“IRS Lien Superior to Bank Deed of Trust with Error in Legal Description” by Frank C. Carnahan
KleinBank, Plaintiff, v. Raymond W. Haugland, 107 AFTR 2d 2011-XXXX (D.C. MN. 12/29/2010), decided by the Minnesota U.S. District Court, highlights the importance of proper documentation and proofing of legal descriptions. The Court awarded summary judgment to the Government on finding that KleinBank’s mortgage could not be summarily enforced at the time the Government filed its NFTLs in March 2009, because the mortgage legal description did not describe the entire parcel. Consequently, federal law required the Court to find that KleinBank’s mortgage with respect to Track L (the omitted track) was inchoate and that the Government’s liens therefore had priority.
KleinBank’s mortgage, recorded January 22, 2004, omitted an entire page of the legal description, and only encumbered Tract K, which was one half of the parcel, omitting Track L. There was no dispute that KleinBank’s mortgage was intended to secure the entire single contiguous parcel of lakefront property. The Warranty Deed and Contract for Deed both described the entire contiguous parcel, and the Aikin County Recorder properly indexed KleinBank’s mortgage and described the entire parcel. The Government recorded two Notices of Federal Tax Liens (“NFTLs”) in the office of the Aitkin County Recorder against the Hauglands on March 4 and 17, 2009.
The Court distinguished KleinBank from situations where questions of fact remained as to whether the error in the property description could be interpreted in only one way or whether the mortgage company could summarily enforce its rights without doing anything else, and used as an example another case where the correct description was “Northeast 1/4 of the Northeast 1/4,” but the mortgage at issue said the “Northeast 1/4 of the Northeast 14.”
KleinBank asserted it was entitled to have its mortgage reformed and declared senior to the Government’s liens because the Government had constructive notice of KleinBank’s mortgage when the tax liens were filed in March 2009. The Government asserted that its liens took priority over KleinBank’s incomplete mortgage under the doctrine of choateness.
The Court held that State law determines the nature and extent of a taxpayer’s interest in property, but federal law governs the relative priority accorded to the competing liens asserted against the property of the delinquent taxpayer.
Federal tax liens do not automatically have priority over all other liens, and absent provision to the contrary, priority for purposes of federal law is governed by the common-law principle that “the first in time is the first in right.” The Court also held that when a lien has become choate or perfected is a question of federal law.
KleinBank explained that under federal law, a mortgage is properly choate if it is specific as to: 1) the identity of the lienor; 2) the amount of the lien; and 3) the property subject to the lien. There was no dispute with respect to the first two elements. KleinBank contended that Minnesota real estate law puts the Government in the shoes of a hypothetical judgment lienholder who would have had constructive notice of KleinBank’s mortgage. KleinBank based this part of its argument on the “protected under local law” portion of 26U.S.C. §6323’s definition of “security interest”, and argued that the Government had constructive notice because its mortgage was correctly indexed with Aitkin County, which should have led the Government to discover the correct legal description.
The Government asserted that KleinBank’s mortgage was inchoate because there was something more to be done to the mortgage’s incorrect legal description before the lien could be enforced, KleinBank’s lawsuit itself showed that its mortgage could not be summarily enforced, and that whether KleinBank was entitled to have its mortgage reformed is separate from the priority of the Government’s tax liens because KleinBank’s mortgage was not perfected when the NFTLs were filed and any reformation would not relate back to the Government’s liens.