U.S. v. Olsen, No. 74-1283

• Decision Date: 15 May 1975
• Docket Number: No. 74-1283
• Citation: 515 F.2d 1269
• Parties: UNITED STATES of America, Plaintiff-Appellant, v. Kenneth OLSEN, Defendant-Appellee.
• Court: U.S. Court of Appeals — First Circuit

Page 1269

515 F.2d 1269

UNITED STATES of America, Plaintiff-Appellant, v. Kenneth OLSEN, Defendant-Appellee.

No. 74-1283.

United States Court of Appeals First Circuit.

Argued Jan. 6, 1975.

Decided May 15, 1975.

Michael Kimmel, Atty., Dept. of Justice, Civil Div., Appellate Section, with whom Carla A. Hills, Asst. Atty. Gen., New York City, James N. Gabriel, U. S. Atty., Boston, Mass., and Morton Hollander, Atty., Dept. of Justice, Civil Div., Appellate Section, Washington, D. C., were on brief, for plaintiff-appellant.

Harold E. Magnuson, with whom Martin, Magnuson, McCarthy & Kenney Boston, Mass., were on brief, for defendant-appellee.

Before COFFIN, Chief Judge, McENTEE and CAMPBELL, Circuit Judges.

COFFIN, Chief Judge.

Appellant, the United States, commenced this action in the district court, seeking to collect $15,529.70 plus accrued interest allegedly due from appellee as guarantor of a note held by the Small Business Administration (SBA). 28 U.S.C. § 1345; 15 U.S.C. § 634(b)(1). On cross motions for summary judgment the district court dismissed the complaint, and the government appeals.

On November 29, 1965, Flat Rock Skiway, Inc. obtained two SBA participation loans through Claremont National Bank to enable it to set up and operate a ski resort. Flat Rock Skiway executed two notes in exchange for the $91,000 which it received. The First Note was for $62,000 and was made payable to the Small Business Administration. This note was guaranteed by appellee and several others, with the guaranty appearing on the bottom of the note in the following form: "The undersigned hereby guarantee payment of the above Note, waiving demand and notice of protest." The First Note was secured by a First Mortgage on certain real property in Claremont, New Hampshire. ¹ The Second Note, for $29,000, was payable to the Claremont National Bank or its assigns and, on October 23, 1969, was assigned to the SBA. Appellee executed the standard SBA guaranty form with regard to this note, and the obligation was secured by a Second Mortgage on the property subject to the First Mortgage. This Second Mortgage also included an additional small parcel of land. Each note provided for acceleration upon default and each mortgagee was authorized to sell the property if the mortgagor was in default.

After Flat Rock Skiway, Inc. defaulted on both notes and Claremont National Bank assigned the Second Note to the SBA, the SBA decided to exercise the power of sale contained in the Second Mortgage. A notice of foreclosure sale was published in which the property subject to sale was described as in the Second Mortgage, including the statement that the property was subject to a First Mortgage from Flat Rock Skiway to the SBA. The notice stated that the land would be sold at public auction on March 25, 1970, that a down payment of $4,000 would be required, and that other terms would be announced at the time of sale.

At the sale, it was announced that the SBA would discharge the First Mortgage and that prospective purchasers should bid as if there were no mortgage of record. Appellee, along with an attorney, attended the sale. The highest bid received was $75,000, and after applying $2,459.55 of this to the expenses of sale and $49,239.69 to extinguish the First Note, the SBA applied the remaining $23,300.76 to the Second Note. This allocation left a balance of $15,529.70 due on the Second Note, and that is the amount, plus interest, sought in this action.

While there is no question but that appellee, prior to foreclosure, was liable as guarantor in the full amount of the indebtedness, his basic contention is that he was relieved of any obligation to pay the unrecovered sum because of alleged defects in the mortgage sale. It is conceded that both of the notes were in default, and that under each the SBA could properly exercise a power of sale, and it appears that appellee would have had no objection if the SBA had either foreclosed on both mortgages or foreclosed on the First Mortgage, applied the surplus to the Second Note, and then attempted to collect any remaining deficiency from appellee. Appellee argues however, that the "combined actions of SBA of a foreclosure by sale under the second mortgage and a subsequent discharge of the first mortgage do not constitute a legal foreclosure of the first mortgage and should not be treated in equity or effect as a foreclosure for the entire sum of the unpaid balances of both mortgages." Though windfall this may be, appellee in effect urges, it is a lawful one. The district court adopted this position in substance. ²

On the threshold question of whether federal or state law defines the rights of parties to an SBA loan and guaranty transaction, each party suggests that federal law is controlling. This appears to be the case. Clearfield Trust Co. v. United States, 318 U.S. 363, 63 S.Ct. 573, 87 L.Ed. 838 (1943); First National Bank, Henrietta v. SBA, 429 F.2d 280 (5th Cir. 1970); United States v. Hext, 444 F.2d 804 (5th Cir. 1971). We do not tarry on the issue, however, nor need we reach the question whether this is a situation in which a state's law should be adopted as a part of the federal common law. As will appear more fully in the discussion to follow, we have found no body of law, either federal or state, which squarely confronts the issue to be decided here. Thus, while open to the analogies which may be drawn from the previously-decided cases, we regard the question presented as one requiring that we traverse uncharted ground.

Appellee has referred the court to the line of cases, with which there can be no dispute, establishing that one foreclosing on a junior mortgage has no power to discharge a senior mortgage. See, e. g., Brooks v. Bennett,277 Mass. 8, 16, 177 N.E. 685 (1931); Antonellis v. Weinstein, 258 Mass. 323, 154 N.E. 850 (1927). This restriction on the authority of junior mortgagees is a necessary incident of a senior mortgage, since if it were otherwise a mortgagee who expected to be able to look to the land for satisfaction of the debt would find himself with only the right to proceed personally against a junior lienor who has sold the property, and has withheld the amounts of senior mortgages. The security offered by a mortgage would be largely illusory if the debt could so easily become the unsecured obligation of a junior mortgagee, a party with whom the senior creditor has never even chosen to deal. This issue of the power vested in a junior mortgagee, while necessarily of major concern to the courts deciding most of the cases cited by appellee, is not relevant to the present controversy. The SBA held both of the mortgages, and thus the policy which prevents a foreclosing junior mortgagee from discharging a senior mortgage has no application.

Since it is clear that in this case the SBA did have the power to discharge the First Mortgage which it held, the question which remains is whether it properly applied the proceeds of sale to that obligation when it foreclosed on the Second Mortgage. When the sale was conducted pursuant to the Second Mortgage, the SBA was selling not only its interest in the property, but also the interests of those holding subsequent liens (if any) and the "equity of redemption", the mortgagor's interest. The sale cut off all rights that these parties had against the property, and substituted corresponding claims against the proceeds of the sale. Wiggin v. Heywood, 118 Mass. 514 (1875); Pioneer Credit Corp. v. Bloomberg, 323 F.2d 992 (1st Cir. 1963).

The seldom-varying fact pattern presented by the cases cited by appellee is easily described: A junior mortgagee has sold the property, only to be sued by the mortgagor or a still-more-junior mortgagee who claims that there is a surplus which should be paid over. The mortgagee who conducted the sale counters with the argument that there is no surplus because the sale price included the amounts necessary to discharge the mortgages senior to the one which was foreclosed. The courts' disposition of these cases holding that the selling mortgagee must account for the entire sale price, without making deductions for senior mortgages demonstrates nothing more than that ordinarily the junior mortgagee cannot discharge the senior obligation. Antonellis v. Weinstein, supra, is typical. The holder of a third mortgage, acting through an agent, advertised the property for sale subject to the two prior mortgages and then purchased the property at the sale for a sum in excess of his own mortgage. The Massachusetts Supreme Judicial Court held that the trial judge properly refused to accept evidence that the selling mortgagee intended to include the amounts of the first and second mortgages in his bid; the judgment which had been...