The U.S. Court of Appeals for the Ninth Circuit recently held that the Nevada homeowners association foreclosure statute facially violated mortgage lenders’ constitutional due process right, and that the Nevada legislature’s enactment of a statute governing foreclosure of liens by HOAs constituted “state action.”

A copy of the opinion is available at: Link to Opinion.

A purchaser of Nevada real estate who acquired title at a homeowners association foreclosure sale brought an action in Nevada state court seeking to quiet title and a declaration against the mortgage lender, as holder of first deed of trust on property.  The lender removed the action to the federal court.

The U.S. District Court for the District of Nevada granted the purchaser’s summary judgment motion.  The trial court based its ruling in favor of the purchaser on Nevada Revised Statutes section 116.3116, et seq. (the “Nevada HOA Statute”).  The lender appealed to the Ninth Circuit.

As you may recall, the Nevada HOA Statute strips a mortgage lender of its first deed of trust when an HOA forecloses on the property based on delinquent HOA dues.  The Nevada HOA Statute also purports to shift the burden of ensuring adequate notice from the foreclosing HOA to a mortgage lender without regard for: (1) whether the mortgage lender was aware that the homeowner had defaulted on her dues to the HOA, (2) whether the mortgage lender’s interest had been recorded such that it would have been easily discoverable through a title search, or (3) whether the HOA had made any effort whatsoever to contact the mortgage lender.

On appeal, the purchaser argued that Nevada Revised Statutes section 107.090 should be read into the Nevada HOA Statute and that its provisions cured any deficiency.  The purchaser argued that Nevada Revised Statute section 116.31168(1), which incorporated section 107.090, mandated actual notice to mortgage lenders whose rights are subordinate to an HOA super priority lien. Section 116.31168(1) states “[t]he provisions of NRS 107.090 apply to the foreclosure of an association’s lien as if a deed of trust were being foreclosed.”  According to the purchaser, this incorporation of section 107.090 meant that foreclosing HOAs were required to provide notice to mortgage lenders even absent a request.

The Ninth Circuit rejected the purchaser’s argument, holding that the purchaser’s reading would impermissibly render the express notice provisions of Chapter 116 entirely superfluous.  The Appellate Court relied on S. Nev. Homebuilders Ass’n v. Clark County, 121 Nev. 446, 117 P.3d 171, 173 (2005), which held that a statute must be interpreted “in a way that would not render words or phrases superfluous or make a provision nugatory.”

The Ninth Circuit held that section 116.31163 and section 116.31165 required any secured creditor to request notice of default from an HOA before the HOA had any obligation to provide such notice.  Accordingly, the Court found that if section 116.31168(1)’s incorporation of section 107.090 were to have required HOAs to provide notice of default to mortgage lenders even absent a request, section 116.31163 and section 116.31165 would have been meaningless.

In addressing the constitutionality of the Nevada HOA Statute’s “opt-in” notice scheme, the Ninth Circuit relied on Small Engine Shop, Inc. v. Cascio, in which the U.S. Court of Appeals for the Fifth Circuit concluded that an “opt-in” notice clause contained in Louisiana’s real property foreclosure statute could not satisfy due process requirements.  Small Engine Shop, Inc. v. Cascio, 878 F.2d 883 (5th Cir. 1989).  The clause at issue in Small Engine Shop, Inc. provided that actual notice of seizure of real property was required for only those who requested it.  The U.S. Court of Appeals for the Fifth Circuit explained that it would be unconstitutional for the state by statute to “prospectively shift the entire burden of ensuring adequate notice to an interested property owner regardless of the circumstances.”  Small Engine Shop, Inc. at 884.

The Ninth Circuit therefore held that the Nevada HOA Statute’s “opt-in” notice scheme, which required an HOA to alert a mortgage lender that it intended to foreclose only if the lender had affirmatively requested notice, facially violated the lender’s constitutional due process rights under the Fourteenth Amendment to the United States Constitution.

The purchaser also argued that there had been no “state action” for purposes of constitutional due process.  The Ninth Circuit rejected the purchaser’s argument and held that the “state action” requirement had been met.  Relying on Am. Mfrs. Mut. Ins. Co. v. Sullivan, 526 U.S. 40, 50, 119 S.Ct. 977, 143 L.Ed.2d 130 (1999) and Apao v. Bank of New York, 324 F.3d 1091, 1094 (9th Cir. 2003), the Ninth Circuit observed that the fact that the foreclosure sale itself was a private action was irrelevant to the lender’s due process argument, and held that the Nevada Legislature’s enactment of the Nevada HOA Statute was a “state action” and that the enactment of the statute unconstitutionally degraded the lender’s interest in the property.

Thus, the Ninth Circuit ruled that Nevada Revised Statutes section 116.3116’s “opt-in” notice scheme facially violated mortgage lenders’ constitutional due process right. The Court vacated the district court’s judgment and remanded the case for proceedings consistent with its opinion.