October 1996
Subordination Agreements
By Ed Urban, Vice President and Corporate Counsel
M-1 records his deed of trust. It states that M-1 agrees that M-1’s deed of trust shall be subordinate to any future deed of trust provided that the proceeds secured by that future deed of trust are used to construct improvements upon the land encumbered. M-1’s deed of trust might or might not go on to state that M-1 will execute any additional documents required. The title insurer is asked to insure M-2’s deed of trust priority over M-1’s deed of trust by virtue of the subordination.
When the title examiner finds such a subordination, the examiner should exercise extreme caution. The title examiner should list M-1’s deed of trust in his opinion and should attach a copy of the subordination language for the title insurer to review prior to closing.
Most title insurers will be concerned about the above subordination for several reasons. First, the subordination is "automatic" or "self executing." This means that the subordination does not expressly reference an existent deed of trust to which M-1 is subordinating. Second, the subordination is "conditional." This means that the subordination is effective, if at all, only if the proceeds are used as specified in the subordination. An "automatic" or "self executing" subordination might be valid, depending upon its terms under the rule of MCB Limited v. McGowan, 86 N.C. App 607, 359 S.E. 2d 50 (1987). But a conditional subordination, if otherwise valid, will entitle the title insurer to take an exception to the conditions in M-1’s subordination agreement. Another important case involving the difficulties of subordinations is National Mortgage Corp. v. American Title Insurance Company, 299 N.C. 369, 261 S.E. 2d 844 (1980). This case involves an automatic and conditional subordination.
Subordination (1) of one deed of trust or lien to another deed of trust or lien; (2) of condominium declaration liens or "PUD" declaration liens to a deed of trust; or (3) of a fee to a tenant’s mortgage to a lender should be reported to and be reviewed by the title insurer prior to closing. This should eliminate the title examiner assuming unwanted liability for the pitfalls involved in subordinations.
12 U.S.C. Sec. 1823(e) applies when the FDIC or RTC is involved. It provides that no agreement, which can include a subordination agreement, is valid against the FDIC or RTC unless it is in writing, was approved by the failed depository institution’s board of directors or its loan committee as reflected in the minutes and is an official record of the depository institution. 12 U.S.C. Sec. 1823(e)(1)(B) says the agreement must be executed by the depository institution and any party "claiming an adverse interest thereunder." The quoted language has been interpreted not to include the lender to whom the depository institution is subordinating.
You can expect to see a commitment requirement similar to the following in regard to a subordination of one lien to another: "Proper execution and recordation of valid unconditional subordination of [ insert reference to lien being subordinated ] to the lien of the deed of trust to be insured. The Company must be given a copy of the subordination agreement."
Our position is that, in a deed of trust, the beneficiary lender subordinating its lien, but not the trustee, needs to sign the subordination agreement.
The commitment for a loan policy should list the lien to be subordinated to the deed of trust to be insured and the subordination agreement under "subordinate matters," with blanks left for recording data. The policy should list the completed reference under subordinate matters. An exception should be taken to the subordinated deed of trust and the subordination in the owner’s policy and commitment for the owner’s policy. This will be of some value when the prior policy is used as a "starter" for "tacking."
For additional reading material, see E. Urban North Carolina Real Property Mechanics’ Liens and Future Advances, Including Title Insurance, Sec. 51-2 (Harrison Co. 1989); E. Urban and G. Whitney, North Carolina Real Estate, Sec. 21-80 (Harrison Co. 1996).
Tax Deferred Exchanges - Examples Of "Boot Netting" Rules
By Ed Urban, Vice President and Corporate Counsel - Statewide Title, Inc.
and President, Statewide Title Exchange Corporation
1. General comments
In order for the taxpayer to fully defer his gain on the sale of "relinquished property" the "replacement property" must have a fair market value equal to or greater than the relinquished property value and the taxpayer must use all of his equity to acquire the replacement property. To the extent the taxpayer receives money or other property, he will have "recognized gain." This is commonly called "boot."
2. Examples of "boot netting" rules
In the examples, "T" stands for "taxpayer" selling the relinquished property and replacing it with replacement property within the 180 day replacement period in I.R.C. Sec. 1031.
(a) Rule 1: Cash received on disposition of relinquished property is offset by cash paid on acquisition of replacement property.
Example 1: T transfers relinquished property with fair market value of $100,000.00 and acquires replacement property with a fair market value of $100,000.00. All cash is used to acquire the replacement property. There is no boot and T fully defers his gain.
(b) Rule 2: Debt relief on the disposition of relinquished property is offset by cash paid on the acquisition of replacement property.
Example 2: T transfers relinquished property with a fair market value of $100,000.00 and acquires replacement property with a fair market value of $100,000.00. T is relieved of a $30,000.00 liability on T’s relinquished property. T acquires replacement property with $70,000.00 cash and adds an additional $30,000.00. T does not assume a new liability on the acquisition of replacement property. T fully defers his gain. T does not receive boot.
(c) Rule 3: Debt relief on the disposition of relinquished property is offset by debt assumed on the acquisition of replacement property.
Example 3: T transfers relinquished property with a fair market value of $100,000.00 and acquires replacement property with a fair market value of $100,000.00. T is relieved of a $30,000.00 liability on his relinquished property. T acquires replacement property with $70,000.00 cash and assumes a $30,000.00 liability. T fully defers T’s gain. T does not receive boot.
(d) Rule 4: Cash received on the disposition of relinquished property is not offset by debt assumed on the acquisition of replacement property.
Example 4: T transfers relinquished property with a fair market value of $100,000.00 and acquires replacement property with a fair market value of $100,000.00. T is relieved of a $30,000.00 liability on T’s relinquished property. T assumes a $40,000.00 liability on the acquisition of replacement property. $60,000.00 cash is used for acquisition of replacement property, leaving T with $10,000.00 in cash from the relinquished property T did not use. T has recognized gain, or boot, in the amount of $10,000.00.
Form 1099-S - Real Estate Reporting Requirements
By Gary Morgan, CPA, Roberts and Morgan, CPAs
Did you know a form 1099-S is required if it involves any of the following sales?
1. Improved or unimproved land. Air space is included.
2. Permanent structures, including any residential, commercial or industrial building.
3. A condominium unit and its appurtenant common elements.
4. Planned unit developments.
5. Stock in a cooperative housing corporation.
Statewide Title, Inc. has 1099-S reporting for attorneys. Here is how it works:
(1) Fill out the 1099-S Real Estate Transaction form at closing.
(2) Submit a copy to Statewide Title, Inc. Statewide Title will be responsible for filing the information electronically with the IRS.
(3) Give a copy to the seller who will use the form for tax return preparation purposes.
(4) Retain a copy on file.
The Statewide Title 1099-S Real Estate Transaction forms and detailed instructions have been designed to simplify the process and can be ordered from Statewide Title, Inc.
Call (704) 637-1027 or (800) 821-5414. Ask for the 1099-S Servicing Department when ordering. Our marketing reps will be explaining our new 1099 service to you soon. If you have any questions about our 1099 services, please call.
Controlled Business Arrangements
As you may have heard, certain title insurers have established agency relationships with either lending institutions (usually state chartered banks) or real estate brokerage firms or both. Often, the agency is a wholly owned subsidiary of the lending institution or real estate brokerage firm. The title insurers setting up these arrangements hope to capture more business by doing this. They have told us that they (the title insurers) have told these lending institutions and real estate brokerage firms that there is not to be any coercion of either the borrower or your firm. You will see a borrower’s selection form from the lending institution or real estate brokerage firm. However, the borrower, with your guidance, can make the selection of his or her choice, whether on the pre-selected list or not. Ask for our "Borrower’s Title Insurance Selection Form (including change of prior selection)" sent to you previously.
By the way, we know that the title insurers setting up these arrangements are sincere about there being no coercion. They want to be careful and their agents should want to be careful. The reasons for this caution are best described in W. Copenhaver and P. Millen, Title Companies Prevail In Action Against Investors Title, 14 Real Property no. 1, p. 6 (NCBA Real Property Section Newsletter, November, 1992). This describes the evidence of consumer and attorney coercion where the court found violation of RESPA, coercion in violation of G.S. 75-1.1 and G.S. 75-17, and a violation of state kick back statutes in G.S. 58-27-5. The plaintiffs won in lower court and received $4.36 million in a settlement.
While revised RESPA regulations (see Sec. 3500.15) permit "Controlled Business Arrangements", Sec. 3500.15(b) states that such an arrangement does not violate RESPA provided that (1) there is written disclosure, (2) there is no required use and (3) the only thing of value is a return on ownership interest. G.S. 75-17 provides that no lender can require the use of a particular title insurer. There is enormous legal liability for violating these laws and, as noted above, aggrieved parties can collect substantial damages. We urge you to deal with the title agency of your choice as well as the title insurer of your choice. Don’t be fooled when a bank’s agency tells you that their agency writes for one of Statewide’s title insurers. That may be true, but it is Statewide’s underwriting counsel and service that you and your clients are entitled to prefer. We are reviewing additional RESPA regulations becoming effective October 7, 1996 regarding the revised controlled business disclosure requirements. We will keep you informed.
Federal Tax Liens - After Acquired Real Property
By Ed Urban, Vice President and Corporate Counsel
I.R.C. Section 6323 provides that a federal tax lien shall not be valid as against a judgment lien creditor until notice of the federal tax lien is filed in the state clerk of superior court's office in the county where the real property is located. However, there is an exception. Where notice of the federal tax lien and a competing judgment lien simultaneously attach to after acquired real property of the tax payer, the federal tax lien prevails. United States v. McDermott, 113 S. Ct. 1526, 123 L. Ed. 2d 128 (1993).