Tuesday, September 11, 2012

Bob DeGeorge Associates, Inc., et al., v. Hawthorn Bank[1]

Opinion handed down September 11, 2012

In June 2008, Blue Springs Xtreme Powersports purchased property using loan funds obtained from Hawthorn Bank; as security for the loan, Hawthorn Bank took a purchase-money deed of trust on the property, but failed to record it until November 2008.[2]  Prior to recording the deed, Xtreme Powersports hired two contractors, DeGeorge and KSD Christian, to make improvements on the property.  After Xtreme failed to pay the contractors several months later, the contractors filed a mechanic’s lien against Xtreme’s property.[3]  Although Hawthorn Bank’s deed of trust was not recorded at the time the contractor’s began making improvements on the property, Hawthorn Bank claimed its deed had priority over the contractors’ mechanic’s liens.  The Supreme Court of Missouri looked to well-established statutory and case law regarding priority interests between mechanic’s liens and deeds of trust on the same property.[4]  Ultimately, the Court held that the contractors’ mechanic’s liens had superior priority because Hawthorn’s deed of trust was unrecorded at the time the contractors’ liens “attached” to the property, which was consistent with traditional Missouri law on the subject.[5] 

I.  Facts & Holding

On June 4, 2008, Blue Springs Xtreme Powersports (“Xtreme”) purchased a building and three tracts of land.[6]  To finance the purchase of the property, Xtreme obtained a loan from Hawthorn Bank, which Hawthorn Bank secured by taking a purchase-money deed of trust on the property.[7]  However, Hawthorn Bank failed to record the deed of trust at the time of Xtreme’s purchase of the property.[8] 

Prior to its purchase of the property, Xtreme entered into a contractual agreement with DeGeorge, a general contractor, to remodel the building located on the property.[9]  Several days later, on June 8, 2008, DeGeorge began work on the structure, and his subcontractor, KD Christian, began work several weeks later.[10]  Both DeGeorge and KD Christian completed work on the project pursuant to the contract with Xtreme; however, Xtreme failed to pay DeGeorge for the remodel and, as a result, DeGeorge was unable to pay the money it owed to KD Christian.[11]

Because of Xtreme’s non-payment, DeGeorge filed a mechanic’s lien against the property on November 18, 2008. [12]  The next day, on November 19, 2008, Hawthorn Bank recorded its purchase-money deed of trust.[13]  Several months later, KD Christian also filed a mechanic’s lien against Xtreme’s property.[14] 

DeGeorge subsequently brought an action against Xtreme in order to foreclose on its mechanics lien, and KD Christian intervened to do the same.[15]  DeGeorge and KD Christian then brought claims against Hawthorn Bank in an attempt to enforce their mechanic’s liens by establishing priority of their liens over Hawthorn’s purchase-money deed of trust on the property.[16]  In January 2010, DeGeorge filed a motion for summary judgment against Hawthorn Bank and, in response; Hawthorn Bank filed motions for summary judgment against DeGeorge and KD Christian, claiming the superiority of its purchase-money deed of trust against their mechanic’s liens.[17]  Ultimately, the trial court found that DeGeorge’s mechanic’s lien was superior and granted its motion for summary judgment and denied Hawthorn Bank’s motions for summary judgment against DeGeorge and KD Christian.[18]  Furthermore, the court concluded that DeGeorge and KD Christian were entitled to enforce and foreclose on their liens.[19] Hawthorn Bank appealed the decision, and after an opinion by the Court of Appeals, the Supreme Court of Missouri granted transfer pursuant to Mo. Const. art. V., sec. 10..[20]

In its opinion, the Supreme Court of Missouri stated that competing priorities of a mechanic’s lien and a purchase-money deed of trust are administered by operation of Missouri’s recording statutes and the statutory rules of priority for mechanics liens enumerated in sections 442.380 and 442.400.[21]  The Court noted that Hawthorn Bank’s purchase-money security deed of trust was an instrument covered by section 442.380 and the consequences of failing to record such an instrument, articulated in secetion 442.400, governed.[22]  The practical effect of section 442.400 postpones the effectiveness of an unrecorded instrument against a third-party who does not have knowledge of the instrument.[23]  Accordingly, an unrecorded purchase-money deed of trust will be invalid against third parties who do not have actual notice of the deed.[24]

The Supreme Court of Missouri also highlighted the relevant provisions of Missouri statutes that govern the priority of a mechanic’s lien against other encumbrances on real property.[25]  The Court noted that the “first-spade rule” under section 429.060, which gives a mechanic’s lien “relation-back” priority to the date when work first commenced, applied to DeGeorge’s lien on Xtreme’s property.[26]  Therefore, in order to determine which party had superior priority, the Court compared the priority rules applicable to Hawthorn Bank’s purchase-money deed of trust to the “first spade” rule applicable to DeGeorge’s and KD Christian’s mechanic’s liens.[27]

After analyzing the competing interests under the applicable rules , the Court concluded that DeGeorge’s and KD Christian’s mechanic’s liens were superior to Hawthorn Bank’s purchase-money deed of trust because Hawthorn failed to record its deed of trust until November 19, 2008, nearly 5 months after both DeGeorge and KD Christian had begun to commence work on Xtreme’s property.[28]  As a result, Hawthorn Bank’s purchase-money deed was ineffective against DeGeorge and KD Christian at the time there mechanic’s liens attached to the property because neither DeGeorge nor KD Christian had actual knowledge of Hawthorn’s purchase-money interest until it was recorded.[29]

However, Hawthorn Bank contended that its deed of trust should have been entitled to priority.[30]  Hawthorne claimed, according to the Supreme Court of Missouri’s holding in Westinghouse Electric Co. v. Vann Realty Co.[31] a purchase-money deed of trust will always be superior to mechanics’ liens, regardless of when the purchase-money deed was recorded.[32]  Hawthorn Bank highlighted specific language in the Westinghouse opinion in support of its argument, which stated “[m]echanic’s liens do not take precedence over a purchase money deed of trust . . .”[33]  The Court rejected Hawthorn’s argument because the result in Westinghouse was consistent with the  general application of the recording and mechanic’s lien statutes because, in Westinghouse, the purchase-money deed of trust was recorded before the contractor’s commencement of work on the property.[34] 

Furthermore, the Court determined that giving support to such a broad rule in favor of purchase-money deeds would “discourage prompt recording of liens on real estate after closing and would frustrate the purpose of the recording statues to provide a system of statutory priorities for encumbrances on real estate based on constructive notice of prior encumbrances.”[35]  As a result, the Supreme Court of Missouri overruled other cases that had cited Westinghouse as authority for holding that unrecorded purchase-money deeds of trust are entitled to priority over mechanics’ liens that arise after transfer of legal title.[36]

Ultimately, the Supreme Court of Missouri affirmed the trial court’s ruling and held that “the mechanics’ liens filed by DeGeorge and KD Christian are entitled to priority over Hawthorn Bank’s purchase-money deed of trust.”[37]

II.  Legal Background

Under Missouri law, the relative priority of a purchase-money deed of trust when compared to other encumbrances, such as a mechanic’s lien on property, is governed by Missouri’s recording statutes enumerated in sections 442.380 and 442.400.[38]  Section 442.380 states that “[e]very instrument in writing that conveys any real estate or whereby any real estate may be affected, in law or equity . . . shall be recorded in the office of the recorder of the county in which such real estate is situated.”  This provision provides a centralized depository for land-title information and “imparts notice to all persons and all subsequent purchasers” of prior conveyances and encumbrances that are recorded on the property.”[39]  For instruments covered by this provision, section 442.400 provides the consequences for failing to record the instrument with the appropriate recorder’s office, stating that “[N]o such instrument in writing shall be valid, except between the parties thereto, and such as have actual notice thereof, until the same shall be deposited with the recorder for record.” [40] 

Therefore, under sections 442.380 and 442.400, until an instrument is recorded, it will remain ineffective against a third party who does not have actual knowledge of the instrument’s existence.[41]  Accordingly, the Missouri legislature enacted the recording statues in order to protect persons who acquire an interest in real property without notice of prior encumbrances and to “establish[] a system of statutory priorities” for encumbrances affecting the real property.[42]

As a written instrument that affects real estate, a purchase-money deed of trust has historically fell under the requirements of the Missouri recording statutes.[43]  Traditionally, a deed of trust is a form of mortgage; however, to qualify as a purchase-money deed of trust, when the property is conveyed, the buyer must execute the deed in favor of the seller to secure the unpaid balance of the purchase price of the property.[44]  In contrast to a purchase-money deed of trust, mechanic’s liens are not governed by Missouri’s recording statutes because they arise by operation of statute.[45]

According to section 429.010, a mechanic’s lien arises after a person perform works on land, and the lien attaches to any building, erection, or improvement upon the land in order to secure payment from the owner of the land for the person’s completed work or labor.[46]  Once a mechanic’s lien arises under section 429.010, it must be properly filed with the appropriate county circuit clerk for it to be enforceable.[47]  However, unlike the requirements articulated in the Missouri recording statutes for instruments, the timing related to filing a mechanic’s lien is irrelevant for the purpose of determining “first-in-time” priority between competing encumbrances on real property.[48]  In fact, two statutory provisions govern the priority of a mechanic’s lien against other encumbrances on real property.[49]

For encumbrances on the land, the “first-spade rule,” stated in section 429.060, gives the mechanic’s lien relation-back priority to when work commenced on the land.[50]  Therefore, if a valid mechanic’s lien arises on the land when work begins, and the lien is filed with the county clerk at some point later in time, the lien will have priority over any third-party encumbrance attached after the date work began.[51]  In contrast, a mechanic’s lien may also attach to a structure and section 429.050 gives liens of this type priority over all other encumbrances.[52]  As a result, under these provisions, the priority of a mechanic’s lien will vary based on the type of property, i.e., a mechanic’s lien on land will be given relation-back priority under section 429.060, whereas a mechanic’s lien on a building, erection or improvement will be given complete priority under section 429.050.[53]

In the context of priority issues between purchase-money deeds of trust and mechanic’s liens, the Restatement exception will apply if a mechanic’s lien attaches, i.e., work is commenced, on a buyer-mortgagor’s property prior to the buyer acquiring “legal title” to the land.[54]  In that scenario, Missouri courts have held that the mechanic’s lien only attaches to “equitable title” in the property, as opposed to “legal title,” because the lien cannot attach to a greater interest than that held by the buyer.[55]  As a result, the purchase-money deed of trust is superior to the mechanic’s lien, even though the purchase-money deed of trust attached after the commencement of work on the property and was unrecorded at that time.[56]

In Missouri, given that complete priority is granted to mechanic’s liens attached to structures, erections or improvements, priority controversies have traditionally arisen between deeds of trust and mechanics’ liens that are attached to the same land.[57]  As a result, the determination of priority between these two encumbrances has required the application of the recording statutes for deeds of trust and the “first-spade” rule for mechanic’s liens.[58]  According to the majority of established Missouri case law, these rules apply to provide that a deed of trust recorded after the commencement of work on the land is inferior to any mechanic’s liens arising on the land from that work.[59]  Therefore, in such a situation, a mechanic’s lien will have priority.[60] 

However, Missouri courts have applied a narrow exception to the recording statutes governing deeds of trust in situations where the buyer-mortgagor subjects the relevant property to an encumbrance prior to receiving title to the property under a contract of sale that is financed by a purchase-money mortgage.[61]  Under this circumstance, courts have applied section 7.2(b) of the Restatement (Third) of Property (Mortgages) or the “common legal learning” exception.[62]  The exception has been imposed to protect the purchase-money mortgage from preexisting liens or claims against the mortgagor/buyer that attach simultaneously to the newly acquired real estate and would otherwise be entitled to priority.[63]
IV.  Comment

The Supreme Court of Missouri’s decision in DeGeorge was consistent with the Missouri recording and mechanic’s lien statutes, as well as established case law regarding priority interests between mechanic’s lien and unrecorded purchase-money deeds.

When analyzing the merits of Hawthorn Bank’s priority claim, the Court correctly noted that the Missouri recording statue, section 442.400, explicitly states those instruments like purchase money deeds are not valid against third party liens on the same property until they are recorded.  As to DeGeorge and KD Christian’s priority argument, the Court properly looked to the explicit language of Missouri’s mechanic’s lien statute and “first-spade” rule.  Additionally, the Supreme Court of Missouri noted that prior decisions have traditionally held that a mechanic’s lien that attaches to a debtor’s property will take priority over a creditor’s purchase-money deed of trust on the same property, if the creditor fails to properly record the deed before the mechanic’s lien attaches.  Therefore, the Court appropriately concluded that DeGeorge and KD Christian, as contractors, were entitled to priority under both Missouri statutory and common law. 

Furthermore, the Supreme Court of Missouri properly rejected Hawthorn Bank’s argument that purchase-money deeds of trust should be given priority over all other prior mechanic’s liens on a property, regardless if the deed is recorded or not.[64]  Hawthorne’s misguided argument was based on the broad language of the Supreme Court of Missouri‘s1977 holding in Westinghouse Electric Co. v. Vann Realty Co..[65]  Despite this generous language, the DeGeorge court correctly recognized that a strict application of that broad statement would be contrary to well-established law and inconsistent with the plain language of the Missouri recording statutes.[66]  The Court also noted the facts of Westinghouse were incompatible with the facts in DeGeorge because in Westinghouse the purchase-money deed found to have priority was recorded prior to commencement of work by the general contractor, and thus, was consistent with the general application of Missouri’s recording statute. 

Ultimately, the Court’s holding was straight cash-money.  

-  Haden Crumpton

[1]  No. SC91897 (Mo. Sept. 11, 2012) (en banc), available at http://www.courts.mo.gov/file.jsp?id=56681. The West reporter citation is Bob DeGeorge Assoc., Inc. v. Hawthorn Bank, 377 S.W.3d 592 (Mo. 2012) (en banc).
[2]  Id. at 1.
[3]  See id. at 7.
[4]  See id. at 10.
[5]  See id. at 12. 
[6]  Id. at 2
[7]  Id.
[8]  Id.
[9]  Id. at 2. 
[10]  Id.
[11]  Id.
[12]  Id. at 3.
[13]  Id.
[14]  Id.
[15]  Id.
[16]  Id.
[17]  Id.
[18]  Id.
[19]  Id. at 3-4. 
[20]  Id. at 4. 
[21]  Id.
[22]  Id.
[23]  Id. at 5; see also Godwin v. Gerling, 239 S.W.2d 352, 360 (Mo. 1951). 
[24]  DeGeorge, No. SC91897, slip op. at 6.  
[25]  Id. at 7.
[26]  See id. at 8.
[27]  See id.
[28]  See id. at 9-10.  
[29]  See id. at 10. 
[30]  See id.
[31]  568 S.W.2d 777 (Mo. banc 1978).
[32]  DeGeorge, No. SC91897, slip op. at 10.  
[33]  Id. (quoting Westinghouse Electric Co. v. Vann Realty Co., 568 S.W.2d 777, 781 (Mo. banc 1978)).
[34]  Id. at 11.
[35]  Id. at 16.
[36]  Id.
[37]  Id.
[38]  See id. at 5.
[39]  Id.; see also Godwin v. Gerling, 239 S.W.2d 352, 360 (Mo. 1951).
[40]  DeGeorge, No. SC91897, slip op. at 5. 
[41]  Id. at 5-6; see also Smith v. Equitable Life Assur. Soc. of U.S., 448 S.W.2d 588, 594-95 (Mo. 1970).
[42] DeGeorge, No. SC91897, slip op. at 6; see also Dreckshage v. Cmty. Fed. Sav. & Loan Ass’n, 555 S.W.2d 314, 319 (Mo. banc 1977).
[43]  DeGeorge, No. SC91897, slip op. at 6.
[44]  Id.
[45]  Id.
[46]  Id. at 7 
[47]  See § 429.080, RSMo Supp. 2011; see also Sears, Roebuck & Co. v. Seven Palms Motor Inn, Inc., 530 S.W.2d 695, 698 (Mo. banc 1975).
[48]  See DeGeorge, No. SC91897, slip op. at 7.
[49]  Id. at 8. 
[50]  Id.
[51]  See id.
[52]  See id. 
[53]  Id.
[54]  See id.
[55]  Russell v. Grant, 26 S.W. 958, 961 (Mo. 1894).
[56]  Schroeter Bros. Hardware Co. v. Croatian “Sokol” Gymnastic Ass’n, 58 S.W.3d 995, 1007 (Mo. 1932).
[57]  DeGeorge, No. SC91897, slip op. at 9. 
[58]  Id. 
[59]  Id.; see also H.B. Deal Const. Co. v. Labor Disc. Center, Inc., 418 S.W.2d 940, 952 (Mo. 1967); Riverside Lumber Co. v. Schafer, 158 S.W. 340, 342-43 (Mo. 1913); Dave Kolb Grading, Inc. v. Lieberman Corp, 837 S.W.2d 924, 934 (Mo. App. 1992)
[60]  See DeGeorge., No. SC91897, slip op. at 12. 
[61]  See id.
[62]  See id. at 12-13. 
[63]  Id. at 13. 
[64] See id.
[65] See Westinghouse, 568 S.W.2d at 781 (Mo. banc 1977). 
[66] See DeGeorge, No. SC91897, slip op. at 11.