In Citizens Bank, N.A. v. Nash, No. 2:20-cv-00351 (E.D. Pa. 2021) a lien priority fight occurred between the IRS and the bank holding the taxpayer’s mortgage. In many ways the bank’s problem reminded me of problems that routinely plague the IRS in lien priority fights. The bank erroneously recorded a release and that causes it to lose the lien priority fight.
Mr. and Mrs. Nash borrowed money to buy property in Warrington, PA. The bank recorded a mortgage to secure the loan in 2006. After buying the home, the Nash’s ran up a fair amount of federal tax debt causing four notices of federal tax lien to be recorded against them. On March 19, 2019 the bank executed a satisfaction of mortgage and had it recorded. Not too long thereafter the bank realized its mistake and brought an action for erroneous satisfaction.
Because they had filed liens, the IRS and the state of PA were named as defendants. The IRS removed the case to federal district court which it has the right to do and which it will do in almost every case in which it is named. In their answer the Nashes conceded the mortgage had not been paid in full and consented to the relief sought by the bank. The IRS meanwhile moved for judgment on the pleadings.
The bank asks the court to strike the erroneous recording of the release nunc pro tunc and declare it void ab initio to restore it to its place before the filing of the erroneous release. The court cited state precedent which had held “a satisfaction “entered by accident or inadvertence . . . may be set aside and the mortgage reinstated, except as the rights of third persons may prevent.” Because the Nashes admitted the recordation was a mistake, the court set aside the release and reinstated the mortgage. The court, however, refused to declare that the release was void ab initio.
The court then addressed the priorities between the lienholders. The court noted the state law which returned the bank to its former position with the proviso for the rights of third parties. It then briefly discussed federal lien law citing to the seminal cases of Aquilino v. United States, 363 U.S. 509, 514 (1960) which holds that federal law governs priority after state law establishes property rights and then United States v. New Britain, 347 U.S. 81, 85-86 (1954)) and United States v. McDermott, 507 U.S. 447, 449 (1993) which hold that the lien arising first will take priority.
Here, the federal tax liens were filed between 2012 and 2016. The IRS argued that although the bank’s 2006 mortgage had priority over the federal tax liens prior to its release, the release of the bank’s mortgage made its lien interest inchoate and only the decision to reinstate the mortgage rendered the mortgage lien choate again. Since the reinstatement occurred in 2021 after the filing of the notices of federal tax lien, the IRS argued that its lien had priority over the mortgage at this point. The court agreed. As a result, the mistake in releasing the mortgage causes the bank to lose priority.
Depending on the value of the house, the action the IRS takes to enforce its lien and the remaining balance on the mortgage, the bank may or may not lose actual dollars from the loss of its priority status. The IRS does not foreclose on many homes. If it does not take action against this home, and assuming the Nashes do not otherwise pay the tax liability, it’s possible that their tax liability could fall off of the books due to the statute of limitations.
In addition to the bank losing, it’s also possible that the Nashes are losers here if the mortgage is a recourse mortgage. Should the IRS get paid out of the equity in the house, the bank could obtain a personal judgement against the Nashes. It is much more likely to do so than the IRS would have been had the IRS remained in the second position. While it’s easy to think of the bank as the loser here, the Nashes might be the real losers. You see this type of loss sometimes in bankruptcy cases where the IRS fails to properly file a claim but has a nondischargeable debt. In those cases it might have been paid out of estate assets but instead the estate assets go to pay creditors who might have been discharged.
The lien issue that causes the bank to lose here regularly causes the IRS to lose. If the IRS fails to refile its lien as the time for refiling expires, the IRS loses its priority and other creditors move up in priority in the same fashion that the IRS has done here. The case shows the importance of preserving a lien once it exists. The court does not discuss how the bank came to make the erroneous release, but I expect that a thorough scrub of its procedures has resulted because of this case.