Whose shoes to use: achieving a subrogation footing in the wave of foreclosures.

• Author: Boyette, David L.
• Position: Cover story

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In the tidal wave of mortgage foreclosures filed in recent years, equitable subrogation has become a vitally important legal tool for mortgagees and other lienholders to protect their priority. The basic operation of subrogation is well described by the Restatement (Third) of Property in which it states that "one who fully performs an obligation of another, secured by a mortgage, becomes by subrogation the owner of the obligation and the mortgage to the extent necessary to prevent unjust enrichment." (1) Put another way, subrogation is an equitable remedy whereby, the new owner of the obligation and mortgage "steps into the shoes" of the previous mortgagee. The doctrine overrides the normal operation of the recording statutes.

This article aims to clarify Florida subrogation law in two areas where case law has recently revealed conflict:

1) the definition of "prejudice" to the junior lienor, and

2) the effect of knowledge of the intervening junior lien by the refinancing lender. In addition, this article will consider application of the doctrine in a double subrogation situation.

A Historical Review

On several occasions, the Florida Supreme Court has considered equitable subrogation in the context of a refinancing mortgage lender. Forman v. First National Bank of Quincy, 79 So. 742 (Fla. 1918), was the first Florida case to apply the doctrine in favor of a refinancing lender. Forman received a mortgage dated May 18, 1910, when he loaned $2,500 to the property owner for the purpose of paying off a first mortgage dated February 13, 1906, and two judgments from 1908. (2) The First National Bank of Quincy held an intervening mortgage dated January 12, 1909. (3) The court applied the doctrine of equitable subrogation in favor of Forman even though he had actual knowledge of the intervening mortgage held by First National Bank of Quincy. Just two years earlier in Boley v. Daniel, 72 So. 644 (Fla. 1916), the Florida Supreme Court had refused to apply subrogation in a similar situation and appeared to reject application of the doctrine for a refinancing mortgagee.

While Forman did not expressly overrule Boley, the acceptance of the doctrine by the Florida Supreme Court was made clear 15 years later in Federal Land Bank of Columbia v. Godwin, 145 So. 883 (Fla. 1933). In Godwin, Godwin gave a first mortgage on July 13, 1926, for $1,200 to First National Bank of Perry and a second mortgage on September 6, 1926, for $1,100 to Alderman. (4) Godwin later refinanced and satisfied the first mortgage, but not the second. Subrogation was allowed supported by the following analysis:

The doctrine of subrogation does not arise from statute or custom, but is peculiarly a creation of equity, grounded on the proposition of doing justice to the parties without regard to form. It rests on the maxim that no one shall be enriched by another's loss and may be invoked when and where justice demands its application. It has been greatly expanded in this country, may be employed to relieve from fraud or mistake, but is not allowed if it works any injustice to the rights of others. 25 R.C.L. Sec. 2. Bottomed on this premise, it follows that under our system of jurisprudence there is no limit to the circumstances that may arise in which this doctrine may be applied. (5)

Later in 1933, in Brannon v. Hills, 149 So. 556 (Fla. 1933), the Supreme Court expanded the doctrine to apply when the refinancing mortgage is defective or even void. The Brannon court noted that subrogation had been "greatly expanded in this country" and that Florida "has definitely aligned itself with the prevailing rule now generally obtaining in the United States to the effect that one who loans money on a defective mortgage for the purpose of discharging a prior valid mortgage on the same property, when it is made to appear that the money is to be used for that purpose, is ordinarily entitled to subrogation to the rights of the prior mortgage." (6)

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The Supreme Court applied subrogation for a refinancing lender that held a void mortgage in Palm Beach Sav. & Loan Ass'n v. Fishbein, 619 So. 2d 267 (Fla. 1993). In 1984, Fishbein acquired a house by assuming an existing mortgage and executing a purchase money second mortgage. (7) A year later, he and his wife signed a third mortgage in which the existence of the prior two mortgages was acknowledged. (8) In 1988, Fishbein forged his wife's signature on a fourth mortgage for $1.2 million and approximately $930,000 of the loan proceeds were used to pay off the prior three mortgages and taxes. (9) Palm Beach Savings, the refinancing lender, knew that Mr. and Mrs. Fishbein were engaged in dissolution proceedings, but permitted Mr. Fishbein to obtain his wife's signature outside of its presence. (10) In the foreclosure case, the former Mrs. Fishbein argued that Palm Beach Savings was negligent and that the forged mortgage could not be a lien against her homestead. The Supreme Court agreed with the lender's assertion that it was entitled to an equitable lien subrogated to the position of the prior mortgages noting that the former wife stood in no worse position and otherwise would have received a $930,000 windfall.

What Constitutes Prejudice to the Intervening Lienor--Differing Views

A fundamental premise supporting subrogation for a refinancing lender is that it is necessary to prevent unjust enrichment to an intervening junior mortgage holder and prevent a windfall. A logical corollary to preventing unjust enrichment to the intervening junior lienor is the limitation that equitable subrogation can only be applied to the extent the junior lienor is not prejudiced. Subrogation only applies "to the extent necessary to prevent unjust enrichment." (11) The Supreme Court in Godwin defined prejudice, which it called "injury," as when the intervening lienor is "in any worse position than if the prior lien had not been discharged." (12)

In basic terms, the courts have consistently held that the subrogee can only step into the shoes of the first mortgage holder to the extent of the amount of the payoff of the original mortgage or lien, plus interest, fees, and costs. To give a simple example, take the case of a second mortgage for $20,000, which was given knowing that it was inferior to a $100,000 first mortgage. Excluding interest, fees, and costs from the equation, the refinancing lender who loans $150,000 can only subrogate to the extent of $100,000 with the balance of $50,000 remaining a third lien. The new interest rate on the $100,000 subrogated amount cannot exceed that of the original interest rate. (13) As the Restatement explains, "if the payor demands a higher interest rate than prevailed under the original mortgage loan, the positions of intervening interest holders may be jeopardized, since the increased interest may result in the mortgage's having a higher balance at the time it is later foreclosed." (14) Judge Stone in a concurring opinion in Suntrust Bank v. Riverside National Bank of Florida, 792 So. 2d 1222 (Fla. 4th DCA 2001), noted that the subrogation amount presumably includes interest at the default rate of the initial mortgage, along with attorneys' fees and costs. Also, in Radison Properties v. Flamingo Groves, 767 So. 2d 587 (Fla. 4th DCA 2000), the court allowed interest to be added to the subrogation amount when loan proceeds were used to pay taxes and it was determined that the mortgage was invalid.

* The Approach of the First DCA in Defining Prejudice--In a recent case, the First DCA specifically discussed defining "prejudice" or "harm" to the junior lienholder and opined that the best guidance is found in the 1933 decision from the Supreme Court in Godwin. Consistent with Godwin, in Aurora Loan Services, LLC v. Senchuk, 36 So. 3d 716 (Fla. 1st DCA 2010), the First DCA found there was no prejudice when the subrogee stepped into the shoes of the first lienholder only to the extent of the amount due and owing on the first mortgage. A few months later in 2010, the Third DCA took a much more expansive view in Velazquez v. Serrano, 43 So. 3d 82 (Fla. 3d DCA 2010). Senchuk and Velazquez have very similar facts and present an apparent conflict.

In Senchuk, the Senchuks executed a first mortgage in favor of Wells Fargo Bank for $419,330. Shortly thereafter, the...