Insights

Mortgage lenders operating on a nationwide basis have long wrangled with the fact-intensive issue of whether a particular state classifies the closing of a mortgage loan – and all of the tasks that go along with such closing – as an activity that only a licensed attorney can perform. These nationwide lenders have argued that unauthorized practice of law allegations should not apply to mortgage loans settlements, as the closing of a mortgage loan has evolved into a rote, mechanized practice. Unfortunately for these lenders, a number of states will only allow licensed attorneys to perform these functions – with lenders facing grave consequences for failure to abide by these rules. One such state – South Carolina – has strict unauthorized practice of law rules that require an attorney’s involvement in a real estate transaction from document preparation through closing. In one memorable decision issued in a South Carolina trial court, the court released an otherwise valid mortgage lien and refused to permit the foreclosure of the lien where a South Carolina lawyer did not close the loan. Now, the South Carolina Supreme Court has again refused to honor a lender’s lien where it failed to use a licensed South Carolina attorney to close the loan.

The Matrix Financial Services Corporation v. Frazer case originated in California when Matthew Kundinger sued Louis and Linda Frazer in 1998 over an unpaid debt. In 2000, the Frazers moved to South Carolina and defaulted in the California lawsuit. In 2001, the Frazers bought a home in South Carolina with a mortgage ultimately assigned to Matrix Financial Services Corporation. The Frazers then refinanced the mortgage with Matrix, a loan that Matrix closed without the involvement of a licensed South Carolina attorney. Between loan closing and recording of the new refinance mortgage, Kundinger obtained a default judgment in California and enrolled it in South Carolina. The Frazers subsequently filed for bankruptcy, and Matrix sought to foreclose on its refinance mortgage. Kundinger objected, alleging that his judgment had priority over Matrix’s mortgage because he recorded it before the refinance mortgage. Matrix sought equitable subrogation, which the lower court granted. Kundinger appealed. The South Carolina Supreme Court reversed the lower court decisions granting equitable subrogation. Kundinger claimed, among other theories, that Matrix could not obtain an equitable remedy because it closed the refinance loan unlawfully and had unclean hands. The court agreed, noting that Matrix failed to use a licensed South Carolina attorney to supervise the loan closing and that “a party cannot violate the law and expect not to bear the consequences of its actions.”

In these post-economic meltdown times, it is crucial that lenders ensure that they comply to the letter of the law in order to avoid unauthorized practice of law claims. Courts continue to entertain new and creative theories for blocking a foreclosure, particularly if the underlying loan had loan features that, although not illegal, leave the court with a bad taste in its mouth. It is well worth the investment to track these requirements, which may appear not only in statute, but in rules promulgated by the judicial branch of a given state. In South Carolina, pursuant to rule and case law, for example, an attorney must supervise the title work and document preparation as well as the recording and disbursement of funds. Additionally, the attorney must physically appear at the closing to conduct the closing; the attorney cannot appear by telephone. Other South Carolina Supreme Court case law has implicitly held that that the disbursement of loan proceeds in conjunction with a residential refinancing or credit line transaction constitutes the practice of law. The state high court reasoned that disbursement constitutes an integral step in the closing of a residential refinancing or credit line transaction that must be conducted under the supervision of an attorney.

The analysis of what constitutes the practice of law will, of course, vary by state. The South Carolina Supreme Court has indicated that the generally understood definition of the practice of law “embraces the preparation of pleadings, and other papers incident to actions and special proceedings, and the management of such actions and proceedings on behalf of clients before judges and courts.” So, the preparation of a deed for another individual, having the deed executed, and filing the deed, without the approval of a licensed attorney and that the preparation of deeds, mortgages, notes, and other legal instruments related to mortgage loans and transfers of real property by a commercial title company could constitute the unauthorized practice of law. In some states, for compliance with the unauthorized practice of law rules, a lender may prepare legal documents for use in refinancing a loan for real property as long as an independent attorney reviews and corrects, if needed, the documents to ensure their compliance with law. This would provide some relief for a lender, for it would mean that a lender may generate a loan package that it ships to the attorney conducting the settlement for her use at closing, so long as the attorney reviews those forms and ensures they comply with applicable state law. In any event, these rules bear close scrutiny to minimize any surprises at the end of a foreclosure process.

Catherine M. Brennan is a partner in the Maryland office of Hudson Cook, LLP. Cathy can be reached at 410-865-5405 or by email at cbrennan@hudco.com.