage becomes clearer, there will be a surge in bankruptcy filings. Individuals may file Chapter 7 or 13 cases, businesses – Chapter 11 and small businesses – the new small bankruptcy section of Chapter 11.

The new federal CARE Act (stimulus bill) actually provides that the debt limit for small bankruptcies in Chapter 11 increased from 2.7 million to 7.5 million for one year. As such, nearly 90% of Chapter 11 cases will be eligible for the small bankruptcy provisions. This is significant given the new bankruptcy provisions streamline Chapter 11 in a much more debtor friendly way (contrary to the 2005 bankruptcy amendments that were creditor friendly). As such, we expect to see a surge in bankruptcy filings.

What does this mean for the title industry? Unfortunately, claims being made by bankruptcy trustees and debtors to avoid mortgages as preference recordings. We experienced this problem in the early 2000s when registers of deeds were swamped with refinance transactions that created a six- to nine-month backlog in recording.

The problem is the Bankruptcy Code preference provisions. The bankruptcy Code only allows 30 days to perfect an interest. So, a mortgage to be perfected and not be subject to a preference must be recorded with the register of deeds within 30 days of its execution. If not and if the debtor files bankruptcy within 90 days of the recordation (or the mortgage is not even recorded at the time of bankruptcy), the bankruptcy trustee or debtor can file a lawsuit to avoid the mortgage and have the lender treated as unsecured.

As an example, Fred and Wilma refinance their house with Bedrock Bank on March 15. The register of deeds is closed, and the mortgage cannot be recorded. The register of deeds reopens May 4 and there is a month-and-half backlog in recordings. Fred and Wilma file bankruptcy June 10, having exhausted their stimulus checks, and Fred’s unemployment checks just don’t cover the bills and the lost revenue he had as an Uber driver in Bedrock. (Fred lost his job as a construction worker a while ago).

The mortgage is subject to being avoided as preference, given it was not perfected within the 30 days after it was executed. Fortunately, there is a case in Michigan which may help. In the case of In re Schmiel, the court was called upon to issue equitable relief because the mortgage could not be recorded given the backlog at the register of deeds. The court ruled that as long as the mortgage was in recordable form and was presented to the register of deeds within 30 days of execution, the mortgage would be deemed recorded.

In this environment, title companies may have to invoke equitable principles that the mortgages could not have been recorded, given the government shutdown. Back in the early 2000s, title agents used their recording logs to show when documents were submitted for recordation. Whether that will carry the day in the future remains to be seen.

Another issue that will undoubtedly arise is unscrupulous debtors refinancing their houses or taking out multiple mortgages on their house during the shutdown while the title companies cannot check the register of deeds. In the early 2000s, there were a number of debtors who gamed the system by taking out multiple mortgages with different lenders in rapid succession, knowing that the register of deeds was woefully behind in recording. When the fraud was exposed, suits were filed against the borrowers and adversary proceedings were filed in bankruptcy cases to have the debts not discharged.

In these troubled times when we are experiencing unprecedented events, title companies will need to be ever more vigilant in documenting attempts to record mortgages, guard against multiple mortgages on the same property, defend actions brought by trustees and debtors  and pursue claims in bankruptcy by filing timely adversary proceedings. Bankruptcy counsel should be engaged early in the bankruptcy process given the shortened time periods in bankruptcy to defend and pursue claims.

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