Federal Appeals Court Upholds Equitable Mortgage Doctrine In Georgia Case

(revised 8-8-07)

In an opinion issued about two weeks ago, the U.S. Court of Appeals for the Eleventh Circuit affirmed lower court rulings that the contemporaneous execution of a warranty deed to a tract of land and a contract giving the grantee an option to purchase the land within a time certain was not a true sale, but rather, it created a mortgage in which the grantor-seller remained as the true owner of the property and the grantee-buyer was treated as a mortgage lender.
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Christopher v. Cox (In re Cox)

493 F.3d 1336

(11th Cir. 2007)

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The following is a summary of the facts of the case. (Like most equitable mortgage cases, the case is relatively "fact heavy").

1) The subject property involved was a ranch that was co-owned (50-50) by two owners, Banks and Cox.

2) Cox decided to buy out Banks' 50% interest pursuant to the terms of a previously executed buy-sell agreement for $875,000 ($350,000 to be applied to Banks' share of an existing $700,000 mortgage encumbering the ranch, plus $525,000 for Banks' equity in the ranch).

3) An attempt by Cox to obtain the necessary financing of over $1.2 million ($700,000 payoff of the entire existing mortgage, plus Banks' equity ($525,000) resulted in local bank agreeing to lend the money provided Cox could get someone to guarantee the loan that was acceptable to the bank.

4) Cox turned to Christopher, Cox' insurance agent and a long-time friend who just also happened to be an experienced real estate investor, to guarantee the loan.

5) The bank then changed its mind about the deal and instead, stated that if it were to make the loan, it would have to be to Christopher, alone.

6) Christopher wanted to help Cox, but was not about to sign a $1.225 million loan on behalf of his friend.

7) Instead, Christopher came up with the following arrangement, to which all parties agree:

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(a) Christopher arranged with the existing mortgage lender to assume the existing mortgage ($700,000), (b) Christopher agreed to provide the cash necessary to buy out Banks ($525,000), (c) Christopher received a a warranty deed executed by Cox, as grantor, in favor of Christopher, as grantee, and (d) Christopher and Cox executed an option contract.

8) The contract gave Cox the option to purchase the property within 365 days. According to the contract (as stated in the case):

• "The purchase price would amount to the sum of the following, with interest at the rate of 9.25% per annum: the costs Christopher incurred in connection with the February 16 closing; the amount he paid to Banks; his mortgage payments to AgSouth; any expenditures he may have made to maintain the Ranch; and a $ 100,000 "kicker." Unless Cox exercised the option, however, he would owe Christopher nothing."

9) At the time Cox was considering to buy out Banks, the property was being appraised at $2,445,700.
10) The court described what happened after the buyout transaction closed as follows:

• "Christopher did not take possession of the Ranch after the closing. Instead, Cox continued to reside there rent-free, paid the property taxes, and kept the property insured. And Cox immediately set about the task of finding a purchaser for the Ranch -- at a price sufficient to adequately compensate him for his equity in the farm and cover what Christopher would be due under the option contract. Several residential developers expressed an interest in the property; some extended offers to purchase it. The offers came to naught, however. On March 5, 2001, after two extensions, Cox's option to purchase the property expired."

11) Over the next couple of months, Christopher engaged the services of a real estate agent, who found two potential buyers for the ranch; meanwhile, Cox filed for Chapter 11 bankruptcy protection.

12) Cox filed an adversary proceeding against Christopher in which he (Cox), in effect, asserted that he was the true owner of the ranch and that the transaction with Christopher did not convey any title to Christopher, but rather, was a mortgage.

13) Prior to a bench trial, the Bankruptcy Court ordered the ranch sold, and ultimately, was sold at auction for $ 2.8 million. According to the court:

• "The proceeds of the sale were used to (1) satisfy the balance due on the [existing mortgage], (2) reimburse Christopher for the monies he had paid [the mortgage lender] and Banks, and (3) pay Christopher the $ 100,000 "kicker," interest (at 9.25% per annum) on the funds he had advanced, and his attorney's fees."

14) The question at the bench trial was who was entitled to the balance of the $2.8 million proceeds on the sale of the ranch. The answer turned on whether the transaction was a true sale to Christopher, or whether the deal was nothing more than an equitable mortgage, in which case Cox would have been deemed the true owner of the ranch and, accordingly, entitled to the balance of the $2.8 million.

15) After the bench trial, the bankruptcy judge ruled that, according to Georgia law, the transaction was a mortgage, making Cox the true owner of the ranch, and therefore, the true owner of the balance of the proceeds.

16) On initial appeal, the U.S. District Court affirmed the Bankruptcy Court decision. The 11th Circuit Court of Appeals subsequently affirmed the decisions of the lower courts.

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In asserting his position that the transaction was not an equitable mortgage, but rather, a true sale, Christopher based his assertion, in large part, on the fact that there was no debtor-creditor relationship between him and his long-time friend Cox. The court's analysis of the applicable law is reflected in the following excerpts from the 11th Circuit's decision (bold text is my emphasis).

I) "Georgia law has long recognized that the determinative factor in distinguishing a mortgage from an absolute conveyance is the intent of the parties. See Monroe v. Foster, 49 Ga. 514, 519 (Ga. 1873) ("If . . . it appear that the loan of money and security for its repayment was, in truth, the purpose and intent of the parties, it will be treated as such, notwithstanding very strong language may be used at the time to give it a different appearance."); see also Restatement (Third) of Prop.: Mortgages § 3.2 (1997). The intent of the parties in a given scenario is a question of fact. Spence, 49 Ga. at 139 ("The question of intention is one of fact, to be decided from all the circumstances.")."

II) "Christopher contends that, under Georgia law, a transaction cannot be deemed a mortgage unless it creates a creditor-debtor relationship between the parties -- that absent a right to recourse by the purported lender against the purported debtor, the conveyance is what it is on its face, a conditional sale. Historically, the explicit creation of a creditor-debtor relationship, while an important factor to be considered, has not been dispositive. See Conway's Ex'rs and Devisees, 11 U.S. (7 Cranch) at 237."

III) "Christopher argues that the Georgia Supreme Court identified the explicit creation of such a relationship as a requirement for a conveyance to be construed as a mortgage in Haire v. Cook, 237 Ga. 639, 229 S.E.2d 436 (Ga. 1976), and Tingle v. Tingle, 227 Ga. 97, 179 S.E.2d 51 (Ga. 1971)."

IV) "It is true that both Haire, and Tingle place great weight on the purported lender's lack of recourse against the purported debtor, and both cases contain language that supports Christopher's contention."

See Haire, 229 S. E. 2d at 439 ("[T]here is no evidence that the grantee had the right to demand repayment and no evidence that either plaintiff agreed to be obligated to repay the debt. . . . Thus the deed cannot be considered to be a mortgage.");

Tingle, 179 S. E. 2d at 55 ("For a security transaction to exist there must be the relationship of debtor and creditor.")

V) "We agree, however, with the distinctions pointed out by the district court in affirming the bankruptcy court's decision. In neither Tingle nor Haire did the supreme court fully consider all the circumstances surrounding the transaction, as required by Spence. Instead, both courts looked only to the face of the conveyances and finding no indication of an intent to create a mortgage there, the courts concluded that the transactions in question were sales."

VI) "Also, in both Haire and Tingle, there was not, as there is here, a great disparity between the consideration paid for the property and the property's value."

VII) "As the bankruptcy court noted, "reliance on [a recourse obligation] as a defining element of a loan transaction overlooks the fact that numerous secured real estate loan transactions are nonrecourse loans[.]" Express creation of a recourse obligation -- or the absence thereof -- is undoubtedly an important factor to consider, but it cannot not the determinative factor. Instead, a court must look at the intent of the parties in light of all the circumstances surrounding the transaction. Spence, 49 Ga. at 139."

VIII) "We conclude that the bankruptcy court properly held, and the district court properly affirmed, that parties may create a mortgage although the instruments they use suggest that a conveyance of title rather than the creation of a lien."

"A lien may be created even when there is no provision for the payment of the debt. Having reached this conclusion, we now consider whether the bankruptcy court clearly erred in finding that Christopher and Cox intended a mortgage."

IX) "Whether Cox and Christopher intended to create a mortgage is a question of fact. Spence v. Steadman, 49 Ga. 133, 139 (Ga. 1873). In finding that they intended the transaction to create a mortgage, the bankruptcy court relied on numerous subsidiary facts established at the adversarial hearing. Perhaps the most powerful among these was the value of the Cox tract at the time of the February 16, 2000 closing as compared to the value of the consideration paid by Christopher. At the closing, Christopher received title -- subject to Cox's repurchase option -- to a tract that had been valued three months earlier at nearly $ 2.5 million. Christopher assumed the outstanding AgSouth mortgage, which had an unpaid principal balance of around $ 700,000, and paid Banks $ 500,000 for Banks's share of the property's equity. Christopher did not make any payment to Cox for his share of that equity. In other words, Christopher received title to the Cox tract in exchange for consideration equal to about half the property's value: $ 1.2 versus $ 2.5 million."

X) "A gross disparity between the sale price and the actual value of the land is evidence of the parties' intent to create a security interest -- a mortgage -- rather than a sale. See Russell v. Southard, 53 U.S. (12 How.) 139, 147-48, 13 L. Ed. 927 (1851) (holding that extraneous evidence is admissible to inform courts of all material facts surrounding the delivery of the deed, and concluding that "it is of great importance to inquire whether the consideration was adequate to induce a sale"); Conway's Ex'rs and Devisees, 11 U.S. at 241 ("A conditional sale . . . at a price bearing no proportion to the value of the property would bring suspicion on the whole transaction. The excessive inadequacy of price would, in itself, in the opinion of some of the judges, furnish irresistible proof that a sale could not have been intended."); Monroe v. Foster, 49 Ga. 514, 519 (Ga. 1873).

XI) "In Russell, for example, the Supreme Court found that the consideration paid as part of the absolute deed transaction -- less than $ 5,000 for land valued at several thousand dollars more -- was "grossly inadequate" in that "there was no real proportion between the alleged price and the value of the property said to have been sold." Russell, 53 U.S. at 149. Similarly, in this case the consideration paid for the Ranch -- scarcely half its actual value -- was grossly inadequate, indicating that a sale was not really intended."

XII) "The absence of proportionality between the property's value and the consideration Christopher paid is not the only factor the bankruptcy court relied on to find that the parties intended to create a mortgage."

XIII) "The court also noted that Christopher and Cox did not negotiate the value of the property. The
price was set by the amount Cox required under his buy-sell agreement with Banks. Christopher paid the exact amount Cox needed to avoid being compelled to sell the Ranch. The absence of negotiations, coupled with the congruence between the price paid and the amount Cox needed to remain on the Ranch, indicate that Christopher intended the money he provided as a loan to Cox and not as the purchase price for the tract."

XIV) "Likewise, the terms of the repurchase option indicate that the parties intended the transaction to create a mortgage. To exercise his option to re-purchase the tract, Cox had to pay Christopher a $ 100,000 "kicker" and interest at 9.25% on Christopher's total initial outlay. These terms, in the bankruptcy court's view, indicated that Christopher viewed the transaction as an investment opportunity -- a loan."

XV) "In its order affirming the bankruptcy court's decision, the district court noted an additional factor supporting the finding that Christopher and Cox intended to create a mortgage. Following the closing, Cox continued to occupy the Ranch -- and pay the real estate taxes and the insurance premiums on the policies covering the property -- without paying Christopher any rent. Thus, Christopher and Cox continued to act as though Cox owned the property."

XVI) "In light of the foregoing facts, the bankruptcy court's finding that Christopher and Cox intended to create a mortgage was not clearly erroneous. The district court's decision upholding the bankruptcy court's determination is therefore AFFIRMED."

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One point to highlight in this case is the fact that the court ruled that, under Georgia law, the debtor-creditor relationship that is required to exist when establishing the existence of an equitable mortgage need not be explicit. The debtor-creditor relationship can be found to exist by implication, provided that all the surrounding facts and circumstances so imply. Further, the decision also affirmed the lower court rulings that there need not be any personal liability on the debt on the part of the property owner asserting the equitable mortgage doctrine in establishing the existence of an equitable mortgage.

This is a key point for those who represent homeowners who find themselves entangled in foreclosure rescue, sale leaseback transactions, where there typically is (a) no formal evidence of indebtedness explicitly creating a debtor-creditor relationship, and (b) no personal liability on the part of the homeowner.

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Christopher v. Cox (in re Cox) Case #04-15891, (11th Cir., July 27, 2007); affirming Christopher v. Cox (in re Cox), Case #1:04-CV-1189-RWS, (N.D. Ga. 2004)

The District Court order above has a more detailed analysis than the 11th Circuit decision of the following case law that was applied in this case:

• the U.S. Supreme Court decisions in Conway’s Executors and Devisees v. Alexander, 11 U.S. 218, 3 L. Ed. 321 (1812) and Russell v. Southard, 53 U.S. 139, 13 L. Ed. 927 (1851); and
• the Georgia Supreme Court decisions in Spence v. Steadman, 49 Ga. 133 (1873), Tingle v. Tingle, 227 Ga. 97 (1970), and Haire v. Cook, 237 Ga. 639 (1976).

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Other cases (not intended to be an all-inclusive list) that support the proposition that the debtor-creditor relationship required in establishing an equitable mortgage need not be explicit and may be implied are:

• Alabama - Mobile Bldg. & Loan Asso. v. Robertson, 65 Ala. 382; (Al. 1880)
• Arizona - Merryweather v. Pendleton, 91 Ariz. 334; 372 P.2d 335; (Az. 1962)
• Florida - Bermil Corp. v. Sawyer, 353 So. 2d 579 (Fla. App. Ct. 3d Dist. 1978)
• Florida - Oregrund Ltd. P'ship v. Sheive, 873 So. 2d 451 (Fla. App. Ct. 5th Dist. 2004)
• Hawaii - Kawauchi v. Tabata, 49 Haw. 160, 413 P.2d 221, 231 (Haw. 1966)
• Illinois - Robinson v. Builders Supply & Lumber Co., 223 Ill. App. 3d 1007, 586 N.E.2d 316 (Ill. App. Ct. 1st Dist. 1991)
• Maryland - Bailey v. Poe, 142 Md. 57, 120 A. 242 (Md. 1923)
• Massachusetts - Campbell v. Dearborn, 109 Mass. 130, (Ma. 1872)
• Nevada - Robinson v. Durston, 83 Nev. 337, 432 P.2d 75 (Nv. 1967)
• South Dakota - Myers v. Eich, 2006 SD 69; 720 N.W.2d 76; (S.D. 2006)
• Utah - Kjar v. Brimley, 27 Utah 2d 411, 497 P.2d 23 (Ut. 1972)
• Virginia - Tuggle v. Berkeley, 101 Va. 83, 43 S.E. 199 (Va. 1903)
• Washington, D.C. - Browner v. Dist. of Columbia, 549 A.2d 1107 (D.C. 1988)
• Washington State - Beverly v. Davis, 79 Wash. 537, 140 Pac. 696 (Wa. 1914)
• Wisconsin - Rockwell v. Humphrey, 57 Wis. 410, 15 N.W. 394 (Wi. 1883)

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Postscript for Those In Foreclosure Rescue Litigation in Alabama and Florida Federal Courts

While Christopher v. Cox involved the application of the Georgia equitable mortgage doctrine, the 11th Circuit's partial reliance on the U.S. Supreme Court decisions in Conway’s Executors and Devisees v. Alexander (1812) and Russell v. Southard (1851) may be an indication that those decisions may carry weight in litigating foreclosure rescue cases in the lower Federal courts (Bankruptcy and District Courts) in Florida and Alabama, appeals from which also go to the 11th Circuit. Georgia equitable mortgage epsilon