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July 2012

July 2012
From the Colorado Bar Association Business Law Section
Ed Naylor, Editor
For the printable PDF version of this newsletter, click here.
In this issue...
 
What Constitutes Sufficient Notice in Real Property Records After Sender v. Cygan?
By Kimberly L. Martinez, Esq., Castle Stawiarski, LLC

On June 4, 2012, the Colorado Supreme Court issued an advisory opinion in Sender v. Cygan (In re Rivera) (11SA261, 2012 LEXIS 398 (Colo. June 4, 2012)), finding that the Bankruptcy Trustee is entitled to avoid a deed of trust under 11 U.S.C. § 544(a) when the deed of trust fails to include a legal description of the encumbered real property. The opinion arose from a request by the United States Bankruptcy Court for the District of Colorado to the Colorado Supreme Court to answer the following question: Does a recorded deed of trust provide sufficient notice of a party’s interest in real property if the deed of trust contains no legal description and identifies the property only by a street address? In response, the Colorado Supreme Court held that a deed of trust recorded without a legal description is defectively recorded and does not provide constructive notice to a subsequent purchaser of another party’s security interest in real property.

In Cygan, the Bankruptcy Trustee sought to assert his “strong arm” powers under 11 U.S.C. § 544(a) to avoid a deed of trust and sell the property free and clear of liens based upon the deed of trust being recorded without a legal description. The deed of trust set forth the creditor’s security interest and was recorded in the real property grantor-grantee index of the City and County of Denver where the property is located. The deed of trust contained a complete address of the debtor’s property and expressly referred to an attached legal description. However, the deed of trust was recorded without the referenced legal description. After obtaining relief from the automatic stay, on April 14, 2011, the deed of trust was reformed via state court order to include the legal description. Thereafter, the Bankruptcy Trustee filed an adversary proceeding in the Bankruptcy Court claiming that the recorded deed of trust failed to provide sufficient notice of the creditor’s deed of trust to a hypothetical purchaser of the property because it did not contain a legal description at the commencement of the debtor’s bankruptcy.

In reviewing the matter to determine whether the Bankruptcy Trustee was entitled to avoid the deed of trust, the Colorado Supreme Court determined to what extent the Bankruptcy Trustee acting as “a hypothetical bona fide purchaser” could have acquired the subject property free and clear of a security interest at the time of the debtor’s bankruptcy case under Colorado law. In Colorado, a bona fide purchaser is one who pays value, in good faith, without notice of a title defect. Colorado’s race-notice recording statute protects bona fide purchasers to the extent that an unrecorded encumbrance relating to real property has no effect on a bona fide purchaser’s interest.

In some circumstances, however, a party may be charged with knowledge of the rights of another to defeat a bona fide purchaser status through actual, constructive, or inquiry notice. In the Cygan case, the court analyzed the different types of notice as it pertained to the facts of the case and determined that the Bankruptcy Trustee was not provided with sufficient notice of the deed of trust since the recording of the deed of trust was defective, and therefore, void. In its analysis, the Cygan court first discussed constructive notice. A properly recorded instrument gives constructive notice to the public of the recording party’s claim. In determining whether the hypothetical purchaser may be charged with constructive notice of the creditor’s deed of trust, the Colorado Supreme Court reviewed C.R.S. §§ 38-35-122 and 38-35-109(1) and held that a deed of trust recorded without a legal description is defectively recorded and cannot provide constructive notice of an encumbrance to a subsequent purchaser. (Sender v. Cygan (In re Rivera), 11SA261, 2012 LEXIS 398, at *P18-P25 (Colo. June 4, 2012); but cf. Hill v. Bayview Loan Servicing, LLC (In re Taylor), 09-01050-HRT, 2009 LEXIS 4136 (Bank. D. Colo. Dec. 3, 2009)). The Colorado Supreme Court reasoned that under C.R.S. § 38-35-122, a validly recorded lien must contain a legal description of the property, and a legal description must be more than a property address for notice purposes. Consequently, the creditor’s deed of trust was void, and thus, incapable of providing constructive notice of the encumbrance despite the fact it was recorded in the grantor-grantee indices and contained the correct property address.

Next, the Cygan court discussed actual notice. Under Colorado law, actual notice of an unrecorded or recorded instrument will also defeat a bona fide purchaser status. In Cygan, the Colorado Supreme Court found that the Bankruptcy Trustee’s actual notice of the legal description contained in the creditor’s unrecorded deed of trust could not be imputed to the Bankruptcy Trustee under 11 § U.S.C. 544(a) to overcome the Trustee’s ability to obtain the property free and clear of encumbrances. Therefore, the court concluded that the Bankruptcy Trustee’s “strong arm” powers exist regardless of the Bankruptcy Trustee’s knowledge of the deed of trust’s unrecorded Exhibit A containing the legal description.

Last, the Cygan court discussed inquiry notice. Inquiry notice arises when a purchaser becomes or should have become aware of the facts, which, if investigated, would reveal the claim of another. The Colorado Supreme Court declined to find that the Bankruptcy Trustee was on inquiry notice based upon the fact the deed of trust was defectively recorded. Therefore, the court effectively concluded that the defectively recorded deed of trust negated the Bankruptcy Trustee’s duty to inquire further regarding the true property the creditor’s deed of trust was intended to encumber.

As the Cygan case involved a deed of trust recorded without a legal description, the majority opinion distinguished prior cases that hold a recorded instrument containing an erroneous or incomplete legal description provides sufficient notice of an encumbrance so long as the instrument describes the property with reasonable certainty. (Cygan, 2012 LEXIS 398, at *P24-P25; see., e.g., Taylor, 2009 LEXIS 4136.) For example, in Hill v. Bayview Loan Servicing, LLC (In re Taylor), the Bankruptcy Court for the District of Colorado held that a deed of trust properly recorded in the grantor-grantee indices with a correct street address, but with a legal description identifying the incorrect block number for the parcel placed the bankruptcy trustee on inquiry/constructive notice of an encumbrance on the subject real property. (Taylor, 2009 LEXIS 4136, at **16-17.) In Cygan, the Colorado Supreme Court declined to extend the general rule set forth in Taylor to a deed of trust that completely omitted the legal description. (Cygan, 2012 LEXIS 398, at *P24) The Colorado Supreme Court reasoned that the recording of the creditor’s deed of trust without a legal description materially fails to describe the recording party’s interest in the property and cannot be validly recorded. Therefore, the recording of the creditor’s deed of trust is void and incapable of providing constructive notice of the encumbrance.

In contrast to Cygan, a prior Colorado Court of Appeals unpublished opinion held that a deed of trust contained sufficient information to place another on inquiry notice despite the fact that it omitted the legal description and contained several other defects. (EMC Mortgage Corp. v. Getrado, Limited, 08CA1246 (Colo. App. April 23, 2009) (unpublished)). In EMC Mortgage Corporation v. Getrado, a senior lien holder’s deed of trust was recorded with no legal description, an incorrect property address, a variation in the grantor’s name, and an incorrect name of the public trustee. The Colorado Court of Appeals held that the senior deed of trust contained sufficient information to place a subsequent lien holder on notice of the senior lien holder’s priority interest in the property. The court noted that even though the senior deed of trust did not contain a legal description, it contained the proper assessor’s parcel number, which upon further inquiry would have affirmatively disclosed the senior lien holder’s interest in the property. (EMC Mortgage Corp. v. Getrado, Limited, 08CA1246 at ¶ 18.)

In finding the creditor’s deed of trust void, the majority in Cygan failed to consider the role of the grantor-grantee index in providing inquiry notice. All written instruments conveying, encumbering, or affecting title to real property are recorded in the office of the clerk and recorder of the county where the property is located. Pursuant to Colorado Title Standard § 1.1.3 (2010), an examination of title includes a search of the direct and inverted (grantor-grantee) indices of recorded documents maintained by the clerk and recorder of the county where the property is located. In Cygan, the creditor’s deed of trust was properly indexed in the grantor-grantee indices, contained the correct property address, and cited to an Exhibit A, referencing a legal description. Under prior case law and Colorado Title Standards, this information is sufficient to place prospective purchasers on inquiry notice of the legal description of the property and any relevant encumbrance.

In summary, the Cygan decision treats a deed of trust recorded without a legal description as if it had never been recorded. In the dissenting opinion, Justice Coats points out, without citing any authority, that the Cygan decision is not precedent and does not bind the lower courts. The Bankruptcy Court for the District of Colorado, however, is likely to apply the Cygan holding to the underlying case. Moreover, the Cygan case may be instructive on how the Colorado Supreme Court is likely to decide an appeal on the same issue. Nonetheless, the Colorado Supreme Court appears to limit its decision in the Cygan case to the bankruptcy context, distinguishing between a real purchaser and the bankruptcy trustee’s “strong arm” powers as a hypothetical bona fide purchaser. The Cygan decision could potentially have wide-reaching implications for the title insurance industry and real estate practitioners. As a motion for reconsideration was filed with the Colorado Supreme Court on June 28, 2012, the case is still unfolding.

Business Law Section Activities

Save the Date! 2012 Business Law Institute—October 18–19

To be held at the Four Seasons Hotel in Denver. Call 303-860-0608 or 800-860-2531 for more information.

CBA-CLE Information

Bank Regulations: What Every Lawyer Should Know—Thursday, Aug. 2
Regulatory Agency Interplay, Loan Considerations, and FDIC Loss Sharing Agreements

The first of three segments will provide an overview of the bank regulatory structure and the interaction among the federal and state agencies—the FDIC, Federal Reserve, OCC, and the state banking regulators.

The second discussion will address banking laws that all lawyers representing banks should understand.

The final session is about FDIC loss sharing agreements. The focus in this segment will be on those lawyers representing borrowers that have loans at banks with loss sharing agreements, and how loss sharing agreements can affect their borrowers. Submitted for 3 general CLE credits. Click here for more information.

Ethics and Managing Business Risk in the Law Firm—Thursday, Aug. 3

The ethical and successful practice of law faces more challenges than ever before.
This half-day program presents not just the risks and problems, but the down-to-earth solutions to a multitude of common and uncommon risks, and a strong focus on risk management as a primary tool for maintaining the highest ethical standards. A comprehensive overview of firm operations includes:

  • Structure and Governance
  • Intake Process
  • Avoiding bad clients
  • Fee agreements and scope of work
  • Conflict checking
  • Client management process
  • Technology, security and confidentiality
  • People management
  • Financial management
  • Insurance portfolio
  • Natural disaster preparedness and business resumption
  • Succession and leadership planning
  • Health and work/life balance
  • Marketing efforts

Submitted for4 general CLE credits, including 3.6 ethics credits. Click here for more information.

 
CBA-CLE Featured Publication

Lawyers’ Professional Liability in Colorado: Preventing Legal Malpractice & Disciplinary Actions, Second Edition

This book focuses on risk management issues relevant to every practicing lawyer in Colorado including: professionalism, ethics, the client-lawyer relationship, professional liability insurance, the grievance process and attorney discipline, defenses, technology, fees, debt collections, and trends in legal malpractice. Substantive practice areas covered in the book include: bankruptcy, closely held businesses, debt collection, the Sarbanes-Oxley Act, and taxation. CBA Members receive a discount! Read more about the book and how to reduce your practice risks

Contributions for future newsletters are welcome –
Contact Ed Naylor at ed.naylor@moyewhite.com or 303-292-2900

This newsletter is for information only and does not provide legal advice.

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