If an Association has a lien on a unit for unpaid assessments, should the Association foreclose the lien by advertisement, or should it foreclose the lien through the judicial foreclosure process?

I.    OVERVIEW – WHAT ARE THE ASSOCIATION’S GOALS?

Our clients often ask us which method is preferable for foreclosing a lien on a unit for unpaid assessments and related amounts owed to the Association by a delinquent co-owner.  The answer is that in almost all cases it will be preferable to foreclose a lien by judicial action rather than by advertisement.

The Association’s primary goals in any collection action will be:

1. To collect all assessments owed, as well as any late charges or other charges validly assessed to the co-owner's account (such as fines, additional assessments, etc.)
    

2. To collect all legal fees and costs incurred by the Association in the collection action pursuant to the Michigan Condominium Act and the Condominium Bylaws.
    

3. f the co-owner still refuses or is unable to pay the debt after collection action has been taken, then to obtain marketable title to the delinquent co-owner's unit via a foreclosure sale.  The Association can then recoup its expenses by selling the unit to a new owner.
    

4. To accomplish the above three goals in the fastest and most efficient manner possible, while exposing the Association to the least amount of risk,

As will be explained below, judicial foreclosure is nearly always superior to foreclosure by advertisement for every one of these goals.

II.     THE TWO METHODS OF FORECLOSURE – A BRIEF OVERVIEW

Under the Act, sums assessed to a co-owner by the association that are unpaid, together with interest, collection costs, late charges, advances made by the association of co-owners for taxes or other liens to protect its lien, fines and attorney fees, constitute a lien upon the unit or units in the project owned by the co-owner at the time of the assessment.  The Association’s lien has priority over all other liens on the unit except (1) tax liens on the unit in favor of any state or federal taxing authority, and (2) sums unpaid on any first mortgage of record, provided that the mortgage was recorded before the Association’s lien.

The Act provides that an Association may foreclose a lien for unpaid assessments and other amounts due by the same methods as permitted for mortgage foreclosures in the State of Michigan.  These methods are judicial foreclosure and foreclosure by advertisement. 

1.   Judicial Foreclosure. 

In a judicial foreclosure, the Association begins the foreclosure process by filing a lawsuit with the Circuit Court in the county in which the Condominium is located.  The Association serves the co-owner with a summons and complaint to begin the lawsuit.  If the co-owner fails to file a written answer to the complaint with the Court within 21 days of being served, the Association can file a motion with the Court asking it to enter a Default Judgment of Foreclosure against the co-owner.  This Judgment will set forth all of the amounts owed by the co-owner, including (in most cases) an award of all of the Association’s legal fees and costs.  The Judgment concludes the lawsuit. 

The Association then initiates the sale process by publishing a public notice of the upcoming foreclosure sale in the relevant county’s legal newspaper for 5 weeks.  This notice is also posted at the county courthouse and at the unit.  The sale is held at the county courthouse.  The Association takes title to the unit on the sale date for the amount of the debt unless a third party bids higher than that amount at the sale (at which point the Association is paid off completely).  The co-owner by law has six months to redeem the unit out of foreclosure by paying the Association the total amount owed.  If the co-owner fails to do so, the Association can file suit in District Court to evict the co-owner at the end of the redemption period.  Once the co-owner is evicted, the Association can sell the unit to a new owner and re-coup its expenses at the sale.

2.    Foreclosure by Advertisement

In a foreclosure by advertisement, the Association does not file a lawsuit against the co-owner.  Instead, the Association skips the lawsuit stage and simply starts the foreclosure process by publishing a foreclosure notice for 4 successive weeks in a local newspaper, and a true copy is also posted in a conspicuous place at the unit.  If the co-owner fails to pay the debt, the Association takes title to the unit at the foreclosure sale in the same manner as described above. 

III.    REASONS WHY THE JUDICIAL APPROACH IS PREFERABLE

Although foreclosure by advertisement may at first glance appear to be the quicker and more efficient foreclosure method, there are several reasons why judicial foreclosure is the more prudent approach.  These reasons are as follows:

1.    Marketable Title:  One of the biggest reasons why judicial foreclosure is preferable is that even if a foreclosure by advertisement is successful in obtaining legal title to the unit in the name of the Association, virtually no title insurance company will provide title insurance on the unit to the Association.  The Association cannot re-sell a unit that it has foreclosed upon without first obtaining title insurance for the new purchaser.  If the Association cannot obtain a viable title insurance policy for the unit, it has no way to convey marketable title to the unit to a prospective purchaser.  For this reason, even though it is legally possible to foreclose a lien by advertisement, from a pragmatic perspective it will be nearly impossible to complete the foreclosure and re-sale process in the “real world” using the advertisement method.

By comparison, judicial foreclosures are not subject to this drawback.  In a judicial foreclosure, a judgment of foreclosure is entered with the Court, which declares that the Association has foreclosed the co-owner’s interest in the unit and may legally obtain title to that unit through a judicial sale, subject only to the co-owner’s legal right to redeem during the statutory six-month period of redemption.  The Association can record a copy of the Clerk’s Deed to the unit given at the Judicial Sale as a routine part of the court proceedings with the county’s Register of Deeds to evidence its title to the unit.  This is usually sufficient to satisfy any title company’s concerns about the Association’s title to the unit.  The judicial determination gives the title insurer confidence that the title is fully vested in the Association and that the unit will not be subject to some type of future litigation by the disgruntled former co-owner of the unit. 

2.    Money Judgment:  Another reason why judicial foreclosures are preferable to foreclosures by advertisement is that the judicial foreclosure method also allows the Association to obtain a money judgment against the delinquent co-owner as a routine part of the court proceedings.  If the co-owner’s mortgage company forecloses its mortgage on the co-owner’s unit (thereby preventing the Association from doing the same with its lien), the Association will still have a money judgment that it may enforce personally against the former co-owner.  These judgments are enforceable for a ten year period.

By comparison, if the Association begins to foreclose on a unit by advertisement and the co-owner’s mortgage company afterward begins to foreclose its mortgage, the mortgage company’s foreclosure renders the Association’s foreclosure null and void, since first mortgage lenders usually have priority over Association liens in nearly every case under the Condominium Act (as long as the first mortgage was recorded before the Association’s lien).  In cases where a foreclosure by advertisement by the Association has already begun, the money wasted by the Association on that foreclosure would have been better spent in a judicial foreclosure whereby the Association could have obtained a money judgment that it could enforce against the former co-owner’s assets and bank accounts.  In short, a judicial foreclosure allows the Association to proceed with a sale once it obtains a Judgment, with the added benefit of having a money judgment against the co-owner should the first mortgage holder also decide to foreclose.

3.   Proven Effectiveness:  The Board of Directors should remember that the goal of any collection action is actually not to obtain title to the unit, but to recover the amounts owed to the Association.  When a co-owner is personally served with a summons and complaint in a foreclosure lawsuit, the realities of being served with a lawsuit can often suddenly “convince” a reluctant co-owner to pay what is owed.  In the vast majority of our hundreds (and hundreds) of cases handled each year, our firm’s experience has been that a foreclosure lawsuit is quite effective in forcing co-owners to pay their obligations to the Association.

The judicial foreclosure process is a much more direct method for communicating the Association’s intentions clearly to the co-owner that the Association is serious about collecting the debt and that it will utilize any and all legal methods available to either obtain payment of the debt or else take title to the co-owner’s unit.  The co-owner receives multiple pleadings, motions and documents during the lawsuit that “encourage” the co-owner to try to reach a resolution with the Association as soon as possible.  The co-owner also quickly realizes that failure to resolve the debt not only leads to foreclosure of the unit, but also to greatly increased amounts owed to the Association due to the collection costs involved in a foreclosure lawsuit.  Foreclosure by advertisement does very little to communicate the seriousness of the Association’s intentions to collect unpaid amounts because it involves very little direct communication with the co-owner.

4.    No Surprised Debtors:  There is little chance that a foreclosure will take the delinquent co-owner by surprise if the Association has filed suit to initiate the foreclosure.  Whenever possible, the co-owner is personally served with the lawsuit documents (in some cases, alternate service is permitted by court order if the co-owner is evading personal service, but even then the co-owner is well aware of the seriousness of the situation if he/she is purposely avoiding a process server).  Also, the co-owner receives a copy of each and every document that the Association files with the Court as the lawsuit progresses.  In a foreclosure by advertisement, the co-owner almost certainly will not see the foreclosure notice that is posted at the courthouse or in the local newspaper.  The sole notice the co-owner receives is the one posted at the unit.  Many co-owners may not even understand the meaning of the notice. Many will deny ever receiving the notice. It is easy to imagine that a delinquent co-owner could be shocked to find that the Association is about to evict him for unpaid assessments if the Association has used foreclosure by advertisement.  In such cases, the Association faces the risk of a lawsuit by the co-owner challenging the foreclosure/eviction process, and the Association could end up litigating the matter even though the foreclosure by advertisement has been conducted properly, or if the co-owner belatedly challenges the charges assessed to the unit.

5.    Junior Lienholders:  In a judicial foreclosure, the Association will name as defendants to the lawsuit any party that has an interest in the unit, including not only first mortgagees, but also any second and subsequent mortgagees.  As stated above, only the first mortgagee has priority over the Association’s lien (and only if that mortgage was recorded before the Association’s lien).  Any second or subsequent mortgagees are subordinate to the Association’s lien.  This means that these mortgagees will have to pay off the Association’s lien if they want to preserve their own mortgages, since these mortgagees would be “wiped out” if the Association’s lien is foreclosed (i.e., the Association’s title to the unit would not be subject to any of these mortgages after the foreclosure).  By giving notice of its foreclosure to subsequent mortgagees, the Association can increase the chance that it will receive payment in full via the lawsuit, since the subsequent mortgagees might pay off what the co-owner owes to the Association once they find out about the foreclosure.  The subsequent mortgagees then pursue the co-owner directly for recovery of these amounts, usually by tacking them on to the co-owner’s mortgage debt.

6.   Finality:  In almost all cases, the co-owner has no legal defense to the lawsuit, so the Association can expect in each case to obtain a Foreclosure Judgment against the co-owner (or else force the co-owner into an acceptable payment arrangement, which can be formalized via the entry of a Court Order).  Once the Judgment is entered with the Court for the amount of unpaid assessments, late charges, legal fees and costs, and the 21 day period for appeals has expired, the co-owner’s liability is firmly established and can no longer be called into question by the co-owner.  From that point forward, the only open issue is whether the co-owner can pay what is owed (or propose an acceptable payment arrangement) to avoid a foreclosure sale and eviction.

By contrast, even after a foreclosure by advertisement is concluded, the Association has no assurance that the question of the co-owner’s liability for the debt and any related issues will not arise again in a future lawsuit by the co-owner challenging the foreclosure.

IV.   JUDICIAL FORECLOSURES BEST MEET THE ASSOCIATION’S GOALS IN COLLECTING ASSESSMENTS

In sum, judicial foreclosure is the least risky and most cost-effective method by which an Association can recover unpaid assessments and other amounts secured by its lien on a delinquent co-owner’s unit.  Judicial foreclosure allows the Association to reach a court resolution of the debt that is not subject to future challenges, and it ensures that the Association will be able to convey marketable title to a new purchaser if the foreclosure goes through and the Association needs to re-sell the unit.  For all of these reasons, judicial foreclosure is a vastly superior method than foreclosure by advertisement