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NC COURT OF APPEALS HOLDS GENERAL CONTRACTOR’S SUBORDINATION AGREEMENT IS ENFORCEABLE IN PUTTING LENDER FIRST IN LINE BEFORE LENDER’S DEED OF TRUST RECORDED

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Daniel KnightBy: Daniel Knight

In Old Republic National Title Insurance Co. v. Hartford Fire Insurance Co., No. COA15-444 (N.C. App. 2016), the North Carolina Court of Appeals considered the question of whether a bank’s deed of trust had priority over a general contractor’s lien where the general contractor had executed a subordination agreement.  In its decision, the Court of Appeals held that the general contractor’s lien was subordinate to the bank’s.

The case arose out of the construction of a hotel in Durham, North Carolina.  In late 2007, a hotel developer closed on a construction loan from, and secured by a deed of trust in favor of, United Bank.  At the time of the loan’s closing, the general contractor had already begun furnishing labor and materials for the Hotel Project.  As a result of the general contractor’s work, and as a condition to disbursements of loan funds, the general contractor executed an affidavit (“Subordination Agreement”) prior to the loan’s closing in which the general contractor stated that it was subordinating its lien position to a loan as evidenced in “Book ___, Page ___” of the Durham County Registry.  The actual Book and Page numbers were not available at the time of the Subordination Agreement because the loan would not close for another three days.  Thereafter, the general contractor assigned its lien rights to Hartford Fire Insurance Company, which had issued payment and performance bonds on the Hotel Project.  Hartford subsequently filed a lawsuit against United Bank seeking a determination on the priority of Hartford and United Bank’s respective liens.

Under North Carolina, a contractor’s claim of lien relates to and takes effect from the date of first furnishing of labor or materials at the Project.  As a result, any deed of trust recorded after a contractor’s first day of furnishing would be subordinate to the contractor’s claim of lien, absent a subordination agreement.  In challenging its lien was entitled to priority, Hartford argued that the Subordination Agreement was unenforceable for two reasons: (1) the Subordination Agreement incorporated a Deed of Trust that was not yet in existence at the time of its execution and (2) the Subordination Agreement failed to identify the lien to which the general contractor was subordinating as evidenced by the blank spaces for the Book and Page Numbers.

In rejecting Hartford’s argument, the Court of Appeals stated that blank spaces within a contract will either be rejected as surplusage or omissions will be supplied, depending on the intent of the parties.  “Intent may be inferred from the contract if it appears with certainty.”  See Opinion pp 10.  If the parties’ intent does not appear with certainty, then their intent may be determined by evidence of the transaction and its details.  Id.

Under North Carolina law, a subordination agreement need not identify the book and page number of the superior claim.  Rather, a subordination agreement shall be given effect in accordance with its terms.  In the present case, the general contractor had testified that at the time he executed the Subordination Agreement, it was his intent to subordinate his lien rights to United Bank because subordination was necessary for the distribution of funds from the construction loan.  Additionally, given the absence of any competing deeds of trust, the Court found that at the time of the Subordination Agreement, the parties could not have been mistaken as to what property was being financed.  According to the majority, while executing a subordination agreement prior to the creation of the superior lien creates an “unnecessary gap creating title risks”, it does not render United Bank’s lien junior to that of Hartford’s.  Accordingly, the Court held that United Bank’s deed of trust had priority over Hartford’s claim of lien.

For more information on this or any other important construction issue, please contact attorney Daniel Knight at (919) 277-2541 or by email.

This summary is for informational purposes only and does not constitute legal advice or opinion.

 

Posted on Construction