## Facts

- Thomas Edward Ryan bought a Vermont condominium subject to a $39,000 mortgage granted to Quechee Lakes Corp.
- The mortgage deed was recorded but was signed by only one witness, despite a Vermont statute requiring two witnesses for deeds and conveyances.
- Quechee assigned the mortgage to Continental Assurance Co. (CAC); the assignment was properly witnessed by two witnesses and recorded.
- Ryan later filed Chapter 7 bankruptcy; Peter M. Stern became trustee and sought to sell the condominium.
- A title search disclosed CAC’s recorded mortgage interest.
- The trustee asserted the mortgage was ineffective under Vermont law due to the witnessing defect and sought to avoid it using the trustee’s “strong-arm” power as a hypothetical bona fide purchaser.
- The parties agreed to sell the condominium and hold back proceeds equal to the mortgage balance pending resolution of an adversary proceeding over mortgage validity and priority.

## Issues

1. Under 11 U.S.C. § 544(a)(3) and Vermont real property law, may a bankruptcy trustee avoid a recorded mortgage that is defectively witnessed, or is the trustee bound by record-based notice and therefore takes subject to the mortgage?
2. Does Vermont’s two-witness requirement render such a mortgage void against subsequent purchasers even when the land records would put them on constructive or inquiry notice?

## Decision

- The First Circuit reversed the district court and reinstated the bankruptcy court’s judgment for CAC.
- The court held that Vermont law does not treat the defectively witnessed, recorded mortgage as categorically void against purchasers with notice.
- Because a purchaser would be charged with notice from the land records (including the recorded mortgage and recorded, properly witnessed assignment), the trustee—standing as a hypothetical purchaser—could not avoid CAC’s mortgage under § 544(a)(3).
- CAC was entitled to priority in the condominium sale proceeds.

## Legal Principles

- A trustee’s avoidance power under 11 U.S.C. § 544(a)(3) is measured by the rights of a hypothetical bona fide purchaser under applicable state law.
- State law also determines what notice is imputed to purchasers; § 544(a)(3) does not allow a trustee to disregard constructive or inquiry notice that would arise from a reasonable title search.
- Under Vermont law, a recorded conveyance instrument that is formally defective (including a witnessing defect) may still be enforceable against subsequent purchasers who have actual, constructive, or inquiry notice of the prior interest.
- Where recorded documents would alert a purchaser to an existing mortgage claim, the purchaser cannot claim bona fide purchaser priority over that claim, and the trustee has no greater priority.

## Conclusion

The First Circuit held that the trustee could not use § 544(a)(3) to avoid a Vermont mortgage that was recorded but defectively witnessed because Vermont notice and recording rules would charge a purchaser with notice of the mortgage interest shown in the land records, leaving the trustee subject to CAC’s lien.


Stern v. Cont'l Assurance Co. (In re Ryan), 851 F.2d 502 (1st Cir. 1988)