Lenders have frequently been using the appointment of a receiver for distressed properties in an effort to obtain control pending the resolution of a foreclosure action. The appointment of a receiver ensures that the property will be maintained pending the foreclosure sale. However, lenders have also utilized a receiver’s power of sale to expedite the sale of a distressed asset. This raises several issues for prospective purchasers in attempting to acquire “free and clear” title from a receiver’s sale.

When acquiring property from a receivership sale, a prospective purchaser should confirm that all statutory requirements with respect to the receiver sale have been complied with and that the contract of sale with the receiver should clearly state that the property is being sold “free and clear” of all existing liens and encumbrances. This is essential in order for a purchaser to obtain title insurance for the acquired property.

Under N.J.S.A. 14A:14-7, upon appointment by a court, a receiver has the power to sell property at a public or private sale upon terms and conditions approved by the court. This statute requires notice to holders of encumbrances affecting the property and requires a demonstration by the receiver to the court that the sale of the property will reasonably benefit the general creditors without adversely affecting the interests of other encumbrance holders. Similarly, N.J.S.A 2A:50-31 provides for a sale pending foreclosure pursuant to a receiver sale. While this statute differs slightly from the previous one, the sale authority is clearly granted and both operate in the same manner.

When purchasing property pursuant to a receiver sale, a prospective purchaser should (i) examine and satisfy itself that the receiver has properly made application to the court for leave and authorization to sell the property “free and clear” of liens and encumbrances; (ii) that the court has approved the sale price and the terms of the sale (including the “free and clear” provision); (iii) that proper notice has been provided by the receiver to all lien holders, mortgagees and/or other holders of encumbrances secured against the property; (iv) that the receiver has demonstrated to the court that the “free and clear” sale of the property will generally benefit the creditors of the defendant debtor; and (v) that the sale “free and clear” will not adversely affect the interests of other encumbrance holders.

While the asset will be sold “free and clear” of all liens and encumbrances pursuant to court authorization, the sale proceeds will be deposited into court and will still be subject to the liens and encumbrances in place at the time of the sale, where the funds are left to be fought over by the lien holders. The priority of the liens should not be affected by the sale or the deposit of the sale proceeds into court.

In other words, the court must specifically order that the sale will be made free of any liens or encumbrances must set and approve the sale conditions and terms and must then confirm the outcome—all through the use of the receiver. The court must also ensure that all lien holders and/or mortgagees are protected throughout the procedure. In the event the court and/or the receiver neglect to specify that the sale of the asset is “free and clear” of liens and encumbrances, the property may pass to the buyer/bidder subject to the existing liens and encumbrances.

Moreover, a scenario is possible where one or more lien holders and/or mortgagees objects to the sale of the property “free and clear” of liens and encumbrances and appeals the court decision. This would then create another obstacle and uncertainty over the entire transaction.

Accordingly while the purchase of property from a receiver is an expedited method to obtain a distressed asset, unless their statutory provisions are followed and the contract of sale with the receiver contains specific language that the property is to be sold “free and clear” of all liens and encumbrances, a purchaser is assuming unnecessary title risks and could end up acquiring the asset subject to existing liens and encumbrances. Therefore, it is incumbent upon a purchaser to ensure compliance with all statutory provisions regarding a receiver sale and to work with a receiver in order that they may acquire title “free and clear” of all liens and encumbrances. This will allow a purchaser to obtain title insurance and provide title certainty to a complex transaction that is fraught with potential pitfalls.

Khoren Bandazian is counsel in the real estate practice of Brach Eichler, based in Roseland, NJ. He may be contacted at [email protected]. The views expressed here are the author’s own.

(Visit the Distressed Assets page on GlobeSt.com.)