In re Fluge
| Decision Date | 02 December 1985 |
| Docket Number | Adv. No. 85-7046.,Bankruptcy No. 84-05527 |
| Parties | In re Duane S. FLUGE and Pamela J. Fluge, Debtors. UNITED STATES of America, Plaintiff, v. Michael J. FARRELL, Trustee, Defendant. |
| Court | United States Bankruptcy Courts. Eighth Circuit. U.S. Bankruptcy Court — District of North Dakota |
Norman Anderson, Fargo, N.D., for U.S., plaintiff.
Lowell P. Bottrell, Fargo, N.D., trustee, defendant.
On April 22, 1985, the United States of America, on behalf of the Farmers Home Administration, filed a Complaint for Turnover of Cash Collateral comprised of rental proceeds from the 1985 lease year, derived from farmland in which FmHA alleges it holds a security interest superior to the Trustee's interest. The Trustee, Michael J. Farrell, denies that FmHA has a superior security interest in the rental proceeds contending that they constitute property of the estate. At opening of trial held on October 3, 1985 the parties agreed the case could be submitted on stipulated facts plus documentary evidence received. From the parties joint stipulation of facts and evidence received at trial the facts as material are as follows:
FINDINGS OF FACT
The Debtors, filed for relief under Chapter 7 of the Bankruptcy Code on October 12, 1984 and at the time were the owners of farmland previously mortgaged to FmHA. As a consequence of their Chapter 7 filing the farmland became an asset of the estate and on February 18, 1985 the Trustee filed with the Bankruptcy Court a notice of his intention to lease the subject property described as:
The east One-half of Southeast One-quarter (E½SE¼) of Section 14, Twp. 159 N, R 66 W; and the South one-half (S½) of Section 13; Twp. 159 N, R 66 W; and the Northeast One-quarter (NE¼) of Section 24, Twp. 159 N, R 66 W. of Towner County, North Dakota.
to Fred Price for the 1985 season, terminating on December 31, 1985. Price had, prior to the bankruptcy, leased the same tracts from the Debtors for the 1984 season. The United States of America through the FmHA interposed an objection to the proposed lease asserting a claim to all rents derived from the lease by virtue of an Assignment of Rents contained within its mortgage. A hearing on the Trustee's motion scheduled for April 16, 1985 was indefinitely continued with the parties agreeing it to be in everyone's best interests for the land to be farmed in 1985. Pursuant to said stipulation the rents derived from the Price lease were placed in escrow until resolution of the rent dispute. The instant adversary action followed.
FmHA's claim originates in a series of six loans totalling $321,565.08 secured by a real estate mortgage dated May 14, 1981 covering the land now under lease by the Trustee and which is in issue here. The mortgage is a standard FmHA Form 427-1ND and provides as security for the loans the borrower, in part, "hereby . . . assigns the described tract together with . . . the rents, issues and profits thereof and revenues and income therefrom . . . and all payments at any time owing to Borrower by virtue of any . . . lease . . . of any part thereof or interest therein . . ."
Paragraph (17) of the mortgage affords the FmHA a number of remedies upon default including "(e) enforce any and all other rights and remedies provided herein or by present or future law".
In April 1984 the Debtors, with the approval of FmHA leased the subject tract to Price under a crop share arrangement terminating April 15, 1985. This lease was prepared on a standard FmHA document provided to the Debtors and Price by FmHA. The FmHA on April 25, 1984 by execution of an "Application for Partial Release, Subordination or Consent" form consented to the crop share lease to Price. This document did not operate as a subordination or partial release of FmHA's security.
FmHA approved the 1984 lease to Price with the specific provision that $3,290.00 of the lease proceeds be applied to the Debtors loan with FmHA. FmHA extended an operating loan to Price for the 1984 season and a portion of the subject tract was enrolled in various government programs with the Debtor and Price sharing in the payments according to the lease terms.
Since January 1982 the Debtors have been in default on all loans. FmHA has not initiated foreclosure proceedings against the Debtors but in August 1984 did send them a pre-termination notice indicating its intention to take one or more actions, due to the default, including acceleration of the debt and foreclosure. FmHA has never sent a demand letter to the Debtors for surrender of the 1984 rents nor has it ever asked for an accounting in consequence of rents received. Neither has FmHA requested the appointment of a state court receiver prior to the bankruptcy petition nor has it, during the course of the bankruptcy, sought relief from stay.
This issue presented is the nature of a mortgagee's interest in rents under state law, when that interest is perfected and the effect of the Bankruptcy Code upon that interest.
Section 552(b) of the Bankruptcy Code provides that when a security agreement is entered into prior to commencement of the case, and the security interest created by that agreement extends to property of the debtor, and rent therefrom, then the security interest extends to rents acquired by the estate after commencement of the estate to the extent provided by such security agreement and by applicable non-bankruptcy law except to the extent that equities of the case dictate otherwise. 11 U.S.C. § 552(b). The parties in the case at bar do not dispute that a security agreement covering the Debtors' real property and rent therefrom was entered into prior to commencement of the case. The point of disagreement is whether applicable law affords FmHA a present interest in the rental proceeds.
North Dakota law controls the issue of security interest in rental proceeds. See Butner v. United States, 440 U.S. 48, 56, 99 S.Ct. 914, 918, 59 L.Ed.2d 136 (1979); Matter of Village Properties, Ltd., 723 F.2d 441, 443 (5th Cir.1984). There is no dispute that under North Dakota mortgage law, FmHA as mortgagee, only holds a lien on the subject property and disputed rent proceeds, and does not hold legal title.
In most states, the mortgagee's right to rents is dependent upon his taking actual or constructive possession of the property by means of a foreclosure, the appointment of a receiver for his benefit, or some similar legal proceeding. Butner v. United States, 440 U.S. at 53, 99 S.Ct. at 917; In re Engstrom, 33 B.R. 369, 373 (Bankr.D.S. D.1983). The Supreme Court of North Dakota has declined to follow the majority position and has held that a mortgagee not in actual possession of mortgaged property, prior to foreclosure, is entitled to rents and profits pursuant to an assignment of rents. Skinner v. American State Bank, 189 N.W.2d 665, 670 (N.D.1971); East Grand Forks Federal Savings and Loan Association v. Mueller, 198 N.W.2d 124, 125, 128 (N.D.1972). Even though actual possession of the underlying property is not necessary in North Dakota to establish one's rights under an assignment of rents clause, the North Dakota Supreme Court appears to require some form of affirmative action by a creditor to fully establish that interest. In Skinner, the mortgagee's notice to the lessees of the lessor/debtor's default on payment and demand upon the lessees for payment of the rent to the mortgagee, was sufficient action to establish the mortgagee's right to subsequent rental proceeds. Skinner, 189 N.W.2d at 666, 670. Likewise, in Mueller, the mortgagee had taken no action to foreclose on the mortgaged property or to gain possession but relying on an assignment of rents clause simply notified the lessee that it was invoking its right to rents pursuant to the assignment of rents clause. Mueller, Id. at 126. The lower court in Mueller held that the failure of the mortgagee to foreclose on the mortgage or to gain possession of the premises precluded any rights which the mortgagee asserted they had to the rents. On appeal the North Dakota Supreme Court reversed the trial court, reaffirmed its holding in Skinner, and noted that an assignment of rents agreement is additional security which shall be enforced by the courts even prior to foreclosure. Other courts have also held that a party in possession of mortgaged property is entitled to rent proceeds until affirmative action is taken by the mortgagee. In re Southern Gardens, Inc., 39 B.R. 671, 673 (Bankr.S.D.Ill.1982); In re Colter, Inc., 46 B.R. 510, 512 (Bankr.D.Colo.1984) aff'd 47 B.R. 1008 (D.Colo.1985).
Under applicable North Dakota case law an assignment of rents clause may be enforced apart from the security in the property itself and in advance of foreclosure by affording either the lessee or mortgagor/lessor notification of an intention to invoke the assignment of rents clause. Although the North Dakota Supreme Court has not precisely defined the type of notice that may be sufficient in this regard it seems that any notice must be in the nature of a demand for payment or unequivocal language to the effect that a claim for rents is being made pursuant to an assignment of rents clause. It is not sufficient for a mortgagee to merely advise or remind the mortgagor of the assignment of rents clause. The mortgage itself is already of record and the rents have already been assigned ergo, there would be no purpose to merely reiterate the point. What is necessary is language which triggers enforcement of the assignment of rents.
FmHA first of all asserts that it afforded the Debtors due demand for rents in April 1984 when it approved the Price lease on condition that the lease proceeds be turned over to it. This approval condition was it says, sufficient to meet the state law requirement and thereby avoid any possible conflict with section 362.
The 1984 lease to Price was done subject to and in full knowledge of FmHA's mortgage. The "Application...
To continue reading
Request your trial