HELOC Payoffs: Cover Your Bases

Mr. Rothenberg is an attorney in the Cleveland office of Weltman, Weinberg & Reis Co. LPA in the foreclosure/evictions department. He can be reached at lrothenbergweltman.com.

In a typical scenario, a lender makes a loan that includes an amount to be disbursed to pay the balance due to another lender on an existing home equity line of credit (HELOC). The new lender expects that the mortgage securing the HELOC will be released, and therefore, the new lender intends to have a first lien on the real property. However, unless the new lender or the lender's closing agent carefully fulfills the contractual requirements to assure that the mortgage securing the HELOC is released, the new lender may find itself in a second lien position behind subsequent amounts obtained by the borrower on the HELOC.

In Ohio, it has been established that when a new lender or its closing agent sends a check to the owner of the HELOC, together with a letter indicating that the check is to "payoff" the balance due on the HELOC, the owner is not required to cancel the HELOC or release its mortgage unless the provisions of the HELOC requiring its termination have been fulfilled. For example, most HELOCs contain a provision that the equity line may be closed only upon delivery to the owner of the HELOC, a request signed by the borrower to close the equity line account.

The need to strictly fulfill these requirements in order to assure that the HELOC mortgage is released, is illustrated in the Ohio Court of Appeals decision in Bank of New York v. Fifth Third Bank of Central Ohio, 2002 WL 121925 (Delaware County, 2002).

The Facts of the Case

The borrowers obtained from Fifth Third Bank, a HELOC with a credit line of $74,000, secured by a mortgage on their residence. Two years later, the borrowers consolidated their debts with a $402,000 refinance loan from the Bank of New York. Fifth Third Bank's payoff statement on its HELOC showed a balance due of $77,088.65. The payoff statement stated in part:

"In order to close an equity line account, a written request signed by our customer must be received with full payments. Without such request, payment will be applied but account will not be closed and collateral will not be released."

Bank of New York's closing agent sent Fifth Third Bank a check in the amount shown in the payoff statement, stating:

"In the event that the above referenced mortgage is an equity credit line account, please accept this authorization to cancel this line of credit, and to accept no further advances on this account."

Fifth Third Bank used the check to pay the balance due on its HELOC, but did not close the equity line account or release the mortgage. After the Bank of New York recorded its mortgage, the borrowers discovered that their Fifth Third Bank HELOC account was still open, and they borrowed the maximum amount from Fifth Third Bank. In the subsequently filed foreclosure action, the two lenders found themselves in a dispute regarding priority of their respective mortgages.

The Open-End Mortgage Argument

Under Ohio Revised Code Section 5301.232(B), an advance made by the holder of a recorded open-end mortgage such as the one securing Fifth Third Bank's HELOC, has priority over subsequently recorded liens unless the mortgagee (1) has written notice of the other liens, and (2) is not obligated to make the advance. Bank of New York argued in the case that its closing agent's letter, "along with the facts and circumstances of the payoff transaction and industry standard provided sufficient notice to Fifth Third Bank." The court disagreed, stating that even if Fifth Third Bank was actually aware that the Bank of New York's letter stated that Fifth Third Bank's mortgage was being paid off and should be released, "this type of notice does not replace the required written notice."

Hence, even though Fifth Third Bank was not obligated to make additional advances on its HELOC, Section 5301.232(B) still did not apply because the letter from the Bank of New York's closing agent did not constitute written notice of the Bank of New York's mortgage.

The Line of Credit Cancellation Argument

Bank of New York also argued that Fifth Third Bank's HELOC should have been cancelled and its mortgage released, based on Ohio Revised Code Section 1321.58(F) which states:

"Whenever there is no unpaid balance in an open-end loan account, the account may be terminated by written notice, by the borrower or the registrant, to the other party ..."

The borrowers had not signed the letter from the Bank of New York's closing agent that requested the termination of the line of credit account. Bank of New York argued that the escrow agent had the authority on behalf of the borrowers to request the termination of the equity line account. However, the court held that because there was no evidence that the escrow agreement specifically authorized the escrow agent to request the termination of the line of credit account on behalf of the borrowers, the argument failed.

The Equitable Subrogation and Equitable Estoppel Arguments

Equitable subrogation has been described as a theory of unjust enrichment that prevents parties from receiving that to which they are not entitled. The Ohio Supreme Court has held that equitable subrogation "arises by operation of law when one having a liability or right to a fiduciary relation in the premises pays a debt due by another under such circumstances that he is in equity entitled to the security or obligation held by the creditor whom he has paid." The right to equitable subrogation depends upon the facts and circumstances of each case, and the basis for the claim must be readily apparent. The court held that the Bank of New York's equitable subrogation argument must fail because it could have protected itself by insisting on receiving assurance that Fifth Third Bank's HELOC mortgage would be released, before closing the refinance.