Corporate Restructuring and Bankruptcy Blog – 2014
Nevada is one of many states that adopted some iteration of the Uniform Common Interest Ownership Act, an act designed in part to aid homeowners’ associations (“HOAs”) in recovering delinquent fees from their members. As codified in Nevada under NRS Chapter 116, Nevada law affords HOAs a super-priority lien for nine months worth of unpaid fees and maintenance charges.
While an HOA lien arising after a lender’s deed of trust is recorded has priority over a first mortgage, courts in Nevada have been split as to whether this super-priority lien simply establishes a priority of payment, or whether foreclosure of an HOA lien can actually extinguish a lender’s statutorily subordinated deed of trust. Compare 7912 Limbwood Court Trust v. Wells Fargo Bank, N.A., 979 F.Supp.2d 1142 (D. Nev. 2013) (“[A] foreclosure sale on the HOA super-priority lien extinguishes all junior interests, including the first deed of trust.”) with Bayview Loan Servicing, LLC v. Alessi & Koenig, LLC, 962 F.Supp.2d 1222 (D. Nev. 2013) (“The super-priority amount [of an HOA lien] is senior to an earlier-recorded first mortgage upon its own foreclosure, but it is in parity with an earlier-recorded first mortgage with respect to extinguishment, i.e., the foreclosure of neither extinguishes the other.”).
In its recent decision in SFR Investments Pool I, LLC v. U.S. Bank, 334 P.3d 408 (Nev. 2014), the Nevada Supreme Court put the debate to rest, holding that foreclosure of an HOA super-priority lien does indeed extinguish a lender’s deed of trust.
In SFR Investments, a homeowner who was delinquent on his HOA dues defaulted on his mortgage. Prior to the default, the mortgagee recorded a first deed of trust on the property that secured a debt of nearly $900,000, and the HOA recorded a lien against the property for approximately $1,200. Both the lender and the HOA pursued nonjudicial foreclosure of their liens. Before the lender’s sale went forward, the HOA completed a foreclosure sale through which SFR Investments purchased the property for a mere $6,000. SFR Investments then filed a suit to enjoin the lender’s sale and to quiet title. The trial court dismissed the suit, reasoning that in the absence of a judicial foreclosure, a first deed of trust cannot be extinguished by foreclosure of a super-priority HOA lien. The Nevada Supreme Court reversed and vacated the trial court’s order denying a preliminary injunction.
In so doing, the Nevada Supreme Court found that the plain language of the uniform act “establishes a true priority lien” and, in accordance with the statutory language and general foreclosure principles, “its foreclosure will extinguish the first deed of trust.”
The court also determined that an HOA may pursue either judicial foreclosure, (i.e., a foreclosure accomplished through a court action), or nonjudicial foreclosure, (i.e., a foreclosure accomplished out of court generally through a trustee’s sale).
The majority overruled the lender’s due process challenge to the adequacy of the notice provisions applicable in the context of a nonjudicial foreclosure of an HOA lien, noting that the notice of default and sale requirements under NRS Chapter 116 only require notice to be given to lenders that notify the HOA of their security interest, and do not require the content of such notices to specify that a super-priority lien is involved or the amount of the lien. Notably, the Nevada Supreme Court did not reach the issue of whether the foreclosure sale could be voided as commercially unreasonable.
Many have characterized the central holding of SFR Investments — that an HOA lien foreclosure can extinguish a mortgage — as having potentially staggering consequences for the lending industry.
From the perspective of the Nevada Supreme Court, however, the fix is an easy one for lenders. Indeed, the Nevada court’s ruling only requires lenders to monitor HOA assessments and pay them where necessary to protect their security interests. Nonetheless, the decision could lead to a change in lending practices in Nevada (and other states that have similarly adopted the uniform act) and a tightening of the credit market as lenders adjust for additional risk to their security interests.