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“Offloading” Risk to Your Back Pocket

By William S. Dick, Esq.

One look at my retirement funds quickly tells you what will consume my time in retirement - WORK!  With my account loaded down with fast-growing, aggressive bank stocks like Citigroup, Wachovia, and, a Pennsylvania favorite, Sovereign Bank, I was crushed in the financial debacle that overtook our nation four to five years ago.  These stocks generated such debilitating losses that one cannot recover in a reasonable span of time.  We have now come to understand that one of the main problems which overtook the banking industry was the sale of risk-related assets by one branch of a bank and the purchase of those same risk-related assets by another branch of the same bank.  The risk was, so to speak, taken out of one pocket, and therefore, “gone”, but then, amazingly, placed in another pocket.

A recent request to our office by a large regional bank for a title search has raised the spectre of the very same type of “risk removal” in the real estate field and is worthy of regulators’ scrutiny. We declined to provide title certification and our banking friends still are at a loss as to why we were unwilling to get involved in a situation that they had carried for several years.

The subject real estate had been owned by a single elderly man.  This man died in September, 2004.  He had executed a will in 2001, which was probated in Franklin County and is of record in the Franklin County Will Records.  Under this will, he devised all of his estate in equal shares to his children, but provided the following:

“Provided, however, my hereinafter named Executor shall retain title to my real estate and permit any of my children to occupy the same, subject to their paying the taxes, maintaining adequate fire insurance and making all the necessary repairs to the property.”

Attempting to conform to this direction under the will, a deed was placed on record in Franklin County between the Executor as Grantor to the Estate and the Executor as Grantee, “with Grantor reserving a life estate in the property”.  The deed first recited the fact of the landowner’s death and the appointment of his son as Executor and then stated the following:

WHEREAS, the real estate herein conveyed was not specifically devised by said will; however, ________(name deleted) was granted a life estate pursuant to said will.”

The name which had been inserted in the deed was the name of the son acting as Executor of the estate!  Son had continued to live in the real estate after his father’s death, apparently under the occupancy provision granted under the will.

The recorded deed did not properly set forth the direction under the Will.  The will did not give a life estate to any person.  The will provided a mere personal privilege to occupy the premises, which privilege would terminate when the occupation ended.  The deed, referencing a life estate in the son, improperly expanded the language of the will and did not accurately reflect the legal relationship of the parties.

However, the real estate was, properly, owned by the Estate.  The will had directed that the Executor retain the title to the real estate and the real estate had been conveyed into the Estate, with the “occupying” son acting as Executor. 

Given this set of facts, we found that the requesting bank had previously given a loan to the son, secured by a mortgage against this real estate.  This mortgage was executed by the son personally, not as Executor.  Subsequently, the bank had given a second mortgage (apparently as a home equity line of credit) to the son, personally, not as Executor.

As an interesting sidelight to this discussion, there is an amendment to the first mortgage on record which changes the “Mortgagor” from the son, solely, to the son and the father.  Remember, all of this is occurring after the father passed away. The son is not designated in this mortgage amendment as an Executor, so, nothing was gained in this area. And, how did the deceased father execute this amendment?  The father’s signature line at the end of the amended mortgage has the word “deceased” handwritten in the space provided for a signature.  There is a sense that, somehow, someone knew things were not right and this is how they attempted to solve the sticky legal morass they had created.

Our office entered this picture because the son wanted to refinance his two previous loans using the more favorable interest rates presently available.

Our conclusion was that the Estate was, and is, the only possible borrower who might be authorized to give a mortgage to the Bank.  We concluded that the previous two (2) mortgages, presently on record, did not create a lien against the real estate, because they were signed by the son in his individual name, and not as Executor of the Estate.

Further, we determined that the son has only limited authority to sign any such mortgage as Executor of the Estate.  An Executor has authority to sign a mortgage on behalf of the Estate under one of two statutes: 20 Pa.C.S.A. 3353 or 20 Pa.C.S.A. 3354.  Under 20 Pa.C.S.A. 3353 the Executor must get court approval.  Obviously, no court approval had been granted in the previous situations.   Alternately, under 20 Pa.C.S.A. 3354 the Executor has a right to execute a mortgage if he is given the power to sell under the testamentary instrument.  In fact, in this situation, the son was only given the power to sell following the end of the occupancy of the property by any of the children.  Given that the son, as one of the children, was presently occupying the property, it is probable that a court would construe the present situation against the Executor’s ability to sell at the present time and, therefore, against his ability to mortgage. 

However, beyond that question, Section 3354, as well as Section 3353, makes it very clear that an Executor only has a right to mortgage the property “for any purpose of administration or distribution”.  It is evident that an Executor can’t simply use estate assets for his own personal benefit.  We strongly questioned the possibility, that at this time, nearly eight (8) years after the father’s death, this mortgage would be for the “purpose of  administration or distribution” in the Estate.

Our office respectfully declined to certify any title regarding this property for the purposes of a mortgage.  As such, our involvement ended.  But the risk of substantial liability remains and the legal obligations which may arise under this fact situation are worthy of further exploration.

With long life and financial success, the son may live out the rest of his days and pay off his debts in full prior to his death.  But what happens if death suddenly overtakes him in the near future?  His siblings would go to sell the father’s home, only to discover that the bank believes that a significant debt should be paid from the proceeds of that sale, the payment of the bank’s two loans, secured by mortgages against the property. One of those siblings may approach another attorney to ask the simple question, “How could there be debt owed against our father’s asset when our father died debt free?”  Any court will agree with that sibling and inform the bank that they have no lien on this property. (Can the action of any court be so conclusively foretold?)

At this point the bank would reach in their file and contact the national insurance company that has provided title insurance on the transaction.  That insurance company will pay on that policy and then look to the company that provided the binder to them.  And who might that be?  Yes, it is the title company that the bank established ten years ago in order to skim off a few more profits from every mortgage transaction created by the bank.  So, the bank will pay its very own claim back to the national insurance company and find that its risk had been placed in its very own back pocket.

Yes, I happen to know there is one other player in the picture, the local title company which provided the results of their title search to the bank’s title company, probably formed by two notaries (who like to prepare deeds for people on the side), and who so expertly reviewed the legal complexities involved in this situation.  That player has no assets, no insurance, and won’t be in business three years from now!  Can the bank’s title company come back on this party successfully?  I think not.

Local attorneys have nearly been completely driven out of the real estate business, when, at one time, the Recorder’s office was filled with attorneys giving legal analysis to the title problems which arose.  Banks have created title companies to process their own mortgages. But,  where is the risk analysis?  Are regulators even aware of the nature of the problem being created?  Significant legal issues are being reviewed and analyzed by non-lawyers at the courthouse level, to be provided to further non-lawyers, who mechanically write title insurance policies, which are, effectively, rubber-stamped by national insurance companies.

 Were the attorney still included in the picture we would hope for two results: (1) recognition of difficult legal issues that require careful analysis and treatment; and, (2) another level of risk avoidance through the attorney’s malpractice insurance. 

Finally, a simple prohibition seems appropriate.  Bank owned title companies can write all the title insurance they want - just not on mortgages generated by that particular Bank!  This would generate true risk avoidance.

Originally published in The Pennsylvania Lawyer, January/February, 2013