Lender seeks a portion of defects settlement

In 1993, James and Cheryl Emery refinanced their home with World Savings, a nationwide home loan lender. Paragraph 18 of their mortgage provided for assignment to World Savings of the borrowers’ rights in any legal cause of action for injury or damage to their home.

After the refinancing, the couple discovered construction defects in their home. Representing the homeowners, the law firm of Kasdan, Simonds, McIntyre, Epstein & Martin sued the home builder. In 1996, the lawyers obtained a large settlement from the home builder.

The law firm disbursed the proceeds as follows: $198,686 for attorney fees, $62,250 for costs, and $335,272 to the Emerys. World Savings was not notified of the lawsuit or the settlement. Some time after the settlement, the pair defaulted on the mortgage and filed bankruptcy. World Savings obtained relief from the automatic bankruptcy stay and foreclosed on the home.

But the foreclosure sale did not pay the mortgage balance in full. With the Emerys in bankruptcy, World Savings sued the Kasdan law firm for conversion of the settlement funds from the home builder. The lender claimed ownership of the $198,686 attorney fees and the $335,272 disbursed to the couple, arguing Paragraph 18 entitled World Savings to assignment of proceeds of any lawsuit involving the house.

If you were the judge would you order the law firm to pay World Savings the proceeds from the lawsuit settlement?

The judge said no.

World Savings bases its rights to the settlement with the home builder on Paragraph 18 of its mortgage, which the judge said reads, “Lender may, at its option, enforce these rights in its own name, and may apply any proceeds resulting from this assignment to any amount that I may owe to lender under the note and this security instrument after deducting any expenses, including attorney fees, incurred in enforcing these rights.”

Because the Emerys were current with their mortgage payments at the time of their settlement with the builder, the law firm did not improperly disburse the settlement proceeds for its fees, with the balance paid to the borrowers, the judge explained.

Paragraph 18 was not an acceleration clause, the judge said, such as a mortgage “due on sale clause.” “World Savings, therefore, can only recover the amount owed ... at the time of the alleged conversion. We have concluded that amount is zero,” the judge ruled.

Based on the 2003 U.S. Circuit Court of Appeals decision in In Re Emery, 317 Fed.3d 1064