In re Tavern Motor Inn, Inc.

• Decision Date: 19 March 1987
• Docket Number: Bankruptcy No. 83-89.
• Court: U.S. Bankruptcy Court — District of Vermont
• Parties: In re TAVERN MOTOR INN, INC. d/b/a The Montpelier Tavern Inn, Debtor.

71 B.R. 599 (1987)

In re TAVERN MOTOR INN, INC. d/b/a The Montpelier Tavern Inn, Debtor.

Bankruptcy No. 83-89.

United States Bankruptcy Court, D. Vermont.

March 19, 1987.

S. Knapp, Dinse, Erdmann & Clapp, Burlington, Vt., for the Chittenden Trust Co. (CTC).

A. Medor, Rutland, Vt., trustee.

P. Monte, and B. Lyford, Young, Monte & Lyford, Northfield, Vt., for Northfield Sav. Bank (NSB).

R. Obuchowski, South Royalton, Vt., for the Tavern Tenants Committee (Tenants).

J. Palmisano, Barre, Vt., pro se, trustee for the Estate of Irving and Ellen Anders (Trustee).

S. Prentice, Montpelier, Vt., for Chittenden Trust Co. (CTC).

MEMORANDUM DECISION

FRANCIS G. CONRAD, Bankruptcy Judge.

NSB has moved under Rules of Bankruptcy Procedure, Rules 7052(b) and 9023, for this Court to alter or amend its September 29, 1986 Decision. From the bench, we ruled that NSB, by virtue of its status as an assignee of an assignment of lease and rents, which was collateral for an obligation of the debtor to NSB, was not entitled to partake of the proceeds from the pending sale of the debtor's assets. We granted the motion to reconsider and ordered the parties to submit memoranda of law. Because we find that the assignment of the lease and rents does not rise to the level of a security interest in real property, NSB is not entitled to be paid on its promissory note from the proceeds resulting from the sale of debtor's assets, and accordingly, we reaffirm our September 29, 1986 Order.

On May 11, 1983, debtor filed a voluntary petition under Chapter 11. Under Chapter 11, the fate of this historic landmark floundered for the next three years until an Order was entered on July 3, 1986, converting the debtor to a case under Chapter 7 of Title 11 of the United States Code.

The trustee acted quickly and moved under 11 U.S.C. § 363(b) to sell all the debtor's real and personal property. He obtained consents to sell the property from all the known lienholders. To NSB's surprise, the trustee did not request their consent to the proposed sale, nor was NSB listed in the motion as a known lienholder.¹

At NSB's request, an expedited hearing for clarification of its status as a lienholder was held on September 29, 1986, the day before the public sale. We treated NSB's request as an 11 U.S.C. § 506² motion and ruled that NSB did not have a security interest in the real estate or the future sale proceeds. At the same hearing, on September 29, 1986, we approved the sale under 11 U.S.C. § 363(b), and Ordered the proceeds be held in escrow until such time as we determined the validity, extent, and priority of any and all liens. On November 10, 1987, we confirmed the sale of the debtor's assets to Northeast Hotel Group Inc. We now consider NSB's motion to alter or amend our September 29, 1986 Bench Decision.

On December 15, 1979, debtor, Tavern Motor Inn, Inc. (Tavern), purchased from Avery Inns of Vermont, Inc. (Avery), the Tavern Motor Inn. NSB was a lessee of Avery for a 17 year term commencing December 18, 1979 and, by virtue of Tavern's purchase, became a lessee of Tavern.

Prior to Tavern's purchase of the Tavern Motor Inn, Tavern executed a $100,000.00 promissory note to NSB. The note expressed that it was secured by a collateral assignment of a lease and rents. An assignment of the lease as collateral for the promissory note was executed by Tavern as assignor and NSB as assignee. The assignment transferred Tavern's lease with NSB to NSB together with a conditional assignment of the rents, income, and profits from the use and occupation of the lease. NSB recorded the assignment with the Montpelier City Clerk and the Vermont Secretary of State in an effort to perfect its security interest.

Shortly after NSB's recording, Tavern executed a $1,800,000.00 first mortgage with CTC, and recorded it in the Montpelier City land records. CTC admits that it possessed actual knowledge of NSB's recorded assignment. In fact, CTC took an assignment of leases from Tavern which expressly excepted NSB's lease and rental assignment. Tavern also executed a second mortgage to Avery for approximately $700,000.00. From the facts before us, we don't know if Avery's mortgage was recorded, however, it is not necessary to our Decision.

To understand the legal issues, it is imperative that we examine the relevant and material language of the operative loan documents between NSB and Tavern:

The Promissory Note

". . . The indebtedness evidenced by this note is secured by a collateral assignment of lease and rents . . . is dated December 15, 1980.";

The Assignment of Lease as Collateral

". . . Tavern . . . hereinafter referred to as "ASSIGNOR" and the Northfield Savings Bank . . . hereinafter referred to "ASSIGNEE" . . . ASSIGNOR grants, transfers, and assigns to ASSIGNEE ASSIGNOR\'s entire interest as Lessor in a certain lease . . . dated the 18th day of December, 1979, and by its terms is continual (sic) in full force and effect for a remaining period of 17 years . . . ASSIGNOR further grants, transfers, and assigns to ASSIGNEE all rents, income and profits arising from such lease . . . from the use and occupation of the premises . . ., and at the option of the ASSIGNEE, from all additional leases . . . which may be executed in the future during the term of this assignment . . . Until such time as ASSIGNOR may default in payment of the principal interest or other indebtedness secured by the Note . . . the ASSIGNOR may collect all rents, income and profits arising under the lease . . . and retain the same . . ."; (emphasis ours).

The Loan Agreement

". . . As security for the above referenced loan, the Borrowers (Tavern) shall execute a collateral assignment of a lease and the rents it generates . . . Said collateral assignment shall be perfected under the Uniform Commercial Code and also shall be filed in the Montpelier City Land Records. Upon default and without notice, the Borrowers (Tavern) agree that the Bank (NSB) pursuant to the collateral assignment of the lease and the rents it generates will pay any rents required by the above referenced lease to the Northfield Savings Bank and credit the Borrowers (Tavern) loan account, in addition to all other remedies it may have under the terms of the promissory note contemplated, the security agreement contemplated and the collateral assignment." (parentheticals supplied for clarity).

NSB readily admits that it did not seek a first mortgage of the premises because the other lenders, CTC and Avery, were not willing to subordinate their security interests. CTC concedes that its first mortgage is subordinate to NSB's lease.

NSB claims it is entitled to share in the proceeds from the real estate sale under the following alternative theories:

1. The assignment of rents and profits as security for a debt created an equitable lien in the real property of the assignor;

2. The assignment of the lease and rent constitutes a security interest in real property; and since the note secures not only the assignment of the lease, rents, and profits for the balance of the 17 year term but also extends to the length of the debt, then NSB has a reversionary interest in real property from which it is entitled to be accorded lien status as defined in 11 USC § 101(31).³

Chittenden replies:

1. NSB does not have an equitable lien under circumstances where the intention of the parties was only to create a lien on the rents and profits and not the real property itself;

2. NSB\'s assignment of lease does not entitle it to a lien on the debtor\'s real property because debtor had transferred only the personal property right to receive rent upon default; the debtor\'s assignment of the lease and rents to NSB did not transfer the debtor\'s reversionary interest, but only the right to collect rent which is a mere personal property interest.

The nature of a creditor's real and personal property rights in bankruptcy is defined by State law, not Federal law. In re STN Enterprises, Inc., 47 B.R. 315, 318 (Bkrtcy.D.Vt.1985), citing, Butner v. United States, 440 U.S. 48, 54, 99 S.Ct. 914, 917, 59 L.Ed.2d 136 (1979); In re Brass Kettle Restaurant, Inc., 790 F.2d 574, 575 (7th Cir.1986).

The legal effect of the written instruments, i.e., the assignment of lease as collateral, the promissory note, and loan agreement, is determined by the laws of contract. Where the language is clear, the intentions and understanding of the parties must be taken to be that which their agreement declares. H.P. Hood & Sons v. Heins, 124 Vt. 331, 336, 205 A.2d 561 (1964); Stevens v. Cross Abbott Co., 129 Vt. 538, 545, 283 A.2d 249 (1971). "`Where there is no doubt or obscurity, there is no room for construction and the instruments must be given effect according to its terms.'" Addison County Automotive, Inc. v. Church, 144 Vt. 553, 559, 481 A.2d 402, quoting Aiken v. Clark, 117 Vt. 391, 393, 92 A.2d 620, 621 (1952).

The "loan agreement" unambiguously states that Tavern was to execute the "assignment of lease as collateral" as security for the loan. The collateral was to consist of the lease and rent. Upon default, Tavern agreed under the lease assignment that NSB could pay rent to itself and credit Tavern's loan obligation to it. Provided the default was not cured, NSB would be entitled to remain in possession for the balance of the leasehold term rent free or, if longer, until the loan obligation was paid.

Having described the effect of the operative documents, we proceed to address NSB's arguments.

THE EQUITABLE MORTGAGE THEORY

NSB, as the debtor's lessee/assignee, relies on Allen v. Gates, 73 Vt. 222, 50 A. 1092 (1900), for the proposition that its assignment of the lease and rents created an equitable lien on Tavern's real estate. Their argument then follows: since they perfected by recording prior to the first and second mortgagees, CTC and Avery, they acquired a security interest that allows them to attach the asset sale proceeds ahead of the first and second...