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Comfort for Refinancing Mortgage Lenders

New Jersey Appellate Court Upholds Priority of Mortgage Lien Where Lender Fails to Discover an Intervening Judgment Lien Pursuant to the Doctrine of Equitable Subrogation

Real Estate and Finance News Alert | December 13, 2012
By: Meredith A. Bieber

Mortgage lenders refinancing existing mortgage loans in New Jersey should take comfort with respect to intervening judgment liens that they negligently fail to discover as a result of an opinion recently issued by the Superior Court of New Jersey, Appellate Division.  In Investors Savings Bank v. Keybank National Association and Denis Kelliher[1], the court addressed a situation in which a mortgage lender which had refinanced an existing mortgage loan negligently failed to discover an intervening judgment lien.  After the intervening judgment creditor informed the mortgage lender of its recorded judgment having priority over the lender’s mortgage, the mortgage lender brought an action seeking a declaration that, under the doctrine of equitable subrogation, its mortgage was entitled to priority over the intervening judgment lien.  The Superior Court, Appellate Division, affirmed the trial court’s decision that, under the doctrine of equitable subrogation, the intervening judgment lien was “deemed subordinated” to the refinancing lender’s mortgage.

Keybank National Association, the intervening judgment creditor, had made a business loan to defendant Denis Kelliher, who had engaged in fraudulent activity to obtain the loan.[2] Keybank subsequently brought suit against Kelliher and obtained a judgment in its favor in the amount of $27,457,874. The judgment was recorded on September 30, 2008.

Prior to the entry of the judgment, 1st Constitution Bank made a construction loan in the amount of $1,338,750 to Kelliher, which loan was secured by a mortgage on Kelliher’s home in Toms River, New Jersey. The mortgage was recorded on January 23, 2008.  During the summer of 2008, Kelliher submitted an application to refinance the 1st Constitution Bank loan with Investors Mortgage Company, the predecessor to the plaintiff, Investors Savings Bank (ISB). Kelliher lied on his application, stating that he was not currently in default of any loan, mortgage or financial obligation, nor was he party to any lawsuit. ISB’s title agent, Quality Closing Services, ran a title search on August 1, 2008. The Keybank judgment had not yet been recorded and the search revealed no judgments against Kelliher.  The ISB loan, which was secured by a mortgage on the Tom’s River property, and the proceeds of which were used to pay off the 1st Constitution Bank loan, closed on October 3, 2008. No rundown search of title was conducted prior to closing. The ISB mortgage was recorded on October 21, 2008.

Two months later, Keybank notified ISB of its recorded judgment and claimed priority over the ISB Mortgage. ISB subsequently brought an action seeking a declaration that, under the doctrine of equitable subrogation, its mortgage was entitled to priority over the Keybank judgment.  The trial court concluded that ISB’s mortgage was entitled to priority over the previously recorded Keybank judgment stating that “ . . . Had this loan not taken place [Keybank] would not have been in any better or worse off position at that point in time. There was a first mortgage there, . . . that mortgage that was paid off would still have been there at that point in time, and this $27 million judgment would have been behind it.”  The Superior Court affirmed, stating that “Under the doctrine of equitable subrogation, a mortgagee who negligently accepts a mortgage without knowledge of intervening encumbrances will subrogate to a first mortgagee with priority over the intervening encumbrances to the extent that the proceeds of the new mortgage are used to satisfy the old mortgage” (but note that the doctrine will not apply if the lender had actual knowledge of the intervening lien)  and that “This result is reached so that the holders of the intervening encumbrances not be unjustly enriched at the expense of the new mortgagee.” Keybank argued on appeal that the trial court should not have concluded that its lien should not have been subordinated to the ISB mortgage because ISB was “grossly” negligent, and not merely negligent, in failing to discover the Keybank judgment, however, the Superior Court concluded that the degree of negligence involved was irrelevant.

Lenders must still perform their due diligence, including the necessary title searches prior to closing,  but there is comfort to be had in that even if a lender negligently fails to discover an intervening lien, its mortgage will have priority over an intervening lien to the extent the proceeds of the loan were used to pay off a prior mortgage.

For more information regarding this alert, please contact Meredith Bieber (215.864.6292 / bieberm@whiteandwilliams.com).


[1] (424 N.J.Super. 439, 38 A.3d 638, 2012 WL 762087 (N.J.Super.A.D.))

[2] Kelliher was convicted for various federal crimes as a result of this fraudulent activity.

This correspondence should not be construed as legal advice or legal opinion on any specific facts or circumstances. The contents are intended for general informational purposes only, and you are urged to consult a lawyer concerning your own situation and legal questions.
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