## Facts

- Project Homestead, Inc. (the debtor) was a North Carolina nonprofit that developed and sold affordable housing.
- In early 2003, the debtor completed six residential sale transactions to six different purchasers, each financed by a separate mortgage lender.
- Commonwealth Land Title Insurance Company (Commonwealth) issued closing protection letters in connection with the purchase closings.
- A single closing attorney, Armina Swittenberg, conducted all six closings.
- At each closing, the debtor executed and delivered a deed to the purchaser that purported to convey the property.
- At each closing, the purchaser executed a promissory note and a deed of trust in favor of the lender that purported to grant the lender a lien on the property.
- Swittenberg retained the executed deeds and deeds of trust after the closings.
- Each property was encumbered by a preexisting deed of trust securing the debtor’s debt.
- For each transaction, Swittenberg used closing funds to pay off the debt secured by the preexisting deed of trust.
- Swittenberg did not record the deeds from the debtor to the purchasers or the deeds of trust from the purchasers to the lenders.
- The debtor filed a Chapter 7 petition in January 2004.
- As of the petition date, the public land records still showed the debtor as owner of the properties and did not reflect the purchasers’ deeds or the lenders’ deeds of trust.
- Commonwealth and the lenders filed adversary proceedings against the Chapter 7 trustee (William Miller) and the purchasers seeking declarations that the purchasers owned the properties and the lenders held first-priority liens, arguing the debtor held only bare legal title under a constructive trust theory.
- The trustee contended that, under 11 U.S.C. § 544(a)(3), he had the rights of a hypothetical bona fide purchaser of real property and that North Carolina law gave him priority over any unrecorded equitable interests.
- The parties filed cross-motions for summary judgment.

## Issues

1. Whether the prepetition closings and payoff of prior deeds of trust gave the purchasers (and derivatively the lenders) equitable interests, including constructive trust interests, such that the estate acquired only bare legal title under 11 U.S.C. § 541(d).
2. Whether the Chapter 7 trustee, as a hypothetical bona fide purchaser under 11 U.S.C. § 544(a)(3), could take priority over the purchasers’ and lenders’ unrecorded interests under North Carolina recording law.
3. Whether § 541(d) limits the trustee’s ability to use § 544(a)(3) to defeat unrecorded equitable interests in real property.

## Decision

- The court granted summary judgment for the trustee and denied the plaintiffs’ summary-judgment motions.
- The court accepted, at least for purposes of the motions, that the transactions could give rise to equitable interests in favor of the purchasers (and related interests claimed by the lenders).
- Under North Carolina law, unrecorded interests in real property are ineffective against a bona fide purchaser for value without notice.
- Under § 544(a)(3), the trustee is treated as a hypothetical bona fide purchaser as of the petition date, without regard to the trustee’s actual knowledge.
- Because the deeds and deeds of trust were not recorded and the record title remained in the debtor on the petition date, the trustee’s hypothetical bona fide purchaser status took priority over the purchasers’ and lenders’ asserted interests.
- Section 541(d) did not prevent application of § 544(a)(3) to cut off unrecorded equitable interests that would be subordinate to a bona fide purchaser under state law.

## Legal Principles

- Under 11 U.S.C. § 544(a)(3), a bankruptcy trustee has, as of the petition date, the rights and powers of a hypothetical bona fide purchaser of real property from the debtor, regardless of the trustee’s actual knowledge.
- State recording law determines what interests a bona fide purchaser would take free of; in North Carolina, recordation is required to protect real-property interests against bona fide purchasers without notice.
- Equitable interests in real property—including interests asserted through constructive trust theories—may be defeated by a trustee exercising § 544(a)(3) if those interests are unrecorded and state law would subordinate them to a bona fide purchaser.
- Section 541(d) limits what becomes property of the estate based on the debtor’s prepetition interests, but it does not bar the trustee from using statutory avoidance powers to defeat unperfected or unrecorded interests where applicable law would allow a bona fide purchaser to do so.

## Conclusion

In In re Project Homestead, the bankruptcy court held that even if the purchasers obtained equitable title and the lenders obtained related equitable lien rights when the 2003 closings occurred and prior liens were paid, those interests remained unrecorded and were inferior under North Carolina law to a bona fide purchaser without notice; therefore, the Chapter 7 trustee, armed with § 544(a)(3), took the properties free and clear of the purchasers’ and lenders’ unrecorded interests, and § 541(d) did not prevent that result.


Commonwealth Land Title Insurance Co. v. Miller (In re Project Homestead, Inc.), 374 B.R. 193 (2007)