Harkening back to your first year property class, you may recall that North Carolina is a “pure race” state – that is, the first person to record a deed wins even if he has notice of other unrecorded conveyances of land.  However, the Court of Appeals held Tuesday that this rule doesn’t always apply – particularly where federal law provides differently.  In Henkel v. Triangle Homes, Inc., the Court held that a deed to real property obtained at a foreclosure sale without notice to the United States does not extinguish a pre-existing federal tax lien, even where the federal tax lien is junior to the local tax lien upon which the foreclosure sale is based.

Henkel involved a parcel of real property in Avery County.  The IRS recorded two federal tax liens on the property in 2011 and 2012.  The Village of Sugar Mountain filed a third lien for unpaid property taxes.  Under state and federal law, local property tax liens take priority over federal tax liens, and a foreclosure sale typically extinguishes all junior liens.  However, federal law also provides that unless the United States is joined as a party, a judgment and judicial sale with respect to property is made subject to and without disturbing the federal tax lien as long as the United States properly filed notice of its lien.

In Henkel, the Village of Sugar Mountain obtained a judgment against the owners of the property for unpaid property taxes, and the trial court issued a notice of foreclosure sale. The sale was held on November 13, 2013, and the Village was the highest bidder.  The problem?  They hadn’t joined the U.S. as a party.

The very next day, the U.S. held its own foreclosure sale to satisfy the federal tax liens, and the Plaintiff, Mr. Henkel, purchased the property. Later that same day, the Defendant, Triangle Homes, filed an upset bid in the Village’s foreclosure sale.  Despite an offer by the Village to refund Triangle Home’s deposit given the federal foreclosure sale that had been held that morning, Triangle Homes affirmed its upset bid.

Triangle Homes filed a motion to confirm the Village’s foreclosure sale in early January 2014, which was later granted. Triangle Homes paid the purchase price and obtained a Commissioner’s Deed, which it recorded on April 7.  In the meantime, Mr. Henkel complied with a statutory 180-day waiting period in which anyone with an interest in the property could have redeemed it by paying Mr. Henkel’s purchase price plus interest.  He finally obtained his deed from the IRS and recorded it on June 6.  Mr. Henkel then filed a quiet title suit against Triangle Homes and later was awarded summary judgment in his favor.

Despite the general rules that local tax liens take priority over federal tax liens and that foreclosure sales extinguish junior liens, the Court held that the Village’s failure to join the U.S. in its lawsuit meant that Triangle Homes purchased the property subject to the federal tax lien. Winning the race to the courthouse did not save Triangle Homes – its interest was recorded first, but its interest was subject to the federal tax lien.  (Indeed, because of this interest, Triangle Homes could have redeemed the property from the federal tax sale, but it did not do so within the statutory period).  As the Court stated:  “Winning the race to the courthouse does not upset the lien priority established by state and federal law, including federal preemption when those laws conflict.”  Thus, Triangle Homes was out the money it spent to purchase the property, and Mr. Henkel took title free and clear of the local tax lien since his sale was held after the Village’s foreclosure sale.  The lesson:  make sure that all i’s have been dotted and t’s have been crossed in foreclosure sales, as non-compliance with procedural requirements can affect the nature of the interest purchased even where you win the race to the courthouse.

-Liz Hedrick