Legislature and Court Clarify Illinois Mortgage Law
On February 29 2012, in In re Crane,(1) the US Bankruptcy Court for the Central District of Illinois handed down a decision that surprised many in the Illinois real estate industry by holding that mortgages encumbering Illinois real estate that failed to state the interest rate and the maturity date, despite incorporating such terms by reference to a promissory note which defined such terms, failed to provide constructive notice and were thus avoidable as to the mortgagor's other creditors. In response to the bankruptcy court's decision, on December 5 2012, the Illinois legislature statutorily amended the applicable Illinois statute to confirm that, under Illinois law, a mortgage need not state the interest rate or the maturity date in order to provide effective constructive notice.
However, the US District Court for the Central District of Illinois has recently overturned the bankruptcy court's decision, providing real estate mortgage lenders with further certainty that a mortgage encumbering Illinois real estate need not explicitly state the interest rate and the maturity date on its face in order to provide constructive notice under Illinois law.
In re Crane
In 2009 Gary and Marsa Crane received two loans from a lender evidenced by two promissory notes and secured by two mortgages on real property located in Illinois. Each promissory note stated the interest, maturity date, named the Cranes as debtors and referenced the respective mortgage by date. The recorded mortgages named the Cranes as mortgagors and made references to the respective promissory note, but did not state the interest rate or the maturity date.
Subsequently, the Cranes filed for relief under the Bankruptcy Code, and the trustee sought to avoid the mortgages by arguing that the mortgages failed to provide proper constructive notice under Illinois law because the mortgages failed to state the interest rate and the maturity date, which violated the Illinois Conveyances Act. In response, the lender argued that the Conveyances Act suggested, but did not require, that mortgages include an interest rate and a maturity date to provide effective constructive notice.
Additionally, the lender argued that because the mortgages incorporated the promissory notes by reference, and the promissory notes included the interest rate and maturity date, the mortgages did include the interest rate and maturity date.The bankruptcy court held that in order to constitute effective constructive notice, the Conveyances Act requires a mortgage to state:
- the amount of the debt that it secures;
- the maturity date; and
- the interest rate.
Under the court's decision, the mortgages in the case failed to include such elements, failed to give constructive notice and, as a result, were avoidable. The court went on to state that federal law permits a bankruptcy trustee to avoid any transfer that a hypothetical bona fide purchaser could void, and therefore the trustee in the case was entitled to avoid the mortgages.
On appeal, the US District Court for the Central District of Illinois overturned the bankruptcy court's decision on February 28 2013. The district court found that, even before the amendment was made to it, the Conveyances Act permitted the interest rate and the maturity date to be incorporated by reference instead of requiring such terms to be specifically stated in the mortgage in order to constitute effective constructive notice.
Therefore, the district court held that "reading the mortgage instrument and the note in tandem, even if § 5/11 itself can read to require an interest rate and a maturity date, the Trustee may not avoid the mortgage because all the necessary terms were incorporated by reference to the promissory note".(2)
The Conveyances Act states that:"Mortgages of lands may be substantially in the following form: The Mortgagor (here insert name or names), mortgages and warrants to (here insert name or names of mortgagee or mortgagees), to secure the payment of (here recite the nature and amount of indebtedness, showing when due and the rate of interest, and whether secured by note or otherwise), the following described real estate (here insert description thereof), situated in the County of …, in the State of Illinois".(3)
The bankruptcy court in In re Crane construed the word 'may' as being mandatory – not permissive. In response to the bankruptcy court's decision, the Illinois legislature passed an amendment to the Conveyances Act to clarify that such provisions regarding the form of a mortgage "are, and have always been, permissive and not mandatory".(4)
The amendment further states that: "The failure of an otherwise lawfully executed and recorded mortgage to be in the form described in [such provision of the Act] in one or more respects, including the failure to state the interest rate or the maturity date, or both, shall not affect the validity or priority of the mortgage, nor shall its recordation be ineffective for notice purposes regardless of when the mortgage was recorded". (5) The statutory amendment was signed by the governor of Illinois on February 8 2013 and becomes effective as of June 1 2013.
(1) The Gifford State Bank v Jeffrey D Richardson, case 11-90592, US Dist Ct, CD IL, February 29 2012.
(2) The Gifford State Bank v Richardson, 12-CV-21146 (C D Ill).
(3) Illinois Conveyances Act, 765 ILCS Sec 5/11.