motion for rehearing (final)

Cause No. 12-0342

IN THE SUPREME COURT OF TEXAS

==================================================

JAMES ALLEN MCGUIRE

Petitioner,

vs.

FANNIE MAE F/K/A FEDERAL NATION MORTGAGE ASSOCIATION,

Respondent.

=================================================

ON PETITION FOR REVIEW FROM THE SECOND COURT OF APPEALS, FORT WORTH, TEXAS

On appeal from cause no. 02-11-00312-CV Second District Court of Appeals

Fort Worth, Texas =================================================

PETITIONER'S MOTION FOR REHEARING

=================================================

JAMES ALLEN MCGUIRE (Pro Se) 902 Rusk Dr Euless, Texas 76039 817 420-4151

IN THE SUPREME COURT OF TEXAS

====================================================

JAMES ALLEN MCGUIRE

Petitioner,

vs.

FANNIE MAE F/K/A FEDERAL NATION MORTGAGE ASSOCIATION,

Respondent.

=====================================================

ON PETITION FOR REVIEW FROM THE SECOND COURT OF APPEALS, FORT WORTH, TEXAS

=====================================================

PETITIONER'S MOTION FOR REHEARING

i

TABLE OF CONTENTS

Table of Contents………………………………..…………………..……i

Index of Authorities………………………….………………..…………ii

Issue Presented…………………………………………..………………iii

Appendix …………………………………………………………………..iv

Argument

I. The Supreme Court has jurisdiction under Texas Government Code Section 22.001………………………………………………….……..1

Statement of Jurisdiction…………………………………….…………5

Prayer……………………………………………………….……………..6

Certificate of Service…………………………………………………….7

ii

INDEX OF AUTHORITIES

Texas Statutes

Texas Government Code, Section 22.001…………………….…1, 2, 3, 4, 5

Texas Appellate Rules

Texas Rules Appellate Procedure Rule 53. 7(a)……………………………1

Texas Rules Appellate Procedure Rule 56. 1(a)(2)…………………………3

Texas Supreme Court Case

West v. First Baptist Church of Taft

71 S.W. 2d 1090, 1098 (Tex. 1934)……………………………..……1, 2, 3, 5

Hearn v. Cutberth, Supreme Court of Texas, January 1, 1853 10 Tex. 216………………………………………………………6

Baker v. Chisholm, 3 Tex. R., 158; 1 Id., 668……………………………….6

Swigley v. Dickson, 2 Tex. R., 192………………………………………....6, 7

Bain Peanut Co. of Texas v. Pinson & Guyger Supreme Court of Texas January 29, 1931 119 Tex. 572 34 S.W.2d 1090………………................7

United States Supreme Court Case

Carpenter v. Longan - 83 U.S. 271………………………………………...2, 3

iii

ISSUE PRESENTED

1. Whether Texas Supreme has jurisdiction over this case.

iv

APPENDIX

Appendix A West v. First Baptist Church of Taft 71 S.W. 2d 1090, 1098 (Tex. 1934)………………….Appendix Page 1

Appendix B PETE Article Mortgage Foreclosures, Promissory Notes, and the Uniform Commercial Code Professor Douglas J. Whaley………………………..Appendix Page 16

Appendix C Hearn v. Cutberth, Supreme Court of Texas January 1, 1853 10 Tex. 216…………………………Appendix Page 39 Appendix D Baker v. Chisholm, 3 Tex. R., 158; 1 Id., 668………Appendix Page 42 Appendix E Swigley v. Dickson, 2 Tex. R., 192, 196…………..…Appendix Page 44 Appendix F Bain Peanut Co. of Texas v. Pinson & Guyger Supreme Court of Texas January 29, 1931 119 Tex. 572 34 S.W.2d 1090……Appendix Page 47

1

ARGUMENT

TO THE HONORABLE JUSTICES OF THE TEXAS SUPREME COURT:

COMES NOW, JAMES ALLEN MCGUIRE, Petitioner herein, and

files this Motion for Rehearing, because he believes his Petition for

Review was dismissed for want of jurisdiction by the Court, in error.

I.

Basis for Motion

This court entered upon the docket notice on August 17, 2012 that this

suit was dismissed for Want of Jurisdiction and this Motion for

Rehearing will be timely filed in according to Texas Rules of Appellate

Procedure 53.7(a).

The Court's August 17, 2012 Order of Dismissal for Want of

Jurisdiction, in the above-referenced cause, did not state reasoning for

why the Court felt it lacked jurisdiction over this matter. Given the

nature of the case, the only plausible reasoning that the Petitioner

perceives having caused the dismissal for want of jurisdiction, is a

mistaken belief by the Court, that the Appellant's Petition for Review

failed to provide the court with jurisdiction as provided for in 22.001.

Petitioner McGuire inadvertently failed to include the case of West v.

First Baptist Church of Taft, 71 S.W. 2d 1090, 1098 (Tex. 1934) in the

statement for jurisdiction, but such failure to include did not take away

2

the fact that the Supreme Court had jurisdiction under other grounds

and such failure to include was a curable error and is so done in this

filing of a Motion for Rehearing.

The Texas Supreme Court opined West v. First Baptist Church of Taft,

71 S.W. 2d 1090, 1098 (Tex. 1934) and cited the United States Supreme

Court’s opinion Carpenter v. Longan - 83 U.S. 271, Mortgage follows the

Note and as to where the Second Court of Appeals adjudicated that the

Note follows the Mortgage flies in opposite to and upends the statutory

and legal precedence of this state that the Mortgage (lien) follows the

Note.

Such error committed by the Second Court of Appeals is in contradiction

to well established commercial financial laws and in opposite of statutes

within the Texas Business and Commerce Code/Uniform Commercial

Code and opposite of West v. First Baptist Church of Taft.

Whereas if the Second Court of Appeals opinion is allowed to stand,

then a party would never be assured that their financial investment

could be secure from the party in possession of the security of taking

ownership of the Note and thus such security holder would then become

the Noteholder. Per Texas Local Government Code 22.001(a)(6), the

opinion authored by the Second Court of Appeals is of such importance

that this court must use its jurisdiction to right a wrong that can result

in commercial finance nightmare if allowed to exist.

3

The Texas Supreme Court cited Carpenter with approval in a 1934

decision – West v. First Baptist Church of Taft, 71 S.W. 2d 1090, 1098

(Tex. 1934); [Appendix A]

(“The trial court’s finding and conclusion ignore the settled

principle that a mortgage securing a negotiable note is but an

incident to the note and partakes of its negotiable character. .

. .’The note and mortgage are inseparable; the former as

essential, the latter as an incident.’” (quoting Carpenter). The

West case goes on to state that the mortgage securing the

negotiable note (i.e., the deed of trust), is but an incident to

the note “and partakes of its negotiable character”, which

appears to directly contradict the notion that you can

foreclose without satisfying the UCC requirements.

Texas Rules of Appellate Procedure §56.1. (a) (2) states; “whether there

is a conflict between the courts of appeals on an important point of law;”

whereas Texas Government Code §22.001 Jurisdiction (a) (2) states; “a

case in which one of the courts of appeals holds differently from a prior

decision of another court of appeals or of the supreme court on a

question of law material to a decision of the case;”

By statutory authority, Texas Government Code §22.001 provides that

it is not only contradictory appellate opinions that invoke the Supreme

Court’s jurisdiction but also that of contradiction of a prior opinion by

the Supreme Court that invokes the Supreme Court’s jurisdiction.

4

The Texas Supreme Court does have jurisdiction over this appeal

because the Court of Appeals did commit an error of substantive law,

and the error is of such importance to the jurisprudence of this state

that it requires correction under § 22.001 (a)(2) or (6) of the Texas

Government Code, which provides in relevant part:

§ 22.001. Jurisdiction

(a) The supreme court has appellate jurisdiction, except in

criminal law matters, coextensive with the limits of the state and

extending to all questions of law arising in the following cases

when they have been brought to the courts of appeals from

appealable judgment of the trial courts:...

(2) a case in which one of the courts of appeals holds

differently from a prior decision of another court of appeals

or of the supreme court on a question of law material to a

decision of the case.....

(6) any other case in which it appears that an error of law

has been committed by the court of appeals, and that error is

of such importance to the jurisprudence of the state that, in

the opinion of the supreme court, it requires correction, but

excluding those cases in which the jurisdiction of the court of

appeals is made final by statute.

5

II.

STATEMENT OF JURISDICTION

(In Reply to Court’s Dismissal for Want Jurisdiction)

The Court has jurisdiction under Texas Government Code § 22.001(a)(2)

because the court of appeals’ decision conflicts with this Court’s decision

in West v. First Baptist Church of Taft, 71 S.W. 2d 1090, 1098 (Tex.

1934). “The supreme court has appellate jurisdiction ... extending to all

questions of law arising in ... a case in which one of the courts of appeals

holds differently from a prior decision of ... the supreme court on a

question of law material to a decision of the case ....” Tex. Gov't Code §

22.001(a)(2).“For purposes of Subsection (a)(2), one court holds

differently from another when there is inconsistency in their respective

decisions that should be clarified to remove unnecessary uncertainty in

the law and unfairness to litigants.” Tex. Gov't Code § 22.001(e) ; see

also City of San Antonio v. Ytuarte, 229 S.W.3d 318, 319 (Tex.2007) (per

curiam) (“In 2003, the Legislature redefined and broadened jurisdiction

to eliminate the previous requirement that the rulings in the two cases

be ‘so far upon the same state of facts that the decision of one case [was]

necessarily conclusive of the decision in the other.’ Coastal Corp. v.

Garza, 979 S.W.2d 318, 319 (Tex.1998).”). The court of appeals analysis

is inconsistent with the Court’s decision in West which considered the

issue of whether a Security follows the Note is opposite of the findings

opined in the Second Court of Appeals that a Note follows the Security.

6

Whereas it appears the courts fail to opine according to statutory law

as presented by a pro se, I attached an advanced writing (with

permission) that will be published this fall by Professor Whaley of

Mortiz College of Law, Ohio State University. [Appendix B]

This court opined in Hearn v. Cutberth, Supreme Court of Texas,

January 1, 1853 10 Tex. 216: [Appendix C]

An appeal cannot confer on the appellate court a jurisdiction which the court a quo did not possess, (Baker v. Chisholm, 3 Tex. R., 158; 1 Id., 668;) [Appendix D] that is, jurisdiction to hear and determine the case upon the merits. But the appellate court may entertain the appeal for the purpose of reversing the judgment of the court below, where it has exceeded its jurisdiction, and, without undertaking to adjudicate the merits of the case, may render such judgment as the court below ought to have rendered; that is, to reverse and dismiss where the court has improperly taken jurisdiction, and where it has properly dismissed the case for the want of jurisdiction to affirm the judgment. (Swigley v. Dickson, 2 Tex. R., 192, 196.) [Appendix E]

This court as in Hearn v. Cutberth had jurisdiction to correct and such jurisdictional error cannot be stated any clearer than how this court cited:

“appellate court may entertain the appeal for the purpose of reversing the judgment of the court below, where it has

7

exceeded its jurisdiction, and, without undertaking to adjudicate the merits of the case, may render such judgment as the court below ought to have rendered; that is, to reverse and dismiss where the court has improperly taken jurisdiction, and where it has properly dismissed the case for the want of jurisdiction to affirm the judgment. (Swigley v. Dickson, 2 Tex. R., 192, 196.)” [Appendix E]

In referencing Bain Peanut Co. of Texas v. Pinson & Guyger, Supreme

Court of Texas. January 29, 1931 119 Tex. 572 34 S.W.2d 1090

[Appendix F], any ruling by a trial court of appellate court lacking

jurisdiction is an incorrect ruling and such ruling must be overturned

and the suit attempting to invoke such jurisdiction must be dismissed

for lack of jurisdiction.

II.

Prayer

Based on the above and foregoing this Court has jurisdiction and

should reverse the Second Court of Appeals and overturn the Trial

Court Judgment and dismiss the original suit filed in the Trial Court

for lack of jurisdiction.

WHEREFORE, PREMISES CONSIDERED, Petitioner prays that

upon considering this Motion, the Court will set aside its previous order

in which it dismissed this case for want of jurisdiction, consider the

merits of this case on a substantive basis, and after doing so reverse the

holding of the Second Court of Appeals in this case, and set aside and/or

overturn the Trial Court's Judgment, and for such other and further

relief to which the Petitioner is entitled.

8

Respectfully submitted, JAMES ALLEN MCGUIRE (Pro Se) By: /s/ James McGuire 902 Rusk Dr Euless, Texas 76039 817 420-4151 [email protected]

CERTIFICATE OF SERVICE

I do hereby certify that a true and correct copy of the foregoing Petitioner's Motion for Rehearing was served on the following counsel of record, via facsimile, on the _______ day of _________, 2012:

Counsel Representing Janna W. Clarke Broude, Smith & Jennings, P.C. 309 West 7th Street Suite 1100 Fort Worth, Texas 76102 I do hereby certify a courtesy copy of Petitioner's Motion for Rehearing was sent to Professor Douglas J. Whaley, Ohio State University, Michael E. Moritz College of Law.

JAMES ALLEN MCGUIRE (Pro Se) By: /s/ James McGuire

Change View

1 Bills and Notes Burden of Proof as to Bona Fides in GeneralPayee's agreement not to negotiate construction loan notes until completion ofbuilding and payment of money to maker constituted infirmity in notes, andnegotiation thereof in violation of agreement rendered seller's title defective, asrespects necessity of proof of good faith (Vernon's Ann.Civ.St. art. 5935, §§52-55).

2 Bills and Notes Knowledge as to Consideration or Collateral Agreementsor SecuritiesKnowledge that note was given in consideration of executory agreement bypayee will not deprive indorsee of character of holder in due course, unless hehas notice of breach of agreement (Vernon's Ann.Civ.St. art. 5935, §§ 52, 56).

3 Bills and Notes Good Faith and Payment of ValueEvidence in suit to cancel notes held not to support trial court's finding that onepurchasing them knew of infirmity therein and defect in seller's title because ofpremature negotiation thereof in violation of payee's agreement (Vernon'sAnn.Civ.St. art. 5935, §§ 52-56).

4 Bills and Notes Good Faith in GeneralOne purchasing negotiable instrument in good faith for valuable considerationmay recover thereon, even if grossly negligent, regardless of how seller acquiredpossession thereof (Vernon's Ann.Civ.St. art. 5935, § 56).

3 Cases that cite this headnote

5 Bills and Notes Good Faith in GeneralKnowledge of facts merely sufficient to cause person of ordinary prudence tomake inquiry as to infirmity in negotiable instrument and defect in holder's title,

WEST et al.

v.

FIRST BAPTIST CHURCH OF TAFT et al.

No. 6149. May 16, 1934.

Error to Court of Civil Appeals of Fourth Supreme Judicial District.

Suit by the First Baptist Church of Taft against Mrs. Ethelyn West, a Mrs. Morris,individuals constituting the Taft Bank, Unincorporated, and others, in which defendantsMorris and another filed a cross-complaint. A judgment canceling plaintiff's notes and trustdeeds, held by cross-complainants and a codefendant, and a judgment for the bank againstplaintiff, were affirmed by the Court of Civil Appeals (42 S.W.(2d) 1078), and defendantsWest and others bring error.

Reversed and remanded.

West Headnotes (25)

RELATED TOPICS

Bills and Notes

ActionsCharacter of Bona Fide Holder of NoteQuestion of Good Faith of Holder of Note

Requisites and Validity

Bona Fide Holder of Mortgage Notes

West v. First Baptist Church of TaftSupreme Court of Texas. May 16, 1934 123 Tex. 388 71 S.W.2d 1090 (Approx. 16 pages)

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West v. First Baptist Church of Taft - WestlawNext https://a.next.westlaw.com/Document/I83ae2a55ee3f11d9b386b232635d...

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Administrator1

A

with failure to make such inquiry before purchasing it, is not evidence ofpurchaser's bad faith barring recovery thereon by him (Vernon's Ann.Civ.St. art.5935, § 56).


6 Bills and Notes Good Faith in GeneralEven gross negligence does not establish bad faith in purchasing negotiableinstrument from holder whose title was defective (Vernon's Ann.Civ.St. art. 5935,§ 56).

7 Bills and Notes Good Faith in GeneralTo constitute evidence of bad faith in purchasing negotiable instrument fromholder whose title is defective, facts known to taker must reasonably warrantinference that he acted in dishonest disregard of payee's rights (Vernon'sAnn.Civ.St. art. 5935, § 56).


8 Bills and Notes Good Faith in GeneralTo support finding of bad faith in purchasing negotiable instrument from holderwhose title is defective, unheeded suspicious circumstances must be sosubstantial and strong that bad faith, rather than mere negligence, can reasonablybe inferred therefrom (Vernon's Ann.Civ.St. art. 5935, § 56).


9 Evidence Importance in GeneralEvidence may be admissible as tending to prove fact without being sufficient tosupport finding of such fact.

10 Bills and Notes Good Faith and Payment of ValueEvidence in suit to cancel notes held not to support trial court's finding of bad faithof one paying full value therefor in purchasing them from corporation prematurelynegotiating them in violation of payee's agreement (Vernon's Ann.Civ.St. art.5935, § 56).

11 Bills and Notes Good Faith in General“Gross negligence,” as in acquiring negotiable instrument from holder withdefective title, consists of omission of care which even inattentive andthoughtless men never fail to take of their own property.

12 Mortgages Bona Fide Purchasers of Negotiable Instruments Secured byMortgageMortgage securing negotiable note is but incident to note and partakes of latter'snegotiable character.

1 Case that cites this headnote

13 Mortgages Bona Fide Purchasers of Negotiable Instruments Secured byMortgageBona fide purchaser of notes for value before maturity became bona fide holderof trust deed securing them.


14 Mortgages NecessityTrust deed must be delivered to be effective.


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15 Mortgages EvidenceUndisputed evidence in suit to cancel notes and trust deeds securing them heldto establish constructive delivery of deeds to payee.

16 Mortgages Record or Delivery for RecordMortgagor's filing for record in proper office of mortgage given pursuant to parties'previous agreement to place and accept mortgage on specific property issufficient delivery thereof.


17 Mortgages Record or Delivery for RecordSufficient delivery of mortgage by mortgagor's filing thereof for record is notcounteracted by fact that mortgagor subsequently obtained possession thereoffrom recorder's office and retained it.

18 Mortgages Record or Delivery for RecordMortgagor's retention of trust deed, executed and filed for record by mortgagor forpurpose of creating lien securing latter's notes, held unimportant in determiningquestion of constructive delivery thereof.

19 Mortgages NecessityTitle may pass by trust deed without actual manual delivery thereof; controllingquestion being grantor's intention.

20 Mortgages Bona Fide Purchasers of Negotiable Instruments Secured byMortgageTrust deeds, filed for record by mortgagor with intention to create liens securingconstruction loan notes, which payee corporation orally agreed to hold untilcompletion of building, passed to one purchasing notes from payee's parentcorporation discharged of equities, to which subject while in payee's hands, tosame extent as notes.


21 Mechanics' Liens Advances of MoneyMechanic's or materialman's lien does not exist in favor of person advancingmoney to pay for labor or material furnished (Vernon's Ann.Civ.St. art. 5452;Const. art. 16, § 37).


22 Liens ExpressLien on realty cannot be given by parol agreement.


23 Mortgages Priorities of Mortgages in GeneralBank's lien on realty for money advanced to owner after latter's execution ofnotes to mortgage company for loan of money, agreed to be paid church whenbuilding on property was completed, and filing of trust deeds securing them, heldinferior and subordinate to lien of such deeds.


24 Estoppel Acts Making Injury Possible as Between Actor and AnotherEqually BlamelessIf one of two innocent persons must suffer by deceit, one who puts trust andconfidence in deceiver, rather than stranger, would be loser.


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25 Mortgages Necessity and Sufficiency of Writing in GeneralMortgage on realty cannot be given by parol agreement.


Attorneys and Law Firms

*390 **1091 Milling, Godchaux, Saal & Milling, of New Orleans, La., John C. North, ofCorpus Christi, and Robert W. Stayton, of Austin, for plaintiffs in error.

*391 Gordon Boone and Felix Raymer, both of Corpus Christi, and Templeton, Brooks,Napier & Brown, of San Antonio, for defendants in error.

Opinion

SMEDLEY, Commissioner.

The First Baptist Church of Taft, for the purpose of constructing a church building on lotsowned by it in Taft, Tex., made application to Southern Mortgage Company, of Abilene, Tex.,for a loan of $20,000. Before the building was begun, the church, on the request of themortgage company, executed and **1092 delivered to the mortgage company, for thepurpose of ‘closing the loan,’ twenty-two promissory negotiable notes aggregating theprincipal sum of $20,000, payable to Southern Mortgage Company, at the office of Mortgage& Securities Company in New Orleans. At the same time the church executed a deed oftrust securing the notes and covering the lots upon which the church was to be built andalso other lots owned by the church upon which a parsonage was situated. This deed oftrust expressly provided that it covered also all brildings, fixtures, furniture, and equipmentthen located or thereafter to be located upon the lots upon which the church was to be *392built. A second and subordinate deed of trust was executed securing the two otherpromissory negotiable notes payable to Southern Mortgage Company, aggregating theprincipal sum of $1,000. The notes and deeds of trust, while dated March 9, 1929, were infact executed May 2, 1929. On the same day, at the request of Southern MortgageCompany, the church caused the two deeds of trust to be filed for record in the office of thecounty clerk of San Patricio county, and on May 8, 1929, pursuant to the same request, thechurch mailed the notes to Southern Mortgage Company at Abilene, together with acertificate of the county clerk showing that the two deeds of trust had been filed for record.

It had theretofore been agreed, in the course of the negotiations for the loan, that none ofthe money should be paid to the church until the building had been entirely completedaccording to the plans and specifications. It had further been agreed by Southern MortgageCompany that the notes would be held by it in Abilene ‘until after the money was furnishedon the loan.’

The church made arrangements with the Taft Bank, Unincorporated, whereby the bankagreed to furnish money to the amount of $20,000 to pay for labor and material in theconstruction of the building, the money to be advanced as the work progressed and to berepaid the bank when the proceeds of the loan from Southern Mortgage Company wereprocured. There was an oral agreement between the church and the bank that the bankshould have a lien to secure the money so advanced.

Building operations were begun about May 2, 1929, the bank advancing something morethan $20,000, which was used in payment for labor and material. The building wascompleted about October 1, 1929, after the trial of this suit in district court.

A short time after receiving the notes, Southern Mortgage Company forwarded them toMortgage & Securities Company at New Orleans, advising that the construction of thebuilding had just begun, and that some time would elapse before the loan would be ready forclosing. Southern Mortgage Company was a subsidiary of Mortgage & Securities Company,being wholly owned by it and organized by it for the purpose of doing business in Texas, andall the money loaned by Southern Mortgage Company was procured from Mortgage &Securities Company.

On June 25, 1929, the company last named sold and delivered the twenty-two first lien


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1

notes to plaintiff in error Mrs. *393 Ethelyn West, who bought them for her sisters, plaintiffsin error Mrs. Morris and Mrs. Barham, paying for the same their full face value, the principaland accrued interest. The notes had been indorsed without recourse by Southern MortgageCompany, and their payment was guaranteed by Mortgage & Securities Company. A shorttime thereafter Mortgage & Securities Company failed, and its property was placed in thehands of a receiver. The church received nothing for the notes.

This suit was filed by the church against the two mortgage companies, the receiver ofMortgage & Securities Company, the manager of Southern Mortgage Company, Mrs. Westand her sisters, Mrs. Morris and Mrs. Barham, and several individuals who constituted theTaft Bank, Unincorporated. The relief sought is cancellation of the notes and the deeds oftrust and the removal of clouds from the property of the church. In the alternative, and inthe event and notes and deeds of trust are determined to be valid obligations and liens, thechurch seeks judgment against the two mortgage companies and the manager of SouthernMortgage Company for the amount so determined, with foreclosure of a lien upon anyproperty of the two companies which might be disclosed or discovered.

By cross-action, Mrs. Morris and Mrs. Barham allege their ownership of the twenty-twonotes, and of the lien securing them, and that they purchased the notes before maturity forvalue and with no knowledge or notice of the alleged infirmities, and they pray for judgmentfor the principal of the notes, interest, attorney's fees, and for foreclosure of lien.

The Taft Bank alleges the advancement of funds by it for labor and material aggregatingabout $24,000, that it has a lien securing same which is superior to the lien claimed by Mrs.Morris and Mrs. Barham, and prays for judgment against the church for the amount **1093advanced, with interest and attorney's fees, and for foreclosure of lien.

The case was tried without a jury, the trial court making elaborate findings of fact andconclusions of law. Judgment was rendered canceling the twenty-two notes held by Mrs.Morris and Mrs. Barham and the deed of trust executed to secure the notes, and alsocanceling the two notes aggregating $1,000 held by Southern Mortgage Company and thedeed of trust executed to secure them; and judgment was rendered in favor of the Taft Bankagainst the church for $22,300, with interest, and for foreclosure of lien upon the propertyof the church. The church dismissed its suit against the manager of *394 SouthernMortgage Company, and it was adjudged that it take nothing by its alternative suit.

The trial court found that the notes were negotiated and sold by the two mortgagecompanies to Mrs. West in violation of the agreement under which they were executed anddelivered, and in fraud of the rights of the church; that the proceeds of the notes wereappropriated by Mortgage & Securities Company; and that the church never received anypart of the proceeds of the notes, or any consideration for them.

The trial court further found that, at the time she purchased the notes for her sisters, Mrs.West ‘had actual knowledge of the fact that the notes were for a construction loan, that saidloan was not completed, that said notes were not ready for negotiation, and that same werenot in fact then negotiable’; and also that ‘defendants Mrs. West, Mrs. Morris and Mrs.Barham, at the time the notes were purchased by them and delivered to them, as aforesaid,took same with notice of the defects in the title of Mortgage and Securities Companymentioned in preceding paragraphs of these findings, and did not purchase same withoutnotice in good faith and are not purchasers in good faith for value or holders in due course.’

The Court of Civil Appeals on first hearing reversed and remanded the cause, holding thatthere was no evidence charging Mrs. West and her sisters with fraud or bad faith, and thatthey were innocent purchasers of the notes for value before maturity. On rehearing, thejudgment of the trial court was affirmed, the majority of the Court of Civil Appeals holding thatthere was evidence sufficient to sustain the finding of the trial court upon the issue of badfaith. 42 S.W.(2d) 1078.

Within the terms of the Negotiable Instruments Law there was infirmity in the notes,and the title of Mortgage & Securities Company which negotiated them was defective,because it had been agreed that the notes were to be held and not negotiated until thebuilding was completed and the money represented sented by the notes paid, and becausethe notes were negotiated in violation of this agreement, in breach of faith and in fraud ofthe church. Sections 52-55, art. 5935, R. C. S. 1925.


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2 3 The important question presented is whether there is any evidence to sustainthe findings of the trial court that Mrs. West had actual knowledge of the infirmity or of thedefect in the title, and that she did not act in good faith in acquiring the notes.

By the terms of section 52 of of article 5935 one is not a holder in due course who, althoughhe purchased a negotiable instrument before maturity and for value, had notice at the time it*395 was negotiated ‘of any infirmity in the instrument or defect in the title of the personnegotiating it.’

Section 56 of the said article is as follows: ‘To constitute notice of an infirmity in theinstrument or defect in the title of the person negotiating the same, the person to whom it isnegotiated must have had actual knowledge of the infirmity or defect, or knowledge of suchfacts that his action in taking the instrument amounted to bad faith.’

The first inquiry is whether there is any evidence that Mrs. West at the time she purchasedthe notes had actual knowledge of the infirmity or defect.

As has been stated, the infirmity in the notes was the agreement of Southern MortgageCompany that they would be held and not negotiated until the building was completed andthe money represented by the notes paid to the church, and the defect in the title ofMortgage & Securities Company, which negotiated the notes, was that it negotiated themviolation of that agreement.

Neither Mrs. Morris nor Mrs. Barham had any connection with the negotiations by which thenotes were acquired. Mrs. West acted for her two sisters, buying part of the notes for oneand part for the other. The three sisters resided in Louisiana. None of them had anyacquaintance with or in Taft, Tex. They had no communication with the church at Taft. Mrs.West had bought other notes from Mortgage & Securities Company. The representatives ofthat company knew that she would take no construction loans, that is, loans secured bybuildings to be completed.

**1094 The notes were first presented to Mrs. West in the early part of May, 1929, by oneWood, who was a salesman for Mortgage & Securities Company. He submitted to her andleft in her possession for examination a prospectus of the loan, the written application of thechurch to Southern Mortgage Company for the loan, and certain other written and printedinformation. The application described the notes to be executed, stating that they were to bedated on or about May 1, 1929, and would be secured by a deed of trust upon the propertyowned by the church, describing it, and that the lots would be improved by a two-story andbasement brick church building estimated to cost $37,500. It stated that the building wouldbe completed on or before July 1, 1929. Contrary to the agreement between the churchand Southern Mortgage Company that no money would be advanced until the building wasfinished, the application stated that the proceeds of the loan would be available as theconstruction proceeded, no payment *396 to be made, however, until construction hadreached the point where the net proceeds to be advanced by the mortgage company wouldcomplete the building, and that 15 per cent. of the total amount of the contract price shouldremain in the hands of the mortgage company until completion of the work and finalinspection.

Mr. Wood testified substantially as follows: That he showed Mrs. West the data which hehad received from the files of Mortgage & Securities Company, including the application forthe loan; that he discussed the merits of the loan with Mrs. West, but did not recall makingany particular statements or representations to her concerning the notes or the deed of trustother than what was shown in the data submitted to her; that he was informed while handlingthe account of Mrs. West and her sisters that all securities purchased by them must be oncompleted properties and not on properties in process of construction; that when he madethe preliminary offering of the loan he knew that the building was in process of construction,but, when the notes were delivered to her, he was convinced that the building had been fullycompleted; and that at the time he delivered the notes and accepted payment for them hedid not know that the money represented by the notes had not been paid to the church, anddid not advise Mrs. West that it had not been paid.

Mr. Jackson, vice president of Mortgage & Securities Company, testified that some timebefore the notes were sold Mrs. West asked him whether or not he considered the Taftchurch loan a sound one, and he told her he considered it a good loan when ready fordelivery, and that he made no other statements to her as to the loan, the notes, of the deed


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of trust.

Mrs. West, after going over the instruments left with her and considering the loan for threeor four days, advised Mr. Wood that she would take the loan when it was ready for delivery.About six weeks after her first conversation with Mr. Wood he telephoned her that the loanwas ready for delivery. Thereupon she went to the office of the Mortgage & SecuritiesCompany, examined the notes, the indorsement of Southern Mortgage Company, and theguaranty of Mortgage & Securities Company, and completed the purchase. She made noinquiry about the building or the loan of any other person than those who represented themortgage company with which she dealt. She did not undertake by correspondence orotherwise to ascertain whether the building had been completed or whether it had beenerected at all. She testified that she relied upon the statement made to her by Mr. Wood thatthe loan was ready *397 for delivery; that nothing had occurred to cause her to besuspicious about the legality or validity of the notes; and that she did not know that thechurch had raised any question as to the notes until a short time before this suit was filed.

Mrs. West, when interrogated on cross-examination as to her knowledge with respect to thenotes, testified as follows:

‘As to whether or not it struck me as being worthy of investigation that the applicationshowed that it was a construction loan, I desire to state that the loan was not to be boughtby me until it was a finished thing. I knew at the time it was first presented to me that it wasnot a finished thing. When Mr. Wood first approached me with reference to buying thesenotes and exhibited to me the papers, including the application, I did look it over. I wanted tosee what security I was getting. From that application I saw it was on a building not yetcompleted. I thought the application stated that the building had not yet been completed. I didnot know that it had not been started. At the time he first presented the loan to me he didnot offer it for sale. He gave me these notes, if I wanted the loan, when it was a finishedthing. He gave me that prospectus and this descriptive matter and this application so I couldgo over it and consider it and determine if I wanted the loan when it was finished. Withreference to my taking his word for it when he told me the loan was **1095 finished, I had noreason to doubt his statement. I took the notes. I had this application in my possession atthe time, but I had every reason to believe the building was completed. * * *

‘With reference to my making any attempt to ascertain whether or not this church buildinghad been erected as contemplated to be erected and completed, I desire to state that Mr.Wood had called me and said that the building was completed and that the loan was readyfor delivery. It was perfectly understood by me and everybody in the Mortgage & SecuritiesCompany that I would take no loan except completed loans. * * *

‘With reference to whether or not I made any attempt to ascertain from the officials of thischurch whether or not that building had been completed, and with reference to whether ornot I merely took the word of Mr. Wood that the loan was ready for delivery, I desire to statethat I took the word of a supposedly reputable man. * * *

‘I did ask for a picture of the completed church. When the notes were being delivered to meI saw Mr. Ogden when I got up to leave with the notes. He asked me if Mr Wood fixed me upall right and I said, ‘Yes, but I want a picture of *398 the finished church.’ I told him that Ihad just bought the First Baptist Church of Taft notes, and he said, ‘You have not got it?’and I said ‘No, and I want it,’ and he said, ‘We will have to get it for you,’ and I said, ‘I wantMrs. Morris and Mrs. Barham to see the churh upon which they have loaned their money.’He told me that he thought he would get it for me in about a week. * * *

‘With reference to whether or not it occurred to me that the best source of information withreference to the character of the building and as to whether or not the building had beencompleted and had been accepted by the First Baptist Church of Taft as completed wouldbe the officers of that church, I desire to state that I had no reason to doubt any of therepresentations that were made by an entirely responsible company. * * * With reference towhether or not I knew as a matter of fact that if that building had not been completed therewould have been a question raised about those securities, I had no knowledge of anydealings between Mortgage & Securities Company and the Church of Taft, Texas. * * *’

Mrs. West testified with reference to another loan offered her: ‘I said to him, ‘That loan wasoffered to us before, and it is a construction loan, and I said I would not touch a constructionloan with a forty foot pole.‘‘’'


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4

It is apparent from the testimony of Mrs. West and the other two witnesses, as abovequoted and stated, that in their use of such phrases as ‘the loan is not ready for delivery,’‘the loan is not a finished thing,’ and the like, they were referring to the fact that the buildingwas not completed, and that, knowing that Mrs. West would not accept a construction loanor one secured by an unfinished building, they meant to say that the notes therefore werenot ready for delivery to her. Thus the information which she acquired from the applicationfor the loan and from the statements made to her by the representatives of Mortgage &Securities Company was that when the notes were first presented to her the building wasnot completed, and that at least a part of the consideration for the notes had not been paidby the mortgage company. She knew that the consideration was executory or in partexecutory. But this did not amount to knowledge that there would be a breach of themortgage company's executory obligation. Knowledge that a note was given inconsideration of the executory agreement of the payee will not deprive the indorsee of thecharacter of a holder in due course unless he has notice of a breach *399 of suchagreement. In the absence of knowledge or notice of a breach he may presume that theagreement will be performed as stipulated. Lozano v. Meyers (Tex. Com. App.) 18 S.W.(2d)588; C. H. Mountjoy Parts Co. v. San Antonio National Bank (Tex. Civ. App.) 12 S.W.(2d)609; Foster v. Enid, etc., R. Co. (Tex. Civ. App.) 176 S. W. 788; Buchanan v. Wren, 10 Tex.Civ. App. 560, 30 S. W. 1077; 3 R. C. L. p. 1067.

The fact that the building was unfinished, in the absence of knowledge of the oral agreementto hold the notes, in no way affected the negotiability of the notes. There is no evidence thatMrs. West ever knew of the agreement between the church and Southern MortgageCompany that the notes would be held at Abilene and not negotiated until the building hadbeen completed and the money paid. The finding of the trial court that Mrs. West and hersisters knew at the time of their purchase of the notes of the infirmity in them and of thedefect in the title of the mortgage company is not supported by evidence.

The second inquiry is whether there is any evidence that Mrs. West, at the time the noteswere acquired, had knowledge of such facts **1096 that her action in taking them amountedto bad faith.

The trial court found both actual knowledge of the infirmity and defect in title and bad faith onthe part of Mrs. West. The affirmance by the Court of Civil Appeals appears to rest upon theconslusion that there was evidence sufficient to support the trial court's finding that Mrs.West acted in bad faith in acquiring the notes.

Judge Garrett, in Wilson v. Denton, 82 Tex. 531, 535, 18 S. W. 620, 622, 27 Am. St.Rep. 908, thus stated and explained the settled rule in this state and in practically all of theother states, and of which section 56 of article 5935 is but a restatement: ‘The ordinary ruleof constructive notice which applies to the purchaser of property is not applicable in thecase of negotiable instruments. As promotive of their circulation, a liberal view is taken,which makes the bona fides of the transaction the decisive test of the holder's right. He isentitled to recover upon it if he has come by it honestly. Greneaux v. Wheeler, 6 Tex. 525; 1Daniel, Neg. Inst. s 775. It matters not how the vendor came in possession of the bill ornote, whether by theft or fraud or honestly. The title of the transferee does not depend uponthe title of the vendor, but upon his possession; and if the buyer has acted in good faith, andpaid a valuable consideration, his title cannot be impugned. An early English case (Gill v.Cubitt, 3 Barn. & C. 466) laid down the *400 principle that, although the holder had givenvalue for the bill or note, yet, if he took it under circumstances which ought to have excitedthe suspicions of a prudent and careful man, he could not recover. This was a departurefrom the earlier rule, which regarded the bona fides as the crucial test by which it was to bedetermined whether or not the purchaser should be protected against defenses that wouldbe valid against the transferrer of the note. But the earlier rule was soon again reverted to,and afterwards made even more liberal; and it became the law that, while gross negligencemight be evidence tending to show mala fides, and, as such, admissible, it did not in itselfamount to proof of mala fides, and was not sufficient to deprive the holder of his right torecover. If it should be left to a jury to determine as to the degree of caution which a prudentman must exercise on taking such an instrument, it would lead to much perplexity, and tofrequent injustice. Thus is the law deduced from the English decisions by Mr. Daniel in hisadmirable work on Negotiable Instruments (section 770 et seq.).’ (Italics ours.)

In that case, Wilson, the payee, intrusted negotiable notes to Denton to sell for him to adesignated person. Denton, in violation of his trust, sold the notes to Cotter and McMullan


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5

6

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8 9

for their two notes payable to Denton's wife, and at a substantial discount. The purchasers,although they met both the payee and the maker daily, did not speak to them about thetransaction or about the notes. They relied implicitly upon the statements made to them byDenton. A judgment in favor of the purchasers of the notes was affirmed, the court holdingthat they did not have actual knowledge of the invalidity of Denton's title, and that the factswere not sufficient to charge them with a want of good faith.

In the comparatively recent case, Campbell v. Rosenow (Tex. Civ. App.) 32 S.W. (2d) 372,in which application for writ of error was refused, it was held that there was not even acircumstance to sustain the judgment of the trial court that an indorsee of promissory noteswas not a purchaser in good faith, although the evidence was that notes in the principal sumof $9,050 payable to the order of the maker and bearing no other indorsement than his inblank were bought for $7,500 from a stranger a short time after their execution and withoutany inquiry whatever.

Goodman v. Simonds, 20 How. 343, 15 L. Ed. 934, one of the leading cases on the questionunder consideration, announces substantially the same rule as that quoted above fromWilson v. Denton. It holds that facts and circumstances which *401 would excite thesuspicion of a careful and prudent man are not sufficient to destroy the title of the purchaserof a negotiable instrument for value. It approves what the opinion states to be the settledlaw in all English courts that proof that the plaintiff had been guilty of gross negligence inacquiring the bill ought not to defeat his right to recover.

The case last referred to is approved and followed in Murray v. Lardner, 2 Wall. 110, 121,17 L. Ed. 857, 859, in which the court thus states its conclusion: ‘Suspicion of defect of titleor the knowledge of circumstances which would excite such suspicion in the mind of aprudent man, or gross negligence on the part of the taker, at the time of the transfer, will notdefeat his title. That result can be produced only by bad faith on his part.’ The same rule isannounced in Cromwell v. County of Sac, 96 U. S. (6 Otto) 51, 24 L. Ed. 681, 686.

In **1097 Foster v. Augustanna College & Theological Seminary, 92 Okl. 96, 218 P. 335,337, 37 A. L. R. 854, the court, after stating there must be either actual knowledge or badfaith to deprive a purchaser before maturity and for value of the privilege of being a holder indue course, said: ‘Even gross negligence on the part of a taker of a negotiable instrumentwill not defeat the title of a holder for value and before maturity.’

A carefully written article by George W. Rightmire, entitled ‘The Doctrine of Bad Faith in theLaw of Negotiable Instruments,’ appearing in volume 18, pp. 355 and following, of MichiganLaw Review, contains, among others, the following conclusions: That when bad faith is thepoint of inquiry, suspicious ciscumstances must be of a substantial character, and, if suchcircumstances do not appear, the court can arrest the inquiry; that we are not broughtnearer to an answer to the inquiry, Did he take in bad faith? by considering matters of beingput upon inquiry and the reasonably prudent man; that it is not failure to inquire, but thedishonest purchase which establishes bad faith, that is, the facts known to the taker must besuch that his buying with such knowledge amounts to dishonest dealing toward thedefendant. The views expressed are in harmony with the rules announced by the authoritieswhich have been cited.

To summarize:

1. Knowledge of facts merely sufficient to cause one of ordinary prudence to make inquiry,with failure to make such inquiry, is not evidence of bad faith. To apply the contrary *402 rulewould be to return to the rejected doctrine of the earlier English case, that one acquiring anegotiable instrument under cirsumstances which ought to excite the suspicion of a prudentperson could not recover, for, in the application of such contrary rule, the jury would bepermitted to find bad faith where the evidence proves only ordinary negligence.

2. Even gross negligence is not the same thing as bad faith and does not of itselfamount to proof of bad faith, although it may be evidence tending to prove bad faith.

3. To constitute evidence of bad faith, the facts known to the taker must be such asreasonably to form the basis for an inference that in acquiring the negotiable instrument withknowledge of such facts he acted in dishonest disregard of the rights of defendant.

Statements are found in the declsions, as for example in Kaufman Oil Mill v.


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North Texas National Bank (Tex. Civ. App.) 16 S.W.(2d) 143 (application for writ of errorrefused), to the effect that such evidence, as would be admissible in an ordinary case toshow that the purchaser had knowledge of facts that should put a reasonably prudent personupon inquiry, is admissible as tending to prove that the purchaser of a negotiable instrumentin taking it with knowledge of such facts acted in bad faith. This does not mean, however,that knowledge of suspicious cirsumstances of whatever character constitutes evidencefrom which bad faith may be inferred. The consummation of the purchase of a negotiableinstrument with knowledge of suspicious circumstances sufficient only to put an ordinarilyprudent person upon inquiry would convict the purchaser of negligence, not of dishonesty. Toserve as evidence to support a finding of bad faith, the unheeded suspicious circumstancesmust be of a substantial character and so strong that bad faith rather than merely negligencecan reasonably be inferred from them. Evidence may be admissible as tending to prove afact to be established without being sufficient of itself to support a finding of the fact.

Applying the rules which have been discussed to the facts in the record, we areunable to find any evidence supporting the trial court's finding of bad faith on the part of Mrs.West. A circumstance indicating good faith in her payment of full value for the notes. Suchfact is not conclusive evidence, but it tends strongly to prove good faith. CanajoharieNational Bank v. Diefendorf, 123 N. Y. 191, 25 N. E. 402, 10 L. R. A. 676; Kelso & Companyv. Ellis, 224 N. Y 528, 121 N. E. 364. She was not dealing with a stranger, but with amortgage company from which she had bought other notes and which, as *403 she testified,she believed responsible. While she did learn six weeks before she bought the notes thatthey represented a construction loan, the proceeds of which were to be advanced asconstruction proceeded, and that the building was not then completed, the information thusacquired gave her no knowledge of an infirmity in the notes. Furthermore, she was assuredat the time of her purchase, and by the salesman from whom she obtained her firstinformation about the notes, that they were then ready for delivery. In the absence ofanything to cause her to doubt the truth of the representations last made to her, she mustreasonably have believed from them that during the six weeks the building had beencompleted and the proceeds of the loan paid. There is not evidence that Mrs. West knew or**1098 had reason to believe that the mortgage company was in financial straits, and noevidence of any statements or acts by representatives of the company which should havearoused suspicion.

Even if Mrs. West, in buying the notes without making inquiry of the maker, or of someperson other than the seller, in order to ascertain with certainty that the building had beencompleted and the consideration fully paid, failed to exercise that care which a cautiousperson, or even one of ordinary prudence, would have exercised (which we need not and donot decide), her action in acquiring the notes without such inquiry would be nothing morethan negligence; it would not amount to dishonesty, and would not be evidence of bad faith.

Nor do we believe that the facts in the record constitute evidence of gross negligencewhich, as said in Goodman v. Simonds, 20 How. 343, 367, 15 L. Ed. 934, 942, ‘is defined toconsist of the omission of that care which even inattentive and thoughtless men never fail totake of their own property.’

The trial court found that the deeds of trust, although filed for record by the church upon therequest of Southern Mortgage Company, were not filed with the intention to deliver thesame, but with the intention that they were not to take effect as liens unless and until theamount of money evidenced by the notes had been advanced by Southern MortgageCompany to the church; and further found that the deeds of trust after they were recordedwere not forwarded to the mortgage company or to the trustee, but remained in thepossession of the church. Following this finding the trial court concluded that the deeds oftrust were ineffective and did not create any lien.

Based upon this finding and conclusion defendants in error contend that no lien was createdby the deed of trust securing *404 the twenty-two notes because there was not an effectivedelivery.

There is no direct testimony that the deed of trust was not to become effective until themoney represented by the notes was paid. Although there is a general statement in thetestimony of the witness Binford to the effect that in the preliminary negotiations arepresentative of Southern Mortgage Company stated that all papers and notes would beheld until the completion of the building, the testimony of the witness Tackett to the particular


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13

14 15

16 17

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agreement relied upon by the church and definitely stated is that Mr. Polk, acting forSouthern Mortgage Company, agreed that the notes would be held in Abilene until the moneywas paid. Later the mortgage company prepared the notes and deeds of trust and forwardedthem to the church, requesting that after the execution of them the deeds of trust be filedfor record and the notes and a certificate of the county clerk, showing that the deeds of trusthad been filed, be returned to the mortgage company. These instructions were followed, andthe church, a few days later, mailed the notes and the clerk's certificate to the mortgagecompany, with a letter stating that it was mailing ‘all closing papers pertaining to the FirstBaptist Church loan.’ Thereafter the church caused the deeds of trust to be included in asupplemental abstract and sent it to the mortgage company. If a condition attached to thedeeds of trust, it was but the one and same condition that attached to the notes. The deedsof trust were executed for the purpose of securing the notes and were intended to beeffective for that purpose and to the same extent that the notes were effective.

The trial court's finding and conclusion ignore the settled principle that a mortgagesecuring a negotiable note is but an incident to the note and partakes of its negotiablecharacter. As stated in the opinion in Carpenter v. Longan, 16 Wall. 271, 274, 21 L. Ed.313, 315: ‘The note and mortgage are inseparable; the former as essential, the latter as anincident.’

The Supreme Court of Texas, in Pope v. Beauchamp, 110 Tex. 271, 219 S. W. 447,448, held that the rule of lis pendens does not affect the right to the debt or lien of the bonafide purchaser of a negotiable note, basing its decision upon the necessary inseparability ofthe note and lien. Justice Greenwood quoted with approval from the opinion of the SupremeCourt of the United States in the case last cited, and said: ‘We are further of the opinion thatthe protection which the law gives the bona fide holder of negotiable paper extends *405 toa lien which is a mere incident of the debt evidenced by the paper, in the absence of actualor constructive notice of some defect in the lien. The bona fide purchaser has the sameright to rely on an incidental and inseparable lien as on any other feature of a negotiablenote. Hamblen v. Folts, 70 Tex. 135, 7 S. W. 834. We therefore regard as thoroughly soundthe declaration of the Supreme Court of Missouri, in Mayes v. Robinson, 93 Mo. 114, 5 S.W. 611, that-‘If the defendant took the note discharged of any equities to which it **1099was subject in the hands of the payee, the deed of trust passed to him discharged of suchequities to the same extent. Logan v. Smith, 62 Mo. 455. The deed of trust, being incident tothe note, partook of the negotiability of its principal. Hagerman v. Sutton, 91 Mo. 519, 4 S.W. 73, and authorities cited. If the defendant was a bona fide holder of the note, for value,before maturity, without notice, he was in equal measure such bona fide holder of the deedof trust.“ (Italics ours.)

On this authority we conclude that, when Mrs. West became the bona fide holder of thenotes for value before maturity, she became in equal measure such bona fide holder of thedeed of trust which was executed to secure them.

It is, of course, true that a deed of trust to be effective must be delivered, butwe are of the opinion that a constructive delivery was proven by the undisputed evidence.

‘If the mortgage is made in pursuance of a previous agreement of the parties toplace a mortgage on the specific property, which the mortgagee has agreed to accept, thenthe act of the mortgagor in filing it for record in the proper office is a sufficient delivery of it. ** * And when a sufficient delivery has thus been effected, it is not counteracted by the factthat the mortgagor obtains the possession of the mortgage from the recorder's office, after itis recorded, and retains it.’ 41 C. J. p. 427.

See, also, the following authorities which hold that the filing for record by the grantor at therequest or with the consent of the grantee or mortgagee amounts to a contructive delivery.Newton v. Emerson, 66 Tex. 142, 18 S. W. 348; Russell v. Beckert (Tex. Civ. App.) 195 S.W. 607; Red River National Bank v. Summers (Tex. Civ. App.) 30 S.W.(2d) 726; 8 R. C. L.,p. 1006.

The retention of the deed of trust by the church after it was filed for record isunimportant if, as clearly appears to be true, it was executed and filed for record for thepurpose of creating a lien to secure the notes. Title may pass without actual manual deliveryof the instrument. The controlling question is *406 the grantor's intention. Taylor v. Sanford,108 Tex. 340, 345, 193 S. W. 661, 5 A. L. R. 1660; McCartney v. McCartney, 93 Tex. 359,


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20

21

22

23

24

364, 55 S. W. 310.

In Koppelmann v. Koppelmann, 94 Tex. 40, 57 S. W. 570, it is held that the depositingof a deed for record by the grantor is sufficient evidence of delivery, but that it is notconclusive, and that, in the absence of actual delivery to the grantee, the effect of a deedthus recorded depends upon the intent with which the acts relied upon as taking the place ofactual delivery were done. In the instant case the filing of the deeds of trust was a part ofthe closing of the loan, and the intention of the grantor undoubtedly was to create liens fullyeffective to secure the notes if and when they were effective. There is nothing in the recordto limit or qualify the grantor's intention, except the oral agreement that the notes would beheld until the church was completed. By reason of that oral agreement, the notes and thedeeds of trust were subject to equities while the notes were in the hands of the payee, butunder the rule announced in Pope v. Beauchamp, above discussed, the deed of trustsecuring the twenty-two notes sold to Mrs. West passed to her discharged of such equitiesto the same extent that the notes were discharged of them.

Since there is no assignment by the First Baptist Church complaining of thejudgment in favor of the Taft Bank for foreclosure of lien, the only question presented herewith respect to such lien is whether the bank has a lien superior to that securing the notespurchased by Mrs. West.

A lien is asserted to exist in favor of the bank, first, on the ground that it advanced money topay for labor and material in the construction of the building; and, second, on the ground thatthe church orally agreed that the bank should have a lien to secure the repayment of themoney so advanced.

The Constitution and the statute give liens to mechanics and materialmen for the value oflabor done and material furnished. They do not provide for liens in favor of personsadvancing money to pay for labor or material. Constitution, art. 16, s 37; Revised CivilStatutes, 1925, art. 5452. It was held in Gaylord v. Loughridge, 50 Tex. 573, that amechanic's lien statute in substantially the same terms as article 5452 did not protect a loanof money made and used for the purchase of material and the payment of labor. That case iscited with approval in Hess & Skinner Engineering Co. v. Turney, 110 Tex. 148, 156, 216 S.W. 621, and in *407 Employers' Casualty Co. v. County of Rockwall, 120 Tex. 441, 448, 35S.W.(2d) 690, 38 S.W. (2d) 1098. See, also, note and citation of many authorities in 74 A.L. R. pages 522 and following, supporting the general rule that a mechanic's ormaterialman's lien does not exist in **1100 favor of a third person advancing money withwhich to pay for labor or material.

As to the oral agreement, a mortgage or other lien upon real estate cannot be givenby parol. Allen v. Allen, 101 Tex. 362, 107 S. W. 528; Home Investment Co. v. FidelityPetroleum Co. (Tex. Civ. App.) 249 S. W. 1109 (application for writ of error refused); AaronFrank Clothing Co. v. Deegan (Tex. Civ. App.) 204 S. W. 471 (application for writ of errorrefused); 20 Tex. Juris. p. 288, 25 Tex. Juris. p. 796.

The bank was fully informed about the negotiations for the loan to be made upon thechurch property by Southern Mortgage Company, and did not agree to make the temporaryadvancement to the church until it was shown the definite commitment of the loan companyto pay the $20,000 to the church when the building was completed. Two of the members ofthe partnership constituting the bank were signers of the written instrument guaranteeing thepayment of the notes to the Southern Mortgage Company, which instrument described thenotes and the deed of trust to be executed. The money advanced by the bank wasevidenced by notes executed by the church, the first of date June 4, 1929, and on whichdate the first money was advanced by the bank. This was long after the execution of thenotes to Southern Mortgage Company and the filing of the deeds of trust securing them.

Without determining, as between the church and the bank, the correctness of the trialcourt's judgment that a lien exists in favor of the bank, we conclude, from the facts in therecord and under the authorities above cited, that such lien, so adjudged to exist, is inferiorand subordinate to the lien created by the deed of trust securing the twenty-two notes.

Any decision of this case would work a regrettable hardship upon one or more of theparties. This unfortunate result has its source in the misplaced confidence of the churchand the bank in the mortgage company, and more particularly it flows from the act of thechurch in intrusting the negotiable notes to the mortgage company. ‘If one of two innocent


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persons must suffer by a deceit, it is more consonant to reason that he who ‘puts trust andconfidence in the deceiver should be a loser rather than a stranger. “ Carpenter v. Longan,16 Wall. 271, 273, 21 L. Ed. 313, 315.

The judgment of the Court of Civil Appeals and that of the *408 district court are reversed,and the cause is remanded for trial in accordance with this opinion.

Opinion adopted by the Supreme Court.

Parallel Citations

71 S.W.2d 1090

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Douglas J. Whaley

Contact [email protected]

EducationB.A., University of Maryland,1965J.D., University of Texas, 1968(with honors)

MediaHigh Resolution Photo

ScholarshipCurriculum Vitae Bibliography

Related LinksDouglas Whaley Blog

Summer 2012 CoursesDebtor & Creditor

Moritz Law / Faculty / Directory / Douglas J. Whaley

Douglas J. Whaley

Professor Emeritus of Law

Professor Whaley teaches Contracts, ConsumerLaw, Commercial Paper, Sales, SecuredTransactions, and Debtor-Creditor Law.

Prior to joining the Ohio State faculty in 1976, hepracticed law in Chicago with Chapman and Cutlerand taught at Indiana University Law School inIndianapolis. Professor Whaley has won nine awardsfrom three universities for outstanding teaching,including an Ohio State University DistinguishedTeaching Award in 1978.

He is the author of seven casebooks (Contracts,Sales, Commercial Paper, Consumer Law, Debtor-Creditor Law, SecuredTransactions, and Commercial Law) and a book on warranties.

Professor Whaley also travels around the country giving lectures for bankers andtheir attorneys on "The Law of Checking Accounts."

The Ohio State University | Michael E. Moritz College of Law

55 West 12th Avenue | Columbus, OH 43210-1391 | (614) 292-2631

Moritz College of Law - Faculty: Douglas J. Whaley http://moritzlaw.osu.edu/faculty/bios.php?ID=66

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Administrator1

B

Mortgage Foreclosures, Promissory Notes, and the Uniform Commercial Code

Douglas J. Whaley∗ As is true of many things in life the Uniform Commercial Code’s statutes concerning the role of promissory notes in a mortgage foreclosure are both simple and at the same time complicated. The purpose of this article is to draw out the matter in detail, but let’s begin with the simple (and basic) rule first. Indeed let’s call the Golden Rule of Mortgage Foreclosure: the Uniform Commercial Code forbids foreclosure of the mortgage unless the creditor possesses the properly-negotiated original promissory note. If this can’t be done the foreclosure must stop. Of course there are exceptions and situations in which problems with the note can be addressed and cleared up, and those will be explored as we progress. The difficulty is that all too often the Golden Rule of Mortgage Foreclosure is simply ignored and the foreclosure goes ahead as if the rule were not the statutory law of every jurisdiction in the United States.1

Why is that? The answer is almost too sad to explain. The problem is that the Uniform Commercial Code is generally unpopular in general, and particularly when it comes to the law of negotiable instruments (checks and promissory notes) contained in Article Three of the Code. Most lawyers were not trained in this law when in law school (The course on the subject, whether called “Commercial Paper” or “Payment Law,” is frequently dubbed a “real snoozer” and skipped in favor or more exotic subjects), and so the only exposure to the topic attorneys have occurs, if at all, in bar prep studies (where coverage is spotty at best). Thus many foreclosures occur without it occurring to anyone that the UCC has any bearing on the issue. Judges are frequently similarly unlearned when the matter arises, and loath to hear more. If the defendant’s attorney announces that the Uniform Commercial Code requires the production of the original promissory note, the judge may react by saying something like, “You mean to tell me that some technicality of negotiable instruments law lets someone who’s failed to pay the mortgage get away with it if the promissory note can’t be found, and that I have to slow down my overly crowded docket in the hundreds of foreclosure cases I’ve got pending to hear about this nonsense?” It’s a wonder the judge doesn’t add, “If you say one more word about Article Three of the UCC you’ll be in contempt of court!” ∗ Professor Emeritus, The Ohio State University Moritz College of Law. The author would like to thank Professor Stephen McJohn of the Suffolk University Law School for his help in researching this article, and the many attorneys (often former students) whose contacts and questions has gotten him involved in these issues. Professor Whaley's blog has a post which updates current developments in mortgage foreclosure matters; see http://douglaswhaley.blogspot.com/2010/11/update-mortgage-foreclosure-and-missing.html. 1 Article 3 of the Uniform Commercial Code has been adopted in all jurisdictions in the United States. New York has adopted only the original version of Article 3, but in that state the relevant citations and the law remain the same with only minor variations in language.

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But the law is the law. If the judge doesn’t like what the state statute says that is no excuse for ignoring it. If the statute reaches a bad result then the legislature should repeal the statute, and until that occurs the courts must follow it. As it happens there are good and sufficient rules for Article Three’s mandates, as we shall see below.

I. The Landscape of the Mortgage Mess

Let's begin with what a mortgage actually is. Properly defined it is a consensual lien placed by the home owner (called the "mortgagor") on the real estate being financed in order secure the debt incurred by the loan in favor of the lender/mortgagee. The debt is created by the signing of a promissory note (which is governed by Article Three of the Uniform Commercial Code); the home owner will be the maker/issuer of the promissory note and the lending institution will be payee on the note. There is a common law maxim that "security follows the debt." This means that it is presumed that whoever is the current holder of the promissory note (the "debt") is entitled to enforce the mortgage lien (the "security"). The mortgage is reified as a mortgage deed which the lender should file in the local real property records so that the mortgage properly binds the property not only against the mortgagor but also the rest of the world (this process is called "perfection" of the lien).1 What happens to the promissory note? In the good old days, the twentieth century, it was kept down at the bank so that when the time for payment arrived the bank could present it to the mortgagor when due, and, if it wasn't paid, the mortgagee could then use legal process (or in some states self-help) to foreclose on the mortgage lien. But during the feeding frenzy that the real estate mortgage community indulged in for the last decade, more bizarre things happened. The mortgages themselves were no longer kept at the originating bank, nor were the notes. Instead they were bundled together with many others and sold as a package to an investment banking firm, which put them in a trust and sold stock in the trust to investors (a process called “securitization”). The bankers all knew the importance of the mortgage, and supposedly kept records as to the identity of the entities to whom the mortgage was assigned. But they were damn careless about the promissory notes, some of which were properly transferred whenever the mortgage was, some of which were kept at the originating bank, some of which were deliberately destroyed (a really stupid thing to do), and some of which disappeared into the black hole of the financial collapse, never to be seen again. In recent years the combination of subprime lending, securitization of mortgage loans, a housing market that first boomed then busted, rapacious predators who worked hard to take for themselves the equity people had built up in their homes, and foreclosure mills that operated with neither proper paperwork, nor attention to the rules of law, much less common decency, led to an explosion of laws and legal actions designed to deal with these matters.

1 The "mort" portion of the word mortgage comes from Latin for "death" (as in "mortician," "morgue," "mortal," etc.) because on the payment of the promissory note debt, the mortgage deed dies.

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The collapse of the housing market in 2008 was a direct consequence of these greedy and unwise business practices. Gullible consumers were encouraged to take out mortgages they could not afford on property that turned out to be worth far less than the mortgage indebtedness. Minority communities were particularly hard hit, often targeted by shady lenders because people of color are more likely to store their wealth in home equity in many USA communities. Things went fine until real property stopped appreciating in value and its worth dropped to alarmingly low levels, with a recession that engulfed the country and, indeed, the world. Not just subprime borrowers were affected; the recession reduced the value of almost all property, and perfectly responsible mortgagors (many of whom were also laid off from their jobs) began to struggle to make payments and avoid foreclosure. According to one monitoring agency, a record number of homes received foreclosure filings in 2010 (over 2.9 million).2

Ten years or so ago the bank that made the mortgage loan filed the mortgage deed in the local real property records so as to perfect its interest in the realty. But when the mortgages themselves began to be assigned, changing the real property records at the time of each transfer would be both expensive and awkward. Filing fees in real property record offices average $35 every time a new document is filed. The solution was the creation of a straw-man holding company called Mortgage Electronic Registration Systems [MERS]. MERS makes no loans, collects no payments, though it does sometimes foreclose on properties (through local counsel). Instead it is simply a record-keeper that allows its name to be used as the assignee of the mortgage deed from the original lender, so that MERS holds the lien interest on the real property. While MERS has legal title to the property, it does not pretend to have an equitable interest. At its headquarters in Reston, Va., MERS (where it has only 50 full time employees, but deputizes thousands of temporary local agents whenever needed) supposedly keeps track of who is the true current assignee of the mortgage as the securitization process moves the ownership from one entity to another.3 Meanwhile the homeowner, who has never heard of MERS, is making payment to the mortgage servicer (who forwards them to whomever MERS says is the current assignee of the mortgage). If the payments stop, the servicer will so inform the current assignee who will then either order MERS to foreclose or will take an assignment of the mortgage interest

2 RealtyTrac Staff, Record 2.9 Million U.S. Properties Receive Foreclosure Filings in 2010 Despite 30-Month Low in December, RealtyTrac (Jan. 12, 2011), http://www.realtytrac.com/content/press-releases/record-29-million-us-properties-receive-foreclosure-filings-in-2010-despite-30-month-low-in-december-6309. This immediately followed late 2009, where the third quarter saw 937,840 homes receive some sort of foreclosure letter, which at that point was “‘the worst three months of all time.’” Les Christie, Foreclosures: ‘Worst three months of all time’, CNN (Oct. 15, 2009, 7:34 AM), http://money.cnn.com/2009/10/15/real_estate/foreclosure_crisis_deepens/. 3 See HSBC Bank USA, N.A. v. Charlevagne (2008), 20 Misc.3d 1128(A), 872 N.Y.S.2d 691 (Table), 2008 WL 2954767, and HSBC Bank USA, Nat. Assn. v. Antrobus (2008), 20 Misc.3d 1127(A), 872 N.Y.S.2d 691,(Table), 2008 WL 2928553 (describing “possible incestuous relationship” between HSBC Bank, Ocwen Loan Servicing, Delta Funding Corporation, and Mortgage Electronic Registration Systems, Inc., due to the fact that the entities all share the same office space at 1661 Worthington Road, Suite 100, West Palm Beach, Florida. HSBC also supplied affidavits in support of foreclosure from individuals who claimed simultaneously to be officers of more than one of these corporations .).

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from MERS so that it can foreclose in its own name. Amazingly, MERS Corporation holds title to roughly half of the home mortgages in the country, some 60 million of them!4

II. The Uniform Commercial Code Article 3 of the Uniform Commercial Code could not be clearer when it comes to the issue of mortgage note foreclosure. When someone signs a promissory note as its maker ("issuer"), he/she automatically incurs the obligation in UCC §3-412 that the instrument will be paid to a "person entitled to enforce" the note.5 "Person entitled to enforce"—hereinafter abbreviated to "PETE"—is in turn defined in §3-301:

"Person entitled to enforce" an instrument means (i) the holder of the instrument, (ii) a nonholder in possession of the instrument who has the rights of a holder, or (iii) a person

4 Things would have gone better for MERS if it had done its job more thoroughly, but in the speed and volume that was necessitated by the boom/bust economy, it became sloppy, its records often confused, and eventually courts started blowing the whistle. There are decisions reaching all possible results, but recently many courts (and particularly bankruptcy ones) are questioning whether MERS has standing to foreclose on any of the mortgages it holds. The Supreme Court of Arkansas has even ruled that since it makes no loans MERS cannot be the mortgagee on a deed filed in the Arkansas property records; see Mortgage Elec. Registration System, Inc. v. Southwest Homes of Arkansas, 2009 Ark. 152, 301 S.W.3d 1 (2009). In one Utah trial court decision, reported in news articles, a judge ruled that MERS couldn't prove up its records and granted the home owner's petition to quiet title and remove the MERS deed from the records. No one could find the promissory note (on which further liability depends), so that particular home owner is a major beneficiary of the MERS mess. MERS has been under much greater attacks lately. News articles have reported that in early February, 2012, the New York Attorney General filed suit against the major banks charging that their use of MERS was an "end run" around the property recording system, which was designed so that the identity of the true mortgagee would be a public record. In 2012, Merscorp, Inc., which operates MERS, was sued by the Delaware Attorney General who alleged it initiated foreclosures for which "the authority has not been fully determined and may not be legitimate."

5 Uniform Commercial Code §3-412. Obligation of Issuer of Note or Cashier's Check.

The issuer of a note . . . is obliged to pay the instrument (i) according to its terms at the time it was issued . . . . The obligation is owed to a person entitled to enforce the instrument . . . .

[Emphasis added.]

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not in possession of the instrument who is entitled to enforce the instrument pursuant to Section 3-309 or 3-418(d) . . . .

Three primary entities are involved in this definition that have to do with missing promissory notes: (1) a "holder" of the note, (3) a "non-holder in possession who has the rights of a holder, and (3) someone who recreates a lost note under §3-309.6 Let's take them one by one. A. "Holder" Essentially a "holder" is someone who possesses a negotiable instrument payable to his/her order or properly negotiated to the later taker by a proper chain of indorsements. This result is reached by the definition of "holder" in §1-201(b)(21):

(21) “Holder” means: (A) the person in possession of a negotiable instrument that is payable either to bearer or

to an identified person that is the person in possession . . . . and by §3-203:

(a) “Negotiation” means a transfer of possession, whether voluntary or involuntary, of an instrument by a person other than the issuer to a person who thereby becomes its holder.

(b) Except for negotiation by a remitter, if an instrument is payable to an identified

person, negotiation requires transfer of possession of the instrument and its indorsement by the holder. If an instrument is payable to bearer, it may be negotiated by transfer of possession alone. The rules of negotiation follow next. B. “Negotiation” A proper negotiation of the note creates “holder” status in the transferee, and makes the transferee a PETE. The two terms complement each other: a “holder” takes through a valid “negotiation,” and a valid “negotiation” leads to “holder” status. How is this done? There are two ways: a blank indorsement or a special indorsement by the original payee of the note. With a blank indorsement (one that doesn’t name a new payee) the payee simply signs its name on the back of the instrument. If an instrument has been thus indorsed by the payee, anyone (and I mean anyone) acquiring the note thereafter is a PETE, and all the arguments 6 Section 3-418(d) is also referenced in the PETE definition but it has to do with recreating the rights of indorsers in instrument paid by mistake, which is not something that arises in mortgage foreclosure cases.

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explored below will not carry the day. Once a blank indorsement has been placed on the note by the payee, all later parties in possession of the note qualify as “holders,” and therefore are PETEs.7 If the payee’s indorsement on the back of the note names a new payee (“pay to X Company”), that's called a “special indorsement.” Now only the newly nominated payee can be a “holder” (a status postponed until the new payee acquires the note—you have to hold to be a holder). The special indorsee, wishing to negotiate the note to a new owner, may now sign in blank, creating a bearer instrument, or may make another special indorsement over to the new owner. Only if there is a valid chain of such indorsements has a negotiation taken place, thus creating “holder” status in the current possessor of the note and making that person a PETE. With the exception mentioned next, the indorsements have to be written on the instrument itself (traditionally on the back). C. The Allonge. Sometimes the indorsement is not made on the promissory note, but on a separate piece of paper, called an “allonge,” which is formally defined as a piece of paper attached to the original note for purposes of indorsement.8 An allonge has an interesting history, traceable to the days in which instruments circulated for long periods before being presented for payment. Consider, for example, the early period in United States history before it was even a country. People living in the Americas frequently had their banks back in Great Britain. If they drew up drafts ("check") on these banks and gave them to another American, that person was unlikely to immediately send it across the Atlantic to the mother country. Instead, the payee would simply indorse it over to one of the payee's creditors, who would do the same. In those days drafts would circulate, more or less like money, for extended periods of time. But the drafts quickly ran out of room on which to place indorsements, so a separate piece of paper, called an "allonge" was glued to the original draft and the new indorsements were placed on the allonge. There are cases from Great Britain where the allonge had over a hundred indorsements before finally being presented to the drawee for payment.9 The Uniform Commercial Code still allows the use of an allonge, and given the large number of transfers that some mortgage promissory notes have had in the last few years, there are many new cases dealing with the allonge. These cases frequently reveal problems with negotiation that give the current holder of the instrument difficulties in trying to establish "holder status. For example, the allonge must be “affixed to the instrument” per §3-204(a)’s last sentence. It is not enough that there is a separate piece of paper which documents the transfer

7 See, e.g., Riggs v. Aurora Loan Services, 36 So.3d 932 (Fla. App. 2010). 8 See Official Comment 1 (last paragraph) to §3-204. 9 L.S. PRESNELL, COUNTRY BANKING IN THE INDUSTRIAL REVOLUTION 172-73 (1956), discussed in J. ROGERS, THE END OF NEGOTIABLE INSTRUMENTS 32 (2012).

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unless that piece of paper is “affixed” to the note.10 What does “affixed” mean? The common law required gluing. Would a paper clip do the trick? A staple?11 Thus a contractual agreement by which the payee on the note transfers an interest in the note, but never signs it, cannot qualify as an allonge (it is not affixed to the note), and no proper negotiation of the note has occurred. If the indorsement by the original mortgagee/payee on the note is not written on the note itself, there must be an allonge or the note has not been properly negotiated, and the current holder of that note is not a PETE (since there is no proper negotiation chain). Another difficulty with allonges that has bothered a number of courts occurs in the following fact pattern. The promissory note apparently has a valid indorsement of the payee's name either on the back of the note or on the accompanying allonge, but the evidence shows that when the note was transferred to the current possessor that signature was not then on the note. Instead it is clear that the current possessor, realizing the problem, went back to the payee and had it indorse the note over to the current possessor, thus clearing up the negotiation issue. But some courts have disallowed such a late negotiation by the original payee on the theory that by the time the payee's signature was added to the note, the payee no longer had an "ownership" interest in the note and thus no title to convey, which supposedly invalidates the late indorsement.12 This is simply wrong, and is a misunderstanding of the difference between ownership and the rules of negotiation. The Code never requires the person making an indorsement to have an ownership interest in the note13 (though of course the payee normally does have such an interest), but simply that he/she is the named payee, and the Code clearly allows for correction of a missing indorsement. Section 3-203(c) provides for it specifically:

10 See Adams v. Madison Realty & Dev., Inc., 853 F.2d 163, 6 U.C.C. Rep. Serv. 2d 732 (3d Cir. 1988) (mere folding of the alleged allonge around the note insufficient—$19.5 million lost because of this legal error!); Error! Main Document Only.HSBC Bank USA v. Thompson, 2010 WL 3451130 (Ohio App. 2010) (unattached pages cannot be an allonge) In re Weisband, 427 B.R. 13 (Bkrtcy.D.Ariz. 2010) (same). 11 I know of no paper clip cases, but it does seem unlikely a court would hold that such a clip would "firmly affix" one piece of paper to another. As for staples, see Lamson v. Commercial Credit Corp., 187 Colo. 382, 531 P.2d 966, 16 U.C.C. Rep. Serv. 756 (1975) (“Stapling is the modern equivalent of gluing or pasting. Certainly as a physical matter it is just as easy to cut by scissors a document pasted or glued to another as it is to detach the two by unstapling”); accord Southwestern Resolution Corp. v. Watson, 964 S.W.2d 262, 263 (Tex.1997). I tell my law students that they'll know they've hit the big time if they're in the Colorado Supreme Court arguing about whether a staple firmly affixes an allonge to the original instrument. One court has also blessed the used of an Acco fastener; Federal Home Loan Mortg. Corp. v. Madison, 2011 WL 2690617 (D. Ariz. 2011). 12 The leading (misleading?) case is Anderson v. Burson, 424 Md. 232, 35 A.3d 452 (2011). 13 Thieves can qualify as a "holder" of a negotiable instrument and thereafter validly negotiate same to another; see Official Comment 1 to 3-201, giving an example involving a thief.

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(c) Unless otherwise agreed, if an instrument is transferred for value and the transferee does not become a holder because of lack of indorsement by the transferor, the transferee has a specifically enforceable right to the unqualified indorsement of the transferor, but negotiation of the instrument does not occur until the indorsement is made.

And Official Comment 3 explains: "The question may arise if the transferee has paid in advance and the indorsement is omitted fraudulently or through oversight. . . . Subsection (c) provides that there is no negotiation of the instrument until the indorsement by the transferor is made. Until that time the transferee does not become a holder . . . ."

If the allonge is not in order, or there are other problems with the negotiation of the note (the original payee’s name is missing, for example), the person suing on the instrument will have to rely on the “shelter rule” to become a PETE, and so let's turn to that rule. D. The Shelter Rule. It has always been a basic rule in commercial law that the sale of anything vests in the buyer whatever rights the seller had in the object sold. Phrased another way, the buyer takes "shelter" in the rights of the seller. Even legal rights can pass in this way, including “holder” status. Say, for example, that the payee fails to indorse the note (so no “negotiation” takes place) but instead sells the note to a new owner. The new owner is not a “holder” (since there has not been an indorsement by the payee), but the new owner takes shelter in the holder status of its buyer, and thus is a PETE according to both §§3-301 (defining PETE) and 3-203(b) (the shelter rule itself). In this case, the burden of proving proper possession is on the person in holding the instrument, and until that is done no liability on the note arises (since the maker of the note's obligation to pay it under §3-412, see above, only runs to a PETE). The shelter rule even acts to pass on the original holder’s rights completely down the chain as long as the current possessor of the note can prove the validity of all previous transfers in between. The shelter rule can be hugely useful to the foreclosing entity. Say that the original payee on the note was First Bank, which never indorsed the note at all. The note was then transferred into the hands of Second Bank, which is the plaintiff in the current foreclosure action. Second Bank, using the shelter rule, is a PETE as long as it proves the chain of transfers of the note, obtaining the "holder" status of First Bank even without proper indorsements on the note or an allonge. The courts have had no problem reaching this result.14 E. Lost Notes

14 See In re Veal, 450 B.R. 897 (9th Cir. BAP 2011); Anderson v. Burson, 424 Md. 232, 35 A.3d 452 (2011); Leyva v. National Default Servicing Corp., 255 P.3d 1275 (Nev. 2011); In re Kang Jin Hwang, 396 B.R. 757 (Bkrtcy.C.D.Cal. 2008).

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If the note has been lost, §3-309 of the UCC allows for the re-creation of lost or destroyed notes. It states:

(a) A person not in possession of an instrument is entitled to enforce the instrument if (i) the person was in possession of the instrument and entitled to enforce it when loss of possession occurred, (ii) the loss of possession was not the result of a transfer by the person or a lawful seizure, and (iii) the person cannot reasonably obtain possession of the instrument because the instrument was destroyed, its whereabouts cannot be determined, or it is in the wrongful possession of an unknown person or a person that cannot be found or is not amenable to service of process. (b) A person seeking enforcement of an instrument under subsection (a) must prove the terms of the instrument and the person's right to enforce the instrument. If that proof is made, Section 3-308 applies to the case as if the person seeking enforcement had produced the instrument. The court may not enter judgment in favor of the person seeking enforcement unless it finds that the person required to pay the instrument is adequately protected against loss that might occur by reason of a claim by another person to enforce the instrument. Adequate protection may be provided by any reasonable means.15

Note that (b) places the burden of proving a right to payment on the person claiming the right to enforce the lost instrument. Nothing is presumed. The plaintiff must show the validity of 15 The 2002 version of §3-309 has slightly different wording of (a): (a) A person not in possession of an instrument is entitled to enforce the instrument if: (1) the person seeking to enforce the instrument: (A) was entitled to enforce the instrument when loss of possession occurred; or (B) has directly or indirectly acquired ownership of the instrument from a person who was entitled to enforce the instrument when loss of possession occurred; (2) the loss of possession was not the result of a transfer by the person or a lawful seizure; and (3) the person cannot reasonably obtain possession of the instrument because the instrument was destroyed, its whereabouts cannot be determined, or it is in the wrongful possession of an unknown person or a person that cannot be found or is not amenable to service of process. The 2002 rewrite of (a) was to allow an assignee of the entity which lost the note to enforce it, a result that most courts reached even without this clarification. See Atlantic Nat. Trust, LLC v. McNamee, 984 So.2d 375 (Ala. 2007).

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each transfer of the instrument from the original payee to the current plaintiff, and explain how and why the note cannot be produced.16 The last sentence in §3-309 (see above) does allow the court to rule in favor of the entity claiming under a lost note if there is a bond or other security posted to protect the payor from the risk of double payment to a later party producing the note. F. The Golden Rule of Mortgage Foreclosure Under the UCC As stated in the first paragraph of this article, the Golden Rule of Mortgage Foreclosure: the Uniform Commercial Code forbids foreclosure of the mortgage unless the creditor possesses the properly-negotiated original promissory note. If this can’t be done the foreclosure must stop. The maker who signs a promissory note is only liable per §3-412 to a "person entitled to enforce" (PETE) the note, a term described in §3-301 so that only someone in possession of a validly negotiated note qualifies. As we saw above, defects in negotiation frequently defeat the ability to be a PETE, and therefore stop the foreclosure from being successful.17 Let's now turn to the possession requirement, which is emphasized over and over in §3-301's definition of PETE and its accompanying Official Comment. An assignee of the mortgage who does not have the promissory note is not allowed to foreclose on the mortgage18 Without the note, the foreclosing entity does not have "standing" to sue (and/or—a civil procedure distinction that is not my forte—is not the "real party in interest").19 As United States District Judge Christopher Boyko explained throwing out a

16 See In re Carter, 681 S.E.2d 864 (N.C. App. 2009). In one major misstep, a bank in Florida, in a "paper reduction effort" is reputed to have deliberately put the notes through a paper shredder after making photocopies of them! Any attorney who approved such a practice should be disbarred. 17 See Leyva v. National Default Servicing Corp., 255 P.3d 1275 (Nev. 2011); In re David A. Simpson, P.C., 711 S.E.2d 165 (N.C.App. 2011); Fed. Home Loan Mtge. Corp. v. Schwartzwald, 194 Ohio App.3d 644, 957 N.E.2d 790 (2011); U.S. Bank Nat. Ass'n v. Kimball, 27 A.3d 1087 (Vt. 2011). 18 In re Miller, 666 F.3d 1255 (10th Cir. 2012); Veal v. Am. Home Mortg. Servicing, Inc. (In re Veal), 450 B.R. 897, 914 (9th Cir.BAP 2011); In re Foreclosure Cases, 2007 WL 3232430 (N.D.Ohio 2007); In re Vargus, 396 B.R. 511 (Bankr. C. D. Cal. 2008); Norwood v. Chase Home Finance LLC, 2011 WL 197874 (W.D.Tex.,2011); Fed. Home Loan Mtge. Corp. v. Schwartzwald, 194 Ohio App.3d 644, 957 N.E.2d 790 (2011); Manufacturers and Traders Trust Co. v. Figueroa, 2003 WL 21007266, 34 Conn. L. Rptr. 452 (Conn. Super. 2003); In re David A. Simpson, P.C., 711 S.E.2d 165 (N.C.App. 2011); U.S. Bank Nat. Ass'n v. Kimball, 27 A.3d 1087 (Vt. 2011) ("It is neither irrational nor wasteful to expect a foreclosing party to actually be in possession of its claimed interest in the note, and to have the proper supporting documentation in hand when filing suit"). 19 In re Miller, 666 F.3d 1255 (10th Cir. 2012); Veal v. Am. Home Mortg. Servicing, Inc. (In re Veal), 450 B.R. 897, 914 (9th Cir.BAP 2011); In re Foreclosure Cases, 2007 WL 3232430 (N.D. Ohio 2007); ; In re Sheridan, 2009 WL 631355 (Bankr.D.Idaho 2009) (a moving party which has the burden of proof must make a showing that it is actually a party in interest to the proceedings); In re Wilhelm, 407 B.R. 392 (Bankr. D. Idaho 2009); In re Weisband, 427 B.R. 13

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number of mortgage foreclosure cases, attempts to slide past the jurisdictional issue that arises from filing without the necessary paperwork is unacceptable:

Plaintiff's, “Judge, you just don't understand how things work,” argument reveals a condescending mindset and quasi-monopolistic system where financial institutions have traditionally controlled, and still control, the foreclosure process. Typically, the homeowner who finds himself/herself in financial straits, fails to make the required mortgage payments and faces a foreclosure suit, is not interested in testing state or federal jurisdictional requirements, either pro se or through counsel. Their focus is either, “how do I save my home,” or “if I have to give it up, I'll simply leave and find somewhere else to live.” In the meantime, the financial institutions or successors/assignees rush to foreclose, obtain a default judgment and then sit on the deed, avoiding responsibility for maintaining the property while reaping the financial benefits of interest running on a judgment. The financial institutions know the law charges the one with title (still the homeowner) with maintaining the property.

There is no doubt every decision made by a financial institution in the foreclosure process is driven by money. And the legal work which flows from winning the financial institution's favor is highly lucrative. There is nothing improper or wrong with financial institutions or law firms making a profit-to the contrary, they should be rewarded for sound business and legal practices. However, unchallenged by underfinanced opponents, the institutions worry less about jurisdictional requirements and more about maximizing returns. Unlike the focus of financial institutions, the federal courts must act as gatekeepers, assuring that only those who meet diversity and standing requirements are allowed to pass through. Counsel for the institutions are not without legal argument to support their position, but their arguments fall woefully short of justifying their premature filings, and utterly fail to satisfy their standing and jurisdictional burdens. The institutions seem to adopt the attitude that since they have been doing this for so long, unchallenged, this practice equates with legal compliance. Finally put to the test, their weak legal arguments compel the Court to stop them at the gate.

The Court will illustrate in simple terms its decision: “Fluidity of the market”-“X” dollars, “contractual arrangements between institutions and counsel”-“X” dollars, “purchasing mortgages in bulk and securitizing”-“X” dollars, “rush to file, slow to record after judgment”-“X” dollars, “the jurisdictional integrity of United States District Court”-“Priceless.”20

(Bkrtcy.D.Ariz. 2010); In re Jacobson, 402 B.R. 354 (Bankr.W.D.Wash.2009) where movants attempted to show that they were a party in interest with a deed rather than a note, but the court held that “[h]aving an assignment of the deed is not sufficient, because the security follows the obligation secured, rather than the other way around.” Id. at 367 (citations omitted) accord Idaho Code § 45–911 (“The assignment of a debt secured by mortgage carries with it the security.” 20 In re Foreclosure Cases, 2007 WL 3232430, footnote 3 (N.D. Ohio 2007).

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Nor will a mere copy of the note suffice.21 There could be 100 copies of the original note, but that would not create a right of foreclosure in 100 plaintiffs. To the bank's argument that a copy of the promissory note should be enough, ask any banker if he/she would be willing to accept a copy of check. There are good practical reasons for the possession requirement. If the maker of the note pays a "person not entitled to enforce," he/she is not discharged from liability on the note, and faces the prospect of having to pay the true owner when that person surfaces with proof of ownership of the note (see §§3-601 and 3-602 above).22 Courts must take special care not to expose the maker to such double liability. G. Is the Promissory Note Negotiable? This is a thorny issue. First of all, as the debtor’s attorney, don’t raise the issue yourself. Why not? Because if the note is not technically “negotiable” under the rigid rules of UCC §3-104 then arguably the Uniform Commercial Code does not apply, and all of the statutory provisions examined above are not the law. Thus the attorney for the foreclosing entity may think of this and want to argue it (on the other hand, most attorneys would rather slaughter hogs than contemplate the elements of negotiability), so what happens if it does comes up? There have been serious scholarly arguments that most mortgage notes are not technically negotiable.23 The typical issue concerns what is called the “courier without luggage” requirement: the note must not contain promises or obligations (with certain exceptions) other than a bald promise to pay the debt to the order of a named person or bearer.24 Pennsylvania’s Chief Justice John Gibson once said that a negotiable instrument must be a “courier without luggage.”25 This oft-repeated description means that the instrument must not be burdened with anything other than the simple and clean unconditional promise or order; it cannot be made to truck around other legal obligations. If the maker of a note adds any additional promises to it, the note becomes non-negotiable because the prospective holder is then given notice that the note is or may be conditioned on the performance of the other promise. Section 3-104(a)(3) specifies the 21 In re Veal, 450 B.R. 897 (9th Cir. BAP 2011) (dueling creditors attempting to foreclose each held only a copy of the note, but not the original); In re Adams, 204 N.C. App. 318, 693 S.E.2d 705 (2010) (copy of note sufficient as long as possession of the original note is alleged, but if possession challenged it must be proven, along with a valid chain of indorsements to demonstrate proper negotiation). 22 See Leyva v. National Default Servicing Corp., 255 P.3d 1275 (Nev. 2011); In re Adams, 204 N.C. App. 318, 693 S.E.2d 705 (2010); Error! Main Document Only.HSBC Bank USA v. Thompson, 2010 WL 3451130 (Ohio App. 2010). 23 See Neil Cohen, "The Calamitous Law of Notes," 68 Ohio St. L.J. 161 (2007); Ronald J. Mann, Searching for Negotiability in Payment and Credit Systems, 44 UCLA L. Rev. 951, 962-85 (1997). 24 UCC §§3-104(a)(3), 3-106. 25 Overton v. Tyler, 3 Pa. 346, 347 (1846).

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few additional items that may be mentioned in an instrument without destroying its negotiable character.26 Since most mortgage notes are cluttered with extraneous promises by the maker, the contention is at these notes are not “negotiable instruments” as that term is defined in the UCC. In the article mentioned in footnote 23, Professor Ronald Mann argues that a promise in the typical mortgage note provides that on electing to make a prepayment, the maker of the note must give a written notice to that effect to the holder of the note. Is this an extraneous promise forbidden in a “negotiable” note? He argues it is, but that seems wrong to me. UCC §3-106(b) allows a references to another document for rights as to prepayment, and while that is not exactly what is happening here, it is an indication that the Code drafters were unconcerned with prepayment issues when it came to negotiability (the reason being that prepayment aids the maker, so the rules should be construed to protect that bias). So far the courts have not agreed that such promises destroy negotiability.27 Further, what is the harm by so minor a promise, that it should strip away the protection of the only uniform treatment of the law from what all parties intended to be a promissory note? Official Comment 2 to §3-104 states that a major test on whether the parties intended to create a negotiable instrument is the inclusion vel non of “order or bearer” language in the note. Since the typical note is payable to the “order” of a named payee, that should settle it that the parties did intend for the UCC to apply to their transaction. The same Official Comment goes on to provide that where the parties intended to create a negotiable instrument but made some minor misstep, Article 3 could be applied by analogy (since it is the current best thinking of how instruments should be legally governed—amended most recently in 2002). Courts have been receptive to this analogy argument.28 Destroying the negotiability of the promissory note is not always a good thing for the foreclosing entity. If the note is not negotiable, then there can no holder in due course of that note who will take free of defenses to the note. Such a status is reserved only for negotiable instruments. A non-negotiable instrument is merely a contract, and like all contracts it travels with its defenses whenever assigned from one entity to another.29 There is no such thing as a holder in due course of a non-negotiable instrument. This is important to foreclosing entities where the homeowner has defenses to payment that can be asserted in contract actions, but which are not assertable against a holder in due course.30 Say, for example, that the homeowner was tricked by fraud into signing the mortgage due to extravagant lies told by the lender (which often

26 See also §3-106. 27 See HSBC Bank USA, Nat. Ass'n v. Gouda, 2010 WL 5128666, 73 UCC Rep.Serv.2d 226 (N.J.Super. 2010); In re Edwards, 2011 WL 6754073 (Bkrtcy.E.D.Wis. 2011). 28 In re Veal, 450 B.R. 897 (9th Cir. BAP 2011); see also Fred H. Miller & Alvin C. Harrell, The Law of Modern Payment Systems § 1.03[1][b] (2003). 29 See Restatement (Second) of Contracts §336 (Defenses Against an Assignee). 30 Per UCC §3-305, a holder in due course is free of "person" defenses, and only subject to the short list of "real" ones, which do not include common law fraud.

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happened, particularly in the sub-prime market).31 Such a defense would not be good against a holder in due course, who could foreclose and take the home free of the fraud allegation. This is happening over and over.32 Finally, if all else fails and the note is deemed nonnegotiable, then the common law would apply, and the common law routinely required possession of a promissory note before foreclosure could proceed, though that's going to take some library research to prove up state by state.33

III. The Difference Between the Note and the Mortgage

Faced with these daunting UCC provisions, but not possessing the original promissory note, some entities foreclosing have turned to the mortgage contract itself, and tried to use the failure of the home owner to make the payments required by that contract as a ground for the foreclosure. "We can prove that the mortgage was assigned to us, so we'll use it as the grounds for foreclosure," is their mantra. Let's explore why that possibility won't work. When the purchaser of real property attends the closing and signs paper after paper the three primary legal documents that are involved in a later foreclosure are (1) the promissory note by which the new homeowner, called the maker of the note, promises to pay the lender (the payee) the amount being borrowed to finance the mortgage, (2) the mortgage contract which promises the same thing and has a large number of additional contractual obligations and duties, and (3) the mortgage deed which transfers title to the real estate involved from the homeowner (“mortgagor”) to the lending institution (‘mortgagee”). The lender keeps the note and the mortgage contract, and files the mortgage deed in the real property records so as to create a lien on the property which must be satisfied before the property could later be transferred to someone else. A. "Security Follows the Debt"

31 How these mortgages came to be is delineated in horrible detail in such books as Michael W. Hudson's "The Monster: How a Gang of Predatory Lenders and Wall Street Bankers Fleeced America and Spawned a Global Crisis" (2010).

32 The most egregious case is Brown v. Carlson, 26 Mass.L.Rptr. 61, 2009 WL 2914191 (Mass.Super. 2009), in which the mortgage fraud was perpetrated on "a retired crossing guard, widowed and in her sixties, with an eighth grade education," who lost her home to a holder in due course. See also In re Carmichael, 443 B.R. 698 (Bkrtcy.E.D.Pa. 2011); In re Dixon-Ford, 2011 WL 6749083 (Bkrtcy.D.N.J. 2011). 33 See the Restatement of Property (Mortgages) §5.4 and its Comments. For a historical discussion of the reification of the underlying obligation in the physical form of a bill or note, see J. ROGERS, THE END OF NEGOTIABLE INSTRUMENTS 24-39 (2012).

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The common law was clear that the mortgage contract and the mortgage deed are mere "security" for the payment of the promissory note (the "debt"). It is a common law maxim that “security follows the debt.”34 This means the mortgage travels along with the promissory note, and that the note is the important item, not the mortgage itself. Thus whoever has the promissory note is the only entity that can enforce the mortgage. The courts are more or less unanimous on this.35 The United States Supreme Court established the basic rule early in the 1873 case of Carpenter v. Longan:36 "The note and mortgage are inseparable; the former as essential, the latter as an incident. An assignment of the note carries the mortgage with it, while an assignment of the latter alone is a nullity. . . . The mortgage can have no separate existence. When the note is paid the mortgage expires. It cannot survive for a moment the debt which the note represents. This dependent and incidental relation is the controlling consideration . . . ." A purported assignment of a mortgage to a bank is not proof of a transfer of a promissory note secured by the mortgage, since the mortgage follows the note but not vice versa.37 Indeed, Article 9 of the Uniform Commercial Code codifies this idea. Section 9-203(g) provides that whoever has a perfected interest in the note automatically has a perfected interest in the underlying mortgage ("security follows the debt"). But Article 9 says nothing about who is entitled to enforce the note when it comes due, which is left to Article 3; thus the plaintiff in the foreclosure must still prove it is a PETE, as that term is defined in Article 3. Moreover, even if §9-203(g) works its magic to transfer the mortgage interest to the possessor of the note, that does not mean that foreclosure can be had without satisfying the court (in judicial foreclosures) that the state foreclosure laws requiring a clear chain of mortgage assignments have been met. In non-judicial foreclosure state, UCC §9-607(b) provides that "if necessary to enable a secured party [including the buyer of a mortgage note] to exercise the right of [its transferor] to enforce a mortgage non-judicially," the secured party may record in the office in which the mortgage is recorded (i) a copy of the security agreement transferring an interest in the note to the secured party and (ii) the secured party’s sworn affidavit in recordable form stating that default has occurred and that the secured party is entitled to enforce the mortgage non-judicially.38 For a 34 Noland v. Wells Fargo Bank, N.A., 395 B.R. 33 (Bankr. S.D. Ohio 2008); Manufacturers and Traders Trust Co. v. Figueroa, 2003 WL 21007266, 34 Conn. L. Rptr. 452 (Conn. Super. 2003). 35 “For nearly a century, Ohio courts have held that whenever a promissory note is secured by a mortgage, the note constitutes the evidence of the debt and the mortgage is a mere incident to the obligation. Edgar v. Haines 109 Ohio St. 159, 164, 141 N.E. 837 (1923).. Therefore, the negotiation of a note operates as an equitable assignment of the mortgage, even though the mortgage is not assigned or delivered.” U.S. Bank Natl. Assn. v. Marcino, 181 Ohio App.3d 328, 908 N.E.2d 1032 (2009). 36 83 U.S. 271, 274 (1873). 37 Deutsche Bank Nat. Trust Co. v. Byrams, 2012 OK 4, 2012 WL 130661 (Okla. 2012). 38 Various provisions in Article 9, see §§9-203(b), 9-309(3), provide that the creation of a security interest (that is, ownership rights) in a promissory note that is being sold (as opposed to being used as collateral) does not require the buyer of the note to take possession of the note if the sale is made pursuant to an agreement reflected in a writing or other record. Some lawyers seem to think that this gets rid of the need to possess the note for foreclosure purposes. It doesn't,

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complete discussion of these issues, see the UCC's Permanent Editorial Board's official explanation: http://www.ali.org/00021333/PEB%20Report%20-%20November%202011.pdf There has been an attack on this concept recently in a way that might aid homeowners. In U.S. Bank v. Ibanez,39 handed down on January 7, 2011, the Massachusetts Supreme Judicial Court ruled that a mortgage cannot be assigned in blank (a common practice in the securitization of mortgages), so that the holder of a blank mortgage assignment was not the proper entity to foreclose. “We have long held that a conveyance of real property, such as a mortgage, that does not name the assignee conveys nothing and is void,” the court said. When the assignee argued that it held the promissory note, which automatically gave it the appropriate ownership interest in the mortgage ("security follows the debt"), the court disagreed, saying that a more formal assignment of the mortgage was necessary for a clear real estate title. “In Massachusetts, where a note has been assigned but there is no written assignment of the mortgage underlying the note, the assignment of the note does not carry with it the assignment of the mortgage.” The court then added that a holder of the note could file a lawsuit to obtain the mortgage. Without a properly assigned mortgage the mortgage holder remains unchanged, which is why the banks lacked the power to foreclose. The court refused to apply its decision only to future cases, thus creating a legal mess in Massachusetts that could undo foreclosures held years ago. Bank stocks fell instantly. The Massachusetts Supreme Judicial Court did not consider the effect of UCC §9-203(g), which clearly states that possession of the promissory note automatically creates a security interest in the mortgage even without a formal assignment of same. Why didn't the court discuss this very relevant statute? My guess is that no one (not the parties, not the law clerks, not the judges) came across it in preparing the case or the decision (so here the UCC law professor emits a sad sigh). The obligation giving rise to the mortgage is reified in the promissory note, and only the current possessor of the promissory note can bring suit thereon (regardless of who is the assignee of the mortgage). Interestingly, in Utah some homeowners have been successful in bringing quiet title actions to strip off the mortgage where no entity can prove a valid chain of assignments of the mortgage. Doing that would rid the property of the mortgage lien and permit subsequent sale, though it would not excuse the mortgagor's liability on the promissory note should it finally surface in the hands of a PETE.

and confuses apples with oranges. The Article 9 rules have nothing to do with the homeowner who is the maker of the promissory note, but apply only to regulate rights between later parties claiming ownership in the note as it passes from one hand to another. The Article 9 rules were written so that the note can be sold by contracts without being physically moved around (thus allowing the note to be warehoused somewhere). That has nothing to do with the Article 3 rules discussed in the body of this law review article. For a complete discussion of these issues, see the UCC's Permanent Editorial Board's official explanation: http://www.ali.org/00021333/PEB%20Report%20-%20November%202011.pdf. 39 458 Mass. 637, 2011 WL 38071 (Mass. 2011) ; see also http://www.businessweek.com/news/2011-01-08/massachusetts-top-court-hands-foreclosure-loss-to-u-s-bancorp.html.

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B. The Merger Rule It has always been a basic rule of negotiable instruments law that once a promissory not is given for an underlying obligation (like the mortgage contract), the underlying obligation is merged into the note and is suspended while the note is still outstanding. Discharge on the note would (due to the rule that the two are merged) result in discharge of the underlying obligation. This makes sense: paying the note would also pay the obligation. Because of the merger rule, the underlying obligation is not available as a separate cause of action until the note is dishonored. This merger rules, with its suspension of the underlying obligation until dishonor of the note, is codified in §3-310(b) of the UCC:

(b) Unless otherwise agreed and except as provided in subsection (a), if a note or an uncertified check is taken for an obligation, the obligation is suspended to the same extent the obligation would be discharged if an amount of money equal to the amount of the instrument were taken, and the following rules apply: * * * (2) In the case of a note, suspension of the obligation continues until dishonor of the note or until it is paid. Payment of the note results in discharge of the obligation to the extent of the payment.

Thus until the note is dishonored there can be no default on the underlying obligation (the mortgage contract). All foreclosure statutes, whether permitting self-help or requiring the involvement of a court, forbid foreclosure unless the underlying debt is in "default." That means that the maker of the promissory note must have failed to make the payments required by the note itself, and thus the note has been dishonored. Under UCC §3-502(a)(3) a promissory note is dishonored when the maker does not pay it when the note first becomes payable.40 However, as discussed above, the promissory note itself is owed to a PETE, and only that person can show that the debt was not paid when due, thus creating a "dishonor" and severing the note from the underlying mortgage obligation, so as to permit foreclosure under the latter theory.

40 The Code's dishonor rules do not create a right of physical "presentment" of the note, but §3-501 does create such a right if the maker so demands. Section 3-501(a) defines “presentment” as a demand to pay the instrument made by a “person entitled to enforce an instrument” [the PETE], and under subsection (b)(2) adds that “Upon demand of the person to whom presentment is made, the person making presentment must (1) exhibit the instrument” [emphasis added]. Most promissory note have a standard clause waiving the right of presentment, and that would be effective to obviate the effect of a demand under §3-501—which is why this discussion of "presentment" is relegated to a mere footnote.

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Both the Official Comments to §§3-502 and to 3-310 make it clear that a dishonor can only occur if the person who wishes to sue is a "holder," i.e., someone in possession of the instrument. Official Comment 3 to §3-502 states "This [section] allows holders to collect notes in ways that make commercial sense without having to be concerned about a formal presentment on a given day," and Official Comment 3 to §3-310 explains: "If the check or note is dishonored, the [other party] may sue on either the dishonored instrument or [the underlying contract] if [that person is in] possession of the dishonored instrument and is the person entitled to enforce it" (emphasis added). Putting this altogether, were I a mortgagor’s attorney, on getting notice of the intent to foreclose, I would demand that my client be presented with the original promissory note and that the note was is the hands of a PETE when failure to pay the note occurred.41 Failing that the mortgagor is not in default since he/she has not dishonored the note. Until that happens, §3-310 suspends the entire mortgage obligation. The contractual obligation to pay has merged into the note, and until the note is dishonored it's unavailable as a separate cause of action. Thus if the entity trying to foreclose cannot produce the promissory note, it cannot prove that payment was not made to the PETE, meaning that no "dishonor" of the note has occurred under 3-502, and thus the underlying mortgage obligation is still merged into the note. There are some federal cases supposedly applying California law which state that production of the original promissory note is not required in California since it is not mentioned in the comprehensive California statute detailing foreclosure procedure in this non-judicial foreclosure state42 (there are federal California decisions to the contrary43). I looked up the California foreclosure statute. Cal.Civ.Code §2924(a) clearly states that the power of foreclosure is "to be exercised after a breach of the obligation for which that mortgage or transfer is a security." If no dishonor of the note has occurred then there has not yet been such a breach, and the California statute would not permit foreclosure. The obligation in the statute is either the obligation of the maker of the promissory note (UCC §3-412), which obligation only runs to a PETE, or the mortgage obligation which is suspended as a cause of action per §3-310 until dishonor of the note in the hands of the PETE. Either way there is no "breach of the obligation

41 If the foreclosing bank says that the original promissory note had a clause waiving the right of presentment, I would demand to see the note as proof of that assertion. If the foreclosing entity cannot produce the original promissory note, how do we know what it says? Even if the court is convinced that the right of presentment was waived, that does not have anything to do with the other requirement of dishonor of the note in the hands of a PETE. Until such a dishonor occurs per §3-502, the underlying obligation is still suspended as an independent cause of action. 42 See Tina v. Countrywide Home Loans, Inc., 2008 WL 4790906 (S.D.Cal. 2008); Castaneda v. Saxon Mortg. Services, Inc., 687 F.Supp.2d 1191 (E.D.Cal. 2009). Interestingly, I can find no state cases from California agreeing with this federal analysis of the California foreclosure statute. 43 See, e.g., In re Doble, 2011 WL 1465559 (Bankr. S.D. Cal. 2011).

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for which the mortgage or transfer is a security" without the original promissory note being involved.44 Arizona has a similar dismal history with this issue, where once again some federal courts have misconstrued Arizona's foreclosure statute so as to permit foreclosure without production of the promissory note.45 Once again I can't find any state decisions from Arizona on point, but the federal courts misread the relevant Arizona foreclosure statute in the same way that the federal courts in California have mistaken the California statute. Arizona Revised Statutes §33-807 permits a foreclosure sale "after a breach or default in performance of the contract or contracts, for which the trust property is conveyed as security, or a breach or default of the trust deed." As above, no such breach or default can exist until there is a failure to pay the promissory note in the hands of a PETE.46 Finally, it should be noted that the federal courts in Nevada have made the same error, but so far this misunderstanding of the law appears to be confined to these three western (federal) jurisdictions. Happily, most states allowing non-judicial foreclosure sales have rightly required the foreclosing entity to be the owner of the note at the time of the foreclosure is commenced.47

IV. How To Resolve These Matters

There are substantial equities in favor of the foreclosing party, and judges should work hard to preserve these equities. The debtor did take out the mortgage and sign the promissory note promising to pay off the mortgage amount, and, on failing to do so, must surrender the real property that is the security for this debt. Further, the foreclosing entity has paid good money for the right to foreclose, and this investment must be protected. The bank that is foreclosing may protest that if some technicality (i.e., the rules that are explained in this article) forbids foreclosure the homeowner might escape from having to pay anyone the mortgage debt, but still retain possession of the mortgaged property. 44 In any event, the California statutes do not allow the wrong party to foreclose, so someone attempting to do so must establish PETE status (thus having standing to sue), and that, as we've seen from the discussion of the merger rule, requires dishonor of the note. There are California bankruptcy decisions so saying; see In re Doble, 2011 WL 1465559 (Bankr. S.D. Cal. 2011). 45 See, e.g., Diessner v. Mortgage Electronic Registration Systems, 618 F.Supp.2d 1184 (D.Ariz. 2009); Mansour v. Cal-Western Reconveyance Corp., 618 F.Supp.2d 1178 (D.Ariz. 2009). Happily the more recent decision by the 9th Circuit Bankruptcy Appellate Panel gets it right in Veal v. Am. Home Mortg. Servicing, Inc. (In re Veal), 450 B.R. 897, 914 (9th Cir.BAP 2011) (Arizona law does not allow foreclosure without production of the original promissory note). 46 Compare Ernestberg v. Mortgage Investors Group, 2009 WL 160241 (D.Nev. 2009), with the relevant Nevada foreclosure statute, which only allows foreclosure " after a breach of the obligation for which the transfer is security" [N.R.S. 107.080]. 47 See Burgett v. MERS, 2010 WL 4282105 (D. Ore. 2010); In re Adams, 693 S.E.2d 705 (N.C. App. 2010); In re Bailey, 437 B.R. 721 (Bankr. D. Mass. 2010).

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Of course these equities presume that the foreclosing entity really is the owner of the debt and can prove it according the standard rules of law, and that the debt truly is in default. At the symposium presentations that resulted in this issue of the law review, one of the attorneys in the audience came to the microphone with a horror story about a client who had missed some payments but then, faced with foreclosure, worked out a repayment agreement with the current holder of the mortgage, never missed a payment, but was considerably surprised one day to have the doorbell ring and be faced with the "new owner" of his property which had been purchased at a California non-judicial sale of which the current owner was unaware. Many homeowners are caught in a trap whereby one part of the foreclosing bank is engaged in working out an agreement to save the property, while the other is sending out a foreclosure notice. Basic rules of contract and estoppel can lead a court of equity to refuse foreclosure in these situations.48 If a court rules that the bank can’t foreclose, does that mean that the home owner gets away without paying the mortgage? Not quite. The mortgage deed is still filed in the real property records, and unless it’s removed the property can never be sold, not even if the home owner dies and the heirs want to dump it. The home remains collateral for the debt, and that won’t go away until the mortgagee agrees to remove it from the records. Thus the homeowner has an interest in working things out with the entity threatening to foreclose. If the foreclosing bank cannot prove valid ownership and hence is forbidden the possibility of foreclosure, the only remedy left for the bank is to pass liability back to the entity from which the obligation was purchased, and so on until we find a person who really is entitled to enforce. The common law creates a warranty from the assignor to the assignee that the obligation assigned exists and is subject to no defenses,49 and this is the remedy the disappointed assignee should seek if it is not a PETE. If the chain of transactions cannot be undone (the records are lost, a major player has ceased to exist, or whatever), well, life is hard and sometimes you purchase a worthless asset. You certainly shouldn’t buy something unless your seller can prove good title. If the foreclosing bank wins the lawsuit but doesn’t have proper documentation, any subsequent sale of the property foreclosed upon is going to be problematic and risky for the new purchaser (and this should be pointed out to judges before they rule). Issues like this present new difficulties. Consider title insurance companies. At all real estate closings the buyer has to pay for such insurance, but it’s not common for title insurance companies to actually have to pay off; the title normally is flawless. But if judges start invalidating foreclosures and ruling that the house belongs to the original owner, buyers of foreclosure homes are going to be filing claims. Title insurance companies might have to pay out millions, leading them to raise rates, cut down policies, layoff employees, or declare bankruptcy. Certainly no respectable title insurance company is going to issue a policy for the resale of a foreclosed-upon home where there are legal

48 See PHH Mortgage Corp. v. Barker, 190 Ohio App.3d 71, 940 N.E.2d 662 (2010). 49 See Restatement of Contracts (Second) §333(b).

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issues about missing notes or improper documentation in the foreclosure proceeding, and, without title insurance available, what will the foreclosing bank do with an unsalable property?50 If the client wants to pay the mortgage debt, but is leery of paying the wrong entity, he/she should pay the debt into an escrow account and advise the putative assignee of the mortgage that the amount deposited will be available on production of the promissory note or the signing of an indemnity agreement. Such a deposit would be the equivalent of tender of the amount due, so as to avoid late charges. The amount could also be paid into court in an interpleader action in appropriate circumstances. The true solution to the mortgage mess that results from missing notes, inadequate documentation of mortgage assignment, confusion at the bank, and robo-signing of required affidavits, is for the foreclosing entity to make sure it has the proper documentation before it files the foreclosure, and to have contacted the debtor before foreclosing to see if (a) the debt is really in default, (b) there are no defenses to foreclosure (such as an existing workout arrangement), (c) the debtor can pay the debt without the necessity of foreclosure), or (d) some option to foreclosing exists. The banks are overwhelmed by the ownership of worthless homes on which they have foreclosed. In truth it would be smarter for the foreclosing banks to put their money into creating a negotiation program that takes troubled transactions and works them out by mutual agreement with the home owner, so that the title can be cleared and the property resold. These negotiations might include a voluntary waiver of the home owner's rights in return for forgiveness of the mortgage debt, or renegotiated payments on the mortgage, or whatever the parties can construct as a compromise. With all of the above defenses on the table, the home owner has some leverage to make the bank listen to his/her concerns and not just steamroller over them in the rush to foreclose. Judges faced with foreclosing entities that do not have the original promissory note should at least use the mechanism for lost notes described above and require the foreclosing entity to post bond protecting the homeowner form later claimants to the property who do possess the original note. There are tons of unintended consequences from the current procedures. If you are a respectable bank official caught up in all this, how many new mortgages would you be willing to make to people who are not already well off? Then, without readily available mortgage loans, what will happen to the whole idea of home ownership? Or the ability to move to take a job in another town? Or the economy? Or the American Dream of a better life than one’s parents? If you are a consumer considering buying a new home, think again. Doing so can be asking for

50 Sometimes, faced with such ownership, the foreclosing entity will conduct the sale, but never record its deed, thus leaving the now-homeless former owner with continued liability for taxes and other major expenses. Since he/she can't afford these, the properties just deteriorate further. Urban blight is already a major problem in many communities, even upscale ones, as house after house sits abandoned, leading to dropping real estate value of others, and a vicious cycle of neighborly collapse. What do municipalities do about the resulting crime, fire hazards, disease, etc.? They can’t raise taxes in today’s economy. Chapter Nine of the United States Bankruptcy Code provides for municipal bankruptcies, but we never teach those rules in law school because actual cases were rare in the past.

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trouble even if you can afford to pay cash—will the neighborhood self-destruct? Could you sell it if you want to? How good is the title on this new property? For troublesome transactions (the paperwork is a mess, the note is missing, the home owner alleges he/she has defenses) it’s time to sit everybody around a table and work out a satisfactory solution through negotiation. Judges might well order this. All involved need a resolution that will end in a resumption of the payments, or an agreed-upon foreclosure with indemnities to the home owner against future troubles (say from the real owner of the original promissory note), or some contractual arrangement that ends up with a salable property in the local community.

V. Conclusion

This article has not gotten into a host of other issues affecting mortgage foreclosures, and those matters must be dealt with elsewhere. Here is a brief list of some legal difficulties: proof the assignment of the mortgage,51 robo-signing and foreclosure mills,52 proof of business records

51 The assignment itself may have difficulties with a chain of title, and that should be investigated with vigor. The leading case requiring a clear chain of title in assignments is U.S. Bank v. Ibanez, 458 Mass. 637, 2011 WL 38071 (Mass. 2011). 52 Affidavits of those filing foreclosure actions that the debts have been reviewed and verified must, of course, be true. In the foreclosure mills these swearings are often pro forma and, due to the volume involved, frankly impossible, being done by humans acting like robots. Where this can be proven, the lawsuit should be dismissed, and, indeed, massive publicity over this practice led to the suspension of many foreclosures nationwide in 2010. Notary stamps are required on assignments in many states or the assignment is invalid, and if the evidence demonstrates the stamp was added much later, that is fraud [see http://4closurefraud.org/2010/08/04/mother-jones-andy-kroll-exclusive-fannie-and-freddies-foreclosure-barons/]. Indeed there is out and out fraud in many foreclosures as phony documents are created, signatures forged, false affidavits of lost instruments sworn to, and newly “discovered” allonges solve negotiation difficulties. If the lawsuit was filed by someone who didn’t have standing and the attorney who filed it should have known that, he/she should be reported to the bar association, and the misfiling should also be called to the judge’s attention as a reason to dismiss. This is also criminal conduct, of course, and should be prosecuted, including as a defendant any attorney participating in deception of the court. Recently the Florida courts have become disgusted by improper documentation and have insisted upon it, causing major foreclosures to be abandoned and the courts to strip the properties from their mortgages (!): see http://www.squattable.com/news/040311/foreclosure-crisis-fed-judges-dismissing-cases-giving-homes-back-homeowners-and-boldly-a. On April 6, 2011, the Ohio Supreme Court dismissed a complaint filed by lawyers against three trial court judges who recently began requiring lawyers to personally verify the authenticity of all documents used in foreclosures. The judges have refused to grant summary or default judgments without such certification, though a trial can still go forward. The attorneys are not happy.

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establishing the right to foreclose,53 and fraud.54 The footnotes give some guidance to these difficulties, which have little or nothing to do with the Uniform Commercial Code. The truth is that the current lending mess was sloppily run for years, with greed as the fuel, and no one paid any attention to details, and increasingly complex transactions led to the loss of a paper trail. But now the orgy has ended with major hangovers for the participants who paid no attention to the basic rules. The borrowers (who also have had to battle this problem at their end, when they can't figure out who is the proper party to negotiate with over repayment issues or settlement discussions), have done nothing wrong. They do owe the debt and the house is still the collateral, so they are not off the hook at all. But the courts won't let someone foreclose just because that someone thinks they are the right entity to do it, or really, really, really wants to foreclose. They have to prove they are a PETE by clear evidence. Wishing that they had that evidence is not enough. Indeed, as discussed above, if the buyer pays the wrong person, he/she still owes the debt.55 The UCC rules are not just fusty technicalities. They reflect common sense: you can't sue or foreclose unless you can prove you are entitled to sue or foreclose. What could be more basic in our law than that idea? I tell the Legal Aid lawyers who call me that if the trial judge hates the UCC and wants to duck all of this, remind him/her that it is the statutory law of this jurisdiction (indeed, all jurisdictions in the USA have identical UCC provisions to those quoted above). And,

53 Assignees are required to prove up the business records that are the basis of the assignment, and such evidence is an exception to the hearsay rule only where the person proffering the business records can testify to their authenticity. Assignees to whom such records are transferred in the ordinary course of business do not have the requisite personal knowledge of the records creation and preservation, and hence cannot so testify to their validity. This rule of evidence can be a major stumbling block to foreclosure actions and other collection efforts. See Asset Acceptance v. Lodge, 2010 WL 3759538 (Mo. App. 2010); Chase Bank USA v. Herskovits, 2010 N.Y. Misc. Lexis 2818 (Civ. Ct. 2010); DNS Equity Group, Inc. v. Lavallee, 907 N.Y.S.2d 436 (Dist. Ct. 2010); Palisades Collection, L.L.C. v. Kalal, 781 N.W.2d 503 (Wis. App. 2010); Riddle v. Unifund CCR Partners, 298 S.W.3d 780 (Tax. Civ. App. 2009); Unifund CCR Partners v. Bonfigil, 2010 Vt. Super. Lexis 24 (2010); but see Simien v. Unifund CCR Partners, 321 S.W.3d 235 (Tex. Civ. App. 2010). 54 Outside of the UCC, attorneys should consider filing a lawsuit charging fraud (misrepresentation of a material fact made with knowledge of its falsity or a reckless disregard of its truth, on which there was justifiable reliance causing damages) if it’s indeed present and you can be proven. Fraud is the civil action for lying, an ugly thing to charge someone with, creating great headlines for the media. If fraud has been at work, well, that's good news for the plaintiff in a lawsuit. The common law maxim is that “fraud vitiates all transactions,” so that nothing can hide fraud. Those guilty of fraud cannot sue on the contract, which is now void for "illegality"(as that word is used in the law of contracts: void as a matter of public policy), and punitive damages, including attorney’s fees are also a possibility. Nor is unjust enrichment in favor of the evil-doer a possibility since guilty parties to an illegal contract lose all rights to sue on any theory—they are truly “outlaws” in the literal meaning of that term. 55 UCC §3-602.

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as explained above, the common law is no different from the UCC, so dodging the UCC does not help the plaintiff trying to foreclose without having possession of the note. When the consumer agrees to buys a new home and goes to the closing, the lending bank overwhelms the new homeowner with legal paper, after legal paper, after legal paper which the borrower must sign or the loan will not go through. At this end of the transaction the bank is very careful to make sure everything is in apple pie order and that every "i" is dotted and every "t" is crossed. Call me a madcap fool if you will, but I think that at the other end of the transaction when banks are attempting to take someone's home, they ought to be required to follow the law then too. As the Third Circuit has commented in a case where the foreclosing bank could not produce the necessary proof, "Financial institutions, noted for insisting on their customers' compliance with numerous ritualistic formalities, are not sympathetic petitioners in urging relaxation of an elementary business practice."56

56 Adams v. Madison Realty & Dev., Inc., 853 F.2d 163, 169 (C.A.3d 1988).

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Change View

1 Appeal and ErrorA judgment void by reason ofwant of jurisdiction in thecourt may be reversed uponwrit of error.


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Supreme Court of Texas.

HEARN AND OTHERS

v.

CUTBERTH.

1853.

*216 Payments upon a note must be applied, in the absence of an agreement to thecontrary, first to the extinguishment of interest due at the time of the payments respectively.

An appeal cannot confer on the appellate court a jurisdiction which the court a quo did notpossess; that is, jurisdiction to hear and determine the case upon the merits. But theappellate court may entertain the appeal for the purpose of reversing the judgment of thecourt below, where it has exceeded its jurisdiction, and of affirming the judgment, where thecase has been properly dismissed for the want of jurisdiction. (Note 38.)

Quere? Whether a claim for more than a hundred dollars can be brought within thejurisdiction of a justice of the peace by a remittitur. If it can be, it is too late to make theremittitur after the case has been removed to the District Court.

Appeal from Cherokee. The appellee recovered judgment against the appellants before ajustice of the peace. The defendants in the judgment obtained a certiorari and brought thecase to the District Court. On the trial in the District Court the defendants (plaintiffs in thecertiorari) moved to dismiss the case for the want of jurisdiction in the justice. This motionthe court overruled. There was a verdict and judgment for the plaintiffs, and the defendantsappealed.

The note sued on was originally for $250, but had been reduced by payments made fromtime to time. If the last payment were subtracted from the principal, less than a hundreddollars principal and about thirteen dollars interest remained due at the commencement ofthe suit before the justice. But if the last payment were first applied to discharge the interestdue and the balance then applied to the principal, more than a hundred dollars of principalremained unpaid. In the District Court the plaintiff remitted the interest due at the time of thelast payment.

West Headnotes (4)

RELATED TOPICS

Justices of the Peace

Civil Jurisdiction and AuthorityIndorsement of Credit or Payment

Appeal and Error

Effect of ReversalJurisdiction of Appeals and Writs of Error

Hearn v. CutberthSupreme Court of Texas. January 1, 1853 10 Tex. 216 (Approx. 3 pages)

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3 Justices of the PeaceWhether a party can remit theinterest due on a note, for thepurpose of applying paymentson the note in reduction of theprincipal, so as to give a justiceof the peace jurisdiction,quaere. He certainly cannotafter the case has beenremoved to the district court bycertiorari.

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4 Justices of the PeacePayments on a note will beapplied, in the absence of anyagreement, to theextinguishment of the interest,and not in reduction of theprincipal so as to give a justiceof the peace jurisdiction.


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Civil Jurisdiction and Authority

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Shanks, Bonner & Bonner, for appellants.

S. P. Donley, for appellee.

Opinion

*217 WHEELER, J.

The suit was brought on a promissory note, on which were indorsed certain payments. Itappears that at the time of the institution of the suit the amount of principal due upon thenote exceeded one hundred dollars, and, consequently, it was not within the jurisdiction ofthe justice. It would seem, therefore, that when the want of jurisdiction was brought to theattention of the court the motion to dismiss should have prevailed.

But it is insisted for the appellee that the appeal to this court should be dismissed for thewant of jurisdiction in the court a quo, and we are referred to our opinions, in which it hasbeen held that where the court from which the appeal was taken has not jurisdiction, theappellate court cannot acquire it by the appeal. This is true, in the sense in which thatproposition was asserted and applied in the case referred to; that is, where the court inwhich suit was brought had not jurisdiction, another court, though entitled to take originaljurisdiction of the case, cannot acquire it by appeal for the purpose of an adjudication ofthe merits of the case. An appeal cannot confer on the appellate court a jurisdiction whichthe court a quo did not possess, (Baker v. Chisholm, 3 Tex. R., 158; 1 Id., 668;) that is,jurisdiction to hear and determine the case upon the merits. But the appellate court mayentertain the appeal for the purpose of reversing the judgment of the court below, where ithas exceeded its jurisdiction, and, without undertaking to adjudicate the merits of the case,may render such judgment as the court below ought to have rendered; that is, to reverseand dismiss where the court has improperly taken jurisdiction, and where it has properlydismissed the case for the want of jurisdiction to affirm the judgment. (Swigley v. Dickson,2 Tex. R., 192, 196.)

It is further insisted for the appellee that it was his privilege to remit so much of the interestupon the debt as to bring it within the jurisdiction of the justice. To this it is a sufficientanswer, that if, at the time of instituting his suit, it was competent for the plaintiff thus to


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confer jurisdiction on the *218 justice, which is at least questionable, the remittitur cametoo late, after the case had been removed to the District Court.

We are of opinion that the court erred in overruling the motion to dismiss. The judgmentmust therefore be reversed, and the case dismissed from the justice's court.

Reversed and dismissed.

NOTE 38.--Tadlock v. The Texas Monumental Committee, 21 T., 166.

Parallel Citations

1853 WL 4314 (Tex.)





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Change View

1 Appeal and Error Want of jurisdictionOn appeal, the jurisdiction of the upper court depends upon the previousjurisdiction of the lower court; and, if that fail, the appeal will be quashed.


2 Courts Scope and Extent of Jurisdiction in GeneralCourts established by law cannot transcend the jurisdiction given them by law.Their powers cannot be enlarged by intendment.


JAMES M. BAKER et al.

v.

RICHARD H. CHISHOLM et al.

December Term, 1848.

Opinion*157 Appeal from De Witt County.

Courts established by law cannot transcend the jurisdiction given by the law of theircreation; their powers cannot be enlarged by intendment, so as to embrace objects notexpressed in the law. [1 Tex. 664; 6 Tex. 457; 9 Tex. 313, 544; 10 Tex. 216; 21 Tex. 166; 28Tex. 230; 30 Tex. 115.]

An appeal cannot confer upon the appellate court a jurisdiction which the court a quo did notpossess.

Case stated in the opinion of the court.


NEILL for appellant.

CUNNINGHAM for appellee.

Mr. Justice WHEELER delivered the opinion of the court.

This is an appeal from a judgment of the district court, dismissing an appeal from a decisionof the county court, in the matter of a contested election of the seat of justice of the countyof De Witt.

It appears that an election was held, under the act of 1848 [p. 63], to locate permanently theseat of justice of the county of De Witt; that the chief justice of the county, in pursuance ofthe authority conferred upon him by the 6th section of the act, declared “Cameron” the seatof justice of the county; that the appellees contested the election, contending that “Clinton”had received a majority of the legal votes. Subsequently the county court took cognizanceof the controversy between the friends of the two places, and decided that the latter was theplace “legally elected the seat of justice of the county of De Witt.” From this decision anappeal was taken to the district court. That court dismissed the appeal; and from thatjudgment an appeal was taken to this court.

West Headnotes (2)

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Appeal and Error

Dismissal by Court on Its Own MotionValidity of an Appeal and Jurisdiction ofAppellate

Baker v. ChisholmSupreme Court of Texas. December 1, 1848 3 Tex. 157 (Approx. 3 pages)


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The act which authorized this election [sec. 6] provides that the election shall be conductedagreeably to the law regulating elections; that the returns be made to the chief justice of thecounty; and that he shall publish the result, and declare the place receiving the highestnumber of votes the legal seat of jnstice of the county.

*158 The authority conferred upon the chief justice of the county by this statute was special,and restricted to one express object. No mode is provided for revising his decision, eitherby the special statute which conferred the authority or by any general law. His exercise ofthe authority conferred was definitive and final. [8 Gill & Johns. 443; 1 Scammon, 511.]

The act of 1846 [p. 209, sec. 23], under which the county court assumed to act inproceeding to revise the decision of the chief justice, did not invest it with that authority. Itgave to the county court jurisdiction to try contested elections of officers, but not of countyseats. The latter object cannot be brought within the operation of the statute by implication.The jurisdiction given to the county court by the statute is a special and limited jurisdiction,and cannot be enlarged by intendment so as to embrace objects not expressed; but must berestricted to the authority specially conferred, in the cases expressly provided for.

Courts established by written law cannot transcend the jurisdiction given by the law of theircreation. [4 Cranch, 75; 6 Wheat. 119.]

The proceedings of the county court in the matter of this election were, therefore, coramnon judice and void; and afforded no ground of jurisdiction, by appeal, in the district court.[23 Pick. 110.]

An appeal cannot confer upon the appellate court a jurisdiction which the court a quo did notpossess. [5 Martin, N. S. 9; 1 Texas R. 653.]

But had this been a case within the statute, conferring upon the county court jurisdiction ofcontested elections, there is no provision giving an appeal from the decision. And in Fieldvs. Anderson this court has, in effect, decided that an appeal does not lie from a tribunalpossessing a special and limited jurisdiction, unless given by an express provision. [1 TexasR. 437; and see 3 Ham. 277; 14 Mass. 420; 7 Pick. 321.]

We are of opinion, therefore, that there was no error in the judgment dismissing the appeal;and that it be affirmed.

Parallel Citations

1848 WL 3884 (Tex.)




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Change View

1 Appeal and Error Organization and Jurisdiction of Lower CourtQuestions affecting the jurisdiction of the trial court may be raised for the firsttime in the appellate court.

2 Courts Original Amount Affected by Part Payment or Reduction fromOther CauseUnder Vernon's Ann.St.Const. art. 4, § 10, providing that the district court shallhave jurisdiction when the matter in controversy amounts to more than $100, andthe act to organize justices' courts providing that justices of the peace shall havejurisdiction over all suits for the recovery of money when the amount does notexceed $100 the district court has no jurisdiction of an account, brought upon apromissory note, the amount of which has been reduced by payments to less than$100.


JOSEPH SWIGLEY

v.

WILLIAM P. DICKSON

December Term, 1847.

*192 Writ of Error from Red River County.

Where suit was brought in the district court on a note, the amount due upon which, exclusiveof interest, has been reduced by payment to less than $100: Held, that the court had nojurisdiction over the case. [5 Tex. 141; 11 Tex. 269; 20 Tex. 61, 340; 25 Tex. 354.]

The want of jurisdiction in the court below, although not pleaded there, will be noticed in therevising court.

The material facts of this case will be found stated in the opinion of the court.


Morrill, for plaintiff in error.

Morgan and Harris, for defendant in error.

Opinion

Mr. Justice LIPSCOMB delivered the opinion of the court.

*193 This suit was brought in the district court of Red River county by the defendant in erroron a note in the following words, i. e.: “Texas, March 3, 1847. On or before the first day ofAugust next we, or either of us, promise to pay John G. Patterson, or bearer, one hundredand fifty dollars, to be discharged in lumber at fifteen dollars per thousand, for valuereceived of him, as witness our hands and seals.” Subscribed by Richard Gilbert andJoseph Swigley, with a scroll, and the word seal written in it. A credit of thirty-five hundredfeet of lumber is entered on the note, dated 30th March, 1846. The note was assigned tothe plaintiff below for value received April 4, 1846. The petition in its body does not notice

West Headnotes (2)

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Courts

Amount or Value in ControversyJurisdiction of an Action of Book Account

Swigley v. DicksonSupreme Court of Texas. December 1, 1847 2 Tex. 192 (Approx. 3 pages)


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the credit, claims the face of the note, but the note is filed with the petition and copied in therecord, from which the credit appears. The defendant denied, on oath, that he had executedthe writing he had been sued on, or had authorized any one to execute it for him. The casewas put to the jury on this plea, and a verdict was returned in favor of the plaintiff forninety-seven dollars debt and six dollars and fifty cents interest, for which amount thejudgment was rendered, with costs, against the defendant.

The plaintiff in error asks to reverse the judgment of the court below on two grounds. 1st.That it was error to render the judgment for costs, when by law the judgment for the costsshould have been against the plaintiff below. 2d. That the district court had no jurisdiction ofthe cause. In support of the first ground, a part of the 4th section of an act allowingdiscounts and setoffs, Acts of the 4th Congress of Texas, p. 63; the clause relied on is inthe following words, i. e.: “But should the claim of the plaintiff be reduced to a sum not withinthe jurisdiction of the court, by payment, then judgment shall be given in favor of the plaintifffor the balance due, but the defendant shall recover the costs of the suit.” It appears that theamount was reduced by payment under one hundred dollars, exclusive of interest. Thisbeing below the jurisdiction of the court, the judgment ought to *194 have been in favor ofthe defendant for costs. For this error we would reverse the judgment and have it correctlyentered if the court had jurisdiction of the cause; and this brings us to the consideration ofthe second ground of error relied on by the plaintiff in error.

The jurisdiction of the district court is defined in the 4th article of the judicial department,sec. 10 of the constitution of the state. It is in the following words, i e.: The district courtshall have original jurisdiction of all criminal cases, of all suits in behalf of the state, torecover penalties, forfeitures and escheats, and of all cases of divorce, and of all suits,complaints and pleas whatever, without regard to any distinction between law and equity,when the matter in controversy shall be valued at or amount to one hundred dollars,exclusive of interest. By an act of the first session of the legislature of the state, called anact to organize justices' courts and to define the powers and jurisdiction of the same,section 13, it is provided “that justices of the peace shall have jurisdiction over all suits andactions for the recovery of money on any account, bill, bond, promissory note, or otherwritten instrument, or for specific articles, when the amount or value does not exceed onehundred dollars, exclusive of interest, costs and damages.”

What is the amount in controversy in the suit before us? It will be seen that the plaintiffclaimed one hundred and fifty dollars, the amount of the note sued on by its face. But it willbe seen, also, that the note had been credited before its maturity, and before its assignmentto the plaintiff below, with a credit amounting to fifty-two dollars and fifty cents, and thiscredit was indorsed on the note at the time the assignment was made, and must, therefore,have been known to the plaintiff at the time he instituted suit, and had there been no defensenor appearance, but a judgment by default, it would have been allowed; then there was nocontroversy, nor could there have been any, about its correctness, and the only controversyin suit was the amount of *195 the balance remaining unpaid after deducting the credit; thisbalance, exclusive of interest, is under one hundred dollars, an amount not within thejurisdiction of the court in which the suit was instituted. We do not intend to be understoodas deciding that in all cases the jurisdiction of the court is to be tested by the amount of thejudgment; in some cases it would be wrong to do so, undoubtedly. In cases where the lawwould not fix the amount of recovery, such as trespass, assault and battery, slander, libeland unliquidated or unstipulated damages, we would have no other criterion than the amountof damage claimed in the plaintiff's petition to determine whether it was within the jurisdictionof the court. But it will not do in cases of contract for money, express or implied, or for anarticle of specific valuation, when the law has fixed with precision the amount of recovery, topermit the plaintiff, by an arbitrary claim of a sum beyond what the law has fixed on his debt,to evade the restriction imposed on the jurisdiction of the court in which suit is brought. Thisdistinction is sustained, not only by reason, but also by the supreme court of the UnitedStates, in case of Wilson v. Daniel, 3 Dall. 401; 1 Cond. 186. In the case underconsideration the law had determined with certainty the amount of the recovery; it could nothave been for more than the balance due on the note after deducting the credit. And it hasbeen seen that this was an amount too low to give jurisdiction to the district court. The onlyremaining inquiry is, can the court notice this want of jurisdiction when it had not beenpleaded in the court below. We believe this point has been clearly and firmly settled by anentire uniformity of decision. The doctrine is, that not even consent can give jurisdictionwhen the court has not jurisdiction of the subject matter. It was so ruled in the case of Reed


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et al. v. Robb et al., in 1 Yerg. 66; and in Wyall et al. v. Judge et. al. 7 Porter, 39, ChiefJustice Collier says, “that perhaps it may be thought that inasmuch as this objection was notexpressly made in *196 the circuit court, it should not be regarded here. We understand thelaw to be otherwise. It was duty of the circuit court mero motu to have repudiated theappeal.” And in conclusion he says: “The true doctrine is, that consent, neither express norimplied, can give jurisdiction.” It is not deemed necessary to say anything more, but only toconclude that, because this case did not come within the jurisdiction of the district court, thejudgment must be reversed, and the suit dismissed in the court below.

Parallel Citations

1847 WL 3527 (Tex.)





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Change View

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BAIN PEANUT CO. OF TEXAS

v.

PINSON & GUYGER.

Motion No. 9436; Appeal No. 17123. Jan. 29, 1931.

Action by Pinson & Guyer against the Bain Peanut Company of Texas. On defendant'smotion for an order nunc pro tunc correcting a prior order dismissing its application for awrit of error.

Motion overruled.

West Headnotes (4)

RELATED TOPICS

Appeal and Error

Transfer of CauseNotice of Appeal of Denial of New TrialMotion

Want of JurisdictionJurisdiction of Subject-Matter of theAppeal

RehearingDecisions of Another Court of Appeals

Bain Peanut Co. of Texas v. Pinson & GuygerSupreme Court of Texas. January 29, 1931 119 Tex. 572 34 S.W.2d 1090 (Approx. 3 pages)

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*573 **1090 W. A. Keeling, of Austin, and Bryan, Stone, Wade & Agerton and B. G. Mansell,all of Fort Worth, for plaintiff in error.

Callaway & Callaway, of Brownwood, for defendants in error.

Opinion

GREENWOOD, J.

Plaintiff in error has filed a motion for an order nunc pro tunc correcting the order heretoforeentered by this court dismissing its application for a writ of error.

It is true, as contended by plaintiff in error, that its failure to file anapplication for writ of error within thirty days from July 12, 1929, on which date the Court ofCivil Appeals vacated its initial judgment and entered a more onerous judgment againstplaintiff in error (19 S.W.(2d) 203), was not regarded as defeating the jurisdiction of theSupreme Court to revise by writ of error such more onerous judgment. In our opinion, theCourt of Civil Appeals clearly acted within the scope of its lawful authority on July 12, 1929,when, on motion seasonably filed, it vacated its initial judgment. There then remainedsubject to review or enforcement only the judgment of July 12, 1929. Whatever errors wereto be corrected were those arising from that judgment on the rehearing in the Court of CivilAppeals. The rule is established in Texas that a party's petition for writ of error to theSupreme Court must be filed within thirty days from the date on which his motion forrehearing was overruled in the Court of Civil Appeals. Schleicher v. Runge, 90 Tex. 456, 39S. W. 279; *574 Vinson v. Carter & Brother, 106 Tex. 274, 166 117, 195 S. W. 1137, 201 S.W. 652. Nevertheless, each time the Court of Civil Appeals, on motion or motions duly filed,validly vacates its previous judgment or judgments and substitutes therefor a different validjudgment against a party, he is thereby entitled to seek correction, though rehearing, of suchdifferent judgment, and it is not compulsory that he invoke the jurisdiction of the SupremeCourt earlier than within thirty days from the overruling of his last motion for rehearing. Ourstatutes contemplate that a case should be reviewed by the Supreme Court at the instanceof one party, not piecemeal, but as an entirety. Hence it is only when the jurisdiction of theCourt of Civil Appeals has terminated by overruling a party's permissible motion or motionsfor rehearing, and thus leaving its judgment in the form it directs that it be finally enforcedagainst him, that the period of thirty days for him to invoke the jurisdiction of the SupremeCourt under writ of error begins finally to run.

In the above-cited case of Henningsmeyer v. Bank, the court called attention to the fact thatit did not question the authority of the Court of Civil Appeals to set aside a former order andenter an entirely different order, but the ruling was that no effect would be given to suchaction when taken for no other purpose than to permit an application for writ of error to befiled after lapse of the statutory time.

Regarding the last judgment as that complained of, since the first was already vacated,**1091 the court considered plaintiff in error's application as presented in due time under itspractice stated in 3 Texas Jurisprudence, s 175, as follows:

‘When the order complained of is not made until the rehearing in the Court ofCivil Appeals it is necessary for the complaining party to make a further motionfor rehearing if he would in the Supreme Court urge as erroneous the ordercomplained of; for, in the light of the rules of the Supreme Court, the motion forrehearing, to form the basis for a consideration in the Supreme Court, must bepredicated upon the judgment or order of the Court of Civil Appeals actuallydeciding the matters complained of.’

While regarding the application for writ of error as filed within the proper and statutorytime, we intended and did dismiss the application for want of jurisdiction under article1728, as amended by Acts 1927, 40th Legislature, page 214, c. 144; article 1728,Complete Texas Statutes of 1928 (Vernon's Ann. Civ. St. art. 1728), having concluded that,while the case otherwise came within the potential jurisdiction of the Supreme Court, it*575 was a case where the judgment of the Court of Civil Appeals was a correct one, butwe were not satisfied that the opinion of the Court of Civil Appeals had in all respectscorrectly declared the law. For that reason, it was the court's duty, under the statute, to


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refuse to take jurisdiction and to dismiss the case for want of jurisdiction.

Because the order entered on the minutes correctly reflects the action of the court, themotion of plaintiff in error is overruled.

Parallel Citations

34 S.W.2d 1090





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motion for rehearing (final)

Documents