Lien Priority in North Carolina

North Carolina is a “pure race” jurisdiction, meaning that the person first in time to record a deed to, or a lien against, a parcel of real property generally has priority against all subsequent grantees or lien holders.  Thus, if a lender records its deed of trust immediately upon settlement of a loan transaction, the deed of trust will be superior to any other lien subsequently recorded against the same parcel of real property.  N.C.G.S. § 47-18(a).  “This statute makes North Carolina a “pure race” jurisdiction, “in which the first to record an interest in land holds an interest superior to all other purchases for value, regardless of actual or constructive notice as to other, unrecorded conveyances.” Rowe v. Walker, 114 N.C. App. 36, 39, 441 S.E.2d 156, 158 (1994).  

There are, however, certain limited exceptions to the “pure race” concept.  North Carolina grants “super-priority” status to local tax liens:

(a) On Real Property.--The lien of taxes imposed on real and personal property shall attach to real property at the time prescribed in G.S. 105-355(a). The priority of that lien shall be determined in accordance with the following rules:

(1) Subject to the provisions of the Revenue Act prescribing the priority of the lien for State taxes, the lien of taxes imposed under the provisions of this Subchapter shall be superior to all other liens, assessments, charges, rights, and claims of any and every kind in and to the real property to which the lien for taxes attaches regardless of the claimant and regardless of whether acquired prior or subsequent to the attachment of the lien for taxes.

N.C. Gen. Stat. § 105-356(a)(1) (2015).  This law applies to all county, city and municipal taxes levied on real property, as well as real property taxes levied by special tax enforcement regimes such as sanitary, sewerage, or watershed improvement districts.  This means that “tax liens” cannot be discharged by a foreclosure pursuant to the power of sale contained in a deed of trust, or by judicial foreclosure, even if the deed of trust was recorded before the tax obligation occurred.

North Carolina has not enacted legislation elevating homeowner or condominium association assessment liens to super-priority status. Any such liens remain inferior to a prior-recorded deed of trust.  The foreclosure of the secured property pursuant to the power of sale contained in a deed of trust, or by judicial foreclosure, will have the effect of discharging any homeowner or condominium association liens from the subject property.

However, the recent published Court of Appeals’ opinion in Henkel v. Triangle Homes, Inc., --- S.E.2d ----, 2016 WL 5076152 (N.C.App. September 20, 2016) illustrates the limitations of the “pure race” doctrine, in particular when considering the foreclosure notice requirements found in the federal tax code.

In Henkel, several federal and local tax liens were filed against a residential parcel of real property.  The Village of Sugar Mountain held one such local lien and filed a foreclosure action to enforce its lien.  After obtaining judgment the Village purchased the property at the sale.  The Village did not include the United States as a party to the action or otherwise provide it notice of the action or sale.  

The day after the Village purchased the property, the property was also sold pursuant to a federal tax lien foreclosure to the Plaintiff, Everett Henkel.  However, neither sale was complete at this time.  With respect to the Village’s foreclosure sale, Defendant, Triangle Homes, filed an upset bid and ultimately received a Commissioner’s Deed which it recorded with the Avery County Register of Deeds on April 7, 2014.  In the federal tax foreclosure sale, after the statutory 180-day redemption period had expired, the Internal Revenue Service delivered a deed to the property to Plaintiff, who recorded it with the Register of Deeds two months later, on June 6, 2014.

In the subsequent quiet title action filed by Henkel, the parties filed cross-motions for summary judgment.  The Superior Court ruled for Henkel; Triangle Homes appealed.  Before the Court of Appeals, Triangle Homes relied on North Carolina’s status as a “pure race” jurisdiction based on N.C.G.S. § 47-18(a) ““in which the first to record an interest in land holds an interest superior to all other purchases for value, regardless of actual or constructive notice as to other, unrecorded conveyances.” Rowe v. Walker, 114 N.C.App. 36, 39, 441 S.E.2d 156, 158 (1994).”  Henkel at *3.  N.C.G.S. § 47-18(a) “applies “[w]here a grantor conveys the same property to two different purchasers,” and results in “the first purchaser to record his deed win[ning] the ‘race to the Register of Deeds' Office’ and thereby defeat[ing] the other's claim to the property, even if he has actual notice of the conveyance to the other purchaser.” Id. (internal citations omitted).”  Henkel at 3.  The Court found, however, that this statute was inapplicable on the facts of the case.  

Notwithstanding that, pursuant to 26 U.S.C. § 6323(b)(6), federal tax liens are expressly made inferior to liens which, by virtue of state law are accorded priority over security interests that are prior in time, and that N.C.G.S. § 105-355(a)(1) grants such super priority status to real property tax liens, this federal deference is conditioned upon the provision of prior notice to the United States of a foreclosure sale arising from a local tax liability.  26 U.S.C. § 7425(a).  Unfortunately for Triangle Homes, in this case the Village did not provide the requisite notice to the United States.  Thus, while the foreclosure of a senior lien generally extinguishes all junior liens, Dixieland Realty Co. v. Wysor, 272 N.C. 172, 175, 158 S.E.2d 7, 10 (1967), by failing to join the United States as a party in its foreclosure, the Village’s foreclosure sale left undisturbed the federal tax lien.  And, following the theory of federal pre-emption, ““where state law stands as an obstacle to the accomplishment and execution of the full purposes and objectives of Congress[,]” federal law preempts state law. Guyton v. FM Lending Servs., Inc., 199 N.C.App. 30, 44–45, 681 S.E.2d 465, 476 (2009).”  Henkel at *4.  Because Defendant’s purchase of the property as the upset bidder discharged the Village’s tax lien, and Defendant received only a quitclaim deed from the Village, it obtained only the Village’s interest, no more and no less.  Id. at *5.  Triangle Homes, as the (new) property owner, could have redeemed the property from the federal tax foreclosure sale pursuant to 26 U.S.C. § 6337, but it failed to take any action to do so within the 180-day redemption period.  Id.

Lenders, servicers, and their counsel should be aware that simply winning the race to the courthouse to record a deed “does not upset the rules of lien priority established by state and federal law, including federal preemption when those laws conflict.”  Id. at *5.  The Henkel opinion does not explain why the Village or its attorneys failed to name the United States as a defendant in its foreclosure case.  All foreclosure proceedings should be preceded by a thorough title examination, which would reveal the identity of all persons entitled to notice of the foreclosure so as to ensure insurable title is conveyed at the foreclosure sale.

Published by Hutchens Law Firm on October 12, 2016