Fall 2018-Winter 2019 Hot Topics – A Recent Alabama Supreme Court Decision May Impact Your Future Advance Mortgage Business

In a recent ruling, the Alabama Supreme Court held that a mechanic’s lien could have priority over a recorded future advance mortgage, even though the recording of the mortgage pre-dated commencement of the contractor’s work.

In brief summary, the borrower signed a promissory note and mortgage with West Alabama Bank and Trust (the “Bank”), which was recorded prior to the borrower contracting with GHB Construction and Development Company, Inc. (“GHB”). However, no advances were made to the borrower by the Bank until several months later. In the time between the mortgage being recorded and the Bank’s first advance to the borrower, GHB claimed it began work on the property. GHB sued the Bank seeking a judgment that its materialman’s lien against the borrower’s property had priority over the Bank’s future advance mortgage. The Circuit Court dismissed GHB’s claim and GHB appealed to the Alabama Supreme Court which reversed and remanded the dismissal. The Supreme Court held that “a future advance mortgage does not create a mortgage lien until some indebtedness is incurred by the mortgagor under the future advance mortgage.” Thus, GHB’s materialman’s lien had priority over the Bank’s mortgage lien since the Bank’s mortgage lien was only created when the first advance was made.

In a concurring opinion, Justice Shaw indicated that the opinion should be limited to cases where no funds at all had been advanced, and seemed open to an argument that a nominal disbursement like a filing fee or mortgage tax payment made on the borrower’s behalf would be sufficient to create a valid mortgage lien. No evidence was offered to indicate that any fees had been advanced on the borrower’s behalf. In addition, he noted that the mortgage in question did not create an obligation for the Bank to advance any funds, but instead had the option to advance funds, as any advancement by the Bank would have to be approved by a loan officer. In a dissenting opinion, Justice Bolin argued that under the reasoning of the main opinion, any advance, “even a single dollar” would sufficiently create the mortgage.

Based on the GHB Constr. & Dev. Co. v. W. Ala. Bank & Trust decision, the safest course of action would be to provide an initial disbursement of some kind prior to any contractor commencing work on the borrower’s property. It would also be prudent to ensure that the loan documents contain some obligation of the lender to advance funds even if conditional as would be customary in a construction loan.

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