Smith v. State Savings & Loan Assn

In Smith v. State Savings & Loan Assn. (1985) 175 Cal.App.3d 1092, F&D Properties owned a condominium complex subject to three encumbrances. Plaintiff Smith sold property to F&D and received notes and deeds of trust secured by the condominium property, which he recorded fourth in priority. Subsequently, defendant State Savings and Loan (State) provided new financing for the condominium complex, with the understanding that its refinancing would be secured by a first deed of trust on the condominium property. State had no actual knowledge of Smith's encumbrances, but it had constructive knowledge because they had been recorded. State contended its deed of trust had priority over Smith's, because State was subrogated to the rights of the three former encumbrancers to the extent of their encumbrances. (Id. at p. 1096.) The trial court denied equitable subrogation, because: "(1) the new loans provided by State did not comply with terms under which Smith had expressly agreed his trust deeds could be subordinated; (2) State had constructive knowledge of Smith's trust deeds because they had been recorded; (3) State had no prior 'interest to protect in making the loans.'" (Smith, supra, 175 Cal.App.3d at p. 1096.) The court reversed. It quoted the same rule cited in Katsivalis and Simon Newman: "'"'One who advances money to pay off an encumbrance on realty at the instance of either the owner of the property or the holder of the incumbrance, either on the express understanding, or under circumstances from which an understanding will be implied, that the advance made is to be secured by a first lien on the property, is not a mere volunteer; and in the event the new security is for any reason not a first lien on the property, the holder of such security, if not chargeable with culpable and inexcusable neglect, will be subrogated to the rights of the prior encumbrancer under the security held by him .'"'" (Smith, at p. 1096.) The court concluded the terms under which Smith agreed to subordination were not dispositive. "Smith knowingly and willingly accepted a fourth priority position, junior to three existing encumbrances. State here seeks only to be subrogated to the rights of the three prior encumbrances and only to the extent of those encumbrances. The whole theory of equitable subrogation in such situations is that the junior encumbrancer (Smith) is left in exactly the same junior position he had before. If granting equitable subrogation to State would not prejudice Smith but leave him in the same position he had before, and is otherwise equitable, it should be granted. Application of the doctrine in no way depends upon meeting conditions laid down by Smith under which he would expressly subordinate his interests." (Smith, supra, 175 Cal.App.3d at pp. 1097-1098.) The court rejected the trial court's conclusion that State's failure to discover Smith's recorded trust deeds constituted the type of "'culpable and inexcusable neglect'" which would justify denial of equitable subrogation. "Although equitable subrogation will be denied to a new lender who has actual knowledge of the junior encumbrance, it has long been the rule in California that the fact the junior encumbrance was recorded will not by itself bar equitable subrogation." (Smith, supra, 175 Cal.App.3d at p. 1098.) The court also rejected the trial court's conclusion that equitable subrogation did not apply because State had no preexisting interest to protect by making the loan to F&D and was therefore a mere volunteer. The court distinguished Caito and its recitation of the elements of equitable subrogation. (Smith, supra, 175 Cal.App.3d at 1098.) It noted that the issue in Caito was not whether the subrogee acted as a volunteer, but whether a purported subrogee could be subrogated to the rights of the creditor where the subrogee was primarily liable on the debt. The court concluded: "State provided refinancing at the request of the debtor, F & D. Unaware of Smith's interest, State paid off the senior encumbrances in order to secure State's new loan with a first trust deed. In making such a loan in the course of its business, State obviously had sufficient interest to entitle it to subrogation to the rights of the senior encumbrances. One who advances money at the request of the debtor to pay off an encumbrance with the understanding that the advance will be secured by a first trust deed '"'...is not a mere volunteer.'"" (Smith, at p. 1099.)