APRIL
2009

Financing $tatements
April 2009

 

MORE RISKY BUSINESS FOR LENDERS

Lenders taking mortgage security from new customers should take note of the recent British Columbia Court of Appeal decision in Gill v. Bucholtz.

The case involves real estate fraud perpetrated upon the plaintiff, Mr. Gill, the registered owner of the lands in question. In November 2005, a fraudster, "A", working in tandem with another rogue, "B", forged Mr. Gill's signature as "transferor" on a transfer of land in favour of "B" as "transferee". "B" immediately after becoming the registered owner applied for a loan and granted a mortgage over the property in favour of the lenders, Mr. and Mrs. Bucholtz, who advanced $40,000 to "B" once the mortgage was filed for registration in the Land Title Office. "B" subsequently executed a second mortgage in favour of the other defendants, also a private lender, 4337 Investments Ltd. ("4337"), which was submitted for registration in the Land Title Office the day after it was executed.

Before the second mortgage was fully registered in the Land Title Office, Mr. Gill became aware of the fraud and filed a caveat, which prevented the second mortgage from being fully registered. By that time, however, 4337 had already (and imprudently) advanced $55,000 to "B". "A" and "B" disappeared with both lenders' money, leaving Mr. Gill with no property.

The Court held that Mr. Gill should be reinstated as the lawful owner of his property. The question that the Court then had to consider was whether Mr. and Mrs. Bucholtz and 4337 were entitled to maintain their mortgages as valid charges on Mr. Gill's property.

The chambers judge decided in favour of the two lenders and upheld their mortgages as being valid charges. In doing so, he relied upon section 23 of the Land Title Act (the "Act") that provides that the title to land is conclusive evidence, both at law and in equity, of the registered owner’s indefeasible entitlement to an estate in fee simple to land, subject to certain exceptions, including the right of a person deprived of land to show the registered owner participated in fraud. It has always been understood that, unless one was aware of fraud, one need never look behind the title register at the Land Title Office to satisfy oneself as to the validity of the title, which is what the lenders argued. This “indefeasibility of title” is the foundation of our "Torrens" land registration system in British Columbia.

The chambers judge held that notwithstanding that "B" had acquired the title to Mr. Gill's land by way of fraud, the mortgagees, who were unaware of such fraud, and had obtained confirmation of "B's" identity before advancing funds, were entitled to rely upon the title showing "B" as the registered owner when taking their mortgage charges from "B". He held they should not be at risk of losing their security because "B" was later found to be a fraudster. As a result, Mr. Gill's property remained encumbered by the two mortgages.

Under our land registration system, Mr. Gill would have been compensated by the Land Title Assurance Fund (the tax payer), and so the Land Title and Survey Authority of BC (which oversees the fund) decided to appeal.

The Court of Appeal reversed the chambers judge's decision and held both mortgages to be invalid because Mr. Gill could show that "B", the registered owner and mortgagor, had participated in fraud (the exception to the indefeasibility principle). In doing so, the Court of Appeal held that the purpose of this section of the Act was to protect a bona fide purchaser relying on the register in respect of title to the land, as opposed to anyone else (i.e. a mortgagee) relying on the register in respect of any lesser interest in land (e.g. a mortgage).

As a result, Mr. and Mrs. Bucholtz and 4337 did not obtain the protection of "indefeasibility" on registration of their mortgages that bona fide purchasers obtain on registration of their title. This decision is contrary to the caselaw decided to date that the indefeasibility concept should be applied equally to all interests, including those less than full ownership.

The Court of Appeal acknowledged the commercial reality that lenders must be able to rely on the state of title in obtaining and registering their mortgage security, but maintained that the plain meaning of the section of the Act in question had to be given priority, and this meant the indefeasibility of title to fee simple belonged to a registered owner, and not to a holder of a lesser interest, such as a mortgage.

The Court of Appeal also relied on two other sections of the Act. One was Section 26(2), which expressly stipulates that registration of a charge (i.e. mortgage) does not constitute a determination by the Registrar of Land Titles that the charge in fact creates an interest in land or that is enforceable. The other, Section 25.1, provides that a mortgage granted by a registered owner who acquires title by fraud remains a void charge regardless that it is registered in the Land Title Office.

In conclusion, the Court of Appeal decided that the protections afforded by the Torrens registration system in British Columbia regarding indefeasibility of title extend only to "bona fide purchasers for value" where transfers of the fee simple interests are registered. Indefeasibility does not also apply to lesser charges of fee simple, such as mortgages.

Clearly lenders will now have to be even more vigilant until the legislation is amended. This case indicates that it will not be sufficient to just undertake land title office searches to ascertain ownership of the property in question and to verify the identity of the borrower. If a lender fails to take extra steps to safeguard its interests and its borrower is later discovered to have acquired his title fraudulently, the lender risks having its mortgage declared void. So what is a lender to do in order to mitigate its risks?

Requiring title insurance, which may protect a lender from fraud, is one option to consider. Clearly lenders will have to adopt stricter vetting procedures to ensure that their prospective borrower applicants obtained title to their properties legally. Where a title search indicates that it was acquired recently (i.e. within the past year or so), lenders or their solicitors should undertake more extensive due diligence of the prospective borrower. Fraudulent activity often occurs quickly after a fraudulent transfer. Seldom does a fraudster hold title for a long period of time before attempting to fraudulently mortgage such property. Such extensive due diligence could include obtaining and reviewing executed copies of the purchase and sale documents in connection with the borrower's acquisition of the property. These would include the contract of purchase and sale, the purchaser's statement of adjustments (as usually this is either non-existent or very sparse when fraud is being perpetrated) and the MLS listing agreement. If there is reluctance by the borrower applicant to provide same or if these documents cannot be obtained or if, upon review, they appear to be minimal or unusual, this will raise red flags for the lender.

Another consideration when looking at the borrower’s title is whether it was registered at the Land Title Office electronically (i.e. online) or by paper copy "over the counter". Where the transfer was e-filed, there may not be so much of a concern about fraud since a lawyer has to be involved to digitally affix his secure electronic signature to the e-forms of transfer documents prior to submitting them electronically via his computer. A fraudster on the other hand can submit any documents over the counter by hiring a Land Title Office agent.

One further suggestion is for the lender's lawyer to ask the borrower's lawyer about his client and how long he has known his client and if he is comfortable with the identity and bona fides of his client.

It is hoped that the government will take steps to address this legislation and the outcome of this case in the near future, but until then it is incumbent upon lenders and their solicitors to do more due diligence than simply rely on the title register.

For more information on this article, or on any Commercial Lending matter, please contact the Editor of Financing $tatements, Kerstin Tapping, at 604.643.3122 or krt@cwilson.com, or any member of Clark Wilson's Commercial Lending Group.

 

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