Phalen Park State Bank v. Reeves, 45882

• Decision Date: 18 February 1977
• Docket Number: No. 45882,45882
• Citation: 312 Minn. 194,251 N.W.2d 135
• Parties: PHALEN PARK STATE BANK, Respondent, v. Jean J. REEVES et al., plaintiffs in intervention, Respondents, v. FCM INSURANCE COMPANY, Appellant.
• Court: Minnesota Supreme Court

Page 135

251 N.W.2d 135

312 Minn. 194

PHALEN PARK STATE BANK, Respondent, v. Jean J. REEVES et al., plaintiffs in intervention, Respondents, v. FCM INSURANCE COMPANY, Appellant.

No. 45882.

Supreme Court of Minnesota.

Feb. 18, 1977.

Syllabus by the Court

1. A mortgagee is under no obligation to disclose to an insurer of mortgaged property whether it has foreclosed or is contemplating foreclosure of the mortgage when the insurer makes no inquiry as to the status of the mortgage.

2. An insurer has the right to insist that the mortgagee, who seeks recovery under a policy of insurance insuring the mortgagor-owner and the mortgagee "as his, her, its or their interest may appear," has an insurable interest.

3. Because a mortgagee who holds a usurious mortgage note and mortgage does not have an insurable interest, the insurer has a right to have the issue of usury litigated.

4. In the event the mortgagee prevails on the issue of usury, and the insurer is required to indemnify the mortgagee under the policy, its recovery is reduced by the amount of the mortgage proceeds held in escrow which it is not obligated to pay out to perfect the title to the property.

5. If the insurer is required to make payment under the policy, it is subrogated to the mortgagee's fee interest in the property where the mortgage foreclosure has already taken place and the period of redemption has expired.

Meagher, Geer, Markham, Anderson, Adamson, Flaskamp & Brennan and Mary Jeanne Coyne and O. C. Adamson, II, Minneapolis, for appellant.

Thomson, Lovett, Wahlfors & Moran and James L. Wahlfors, Bloomington, for Phalen Pk. St. Bk.

Jean Reeves and William Reeves, pro se., for Reeves, and others.

Heard before ROGOSHESKE, PETERSON, and YETKA, JJ., and considered and decided by the court en banc.

YETKA, Justice.

This is an action brought by the Phalen Park State Bank (the bank) against FCM Insurance Company (FCM) to recover under the mortgage clause contained in a fire insurance policy issued by FCM to the bank's mortgagors, Jean J. and William Reeves (the insureds). The insureds intervened in the action as plaintiffs asserting their claim to the insurance proceeds. The case was tried before a jury February 18, 1975. At the conclusion of the trial, the court granted the bank's motion for directed verdict against FCM, and ordered judgment entered for the bank, ruling that it was entitled to recover $38,686.33, the full amount due on the mortgage note. As to the insureds' claim, the jury returned a special verdict finding that the fire which destroyed the insured property had been deliberately set at the instance and request of William Reeves. Both FCM and the insureds appealed from the judgment and the trial court's order denying their motions for new trial. However, the insureds' appeal has been dismissed by order of this court. As to FCM's appeal, we reverse and remand for a new trial.

On August 3, 1971, the insureds executed a mortgage note in favor of the bank in the amount of $34,000 bearing interest at the rate of 71/2 percent per annum. The note was secured by a mortgage of the insured premises. Of the proceeds of the loan, $22,715.06 was disbursed by the bank according to the insureds' instructions and the balance of $11,284.94 was retained in escrow to secure the bank against an outstanding real estate tax lien and an attorneys lien.

The insureds defaulted on the note and consequently the bank commenced foreclosure proceedings pursuant to Minn.St. c. 580. The bank purchased the property at the sheriff's sale on December 27, 1972, for $38,162.17, the balance then due on the mortgage note plus foreclosure costs.

In December 1972 the bank received notice that the fire insurance provided by the insureds had been terminated. It notified the insureds of the termination and demanded that they replace the insurance. In February 1973 the insureds contacted insurance agent Robert Averbeck, who secured a replacement policy through FCM in the amount of $50,000. The policy was issued by FCM on February 11, 1973, and delivered to the Reeves on March 8, 1973. On March 15, 1973, the building on the subject property was destroyed by fire.

The bank filed its proof of claim July 2, 1973, 5 days after the insureds' period of redemption from the foreclosure sale had expired. The bank presently holds the fee interest in the insured property.

On appeal FCM contends that the policy was invalidated by the bank's failure to disclose the foreclosure of its mortgage at the time the policy was issued and by the absence of any insurable interest in the bank. Alternatively, FCM argues that if the policy is valid then the bank's recovery must be reduced by the amount of the escrow funds retained by it, and that upon payment of that reduced amount the bank should be directed, in accordance with the provisions of the mortgage clause, to convey its fee interest in the insured property to FCM.

1. Averbeck, the agent who arranged the insurance policy, testified that he called the bank to advise it that a replacement policy was being issued by FCM and that coverage had been bound. He did not request any information from the bank. He further testified that he had made no inquiry of the insureds regarding the status of the mortgage, that he had written thousands of policies without ever requesting such information, and that he had never seen an insurance application form which requested such information. The insurance application submitted by the insureds required no such information. Averbeck did testify that if he had known of the foreclosure, he would not have placed the insurance.

Similarly, FCM's vice president stated it was the company's policy to decline to insure property under foreclosure. A property underwriting supervisor for Aetna Insurance Company testified that insurers normally refuse to insure such property; however, he also stated that his company had no systematic way of detecting the existence of a mortgage foreclosure.

We are unaware of any authority, nor has any been cited, requiring a mortgagee, upon application by its mortgagor for a policy of fire insurance covering the mortgaged premises, to disclose to the insurer the foreclosure of the mortgage. While the bank's interest is protected under the policy's mortgage clause, it is not the insured and is not required to join in the application, nor does the policy itself impose any duty of disclosure upon it. Moreover, the record fails to reveal an intentional withholding of notice of the foreclosure or other breach of good faith or fair dealing on the part of the bank. The failure of FCM to discover the foreclosure must rest entirely on its shoulders for not making adequate inquiry.

2-3. While the policy withstands attack on that ground, we believe that a substantial possibility of its invalidity is raised with respect to FCM's contention that the bank lacked an insurable interest. While we have not had the occasion to so rule, most courts apparently hold that an insurable interest may not be predicated on a contract which is void or unenforceable. ¹ FCM argues that the bank, by charging interest on the undisbursed portion of the proceeds of the mortgage note, exacted a usurious rate of interest, rendering the note and mortgage void, Minn.St. 334.03, and therefore lacked an insurable interest.

Our research has not uncovered a decision which involves the precise issue presented in this case whether an insurable interest can arise out of a usurious mortgage. However, the decisions we have found which considered the broader issue of whether an insurable interest can arise out of a void or unenforceable contract persuade us that the answer to the question is that it cannot.

In Cherokee Foundries, Inc. v. Imperial Assur. Co., 188 Tenn. 349, 219 S.W.2d 203 (1949), the Tennessee Supreme Court held that a purchaser of real property under an oral contract of sale, unexecuted at the time of the fire, lacked an insurable interest because the contract was unenforceable under the statute of frauds. The court found:

"From the moment Cherokee Foundries applied for this insurance to the moment of the next day when the parties were to meet at the bank and complete the transaction, it was a matter entirely within the whim and caprice of Cherokee Foundries as to whether it would pay the purchase price and take the property if the seller elected (a matter, too, entirely subject to its whim) to let the Cherokee Foundries have the property for the stated purchase price, or at all. Either could repudiate the oral agreement with impunity, because of the Statute of Frauds. Their status remaining the same, they could by mutual agreement just as easily have postponed the meeting at the bank for the completion of the transaction to any date less than twelve months after the Cherokee Foundries applied for this insurance, and upon the arrival of the day fixed, either party could have repudiated without resulting liability the oral contract upon which the insured here bases his right to recover the insurance.

"So, whether the insurance policy in question was a policy coupled with an interest was eventually dependent upon the whim of either the Cherokee Foundries or the seller. As a matter of fact, one or both of the parties did elect not to go on with the contract on the next morning. The deeds, etc., remained unexecuted. The proposed seller collected the insurance which it carried as the owner of the property partially destroyed by the fire. It subsequently sold what was left of it to Cherokee Foundries under a new agreement.

"On principle, the sound rule seems to be that one whose only right of purchase is under an oral contract which is unenforceable against him or the seller, and who, in fact, either at his own instance or that of the seller, or both, elected finally to reject the contract, ought not to be allowed to recover on an insurance policy for a fire which occurred during the existence of that...