West Durham Lumber Company v. Meadows, No. COA05-1181, filed on 5 September 2006 is a decision that should be of interest to real property practitioners. The case provides guidance on the outcome of competing liens with bifurcated priority based upon the doctrine of instantaneous seisin as established under the doctrines set forth in Dalton Moran Shook Inc. v. Pitt Development Co., 113 N.C. App. 707, 440 S.E.2d 585 (1994). This Court summarized the Dalton doctrines as follows.

“Our jurisdiction recognizes that ‘[t]he doctrine of instantaneous seisin is a legal fiction which provides that when a deed and a purchase money deed of trust are executed, delivered, and recorded as part of the same transaction, the title conveyed by the deed of trust attaches at the instant the vendee acquires title and constitutes a lien superior to all others.’ Dalton, 113 N.C.App. at 712, 440 S.E.2d at 589 (citing Supply Co. v. Rivenbark, 231 N.C. 213, 56 S.E.2d 431 (1949). It is well established that “'a deed and a mortgage to the vendor for the purchase price, executed at the same time, are regarded as one transaction.'” Id. (quoting Supply Co., 231 N.C. at 214, 56 S.E.2d at 432). “The title does not rest in the vendee but merely passes through his hands, and during such instantaneous passage no lien against the vendee can attach to the title superior to the right of the holder of the purchase money mortgage.” Id. (citing Supply Co., 231 N.C. at 214, 56 S.E.2d at 432). Pursuant to this doctrine, a previously existing materialmen's lien would be subordinated to the lien of the purchase money deed of trust. Id. (citing Carolina Builders Corp. v. Howard-Veasey Homes, Inc., 72 N.C. App. 224, 324 S.E.2d 626, disc. review denied, 313 N.C. 597, 330 S.E.2d 606 (1985)). The doctrine is “equally applicable where a third party loans the purchase price and accepts a deed of trust to secure the amount so loaned.” Slate v. Marion, 104 N.C. App. 132, 135, 408 S.E.2d 189, 191 (quoting Pegram-West, Inc. v. Hiatt Homes, Inc., 12 N.C. App. 519, 525, 184 S.E.2d 65, 68 (1971)), disc. review denied, 330 N.C. 442, 412 S.E.2d 75 (1991).”

West Durham involves a determination of the priority between the security interests of a materialmen's lien and a construction loan and purchase money Deed of Trust on a lot and the resulting effect of a foreclosure of the Deed of Trust upon that priority. This appeal arose from the trial court's entry of summary judgment, granting West Durham Lumber Company (“plaintiff”) a judgment of lien enforcement in the amount of $77,625.51 plus post-judgment interest.

In 2003, the defendant arranged with potential homeowners to build a house on the lot in issue in this case. The defendant was to purchase the lot and CCB agreed to finance the purchase and construction by the defendant. On March 18, 2003, the plaintiff first furnished materials to the lot. On March 25, 2003, Meadows executed a deed of trust in favor of CCB, and recorded the deed (executed on March 7, 2003) from the seller and then recorded the deed of trust in favor of CCB the next day. CCB closed the loan, and made an initial advance of $112,000.00 to the defendant, which was used to pay for the lot purchase. The deed of trust provided that $112,000.00 of the loan was secured by the Property. The deed of trust also secured additional obligatory advancements to the defendant, which when added to the purchase price, totaled $560,000.00.

The plaintiff last furnished materials on July 11, 2003 and the defendant subsequently defaulted on the deed of trust. CCB began foreclosure on August 12, 2003, having advanced $524,000.00 to Meadows. The total indebtedness as of the time of foreclosure, including interest, was in excess of $527,000.00. CCB purchased the property at the foreclosure sale for $425,000.00.

Of some additional interest is that the facts outlined in the Court of Appeals’ opinion indicate that the plaintiff filed a claim of lien claiming $77,625.51 plus interest and attorneys' fees on October 14, 2003 but, that the plaintiff had already brought the action to enforce the claim of lien on October 6, 2003. Both plaintiff and defendants filed motions for summary judgment. The Court of Appeals determined that the plaintiff had a valid and enforceable lien that related back to March 18, 2003 and prior to the recording of the Deed of Trust. While the Court did not address whether the timing of the claim and action were in issue, the statutes cited do not seem to require that they be done in any particular order.  “Claims of lien on real property may be filed at any time after the maturity of the obligation secured thereby but not later than 120 days after the last furnishing of labor or materials at the site of the improvement by the person claiming the lien.” N.C. Gen. Stat. 44A-12(b) (2005).

In West Durham the Court of Appeals applied the doctrine of instantaneous seisin and the holding in Dalton Moran Shook Inc. v. Pitt Development Co. to determine that the trial court had erred in granting summary judgment in favor of the plaintiff. The plaintiff did not argue that the execution, delivery, and recordation of the deed and deed of trust were not part of one transaction. The plaintiff contended that the doctrine of instantaneous seisin is an affirmative defense that must be pleaded and had not been. The Court said: “N.C. Gen. Stat. § 1A-1, Rule 8(c) (2005). This jurisdiction has not extended the affirmative defense of avoidance to include the doctrine of instantaneous seisin, and we decline to do so in this instance.”

The Court noted that Dalton carved out an exception to the application of the doctrine of instantaneous seisin. In Dalton, the deed of trust secured the purchase price of the property and additional obligatory construction advances. That Court determined that “if the doctrine is applicable where the deed of trust securing the purchase price also secures additional advancements for development or construction purposes, a materialmen's lien should be subordinated to the deed of trust only to the extent that it secures the purchase price.”

The Court of Appeals summarizes the effect such that “when a loan is made to both purchase the property and to develop the property, the doctrine of instantaneous seisin only applies to protect the amount used to purchase the property. Id. Therefore, a deed of trust securing the purchase price of property as well as construction or development loans is superior to a previously existing materialmen's lien only to the extent that the deed of trust secures the purchase price of the property.” In this case the defendant applied $112,000.00 of the loan from CCB to the purchase price of the lot. The Court ruled that this $112,000.00 of the loan is protected by the doctrine of instantaneous seisin, and has priority over the existing materialmen's lien of the plaintiff. As the balance of CCB's loan was not used towards the purchase of the property, it was not  protected by the doctrine of instantaneous seisin.

The plaintiff's materialmen's lien was junior only to the portion of CCB's portion of the deed of trust which was used to purchase the property. However, the Court ruled that when CCB foreclosed the Deed of Trust, the foreclosure sale extinguished the materialmen's lien that was junior to the loan for the purchase money. “ Thus, as plaintiff's materialmen's lien was extinguished upon the foreclosure sale, plaintiff was then required to initiate a claim upon surplus funds from the foreclosure sale that were received in excess of CCB's initial $112,000.00 loan amount. When a claim of lien has been filed pursuant to section 44A-12, and surplus funds exist from the foreclosure sale of the encumbered property, the surplus funds stand in place of the encumbered property. Lynch v. Price Homes, Inc., 156 N.C. App. 83, 86, 575S.E.2d 543, 545 (2003) (citing Merritt v. Edwards Ridge, 323 N.C. 330, 335, 372 S.E.2d 559, 563 (1988)). An individual claiming a lien upon surplus funds “must meet the requirements of [section] 44A-13 to enforce a perfected lien on the surplus funds, in the same manner required to enforce a perfected lien against the property.” Id. In addition, “Any surplus remaining after the application of the proceeds of the sale as set out in subsection (a) shall be paid to the person or persons entitled thereto, if the person who made the sale knows who is entitled thereto. Otherwise, the surplus shall be paid to the clerk of the superior court of the county where the sale was had.”

The Court determined that the plaintiff should have filed a claim notice with the clerk of court in order to claim a right to a portion of the surplus funds from the foreclosure sale. Having failed to do so, the “plaintiff failed to take the steps necessary to perfect its claim to the surplus proceeds which resulted from the foreclosure sale.”

The court concluded in summary by holding that the plaintiff had a valid claim of lien that attached on the lot on March 18, 2003. It concluded that this lien was superior to the portion of the lien of the Deed of Trust that secured those proceeds from the loan that were not used to purchase the lot. The Court ruled that the plaintiff's lien was junior to the purchase money portion of the lien of CCB's deed of trust. As a result, when CCB foreclosed, the sale extinguished the plaintiff's materialmen's lien as it was junior to a sale instituted to satisfy the purchase money loan. Since the plaintiff failed to perfect a claim to the surplus proceeds from the foreclosure sale, it did not have a valid lien upon those funds. The Court held the trial court's entry of summary judgment in favor of plaintiff was in error and remanded the case back to the trial court for entry of partial summary judgment in favor of defendant on this issue.

This holding should have great significance for those representing lenders and lien claimants in such circumstances when there is a pending foreclosure. Because the foreclosure has the potential to cut off all the lien claimants’ rights, they will likely make it a practice to file a claim for surplus funds in all instances. That seems to be the implicit advice of this Court. The more difficult task will be in advising lenders on how to structure their bidding strategy. Bid too low and risk losing deficiency action rights or bid too high and end up paying the lien claims.

The case does seem to settle the question of title matters since it is clear that when the foreclosure commences, the lien claimant must protect itself by insuring that a surplus over the purchase money is generated and then perfecting its claims on those funds. As the materialmen’s’ lien is cut off by the foreclosure, title is good in the bidder as to this concern.