18 F.3d 195 (3rd Cir. 1994), 93-5014, In re Bridge

Docket Nº:93-5014.
Citation:18 F.3d 195
Party Name:In re Frank H. BRIDGE, d/b/a F.H. Bridge & Associates, Debtor. MIDLANTIC NATIONAL BANK, Appellant, v. Frank H. BRIDGE, d/b/a F.H. Bridge & Associates; James J. Desmond, Jr.; Joseph P. Iarussi; Andrew J. Wilson; Laird and Wilson; Trident Abstract Company; American Title Insurance Company; Barry W. Frost, Trustee.
Case Date:March 01, 1994
Court:United States Courts of Appeals, Court of Appeals for the Third Circuit

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18 F.3d 195 (3rd Cir. 1994)

In re Frank H. BRIDGE, d/b/a F.H. Bridge & Associates, Debtor.

MIDLANTIC NATIONAL BANK, Appellant,

v.

Frank H. BRIDGE, d/b/a F.H. Bridge & Associates; James J.

Desmond, Jr.; Joseph P. Iarussi; Andrew J. Wilson; Laird

and Wilson; Trident Abstract Company; American Title

Insurance Company; Barry W. Frost, Trustee.

No. 93-5014.

United States Court of Appeals, Third Circuit

March 1, 1994

Argued July 2, 1993.

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[Copyrighted Material Omitted]

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Kevin D. Sheehan (Argued), William R. Serber, Serber, Konschak & Jaquett, Ocean City, NJ, Anne M.P. Kelley, Horn, Goldberg, Gorny, Daniels, Paarz, Plackter & Weiss, Voorhees, NJ, Attorneys for Appellant Midlantic National Bank.

Douglas M. Calhoun, Calhoun & Associates, Spring Lake Heights, NJ, Attorney for Appellees James J. Desmond, Jr. and Joseph P. Iarussi.

Carol L. Knowlton (Argued), Barry W. Frost, Teich, Groh and Frost, Trenton, New Jersey, Attorneys for Appellee Barry W. Frost.

Before: BECKER, ALITO, and ROTH, Circuit Judges.

OPINION OF THE COURT

BECKER, Circuit Judge.

This is an appeal from an order of the district court affirming an order of the bankruptcy court. Both courts rejected the claim of appellant Midlantic National Bank ("Midlantic") that, notwithstanding Midlantic's failure to record a refinanced real estate mortgage prior to the bankruptcy of the mortgagor, it must prevail over the bankruptcy trustee because Midlantic's unrecorded mortgage stands in the shoes of its prior recorded mortgage under the doctrine of equitable subrogation. We conclude that under New Jersey law, which we find applicable to the controversy, the trustee's "strong arm" powers as a hypothetical bona fide purchaser, see 11 U.S.C. Sec. 544(a)(3), entitle the trustee to avoid the equitable lien of the unrecorded mortgage, and hence we will affirm.

I.

The underlying facts are not in dispute. On March 31, 1987, the debtor, Frank Bridge, obtained a $260,000 mortgage loan from Midlantic to finance the construction of improvements on his property at 94 South Main Street in Ocean Grove, Monmouth County, New Jersey. The mortgage was recorded on April 3, 1987, in the Monmouth County Clerk's Office. In 1988, Bridge and Midlantic agreed to refinance the loan and, on October 18, 1988, Bridge secured another mortgage on the Ocean Grove property for $260,000. Bridge used the proceeds from the note underlying this mortgage to discharge the debt from the original mortgage.

Throughout these transactions with Midlantic, Bridge was represented by counsel who also acted as the settlement agent for the October 18, 1988 transaction, and, as such, was required by Midlantic to record the new mortgage. Bridge's counsel subsequently certified that the mortgage had been sent for filing and was now the primary lien on the Ocean Grove property. Unbeknownst to Midlantic and Bridge, however, the October 18, 1988 mortgage was not recorded, although on July 13, 1990, the original mortgage was marked satisfied. Moreover, a

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judgment against Bridge entered on February 8, 1990, in favor of James J. Desmond, became a lien against the property.

On August 15, 1990, Bridge filed a voluntary petition under Chapter 7 of the Bankruptcy Code in the Bankruptcy Court for the District of New Jersey. As of this time, the new mortgage was unrecorded and remained so until September 12, 1990, when Midlantic ultimately recorded it.

In December of 1991, Midlantic initiated an adversary proceeding in the bankruptcy court. Although it conceded that in view of the failure to record the mortgage, the New Jersey recording statute appeared to favor the trustee, see N.J.S.A. 46:22-1 (1989), 1 Midlantic argued that it retained an equitable lien on the Ocean Grove property, which was superior to all other interests in the property because the doctrine of equitable subrogation operated to place it in the position of its discharged first mortgage. Midlantic moved for summary judgment on this issue, which the bankruptcy court denied. Instead, the bankruptcy court granted the trustee's cross-motion for summary judgment, 2 holding that the trustee's "strong arm" powers under 11 U.S.C. Sec. 544(a)(1)-(3) operated to avoid Midlantic's interest in the Ocean Grove property.

Midlantic appealed to the district court, which affirmed the bankruptcy court's rulings. The district court noted that, although Midlantic had argued that it should prevail over the trustee's strong-arm powers based on the doctrine of equitable subrogation, Midlantic had cited no relevant New Jersey authority. The court concluded that the power conferred upon the trustee as a bona fide purchaser under Sec. 544(a)(3) authorizes the trustee to avoid such an equitable interest in real property. This appeal followed. We have jurisdiction under 28 U.S.C. Secs. 158(d) and 1291. As the bankruptcy and district courts' holdings rested on an analysis of Sec. 544(a) of the Bankruptcy Code, we exercise plenary review. Sapos v. Provident Institution for Savings, 967 F.2d 918, 922 (3d Cir.1992).

II.

Title 11, section 544(a) of the Bankruptcy Code, the "strong arm" clause, defines the trustee's powers over rival creditors. It provides:

(a) The trustee shall have, as of the commencement of the case, and without regard to any knowledge of the trustee or of any creditor, the rights and powers of, or may avoid any transfer of property of the debtor or any obligation incurred by the debtor that is voidable by--

(1) a creditor that extends credit to the debtor at the time of the commencement of the case, and that obtains, at such time and with respect to such credit, a judicial lien on all property on which a creditor on a simple contract could have obtained such a judicial lien, whether or not such a creditor exists;

(2) a creditor that extends credit to the debtor at the time of the commencement of the case, and obtains, at such time and with respect to such credit, an execution against the debtor that is returned

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unsatisfied at such time, whether or not such a creditor exists; or

(3) a bona fide purchaser of real property, other than fixtures, from the debtor, against whom applicable law permits such transfer to be perfected, that obtains the status of a bona fide purchaser and has perfected such transfer at the time of the commencement of the case, whether or not such a purchaser exists.

11 U.S.C. Sec. 544(a)(1)-(3) (1988). In other words, as of the date of the petition's filing, Sec. 544(a)(1) confers upon the trustee the rights of a hypothetical judgment lien creditor; Sec. 544(a)(2) confers upon the trustee the rights of a hypothetical unsatisfied execution creditor; and Sec. 544(a)(3) confers upon the trustee the rights of a bona fide purchaser when, as in this case, real property is at issue.

We must first decide whether state or federal law defines the trustee's avoidance powers under Sec. 544(a). Although the trustee concedes that it is the state law that usually establishes the relevant rights of the trustee and the creditors under Sec. 544(a), he argues that in this particular situation--when an unperfected equitable lien is at issue--federal law controls. More specifically, the trustee contends that it is a longstanding tenet of bankruptcy law that the trustee always has the power to avoid an equitable lien--a lien that could have been perfected but was not. To support this position he has cited a line of cases suggesting that the strong arm powers accorded the trustee under Sec. 544(a) impliedly include the power of the trustee to defeat the unperfected liens. In re G & R Builders, Inc., 123 B.R. 654, 660 (Bankr.M.D.Florida 1990). See also In re Chenich, 100 B.R. 512 (Bankr. 9th Cir.1987) (a trustee takes title to real property free from all equitable liens); In re IDK Logging, Inc., 116 B.R. 788 (Bankr.E.D.Wash.1990) (Sec. 544 places trustee in position of priority over equitable subrogee); In re Penn Central Transp. Co., 385 F.Supp. 612 (E.D.Pa.1974) (trustee has priority over creditor who failed to record).

The trustee also points out that the genesis of this rule lies in the Bankruptcy Act of 1898, which provided that it was "contrary to the policy" of the Bankruptcy Act to recognize an equitable lien when other ways of perfecting the lien were not utilized. 3 The trustee thus argues that because the Bankruptcy law's historic hostility to equitable liens survives to the present day and governs the case at hand, it is under this federal rather...

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