Bank of Ill. v. Covey (In re Shara Manning Props., Inc.), Bankruptcy No. 09–83006.

• Decision Date: 25 October 2010
• Docket Number: Bankruptcy No. 09–83006.,Adversary No. 09–8121.
• Citation: 53 Bankr.Ct.Dec. 237,475 B.R. 898
• Parties: In re SHARA MANNING PROPERTIES, INC., Debtor. Bank of Illinois, n/k/a Heartland Bank and Trust Company, an Illinois state bank, Plaintiff, v. Charles E. Covey, Trustee, Shara Manning Properties, Inc., Internal Revenue Service of the United States of America, and Eastern Tazewell Development Co., Defendants. Eastern Tazewell Development Co., Counter–Plaintiff, v. Bank of Illinois, an Illinois state bank, Counter–Defendant.
• Court: U.S. Bankruptcy Court — Central District of Illinois

475 B.R. 898

53 Bankr.Ct.Dec. 237

In re SHARA MANNING PROPERTIES, INC., Debtor.

Bank of Illinois, n/k/a Heartland Bank and Trust Company, an Illinois state bank, Plaintiff,

v.Charles E. Covey, Trustee, Shara Manning Properties, Inc., Internal Revenue Service of the United States of America, and Eastern Tazewell Development Co., Defendants.

Eastern Tazewell Development Co., Counter–Plaintiff,

v.Bank of Illinois, an Illinois state bank, Counter–Defendant.

Bankruptcy No. 09–83006.

Adversary No. 09–8121.

United States Bankruptcy Court, C.D. Illinois.

Oct. 25, 2010.

John K. Kim, Mark A. Bogdanowicz, Timothy J. Howard, Howard and Howard Attorneys PC, Peoria, IL, for Plaintiff/Counter–Defendant.

Charles E. Covey, Peoria, IL, pro se.

Shara Manning Properties, Inc., Peoria, IL, pro se.

Alison E. McLaughlin, Hasselberg, Williams, Grebe, Snodgrass, Gerard A. Brost, Peoria, IL, for Defendants.

OPINION

THOMAS L. PERKINS, Chief Judge.

This adversary proceeding involves a priority dispute between two mortgagees and the IRS. The first to record was Bank of Illinois, n/k/a Heartland Bank and Trust Co. (“BOI”). The IRS recorded second. Third to record was Eastern Tazewell Development Co. (“ETDC”). The mortgages of both BOI and ETDC are challenged, each by the other.

FACTUAL AND PROCEDURAL BACKGROUND

The Debtor, Shara Manning Properties, Inc. (“SMPI”), owned and operated by Shara Manning, was a developer of residential real estate. It developed Wyndhill Estates, consisting of 26 acres of Peoria County real estate originally divided into 7 lots. The largest, Lot 7, consisting of 8.605 acres, was designated on the first plat recorded October 19, 2005, to become a “14 unit residential cluster development.” As reflected on the final plat recorded April 18, 2007, Lot 7 was subdivided into 12 building lots and several outlots, all connected by a common private access road called Wyndhill Lane. Of the 12 building lots, Lot 1 was designated 8515 North Wyndhill Lane, Peoria, Illinois.

SMPI intended to build a spec house on building Lot 1. “Spec” is short for speculation. Developers often sell empty building lots and allow buyers to build houses of their own design. A spec house is one built by the developer in the hope of selling the completed but unoccupied new house to a buyer who is satisfied with the developer's design. The reward on a spec house can be greater since a margin of profit is applied to both the cost of the lot and the cost of construction. But the risk is greater too since the developer usually fronts the cost of construction through an interest bearing loan that won't be paid until the house sells.

In July, 2006, SMPI obtained a loan from BOI to build a spec townhome on Lot 1. The promissory note, dated July 6, 2006, states that the loan amount of $455,000 was to be paid out in multiple advances in accordance with the terms and conditions of a construction loan escrow agreement. Interest accrued at a fixed rate for one year at 8.25%, then floated, although the note stated a six-month maturity date of January 6, 2007. As security, the note references a mortgage on 8515 N. Wyndhill Lane. The note bears loan no. 337798–53784.

The corresponding real estate mortgage is dated July 5, 2006, and was recorded on July 7, 2006, in the office of the recorder of deeds for Peoria County. The mortgage identifies Debtor as mortgagor, BOI as lender, and the property as 8515 N. Wyndhill Lane. In paragraph 3, the mortgage describes the secured debt as debt incurred under “Note # 337798–53784 to Bank of Illinois from Shara Manning Properties, Inc., in the amount of $455,000, signed and dated on 07–6–2006.” In paragraph 26, the figure $569,000 is inserted as the maximum obligation limit. The legal description of the mortgaged property, attached as Exhibit A to the mortgage, describes part of Lot 7 in Wyndhill Estates, commonly known as 8515 N. Wyndhill Lane, and references Tax I.D. Nos. 14–04–176–004, 14–04–302–016, 14–04–155–014 and 14–04–155–015.

BOI concedes that the legal description and the tax I.D. numbers do not correctly match up with the common address. The stated legal description describes the entirety of Lot 7, the 14 unit residential cluster development that was 8.605 acres of Wyndhill Estates as shown on the first plat. The common address, 8515 N. Wyndhill Lane, is that of the spec townhome built on Lot 1 (.33 acres) of Wyndhill Estates Townhome Subdivision identified on the final plat.

When the note matured on January 6, 2007, it was not paid. BOI agreed to extend the due date and required SMPI to execute a renewal note. The renewal note, dated January 6, 2007, bearing the same loan number as the initial note and stating the same loan amount of $455,000, states a maturity date of January 6, 2008. As security, the renewal note identifies the same mortgage dated July 6, 2006, on 8515 N. Wyndhill Lane.

Three months after the renewal note was executed, the final plat of Wyndhill Estates Townhome Subdivision was recorded, on April 18, 2007, showing the exact location and configuration of the building lots and outlots for the townhome subdivision. When the renewal note matured on January 6, 2008, it was not paid.

At some point, it came to BOI'S attention that Lot 1 of the subdivision had been assigned a new, separate tax I.D. number as well as a specific legal description. Since the July 5, 2006, mortgage contained a broader legal description and different tax I.D. numbers, BOI decided that a new mortgage should be prepared and recorded and the old mortgage released.

BOI prepared a new mortgage and caused it to be executed by SMPI on August 8, 2008. Its legal description describes Lot 1 of Wyndhill Estates Townhome Subdivision, with the tax I.D. number stated as 14–04–178–005. There is no dispute that the legal description and tax I.D. number are correct. The replacement mortgage was recorded August 11, 2008. That same day, a Release of Mortgage was also recorded identifying the prior mortgage, dated July 5, 2006, and releasing BOI'S lien on part of Lot 7 in Wyndhill Estates.

Unlike the old mortgage's specific description of the secured note, the new mortgage cryptically describes the secured debt as “Bank of Illinois Note.” Like the old mortgage, the new one also states a maximum obligation limit in paragraph 26 in the reduced amount of $455,000, the principal amount of the matured renewal note. According to ETDC, the dispute centers around the adequacy of these provisions.

On December 22, 2008, the ubiquitous Internal Revenue Service recorded a Notice of Federal Tax Lien issued against SMPI in the Peoria County Recorder's Office, for an assessed and unpaid liability of $13,361.70. Also in December, 2008, BOI decided that since the renewal note had still not been paid, a written agreement to extend the maturity date was warranted.¹ Rather than a second renewal note, however, BOI prepared a document entitled Modification of Note and Mortgage providing for a new maturity date of April 15, 2009. The document was executed by SMPI and BOI on December 29, 2008. Prepared in recordable format, it was recorded in the Peoria County Recorder's Office but, because of an oversight, not until March 20, 2009. The delay gave rise to the priority dispute.

In that relatively brief three-month gap, in jumped ETDC. By way of background, William Embry, one of two 50% owners of ETDC, was acquainted with Shara Manning, SMPI'S president and principal owner. After explaining her financial troubles to Embry, Shara suggested that she was willing to partner with investors to build houses on the lots in Wyndhill Estates in exchange for up-front money that would be used to pay off BOI. Embry at first agreed to have ETDC buy one of the lots for $100,000. Subsequently, mainly for tax reasons, he decided that it would be better for ETDC to loan the funds to SMPI and take back two mortgages for security.

Embry and Shara agreed that ETDC would be given a first mortgage on Lot 11 and a second mortgage on Lot 1, improved with the spec townhome. Shara advised Embry of the filed tax lien, but promised to use ETDC'S funds to pay it off. Recording of the second mortgage on Lot 1 was to be delayed until Shara obtained refinancing to take out BOI and the new lender had recorded its first mortgage.

On October 7, 2008, SMPI and Shara, as co-obligors, signed a promissory note to ETDC in the amount of $100,000 plus interest. On February 4, 2009, Shara executed a mortgage in favor of ETDC on Lot 1 to secure the $100,000 note. The “Borrower” is identified as “Shara Manning Properties, Inc., an Illinois Corporation, and Shara Manning, individually.” The mortgage bears one signature, that of Shara Manning; below the signature line appears the designation “Borrower.” The mortgage was recorded on February 18, 2009, a month prior to BOI'S recording of the modification agreement.

BOI'S complaint, sounding as one for declaratory judgment, asks the Court to determine that BOI'S mortgage recorded on August 8, 2008, is valid, prior and superior to the lien claims or interests of ETDC, the IRS and the Trustee in bankruptcy. The complaint admits that the mortgage's identification of the secured indebtedness as “Bank of Illinois Note” was a clerical error in that it “failed to include that the Note was dated January 6, 2007 for Loan No. 337798–53784.” The prayer for relief also requests the Court, “if necessary, to correct the clerical error through reformation of the Mortgage to reflect a more detailed description of the Promissory Note secured thereby.” The complaint also requests that the Court determine ETDC'S mortgage to be invalid, alleging that the “document does not contain the signature of Shara Manning Properties, Inc., as mortgagor, as required by law.”

ETDC denies that BOI'S August 8, 2008, mortgage, recorded August 11, 2008, is valid, and denies that the Modification recorded March 20, 2009, served to cure the defective mortgage. With respect to its own mortgage,...