January 1, 1900

by Eric P. Kelner

Given the downturn in the economy and the falling housing market, secured creditors of commercial entities often fi nd themselves in the undesirable position of commencing a foreclosure action, when at the onset of the action, the creditor is aware that it will likely not recover its lien amount. Additionally, during the foreclosure action, the creditor will be required to make advances for taxes, insurance and other necessary expenses to secure the property and protect its lien position, notwithstanding that the value of the property is likely decreasing during the proceeding. Under these circumstances, the secured creditor is on a sinking ship and the longer the foreclosure action takes, the greater the resulting deficiency will be once the sheriff’s sale is complete.

The secured creditor may be under the impression that it must remain on the sinking ship through sheriff's sale and attempt to recover the deficiency from the individual guarantors, if any, which given the insolvent status of the business may result in minimal recovery. However, the secured creditor has an available alternative provided for by New Jersey statutes, which is largely underutilized, known as the pendente lite sale.

Procedure

A pendente lite sale is a sale of the property upon application of an interested party through a receiver or a sheriff prior to the obtainment of a final judgment of foreclosure, when the property is likely to decrease in value, and the continuing preservation of the property is not feasible, given the diminishing potential return on the property. This remedy is provided for by N.J.S.A. 2A:50-31 as follows:

When, in an action for the foreclosure or satisfaction of a mortgage covering real or personal property, or both, the property mortgaged is of such a character or so situated as to make it liable to deteriorate in value or to make its care or preservation difficult or expen sive pending the determination of the action, the Superior Court may, before judgment, upon the application of any party to the action, order a sale of the mortgaged property to be made at public or private sale through a receiver, sheriff, or otherwise, as the court may direct.

Thus, in accordance with the statute, any party to the action can make an application for a pendente lite sale of the mortgaged premises prior to sheriff's sale. This procedure allows the creditor to prevent the mounting expenses to secure the property during the foreclosure procedure and to prevent the further decrease in value of the mortgaged premises. It is a life raft for the secured creditor on a sinking ship.

Standard for a Pendente Lite Sale

The statute provides that a pendente lite sale can occur if the property is likely to deteriorate in value or to make its care or preservation difficult or expensive pending the determination of the action. However, there is no set standard as to when the court will allow the sale of the property prior to sheriff’s sale. For example, the statute does not provide that, if the value at the property decreases by 50%, or if it would cost the creditor over $50,000.00 to secure the property a pendente lite sale can be ordered. Rather, the court must determine each application for a pendente lite sale on a case-by-case basis.

Further, there is minimal caselaw to guide the court as to whether a specific application falls within the standard set forth in the statute. However, one such case that does address pendente lite sales is Mortgage Electronic Systems, Inc., v. Rothman. In Rothman, the mortgages on the property exceeded the market value of the property by approximately $5 million. Thus, the mortgagee made an application to permit the property to be sold prior to sheriff's sale, as the interest on the loan was not being paid and the mortgagee was also paying the municipal taxes on the property. In that case, the foreclosing mortgagee would most likely not be reimbursed for the payment of taxes or the interest, as the value of the property was significantly lower than the liens on the property.

While the mortgagor did not object to the foreclosure of the property, the mortgagor objected to the pendente lite sale on the basis that the mortgagee could not demonstrate deterioration in value of the property or difficulty in its care or preservation. Notwithstanding that the mortgagee in Rothman failed to demonstrate same, the court held that the fact that the mortgagee would not be reimbursed for the payment of taxes and because the lien exceeded the value of the property, brought the circumstances within the ambits of the statute authorizing a sale pendente lite.

The court stated that the purpose of the statute is to prevent impairment to the financial position and security of the mortgagee. Further, as the mortgagee would be required to advance taxes, and interest would continue to accrue during the pendency of the foreclosure, the property's value was being impaired. Accordingly, the court found that a pendente lite sale was appropriate, in accordance with the statute.

Therefore, as the case of Rothman demonstrates, the courts look at the totality of the circumstances and apply the facts of that specific case to determine whether it meets the purpose of the statute. A creditor, which is in the position of either having a property that is decreasing in value, or is expending significant amounts to secure the property without the likelihood that these amounts will be recouped, should strongly consider making the application to sell the mortgaged property pendente lite to attempt to maximize its return on the property. This can be accomplished by first seeking the appointment of a receiver to effectuate the pendente lite sale or by seeking to have the sheriff's office sell the property by court order prior to sheriff's sale.

Conclusion

It is becoming quite common that a creditor finds itself in the position that it has a security interest in property that is decreasing in value or is expensive to secure without the likely ability to recoup the expenditure. While this creditor may feel that it is on sinking ship during the foreclosure proceeding due to a decreasing property value and a mountain of expenses, the option of selling the property through a pendente lite sale is an avenue for preventing the further diminution in return for the creditor. Hill Wallack LLP has extensive experience in effectively marking pendente lite applications on behalf of creditors.

Eric P. Kelner is an associate of Hill Wallack LLP in the Princeton office where he is a member of the Creditors’ Rights/Bankruptcy Practice Group.