Financial institutions obtaining title to property in Colorado through public trustee foreclosures are sometimes surprised to learn that the foreclosure did not remove all the title problems that would be objectionable to a prospective buyer when the institution attempts to resell the property.
A foreclosure, among other things, is a means to extinguish liens and encumbrances junior to the foreclosed mortgage. Under Colorado’s “race notice” rule after recorded or unrecorded liens are ordinarily junior to the institution’s mortgage and will be extinguished in a foreclosure.  Unfortunately, this rule is fraught with exceptions.  Statutes, case law, and contract may all affect the relative seniorities of recorded, unrecorded, and after-recorded liens.
Anyone concerned with the value and marketability of foreclosed property must look beyond the typical title report to understand what will and will not survive the foreclosure.  By learning about and addressing any surviving liens or encumbrances, the institution can better prepare the property for resale.

• Examples of liens or encumbrances that may survive a public trustee foreclosure include the following:
  • If a lender had actual notice of an unrecorded lien at loan origination, the unrecorded lien may be deemed senior to the lender’s mortgage.
  • Homeowners’ associations, to a limited extent, enjoy a senior lien for an amount equal to the regular common expense assessments due during the six months immediately prior to the foreclosure.  Amounts above this “super-priority” lien will be extinguished.  Also, if the lender is foreclosing on a second mortgage, the entire amount due the association is a prior lien.  
  • Architects, builders, and other workers may be entitled to a so-called “mechanics lien,” which may in some instances enjoy a statutory seniority.  In particular, many lenders are not aware of Colorado’s doctrine of “relation back,” under which the priority of a mechanics lien may date back the commencement of first work by the first party entitled to record a mechanics lien (usually a surveyor, engineer, or architect). 
  • Some federal, state, or municipal liens (recorded or not) may enjoy a statutory seniority.  For example, property taxes are deemed senior to a mortgage. 
  • After recorded liens to which the foreclosing lender voluntarily subordinated its interests will survive. 
  • A residential lease may be deemed to be a senior lien under certain consumer protection laws now in effect.  Under the “Protecting Tenants at Foreclosure Act,” Federal Law mandates that a residential lease, if it meets certain requirements, may survive a foreclosure, and any lender may find it difficult to sell or even show this property until the lease expires.  This law sunsets in 2013.
  • A mortgage will oftentimes be contractually subordinated to commercial leases (though these agreements will most likely be of record). 
  • Zoning ordinances and building regulations typically survive a foreclosure, even if they arising after the mortgage.
  • Sometimes a foreclosing lender will intentionally (or accidentally) omit otherwise junior lien holders from a foreclosure; the liens of such omitted parties may survive.

The above list is non-exhaustive, and subtle nuances apply to each item. In many foreclosures, legal counsel can be an invaluable resource to help identify and in some cases assist in the removal of these problem liens and encumbrances.

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