Re: Bernard & Gloria Zaptocky, Debtors, 99-3618

• Court: United States Courts of Appeals. United States Court of Appeals (6th Circuit)
• Writing for the Court: NATHANIEL R. JONES; ALICE M. BATCHELDER
• Citation: 250 F.3d 1020
• Parties: (6th Cir. 2001) In re: Bernard L. Zaptocky and Gloria J. Zaptocky, Debtors. David O. Simon, Chapter 7 Trustee, Plaintiff-Appellee, v. Chase Manhattan Bank, Defendant-Appellant. Argued:
• Docket Number: No. 99-3618,99-3618
• Decision Date: 16 March 2000

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250 F.3d 1020 (6th Cir. 2001) In re: Bernard L. Zaptocky and Gloria J. Zaptocky, Debtors. David O. Simon, Chapter 7 Trustee, Plaintiff-Appellee,
v.
Chase Manhattan Bank, Defendant-Appellant. No. 99-3618 UNITED STATES COURT OF APPEALS FOR THE SIXTH CIRCUIT Argued: March 16, 2000
Decided and Filed: May 22, 2001

Appeal from the Bankruptcy Appellate Panel of the Sixth Circuit. No. 98-13062, Randolph Baxter, Bankruptcy Judge.

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Copyrighted Material Omitted

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Jonathon Blakely, Cleveland, OH, for Debtors.

Stephen D. Hobt, Cleveland, Ohio, for Appellee.

Amelia A. Bower, McFADDEN & ASSOCIATES, Cleveland, Ohio, for Appellant.

Before: JONES, BATCHELDER, and CLAY, Circuit Judges.

OPINION

NATHANIEL R. JONES, Circuit Judge.

Plaintiff-Appellee David O. Simon is the trustee of Bernard and Gloria Zaptocky's bankruptcy estate. During the course of the Zaptocky bankruptcy proceedings, Simon filed an action to set aside a mortgage that the Zaptockys granted to Defendant-Appellant Chase Manhattan Bank ("Chase"). Simon asserted that the Bankruptcy Code's strong arm clause allows the estate to avoid the mortgage because it was not properly executed under Ohio law. The bankruptcy court ordered judgement for Simon. The Bankruptcy Appellate Panel of the Sixth Circuit ("BAP") affirmed the bankruptcy court's decision. Chase now appeals the BAP's decision to this Court. For the reasons stated below, we AFFIRM the BAP's decision.

I. Facts

In February of 1997, the Zaptockys refinanced their home with Chase. The second mortgage was executed on February 7th in the Zaptocky's home, and Gary Williams of First Service Title Agency served as the "closer." The mortgage bears the signatures of Bernard and Gloria Zaptocky as mortgagors, of Gary Williams as witness, and of "Taylor Lloyd" as witness.

On April 24, 1998, the Zaptockys filed for Chapter 7 bankruptcy. During those proceedings, the Bankruptcy Trustee, David O. Simon, filed an adversary proceeding against Chase. The Trustee asserted the "strong arm" power of 11 U.S.C. § 544(a) allows the estate to avoid the Chase mortgage because it was not validly executed under Ohio law. Specifically, Simon claimed that the mortgage documents did not comply with Ohio Revised Code § 5301.01, which requires that a mortgage be signed in the presence of two witnesses.

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At trial, both Bernard and Gloria Zaptocky testified that they signed the mortgage at their dining room table in the presence of Gary Williams. They both insisted that Williams was the only witness present at the signing and that they did not know any person by the name of Taylor Lloyd. In response, Chase offered the testimony of Gary Williams. Williams testified that he had no specific recollection of the events of February 7, 1997 and that he did not know of any person by the name of "Taylor Lloyd." However, Williams also stated that the company with which he was employed at the time of the Zaptocky closing, First Service Title Agency, maintained a policy of not closing loans unless two witnesses were present. He claimed that he would not have signed and notarized the Zaptocky mortgage in contravention of that policy because such actions would have led to his dismissal.

After weighing the evidence, the bankruptcy court found that the Chase mortgage was not validly executed under Ohio law because there was only one witness present at the signing of the mortgage documents. See Simon v. Chase Manhattan Bank (In re Zaptocky), 231 B.R. 260, 264 (Bankr. N.D. Ohio 1998). The court held that since the mortgage was not validly executed, Simon could avoid the mortgage under 11 U.S.C. § 544(a)(1), which allows bankruptcy trustees to avoid transfers of property that could be avoided by a judicial lien creditor. Id. at 265. Chase appealed this decision to the BAP.

The BAP reviewed the bankruptcy court's legal determinations de novo and its factual determinations for clear error. It held that the trial court did not commit clear error when it found that only one witness was present at the signing of the Chase mortgage and that the mortgage was not validly executed under Ohio law. See Simon v. Chase Manhattan Bank (In re Zaptocky), 232 B.R. 76, 81 (B.A.P. 6th Cir. 1999). The BAP also concluded that Simon could avoid the Zaptockys' mortgage under the bankruptcy code. Unlike the trial court, however, the BAP relied on Section 544 (a)(3) and reasoned that since a bona fide purchaser would have been able to avoid the improperly executed mortgage, the Trustee could also avoid Chase's claim. Id. at 83. The BAP also held that Chase did not have an equitable right of subrogation against the bankruptcy estate. Id. at 84. On May 13, 1999, Chase filed a timely notice of appeal to this Court. We review the bankruptcy court's legal holdings de novo and its factual determinations for clear error. See Corzin v. Fordu (In re Fordu),201 F.3d 693, 696 n. 1 (6th Cir. 1999).

II. Background

The "strong arm" clause of the Bankruptcy Code, 11 U.S.C. §544(a), grants a bankruptcy trustee the power to avoid transfers of property that would be avoidable by certain hypothetical parties. Section 544(a) provides: 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 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. § 544(a) (1993).

As trustee, David Simon is entitled to avoid the Zaptockys' mortgage under section 544(a)(3) if a hypothetical bona fide purchaser would be able to avoid this mortgage. Since this mortgage concerns real property located in Ohio, this inquiry is governed by Ohio law. See Watson v. Kenlick Coal Co., Inc., 498 F.2d 1183, 1190 (6th Cir. 1974).

In Ohio, there are three major prerequisites for the proper execution of a mortgage: (1) the mortgagor must sign the mortgage deed; (2) the mortgager's signature must be attested by two witnesses; and (3) the mortgagor's signature must be acknowledged or certified by a notary public (or other designated official). See Ohio Rev. Code Ann. § 5301.01 (Anderson1999). If any one of these prerequisites is not met, the mortgage is not validly executed and it may be avoided by a subsequent bona fide purchaser who does not have actual or constructive knowledge of the prior mortgage¹.

III. Was the Mortgage Properly Executed Under Ohio Law?

In this case, the only prerequisite at issue is whether the mortgagors' signatures were properly attested to by two witnesses. As noted above, the mortgage bears the names of two witnesses, Gary Williams, who also served as closer, and "Taylor Lloyd." At trial, the Zaptockys both testified that no person by the name of Taylor Lloyd was present in their house when they signed the mortgage. In contrast, Gary Williams asserted that although he did not remember closing the Zaptocky's mortgage and did not know anyone by the name of Taylor Lloyd, this person must have been present because he always adhered to First Service's policy, which forbid its employees from closing loans unless two witnesses were present. Upon reviewing this evidence, the bankruptcy court concluded that Mr. Williams was the only witness present at the signing of the Chase mortgage and that the mortgage was not properly executed. In re Zaptocky, 231 B.R. at 264. The BAP held that although a facially valid mortgage is presumed to have been properly executed, the bankruptcy court's holding was not clearly erroneous. In re Zaptocky, 232 B.R. at 81.

On appeal, Chase argues that the bankruptcy court and the BAP erred because they did not apply the correct legal standard when they determined that Gary Williams was the only witness present at the signing of the Zaptocky mortgage. Chase points out that under Ohio law a facially valid mortgage bears a presumption of validity and that those who contest such a mortgage must prove the instrument is defective by clear and convincing

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evidence. See Coshocton Nat'l Bank v. Hagans, 178 N.E. 330 (Ohio App. 1931) (a facially valid mortgage "carries with it a presumption of validity, and, in order to destroy its effect as a mortgage it must be shown to be defective by the contesters."); see also Helbling v. Williams (In re Williams), 240 B.R. 884, 888-89 (Bankr. N.D. Ohio 1999). Citing Paramount v. Berk, Chase argues that the presumption of validity is so strong that Ohio courts have established a per se rule that the mortgagor's testimony standing alone is not sufficient to invalidate a facially valid mortgage. 179 N.E.2d 788 (Ohio App. 1962). Chase concludes that since the Zaptockys' testimony is the only evidence that the mortgage was not properly executed, Simon has not introduced sufficient evidence to demonstrate that the mortgage was not validly executed.

A. Did the Bankruptcy Court Err by Failing to Apply a Per Se Rule?

Under Ohio law a facially valid mortgage does bear a strong presumption of validity. However, Ohio courts have not...