Rosenthal & Rosenthal, Inc. v. Vanessa Benun(076266) , 226 N.J. 41 ( 2016 )

SYLLABUS
(This syllabus is not part of the opinion of the Court. It has been prepared by the Office of the Clerk for the
convenience of the reader. It has been neither reviewed nor approved by the Supreme Court. Please note that, in the
interest of brevity, portions of any opinion may not have been summarized.)
Rosenthal & Rosenthal, Inc., v. Vanessa Benun, et al. (A-6-15) (076266)
Argued April 26, 2016 -- Decided July 21, 2016
CUFF, P.J.A.D. (temporarily assigned), writing for a unanimous Court.
The issue in this appeal is the priority of mortgages securing optional future advances when a factor has
advance notice of an intervening lien but nonetheless proceeds to make optional advances to a commercial entity.
On July 12, 1995, Jazz Photo Corp., one of several commercial entities (collectively referred to as the Jazz
Entities), entered into a factoring agreement with Rosenthal & Rosenthal, Inc. (Rosenthal). Jazz Photo sold
Rosenthal its accounts receivable in return for cash. The agreement contemplated the disbursement of additional
advances. Five years later, Vanessa Benun (Benun), the daughter of Jack Benun, a principal of the Jazz Entities,
guaranteed Jazz Photo’s obligations under that agreement. Benun also executed a mortgage on real property she
owned in Monmouth County as security for her personal guaranty. The mortgage secured “all sums due or that may
become due under this Mortgage, the Guaranty and other Loan Documents (and all extensions, renewals,
restatements, substitutions, amendments and modifications of any or all of the foregoing), up to a maximum
principal amount of One Million ($1,000,000) Dollars[.]” The mortgage also contained anti-subordination clauses.
It was recorded in the Monmouth County Clerk’s Office on August 21, 2000.
In March 2005, another of the Jazz Entities, Ribi Tech Products, LLC (Ribi Tech), entered into a factoring
agreement with Rosenthal. This factoring agreement also provided for discretionary capital advances from time to
time, if Ribi Tech so requested and certain conditions were met. Benun personally guaranteed Ribi Tech’s
obligations to Rosenthal. Benun executed another mortgage on the same Monmouth County real property to secure
her guaranty, containing the same provisions as the 2000 mortgage. This mortgage was recorded in the Monmouth
County Clerk’s Office on April 12, 2005.
In March 2007, Riker, Danzig, Scherer, Hyland & Perretti, L.L.P. (Riker), a law firm providing legal
services to Jack Benun and the Jazz Entities, obtained a third mortgage from Benun on the same real property. This
mortgage was executed in favor of Riker to secure Jack Benun’s personal debt under a letter agreement dated March
20, 2007. When Benun executed the mortgage, Jack Benun owed Riker $1,679,701.33 in unpaid legal fees, and the
letter agreement reflected his obligations to Riker and Riker’s promise to provide continuing legal representation.
Riker’s mortgage was recorded on April 13, 2007.
Rosenthal received actual notice of the Riker mortgage, as reflected in an August 2007 email from
Rosenthal’s counsel to Riker stating that the “title on the daughter[’]s properties show[s] liens in favor of your firm.
Those liens will need to be fully subordinated to any new [Rosenthal] mortgages on the daughter[’]s properties
related to the new loan to Mona Benun.” Even with notice of the Riker mortgage, Rosenthal continued to make
advances to the Jazz Entities that totaled millions of dollars. In September 2009, Jazz Products filed for bankruptcy.
The Jazz Entities defaulted on their obligations to Rosenthal, owing Rosenthal close to $4 million. Benun, in turn,
defaulted on her personal guaranty to secure the debt.
After Riker recorded its mortgage on the Monmouth County property, it continued to perform legal
services for Jack Benun, and his unpaid legal fees ballooned to over $3 million. Jack Benun and the Jazz Entities
defaulted on their obligation to Riker, and Benun defaulted on her guaranty. The debt secured by the three
mortgages totaled close to $7 million, far in excess of the value of the mortgaged property. Rosenthal filed a
foreclosure complaint against Benun, her husband, and Riker. Benun and her husband did not respond, and
Rosenthal requested that a default judgment be entered against them. Riker answered, disputing the priority of
Rosenthal’s mortgages. Later, both Rosenthal and Riker filed cross-motions for summary judgment regarding the
priority of their respective mortgages.
The trial court granted Rosenthal’s motion for summary judgment. It held that Riker’s argument that its
mortgage displaced the two Rosenthal mortgages was legally flawed because the firm accepted a mortgage on the
property with knowledge of two prior mortgages, each securing an obligation of up to $1 million, and with
knowledge of the anti-subordination clauses. The court concluded that there was no convincing justification for
rewarding Riker -- a subsequent mortgagee -- a superior priority.
Riker appealed, and the Appellate Division reversed in a published opinion. 441 N.J. Super. 184 (App.
Div. 2015). The Appellate Division concluded that the common law rules of priority placed Riker ahead of
Rosenthal. The panel relied on the long-standing New Jersey rule governing future advance mortgages: when the
future advance is optional, actual notice of an intervening lien will subordinate advances made after such notice is
received.
The Supreme Court granted Rosenthal’s petition for certification. 223 N.J. 281 (2015).
HELD: When a lender holds a mortgage that secures optional future advances, the prior lien loses priority for
advances made after actual notice of an intervening mortgage, in this case Riker’s intervening lien.
1. There are, broadly speaking, two considerations that bear on the priority issue: (1) whether the first mortgagee’s
subsequent advances were optional or obligatory; and (2) whether the first mortgagee had notice, either actual or
constructive, of the intervening mortgage. Under the traditional common law rule, if the advances are obligatory,
the first mortgagee retains priority for all advances over all subsequent mortgagees, regardless of whether the first
mortgagee had notice of an intervening lien. But if the advances are optional, then the first mortgagee retains
priority only for advances made before the mortgagee had notice -- usually actual notice -- of the second,
intervening mortgage. (pp. 13-15)
2. For the most part, New Jersey law tracks the optional/obligatory and notice/no-notice common law distinctions
governing future advance mortgages. In Ward v. Cooke, 17 N.J. Eq. 93, 99 (Ch. 1864), the court held that a future
advance mortgage “is entitled to priority over subsequent encumbrances, for all advances made prior to notice of the
subsequent encumbrance.” Only actual notice, not record or constructive notice, would suffice. Ibid. The Ward
rule has been continuously recognized as the general rule in this State. In Lincoln Federal Savings & Loan Ass’n v.
Platt Homes, Inc., 185 N.J. Super. 457, 466-67 (Ch. Div. 1982), the trial court permitted subordination of optional
future advances secured by a prior mortgage to an intervening mortgage based on constructive rather than actual
notice of the intervening lien, but limited the rule to construction loans. Lincoln Federal has been roundly criticized;
nonetheless this Court cited the case with approval in Cox v. RKA Corp., 164 N.J. 487 (2000), albeit in a different
context from the traditional advance money mortgage. (pp. 15-24)
3. New Jersey’s mortgage-priority statute, N.J.S.A. 46:9-8 to -8.5, preserves priority only for future advances made
under a line-of-credit agreement, which are by definition mandatory, thereby denying priority to discretionary
principal advances. Because the common law rule protected the priority of mandatory future advances, the statute
does little to change the future advance priority common law rule. In other words, optional future advances made
with actual knowledge of an intervening lien are subordinated to the intervening lien. (pp. 24-29)
4. The general rule that a mortgage given to secure future advances retains its priority over a subsequent
encumbrance only if the future advance is mandatory or if the prior mortgagee did not have actual notice of the
intervening lien was established in Ward, supra, 17 N.J. Eq. at 99. That rule remains in effect except as altered by
Lincoln Federal for construction loans. Rosenthal’s reliance on the Lincoln Federal exception, however, is
misplaced. The common law rule -- that actual notice of an intervening lien subordinates a mortgage securing
optional future advances -- remains in effect in New Jersey, at least outside the construction-loan context. Lincoln
Federal and Cox, supra, did nothing to cast doubt on the common law rule’s continuing vitality as to financing
vehicles such as factoring agreements or the optional/obligatory distinction regarding future advances. (pp. 29-35)
5. The common law rule grew out of a concern that a prior lender could preclude a borrower from obtaining capital
to meet the needs of its business. The circumstances attendant to the execution of the mortgage in favor of Riker in
this case are akin to the need for financing to continue business operations under more favorable terms. Once
Rosenthal had actual notice of Riker’s intervening mortgage and continued to make advances to the Jazz Entities, it
subjected itself to the common law priority rules. The amount that Rosenthal now claims has priority over the Riker
mortgage was not only advanced at Rosenthal’s discretion but also advanced after actual notice of Riker’s mortgage.
Those sums are therefore subordinated to the Riker mortgage. (pp. 35-36)
The judgment of the Appellate Division is AFFIRMED.
CHIEF JUSTICE RABNER and JUSTICES LaVECCHIA, FERNANDEZ-VINA, and SOLOMON
join in JUDGE CUFF’s opinion. JUSTICES ALBIN and PATTERSON did not participate.
2
SUPREME COURT OF NEW JERSEY
A-6 September Term 2015
076266
ROSENTHAL & ROSENTHAL, INC.,
Plaintiff-Appellant,
v.
VANESSA BENUN (a/k/a VANESSA
BROOCHIAN and ELAN
BROOCHIAN),
Defendants,
and
RIKER, DANZIG, SCHERER,
HYLAND & PERRETTI, L.L.P.,
Defendant-Respondent.
Argued April 26, 2016 – Decided July 21, 2016
On certification to the Superior Court,
Appellate Division, whose opinion is
reported at 441 N.J. Super. 184 (App. Div.
2015).
Joshua A. Zielinski argued the cause for
appellant (McElroy, Deutsch, Mulvaney &
Carpenter, attorneys; Mr. Zielinski and
Peter Saad, of counsel; Mr. Zielinski,
Andrew Gimigliano, and Young Yu, on the
briefs).
Matthew H. Lewis argued the cause for
respondent (Riker, Danzig, Scherer, Hyland &
Perretti, attorneys; Mr. Lewis, Gerald A.
Liloia and Nicholas Racioppi, Jr., of
counsel).
1
Mark Salah Morgan argued the cause for
amicus curiae New Jersey Bankers Association
(Day Pitney, attorneys; Mr. Morgan,
Christina A. Parlapiano, and Alba V. Aviles,
of counsel and on the brief).
Edward C. Eastman argued the cause for
amicus curiae New Jersey Land Title
Association (Davison, Eastman & Munoz,
attorney; Michael J. Fasano, on the brief).
JUDGE CUFF (temporarily assigned) delivered the opinion of
the Court.
This appeal addresses the priority of mortgages given to
secure financing for a group of related commercial entities. A
factor purchased accounts receivable, advanced funds to the
commercial entities, and agreed to make optional future
advances. The financing was secured by personal guaranties and
mortgages on the home of a guarantor. Each mortgage was capped
at $1 million.
Before the factor made additional advances to the
commercial entities, it received actual notice that a law firm
representing the principal of the commercial entities had
obtained a mortgage on the home of the personal guarantor to
secure payment of current and future legal fees.
Notwithstanding actual notice of the intervening mortgage, the
factor advanced additional funds. Eventually, the commercial
entities defaulted and filed a bankruptcy petition. The
guarantor also defaulted. At that time, the amount of
2
indebtedness to the factor and to the law firm far exceeded the
value of the security.
The factor commenced an action to foreclose on the
mortgages it held. Although the guarantor did not appear in the
foreclosure action, the law firm appeared to contest the
priority of the liens on the secured property. The law firm
contended that the factor’s prior liens securing any funds
advanced by the factor after receipt of actual notice of the law
firm’s intervening lien were subordinated to the law firm’s
mortgage.
The law governing mortgages securing optional, sometimes
referred to as discretionary, future advances in this State is
well-settled. When a lender holds a mortgage that secures
optional future advances, the prior lien loses priority for
advances made after actual notice of an intervening mortgage.
Although the common law rule and the mortgage-priority statutory
scheme adopted by the Legislature have been criticized by
commentators and differ from the law in other states, any
fundamental alteration of the law governing the priority of
mortgages is best addressed by the Legislature.
Here, it is undisputed that the factor had advance notice
of the law firm’s intervening lien but nonetheless proceeded to
make optional advances to the commercial entities. Having done
so, its mortgages securing those optional future advances were
3
subordinated to the law firm’s intervening lien. Accordingly,
we affirm the judgment of the Appellate Division, holding that
the law firm’s intervening lien takes priority over optional
advances made by the factor after it received actual notice of
the intervening lien.
I.
On July 12, 1995, Jazz Photo Corp., one of several
commercial entities (collectively referred to as the Jazz
Entities), entered into a factoring agreement with Rosenthal &
Rosenthal, Inc. (Rosenthal). Jazz Photo sold Rosenthal its
accounts receivable in return for cash. The agreement
contemplated the disbursement of additional advances and
provided as follows: “If you require funds from time to time,
we will advance to you, at our discretion, up to seventy percent
(70%) of the net amount of receivables purchased by us and not
yet collected.”
Five years later, Vanessa Benun (Benun), the daughter of
Jack Benun, a principal of the Jazz Entities, guaranteed Jazz
Photo’s obligations under that agreement. At that time, Benun
also executed a mortgage on real property she owned in Monmouth
County as security for her personal guaranty. The mortgage
secured “all sums due or that may become due under this
Mortgage, the Guaranty and other Loan Documents (and all
extensions, renewals, restatements, substitutions, amendments
4
and modifications of any or all of the foregoing), up to a
maximum principal amount of One Million ($1,000,000) Dollars[.]”
Benun’s mortgage also contained “dragnet” and anti-subordination
clauses. The dragnet clause provided that the mortgage would
secure not only the present guaranty but also “all obligations
and indebtedness of every kind” that Benun would incur to
Rosenthal in the future. The anti-subordination clause
prevented Benun from further mortgaging or encumbering the
property. The mortgage was recorded in the Monmouth County
Clerk’s Office on August 21, 2000.
In March 2005, another of the Jazz Entities, Ribi Tech
Products, LLC (Ribi Tech),1 entered into a factoring agreement
with Rosenthal. This factoring agreement also provided for
discretionary capital advances from time to time, if Ribi Tech
so requested and certain conditions were met. Benun personally
guaranteed Ribi Tech’s obligations to Rosenthal. Benun executed
another mortgage on the same Monmouth County real property to
secure her guaranty. This mortgage contained the same
provisions as the 2000 mortgage, and it was recorded in the
Monmouth County Clerk’s Office on April 12, 2005.
In March 2007, Riker, Danzig, Scherer, Hyland & Perretti,
L.L.P. (Riker), a law firm providing legal services to Jack
1 Ribi Tech later changed its name to Jazz Products.
5
Benun and the Jazz Entities, obtained a third mortgage from
Benun on the same real property. This mortgage was executed in
favor of Riker to secure Jack Benun’s personal debt under a
letter agreement dated March 20, 2007. When Benun executed the
mortgage, Jack Benun owed Riker $1,679,701.33 in unpaid legal
fees, and the letter agreement reflected his obligations to
Riker and Riker’s promise to provide continuing legal
representation. Riker’s mortgage was recorded on April 13,
2007.
Rosenthal received actual notice of the Riker mortgage, as
reflected in an August 2007 email from Rosenthal’s counsel to
Riker. Sent in connection with a contemplated new loan from
Rosenthal to the Benuns or the Jazz Entities, the email stated
that the “title on the daughter[’]s properties show[s] liens in
favor of your firm. Those liens will need to be fully
subordinated to any new [Rosenthal] mortgages on the
daughter[’]s properties related to the new loan to Mona Benun.”
Even with notice of the Riker mortgage, Rosenthal continued
to make advances to the Jazz Entities that totaled millions of
dollars.2 In September 2009, Jazz Products filed for bankruptcy.
2 The outstanding balances on advances made by Rosenthal to the
Jazz Entities following actual notice of the Riker mortgage are
as follows:
August 2007 $ 388,921.33
September 2007 $1,567,387.00
6
The Jazz Entities defaulted on their obligations to Rosenthal,
owing Rosenthal close to $4 million. Benun, in turn, defaulted
on her personal guaranty to secure the debt.
After Riker recorded its mortgage on the Monmouth County
property, it continued to perform legal services for Jack Benun,
and his unpaid legal fees ballooned to over $3 million. Jack
Benun, and the Jazz Entities defaulted on their obligation to
Riker and Benun defaulted on her guaranty. Thus, the debt
secured by the three mortgages totaled close to $7 million, far
in excess of the value of the mortgaged property.
October 2007 $2,048,442.37
November 2007 $ 872,521.17
December 2007 $ 797,364.00
January 2008 $ 513,000.00
February 2008 $ 996,400.00
March 2008 $ 191,381.93
April 2008 $3,907,817.76
May 2008 $1,276,499.00
June 2008 $1,312,275.33
July 2008 $1,794,399.76
August 2008 $ 797,200.73
September 2008 $1,723,758.64
October 2008 $1,841,312.25
November 2008 $1,049,230.33
December 2008 $ 960,844.60
January 2009 $ 393,300.00
February 2009 $ 474,915.65
March 2009 $ 611,702.84
April 2009 $1,226,885.00
May 2009 $ 612,421.33
June 2009 $1,319,019.28
July 2009 $ 312,000.00
August 2009 $ 75,933.13
September 2009 $ 3233.33
October 2009 $ 1125.83
7
Rosenthal filed a foreclosure complaint against Benun, her
husband, and Riker. Benun and her husband did not respond, and
Rosenthal requested that a default judgment be entered against
them. Riker answered, disputing the priority of Rosenthal’s
mortgages. Later, both Rosenthal and Riker filed cross-motions
for summary judgment regarding the priority of their respective
mortgages.
The trial court granted Rosenthal’s motion for summary
judgment. The trial court determined that the dragnet clauses
in the Rosenthal mortgages were fully enforceable. Turning to
the priority issue, the trial court held that Riker’s argument
that its mortgage displaced the two Rosenthal mortgages was
legally flawed because the firm accepted a mortgage on the
property with knowledge of two prior mortgages, each securing an
obligation of up to $1 million, and with knowledge of the anti-
subordination clauses. The court concluded that there was no
convincing justification for rewarding Riker -- a subsequent
mortgagee -- a superior priority.
Riker appealed, and the Appellate Division reversed in a
published opinion. See Rosenthal & Rosenthal, Inc. v. Benun,
441 N.J. Super. 184 (App. Div. 2015). The Appellate Division
concluded that the common law rules of priority placed Riker
ahead of Rosenthal. The panel relied on the long-standing New
Jersey rule governing future advance mortgages: when the future
8
advance is optional, actual notice of an intervening lien will
subordinate advances made after such notice is received. Id. at
190 (citing Ward v. Cooke, 17 N.J. Eq. 93, 99 (Ch. 1864)).
This Court granted Rosenthal’s petition for certification.
223 N.J. 281 (2015). We also permitted the New Jersey Bankers
Association (NJBA) and the New Jersey Land Title Association
(NJLTA) to appear as amici curiae.
II.
A.
Rosenthal focuses on the bargained-for contractual
expectations of it, Benun, and the Jazz Entities. According to
Rosenthal, those parties entered into the factoring agreements
with the expectation that Rosenthal would maintain a senior
interest in the mortgaged property. By granting Riker priority,
Rosenthal contends that the Appellate Division’s holding allowed
Riker, a stranger to the factoring agreements, to upend those
bargained-for expectations.
Recognizing the common law rule, and acknowledging that it
is the majority rule, Rosenthal urges, however, that it should
not apply here. Rosenthal emphasizes that the mortgages secured
Benun’s personal guaranty, not a direct advance money loan. The
Appellate Division, Rosenthal claims, failed to consider that
critical distinction.
9
Rosenthal also contends that the Appellate Division failed
to consider and give effect to the dragnet clauses contained in
the mortgages. Rosenthal argues that all parties to the Jazz
Entities’ factoring agreements specifically intended that the
dragnet clauses would secure Rosenthal’s future credit advances
up to a specified amount and would keep Rosenthal’s priority
position for all advances up to that amount. Moreover, Benun
never contested the validity of the dragnet clauses, and the
Appellate Division granted Riker priority without addressing the
effect that such clauses have on the common law priority rules.
Finally, Rosenthal argues that the legislative history of
the mortgage-priority statute, N.J.S.A. 46:9-8.1 and -8.2,
plainly indicates that the Legislature intended to vest all
future advances with priority. Rosenthal contends that a
literal reading of the statute may produce the harsh,
“inequitable,” and “absurd” result of an intervening lien holder
taking priority based on constructive notice alone.
B.
Riker asserts that the Appellate Division simply applied a
rule that has been the law in New Jersey for the past 150 years:
when a lender holds a mortgage that secures discretionary future
advances, those advances lose priority when they are made after
actual notice of an intervening mortgage. That rule, according
10
to Riker, stands on strong policy footing and has been codified
in the mortgage-priority statutes.
Finally, Riker argues that Rosenthal’s focus on the dragnet
clauses is misplaced and mischaracterizes the Appellate
Division’s opinion. Rather, the issue before the trial court,
the Appellate Division, and this Court has always centered on
the well-settled rules governing the priority of recorded
mortgages, not the validity of the factoring agreements.
C.
NJBA highlights the important role that future advances
play in the financial industry. It asserts that the Appellate
Division’s opinion will defeat the primary purpose behind the
use of future advances in the banking industry -- allowing
“lenders to lend money at the pace often required in commercial
transactions, i.e., at the point of economic necessity.”
NJBA contends that the Appellate Division’s focus on
Rosenthal’s actual notice of Riker’s mortgage overlooks that
Riker had actual notice of the Rosenthal mortgage. NJBA argues
that Riker should have expected its lien to be subordinate to
Rosenthal’s two earlier-recorded liens.
NJBA expresses concern about three possible outcomes that
could follow from the Appellate Division’s decision: (1)
lenders may avoid future advance transactions because of the
risk that intervening liens will destroy their bargained-for
11
security; (2) lenders will avoid checking title before future
advances because, if they do, they risk losing priority; and (3)
lenders may be unable to meet the rapidly fluctuating capital
needs of borrowers in commercial transactions because of the
time it takes to negotiate subordination agreements with
intervening lenders. In all those situations, NJBA says that
the burden is improperly placed on the first lender, rather than
on the intervening lender, who is a newcomer to an existing
contractual relationship.
In sum, NJBA argues for a rigid first-in-time, first-in-
right rule. According to that rule, a lender that has a
recorded mortgage securing future advances up to a specified
amount should be treated the same as a lender who advanced the
entire loan amount at one time.
NJLTA takes no position on the arguments advanced by either
Rosenthal or Riker, but urges the Court to look closely at this
case to protect the integrity of the recording system. It
maintains that the recording system is “best supported and
maintained by a determination that one may rely on the record in
determining the priority of advances made under a recorded
mortgage.”
III.
A.
12
The term “future advance” is interpreted broadly. It
covers “all situations in which a mortgagor’s obligation . . .
is enlarged after the mortgage becomes effective.” Restatement
(Third) of Property: Mortgages § 2.1 cmt. a (1997). Although
that occurs most often when a mortgage secures a future advance
loan, “an obligation secured by a mortgage may accrue by virtue
of circumstances other than a monetary advance.” Ibid. A
personal guaranty falls under that definition. See ibid.
In the typical future advance mortgage, “the borrower gives
the lender a note and mortgage for the entire loan amount,
though the lender will not advance all the funds to the borrower
until a future date.” 2 Grant S. Nelson et al., Real Estate
Finance Law § 12.7 at 263 (6th ed. 2014); see also 29 New Jersey
Practice, Law of Mortgages § 10.13 at 673 (Myron C. Weinstein)
(2d ed. 2001) (noting future advance mortgage may take two
forms: (1) “[i]t may state the total amount to be secured as if
it were a present debt, although in fact some or all of the
amount is to be advanced by the mortgagee in the future”; or (2)
“it may state that it secures advances to be made in the future,
with or without a statement of the amounts to be advanced from
time to time and the total amount to be secured by the
mortgage”). The mortgaged property “stands as security not only
for the funds advanced at the time the mortgage is executed and
delivered, but also for any obligations incurred after the
13
initial advance.” James B. Hughes, Jr., Future Advance
Mortgages: Preserving the Benefits and Burdens of the Bargain,
29 Wake Forest L. Rev. 1101, 1102 (1994).
Future advance mortgages are widespread in the
construction-loan context, where the property, and in turn the
lender’s security interest in it, becomes more valuable as the
work moves forward, lessening the risk of disbursing additional
funds. 2 Nelson, supra, § 12.7 at 263. Moreover, as in this
appeal, such financing vehicles can be used to secure commercial
financing devices, such as letters of credit, factoring
agreements, or lines of credit with an institutional lender.
See id. at 263-64. Whatever their use and whatever their form,
future advance mortgages have “substantial” advantages for both
the borrower and the lender. Id. at 264. The borrower carries
interest only on the funds that are presently needed, avoiding
the need to reinvest received yet presently unneeded capital,
and “[b]oth parties avoid the expense and paperwork involved in
refinancing the initial loan or executing a series of junior
mortgages.” Ibid. The lender, moreover, can ensure that the
initial advances are being put to a proper use before providing
more cash to a borrower. A construction lender, for instance,
can verify that the work is progressing, that contractors are
being paid, and that the project is on budget. See ibid.
14
The critical issue posed by future advance mortgages, and
the one highlighted in this appeal, is the priority of a
subsequent mortgage on the property obtained by intervening
parties after the first mortgagee’s initial advance but before
future advances. That issue is of heightened importance when
the value of the mortgaged property is insufficient to cover the
outstanding principal of both mortgage loans. There are,
broadly speaking, two considerations that bear on the priority
issue: (1) whether the first mortgagee’s subsequent advances
were optional or obligatory; and (2) whether the first mortgagee
had notice, either actual or constructive, of the intervening
mortgage. See Hughes, supra, 29 Wake Forest L. Rev. at 1103.
Under the traditional common law rule, if the advances are
obligatory, the first mortgagee retains priority for all
advances over all subsequent mortgagees, regardless of whether
the first mortgagee had notice of an intervening lien. Id. at
1115-16. But if the advances are optional, then the first
mortgagee retains priority only for advances made before the
mortgagee had notice -- usually actual notice -- of the second,
intervening mortgage. Ibid.; see also Grant S. Nelson & Dale A.
Whitman, Rethinking Future Advance Mortgages: A Brief for the
Restatement Approach, 44 Duke L.J. 657, 668-69 (1995).
The policy guiding that rule is straightforward -- to
protect the borrower “so that she can borrow from other lenders
15
and can sell the property.” 2 Nelson, supra, § 12.7 at 270. If
optional advances were to retain priority over subsequent
mortgages, the borrower would be doubly mistreated. The
borrower “could not demand the contemplated additional loan
funds[,]” because, again, they are made at the lender’s
discretion. Ibid. Nor could she “obtain financing from another
lender, because no one will lend on security that will be
reduced or eliminated if the first mortgagee decides to make
subsequent advances.” Ibid. Vesting the first mortgagee with
priority, even over optional advances, thus creates the risk
that the borrower will have substantial, but unavailable,
equity.
The calculus changes, so the reasoning goes, when the
advances are obligatory. Then the borrower “has a legal right”
to the lender’s performance, lessening the risk of stagnant
equity. Ibid. Even if the lender fails to perform because the
borrower has become too great a credit risk, “obtaining
financing elsewhere normally will be unlikely.” Ibid.
That explanation for the optional/obligatory and notice/no-
notice distinctions undergirds much of the law governing future
advance mortgages. Ibid. The traditional common law rule
“protects the mortgagor from being placed in the awkward and
unfair position of being unable to use the real estate as
security for additional financing, though it has value well in
16
excess of the existing mortgage debt.” Ibid. A number of
states follow that approach through judicially crafted common
law. See, e.g., Idaho First Nat’l Bank v. Wells, 596 P.2d 429,
433 (Idaho 1979) (stating that Idaho follows “general rule in
the United States” that if future advance “is optional, and if
the mortgagee has notice when the advance is made that a
subsequent creditor has acquired an interest in the land, then
the advance loses its priority to that creditor” (citation
omitted)); Bank of Ephraim v. Davis, 559 P.2d 538, 540-41 (Utah
1977) (“[A]n advance made pursuant to a mortgage to secure
future advances which the mortgagee was not obligated to make .
. . is subordinate in lien to an encumbrance intervening between
the giving of the mortgage and the making of the advance, if the
advance was made with actual notice or knowledge of the
intervening encumbrance.”); Daniels v. Elks Club of Hartford, 58
A.3d 925, 934 (Vt. 2012) (noting that judicial decisions have
long recognized optional/obligatory advance distinction). Other
states have recognized the rule by statute. See, e.g., 735 Ill.
Comp. Stat. 5/15-1302 (stating that, with some exceptions,
optional future advances “advanced or applied more than 18
months after a mortgage is recorded . . . shall be a lien as to
subsequent purchasers and judgment creditors only from the time
such monies are advanced or applied”); Me. Stat. tit. 9-B, §
436(1)(B) (“The priority of . . . future advances shall not
17
include any future optional advances secured by such mortgage
made by such institution after any such person, in addition to
acquiring such subsequent right or lien, sends to the
institution . . . express written notice[.]”); Neb. Rev. Stat. §
76-238.01(3)(b)(ii) (“If any optional future advance is made . .
. after receiving written notice of the filing for record of any
trust deed, mortgage, lien, or claim against such mortgaged real
property, then the amount of such optional future advance shall
be junior to such trust deed, mortgage, lien, or claim.”); Vt.
Stat. Ann. tit. 27, § 410(b)(3)(B) (stating that optional future
advances take priority “to the extent of future advances that
are outstanding before the mortgagee receives written notice of
the intervening interest”).
For the most part, New Jersey law tracks those common law
distinctions, focusing on whether the subsequent advances were
optional or obligatory and whether the first mortgagee had
notice of the intervening mortgage. In Ward, supra, 17 N.J. Eq.
at 99, the court held that a future advance mortgage “is
entitled to priority over subsequent encumbrances, for all
advances made prior to notice of the subsequent encumbrance.”
Only actual notice, not record or constructive notice, would
suffice. Ibid.
The Ward rule has been continuously recognized as the
general rule in this State. See, e.g., Mayo v. City Nat’l Bank
18
& Trust Co., 56 N.J. 111, 117 (1970) (“Where it is optional with
the mortgagee whether to make future advances, he does not have
a prior lien for those advances made after notice of an existing
encumbrance.”); Heintze v. Bentley, 34 N.J. Eq. 562, 566-67 (E.
& A. 1881) (“[I]f a first mortgagee ha[s] knowledge of the
existence of a second encumbrance upon the estate, he cannot
make further loans upon his mortgage to the disadvantage of the
second encumbrance, when it is entirely optional with him
whether to make further advances or not.”); Micele v. Falduti,
101 N.J. Eq. 103, 105 (Ch. 1927) (“The general rule . . . is
that a mortgage for future advances becomes an effective lien as
to subsequent encumbrances from the date of its record, where
the making of advances . . . is obligatory. But, where the
making of future advances is not obligatory, but optional, the
mortgage is a prior lien to all subsequent encumbrances until
there is actual notice[.]”).
In Lincoln Federal Savings & Loan Ass’n v. Platt Homes,
Inc., 185 N.J. Super. 457, 466-67 (Ch. Div. 1982), the trial
court permitted subordination of optional future advances
secured by a prior mortgage to an intervening mortgage based on
constructive rather than actual notice of the intervening lien,
but limited the rule to construction loans. The bank advanced a
portion of the funds committed for the project retaining the
right to make optional future advances. Id. at 459. Before the
19
bank advanced the second installment of construction financing,
a third party loaned money to the builder and obtained a
mortgage on the real property. Ibid. The bank and the third
party promptly recorded their respective mortgages
contemporaneously with the advance of funds. Ibid. The builder
defaulted on both loans. Ibid.
Although the bank lacked actual notice of the third party’s
mortgage, the trial court declined to follow the common law
rule, holding that “constructive notice of intervening liens is
sufficient to defeat the priority position of a construction
mortgagee as to optional future advances.” Id. at 463-67. The
court reasoned that the bank should be charged with constructive
notice of the intervening mortgage because it had been recorded
before the bank made its second advance and that notice defeated
the priority of the bank as to optional future advances. Id. at
466-67. The court justified the departure from the prevailing
common law rule because the construction lender can protect its
interest by conducting a search prior to each advance and
declining to make additional advances if it discovered
intervening liens. Id. at 467.
The trial court, however, limited the scope of its holding
to the construction-loan context, explaining that it “cannot
apply in general commercial loan situations, where commitments
to make future advances may be secured by rapidly fluctuating
20
collateral, such as inventory, accounts receivables or the like,
with a mortgage on real property taken as side collateral only.”
Id. at 467 n.5. In those cases, the future advance lender’s
priority in the other collateral, the collateral that is not
real property, is protected by the Uniform Commercial Code.
Ibid. (citing N.J.S.A. 12A:9-312(5) and (7)). That lender can
therefore “make subsequent advances without each time having, as
a condition of protection, to check for filings later than his.”
Ibid. (quoting Comment 5 to N.J.S.A. 12A:9-312(5) and (7)).
Lincoln Federal has been roundly criticized. See 29 New
Jersey Practice, supra, § 10.13, at 680 (observing that
constructive notice doctrine can “as easily be employed to
justify the [common law] rule as to challenge it”).
Nonetheless, this Court cited Lincoln Federal with approval in
Cox v. RKA Corp., 164 N.J. 487 (2000), albeit in a different
context from the traditional advance money mortgage.
Cox involved a priority contest between a vendee’s lien and
an after-acquired construction loan. Id. at 491. In Cox, the
plaintiffs entered into a contract with the defendant builder to
purchase a lot and to construct a home on that property. Ibid.
After the plaintiffs made a $12,000 down payment, ibid., the
defendant builder obtained a construction loan from a commercial
lender, id. at 492. The construction loan provided for an
initial advance of $43,335, and the defendant builder received a
21
second advance of $30,896 a few months later. Ibid. The lender
received a mortgage on the property, which was duly recorded.
Ibid. Thereafter, the plaintiffs made several payments not yet
due under the terms of their contract with the defendant builder
totaling $71,225.53. Ibid.
The defendant builder breached the contract with the
plaintiffs, and defaulted on the construction loan. Ibid. The
plaintiffs filed a suit demanding specific performance, and the
lender initiated foreclosure proceedings. Ibid. The plaintiffs
amended their complaint, seeking to void the lender’s mortgage
or, in the alternative, to impress a superior lien on the
property for all monies advanced to the defendant builder. Id.
at 492-93.
The trial court entered judgment in favor of the
plaintiffs, finding that the lender had taken its mortgage with
knowledge of the plaintiffs’ equitable interest in the property.
Id. at 493. The trial court found that the plaintiffs’
equitable interest was superior to the lender’s mortgage for all
amounts that they had advanced to the defendant builder. Ibid.
A divided Appellate Division panel affirmed. Ibid.
This Court held that the plaintiffs’ interest in the
property should be treated as a vendee’s lien. Id. at 497.
Addressing the priority of the plaintiffs’ lien vis-à-vis the
lender’s recorded mortgage, the Court accorded priority to the
22
plaintiffs’ $12,000 deposit over the lender’s “later-recorded
mortgage interest.” Id. at 501.
The Court, however, declined to award the same priority to
the optional payments made by the plaintiffs toward the purchase
price after the mortgage was recorded. Id. at 503-04. The
Court reasoned that the plaintiffs had constructive notice of
the mortgage interest before making additional payments toward
the purchase price. Id. at 502, 504. In so ruling, the Court
concluded that the plaintiffs were in the same position as the
mortgagee in Lincoln Federal. The Court emphasized that the
plaintiffs made “voluntary advances, in addition to their
initial deposit, toward the purchase price of the property after
[the lender] granted the construction loan to [the builder] and
recorded its mortgage.” Id. at 503. The holder of a vendee’s
lien, who makes additional, voluntary advances after notice of
an intervening lien, “must be viewed, like the mortgagee in
Lincoln, as having made such payments at [its] peril.” Id. at
504.
Concurring in part and dissenting in part, Justice Stein
maintained that the plaintiffs’ payments following recordation
of the construction mortgage should also receive priority over
the mortgage. Id. at 528-29 (Stein, J., concurring in part and
dissenting in part). In doing so, Justice Stein explained that
“where the ‘first mortgagee has no notice of a subsequent
23
encumbrance, an optional advance will take priority regardless
of whether it was made before the intervening lien attached.’”
Id. at 525 (quoting La Cholla Grp., Inc. v. Timm, 844 P.2d 657,
659 (Ariz. Ct. App. 1992)). Justice Stein characterized the
holding in Lincoln Federal as “in contrast with the majority of
American jurisdictions that ‘require that the first mortgagee
have actual notice of the subsequent lien before [its] claim
will be subordinated.’” Id. at 526 (alteration in original)
(quoting Hughes, supra, 29 Wake Forest L. Rev. at 1115).
Because Lincoln Federal departed from prior New Jersey law,
Justice Stein considered the majority’s reliance on that case to
be misdirected, arguing that the “better rule is that of the
majority of jurisdictions which hold that constructive notice of
a subsequent and intervening lien is insufficient to deprive
parties such as the [plaintiffs] of priority.” Id. at 528.
B.
New Jersey’s current mortgage-priority statute, N.J.S.A.
46:9-8 to -8.5, grew out of 1985 legislation that was amended
twice in the late 1990s. Presently, the statute preserves
priority for mortgage loans that have undergone a modification.
It provides:
Notwithstanding any other law to the contrary,
the priority of the lien of a mortgage loan
which has undergone a modification, as defined
by this act, shall relate back to and remain
as it was at the time of recording of the
24
original mortgage as if the modification was
included in the original mortgage or as if the
modification occurred at the time of recording
of the original mortgage. The priority
granted by this section shall not apply to any
balance due in excess of the maximum specified
principal amount which is secured by the
mortgage, plus accrued interest, payments for
taxes and insurance, and other payments made
by the mortgagee pursuant to the terms of the
mortgage.
[N.J.S.A. 46:9-8.2 (emphasis added).]
The statutory definition of “modification” includes: (1)
“[w]ith respect to a mortgage loan other than a line of credit,
a change in the interest rate, due date or other terms and
conditions of a mortgage loan except an advance of principal”;
and (2) “an advance of principal made pursuant to the line of
credit[.]” N.J.S.A. 46:9-8.1(d)(1) and (2) (emphasis added). A
“line of credit” is defined as “an agreement whereby a lender is
obligated to provide a specified amount of credit to a borrower
from time to time.” N.J.S.A. 46:9-8.1(c) (emphasis added).
The statutory scheme thus preserves priority only for
future advances made under a line-of-credit agreement, which are
by definition mandatory. Because the common law rule protected
the priority of mandatory future advances, the statute does
little to change the future advance priority common law rule.
In other words, optional future advances made with actual
knowledge of an intervening lien are subordinated to the
intervening lien.
25
Interestingly, it appears that the Legislature initially
intended to abolish the optional/obligatory distinction and
grant priority to the future advance lender for all advances.
The Sponsor’s Statement provided:
[L]egal concerns have caused lenders to
require additional title searches and title
insurance and to require additional document
recordings, all with their attendant legal and
recording fees causing increased costs for
borrowers. The purpose of this bill is to
clarify the priority of mortgages upon
modification of the mortgage and to eliminate
the need for searches and title insurance upon
modification, and thus to reduce charges to
borrowers. It does this by giving priority to
a mortgage, [up] to an amount stated in the
mortgage notwithstanding subsequent advances,
changes in interest, extension of due date or
other modifications.
[Sponsor’s Statement to S. No. 2308 (1985)
(emphasis added).]
The Senate and Assembly Committee Statements expressed a similar
intent:
The purpose of the bill is to clarify
questions regarding the priority of liens
which have arisen with the advent of new types
of mortgage instruments, such as balloon
mortgages, and home equity loans.
It would preserve the priority of the lien of
a mortgage loan although . . . advances on the
lien may be made (whether obligatory or at the
option of the lender). The priority of the
lien established at the time of recording
would be preserved even in the case of a line
of credit when no use of the credit is made.
This bill would not apply (1) to construction
loans, (2) to changes in a mortgage involving
26
a substitution of collateral, or (3) to any
balance due in excess of the maximum specified
principal amount of the mortgage loan, plus
certain other payments made by the mortgagee
(e.g., accrued interest, taxes, and
insurance).
[Assembly Banking & Ins. Comm., Statement to
S. No. 2308 (1985) (emphasis added).]
This bill provides that the priority of the
lien of a mortgage loan (except a construction
loan) in which the interest rate, due date, or
other terms and conditions (except
substitution of collateral) may be changed or
in which advances on the loan, whether
obligatory or at the option of the lender, may
be made, will retain the same priority as it
had when the lien was recorded, even if any of
those changes in the mortgage loan occur or
advances are not made. However, this priority
would not apply to any balance due in excess
of the maximum specified principal amount of
the mortgage loan, plus certain other payments
made by the mortgagee.
[Senate Labor, Indus. & Professions Comm.,
Statement to S. No. 2308 (1984) (emphasis
added).]
The actual words of the statute, however, clash with the
Sponsor’s Statement and Committee Statements, which purport to
preserve priority for all future advances whether optional or
obligatory.
The Legislature amended the mortgage-priority statute in
1997, altering the definition of “modification” apparently to
include optional principal advances. According to the 1997
amendment, “modification” was defined as
27
(1) A change in the interest rate, due date or
other terms and conditions of a mortgage loan;
or
(2) An advance made pursuant to a line of
credit or other advance of principal but only
to the extent that the advance does not cause
the principal balance due to exceed the
principal amount stated in the mortgage.
“Modification” does not include a substitution
in the collateral.
[L. 1997, c. 427, § 1(d) (emphasis added).]
The Sponsor’s Statement explains that the bill was designed
to clarify “that principal advances on a mortgage are covered as
a modification, thereby maintaining the priority of the
mortgage, so long as the resulting outstanding principal balance
does not exceed the principal amount stated in the mortgage.”
Sponsor’s Statement to Assembly No. 2323 (1996); see also
Assembly Fin. Insts. Comm., Statement to Assembly No. 2323
(1996) (stating same).
That change in the statutory language was short-lived. The
next year, the statute reverted to its original 1985 language,
thereby denying priority to discretionary principal advances:
d. “‘Modification’ means”
(1) With respect to a mortgage loan other than
a line of credit, a change in the interest
rate, due date or other terms and conditions
of a mortgage loan except an advance of
principal; or
(2) With respect to a line of credit, a change
in the interest rate, due date or other terms
and conditions and an advance of principal
28
made pursuant to the line of credit but only
to the extent that the advance does not cause
the principal balance due to exceed the
principal amount stated in the line of credit
plus accrued interest.
(3) Payments for taxes, assessments and
insurance and other payments made by the
mortgagee pursuant to the terms of the
mortgage or line of credit are included with
the amounts which have priority pursuant to
section 2 of P.L.1985, c.353 (C.46:9-8.2) and
are not included in the phrase “advance of
principal;”
(4) “Modification” does not include a
substitution in the collateral.
[L. 1998, c. 130, § 1(d) (emphasis added).]
Moreover, the 1998 amendment’s legislative history makes
clear it intended to distinguish between advances made under a
mortgage loan and advances made under a line of credit. The
priority of the original mortgage attaches only to the latter.
See Sponsor’s Statement to Assembly No. 2077 (1998) (“This bill
clarifies that an advance of principal made with respect to a
mortgage other than a line of credit does not have the lien
priority of the original mortgage; it is not a ‘modification’
pursuant to P.L.1985, c.353 (C.46:9-8.1 et seq.).”).
IV.
The starting point for our resolution of the priority
contest between Rosenthal and Riker is the common law rule. The
general rule that a mortgage given to secure future advances
retains its priority over a subsequent encumbrance only if the
29
future advance is mandatory or if the prior mortgagee did not
have actual notice of the intervening lien was established in
Ward, supra, 17 N.J. Eq. at 99. That rule remains in effect
except as altered by Lincoln Federal for construction loans.
See Cox, supra, 164 N.J. at 525-26 (Stein, J., concurring in
part and dissenting in part) (noting as well-settled that
“actual notice of a subsequent encumbrance was required before
optional advances would lose their lien priority”).
Rosenthal’s reliance on this exception in Lincoln Federal,
supra, is misplaced because the trial court observed that its
holding -- that constructive notice of intervening liens was
sufficient to defeat priority -- could not apply to more fluid
financing schemes, such as Rosenthal’s factoring agreement. See
185 N.J. Super. at 467 n.5. In fact, Lincoln Federal
acknowledged that an optional advance made in the non-
construction lending context following constructive notice only
would retain the priority of the earlier mortgage. Ibid. Here,
however, Rosenthal had actual notice and made subsequent
advances notwithstanding that notice.
We also reject Rosenthal’s argument that the law of future
advance mortgages does not apply to this case because the two
mortgages obtained from Benun secured her personal guaranty
rather than a direct loan to one of the Jazz Entities. The term
future advance is defined broadly, covering “all situations in
30
which a mortgagor’s obligation . . . is enlarged after the
mortgage became effective.” Restatement, supra, § 2.1 cmt. a.
Guaranty agreements fall under the umbrella of that definition,
especially guaranty agreements that secure a future advance
loan. See ibid. Because the personal guaranty that secured the
mortgages could, and did, expand after the mortgage became
effective, the law that governs future advance mortgages
controls.3
Our review of the early case law, including Ward and its
progeny, Lincoln Federal and Cox, leads to the conclusion that
the common law rule -- that actual notice of an intervening lien
subordinates a mortgage securing optional future advances --
remains in effect in New Jersey, at least outside the
construction-loan context. Both Lincoln Federal and Cox
declined to follow the common law’s actual notice requirement in
limited circumstances, holding that constructive notice instead
sufficed. Those cases, however, did nothing to cast doubt on
the common law rule’s continuing vitality as to financing
3 We decline to explore the dragnet clause as it affects the
priority of the intervening Riker mortgage, because such clauses
generally go to the scope of the agreement rather than the
priority of prior and intervening liens, and lenders do not
consider the dragnet clause as a means to achieve priority over
intervening liens. Nelson & Whitman, supra, 44 Duke L.J. at
673-74.
31
vehicles such as factoring agreements or the optional/obligatory
distinction regarding future advances.
Moreover, the mortgage-priority statute, specifically
N.J.S.A. 46:9-8.2, which gives mortgages that underwent a
“modification” priority over intervening liens, defines
modification to exclude optional principal advances.
Modification of a mortgage loan, other than a line of credit, is
defined as “a change in the interest rate, due date or other
terms and conditions of a mortgage loan except an advance of
principal[.]” N.J.S.A. 46:9-8.1(d)(1) (emphasis added). A
modification, as defined by the statute, includes principal
advances made only under a line-of-credit agreement. See
N.J.S.A. 46:9-8.1(d)(2). Moreover, a line-of-credit agreement
is defined as a financing agreement in which “a lender is
obligated to provide a specified amount of credit to a borrower
from time to time.” N.J.S.A. 46:9-8.1(c) (emphasis added). By
preserving priority for obligatory advances only, the
Legislature left the common law rule untouched.
To be sure, some legislative committee statements from 1985
and 1997 suggest that it intended to end the distinction between
optional and obligatory advances. Yet, the language of the
legislation adopted in 1985 retained the optional/obligatory
distinction. Moreover, the legislative history of the 1998
amendment and the language of that amendment unequivocally
32
restored the distinction and the common law rule of retaining
priority only for obligatory future advances. See Sponsor’s
Statement to Assembly No. 2077, supra.
The common law rule governing future advance mortgages
remains in force in this State. To be sure, there are policy
reasons identified by Rosenthal and amici that question the
continuing value of the common law rule and advocate for a rule
that eliminates any ambiguity and fosters uniformity of
interpretation and application, such as the Restatement. The
common law rule also has been the subject of scholarly
criticism. See, e.g., Hughes, supra, 29 Wake Forest L. Rev. at
1125 (“[T]here should be a strictly defined rule to govern
priority in future advance situations, but the present rule
which relies upon the optional/obligatory distinction is simply
not justified.”); Robert Kratovil & Raymond J. Werner, Mortgages
for Construction and the Lien Priorities Problem -- The
“Unobligatory” Advance, 41 Tenn. L. Rev. 311 (1974) (arguing
that traditional optional/obligatory test, as applied to
construction context, impedes development); Matthew Lilly,
Comment, Subrogation of Mortgages in California: A Comparison
with the Restatement and Proposals for Change, 48 UCLA L. Rev.
1633, 1652 (2001) (“While encouraging future loans is sound
public policy, making a distinction between optional and
obligatory advances creates a cure that is often more onerous
33
than the disease.”); Nelson & Whitman, supra, 44 Duke L.J. at
659-60 (arguing that common law approach to priority of
mortgages to secure future advances “has proved inadequate and
should be discarded”).
A number of states have modified or discarded the common
law rule. Some states have statutorily redefined “notice” to
include only written notice. See, e.g., Me. Stat. tit. 9-B, §
436(1)(B) (“The priority of . . . future advances shall not
include any future optional advances secured by such mortgage
made by such institution after any such person, in addition to
acquiring such subsequent right or lien, sends to the
institution . . . express written notice[.]”); Neb. Rev. Stat. §
76-238.01(3)(b)(ii) (“If any optional future advance is made . .
. after receiving written notice of the filing for record of any
trust deed, mortgage, lien, or claim against such mortgaged real
property, then the amount of such optional future advance shall
be junior to such trust deed, mortgage, lien, or claim.”); Vt.
Stat. Ann. tit. 27, § 410(b)(3)(B) (stating that optional future
advances take priority “to the extent of future advances that
are outstanding before the mortgagee receives written notice of
the intervening interest”). Some states have adopted a cutoff
notice scheme. See, e.g., Mo. Rev. Stat. § 443.055(6) (stating
that mortgagor may give written notice that he “elects to
terminate the operation of the instrument as security for future
34
advances”); Nev. Rev. Stat. § 106.380(1) (“A borrower may at any
time [give] written notice to the lender stating that the
borrower elects to terminate the operation of an instrument as
security for future advances[.]”). And some states have
abolished the optional/obligatory distinction. See, e.g., N.M.
Stat. Ann. § 48-7-9 (“Every mortgage . . . may secure future
advances and the lien of such mortgage shall . . . have priority
from the time of recording as to all advances, whether
obligatory or discretionary, made thereunder[.]”); Or. Rev.
Stat. § 86.155(2) (stating that as to “principal advances made
any time pursuant to the credit agreement,” lien “shall have
priority, regardless of the knowledge of the lienholder of any
intervening lien, as of its date of recording . . . whether the
advances are optional or obligatory advances”).
Amici have also advanced persuasive reasons for departing
from the common law rule. Where, however, the common law rule
governing priority of optional future advances has been codified
by statute, any plea to fundamentally alter the rule is best
addressed to the Legislature.
V.
In sum, the law permits an intervening lender to insert
itself into an existing contractual relationship and achieve
priority over an earlier lender who retained the option to
advance further funds. The rule grew out of a concern that a
35
prior lender could preclude a borrower from obtaining capital to
meet the needs of its business. The circumstances attendant to
the execution of the mortgage in favor of Riker are akin to the
need for financing to continue business operations under more
favorable terms. Here, without some security to cover mounting
legal fees, the Jazz Entities may not have been able to obtain
legal representation to further their business operations.
Applying the well-settled law concerning the priority of a
mortgage securing optional future advances against an
intervening lienholder to the facts of this appeal is
straightforward. Rosenthal does not dispute that its advances
under the factoring agreements were optional. Nor does it
dispute that it had actual notice of Riker’s mortgage on the
Benun property. Once Rosenthal had actual notice of Riker’s
intervening mortgage and continued to make advances to the Jazz
Entities, it subjected itself to the common law priority rules.
The amount that Rosenthal now claims has priority over the Riker
mortgage was not only advanced at Rosenthal’s discretion but
also advanced after actual notice of Riker’s mortgage. Those
sums are therefore subordinated to the Riker mortgage.
VI.
The judgment of the Appellate Division is affirmed.
CHIEF JUSTICE RABNER and JUSTICES LaVECCHIA, FERNANDEZ-
VINA, and SOLOMON join in JUDGE CUFF’s opinion. JUSTICES ALBIN
and PATTERSON did not participate.
36