Zion's Savings Bank & Trust Co. v. Rouse

This case involves the right of set-off as between a mortgage debt and deposit in a bank. J. Elmer Rouse and his wife, Effie B. Rouse, on May 26, 1933, borrowed $857 from Zion's Savings Bank Trust Co., hereafter referred to as the bank, on their joint and several demand note secured by chattel mortgage. The proceeds of the loan were represented by a cashier's check which was delivered to the Rouses, indorsed by them, and delivered to and left with the bank. Two days later J. Elmer Rouse died. Letters of administration were issued August 11, 1933, to Effie B. Rouse on the estate of her husband. On August 15, 1933, the bank, without notice, offset the $857, proceeds of the loan of May 26, 1933, in part payment of a $13,000 note, secured by a real estate mortgage, which had been executed by Rouse and wife on August 20, 1925, and upon which there was then past due a balance of $10,300. The Rouses had on December 29, 1932, made another loan of $959.90 from the bank secured by a chattel mortgage.

The present suit, on two causes of action, was filed by the bank April 3, 1934, for recovery of the amount due on the notes of December 29, 1932, and May 26, 1933, and for foreclosure of the chattel mortgage given to secure the same. To the second cause of action, that of the loan of May 26, 1933, defendant pleaded a counterclaim against the bank for the $857 and interest, the proceeds of such loan, which had been left with the bank. By reply to the counterclaim the bank alleged it had applied the $857 on the real estate loan referred to above. Both parties filed motions for judgment on the pleadings. It was stipulated by both parties that judgment might be rendered on the pleadings with respect to the complaint, and judgment was entered in favor of the bank on both causes of action and for the foreclosure of the chattel mortgages. It was also stipulated that the court might enter judgment on the pleadings respecting the counterclaim as though it constituted a separate and distinct cause of action without regard to the complaint filed by the bank. The court thereupon made and entered judgment for the defendant on her counterclaim. The bank appeals on the judgment roll.

The single question involved in the appeal is: Did the bank have the right to set off the $857 which it owed the Rouses, against the $13,000 secured note, on which the Rouses still owed $10,300, and did its action in making such application constitute a defense to the counterclaim?

We start with two principles or theories, seemingly at war with each other; the one, that composition takes place between two debts by mere operation of law as soon as they exist simultaneously to the amount of the respective sums, where the debts are equally liquidated and demandable, 1 under circumstances that, if one had brought an action against the other, a counterclaim could have been set up.

This is a well-recognized principle of the law, applicable generally unless affected by statute, and finds expression in R.S. Utah 1933, 104-9-4, as follows:

"When cross demands have existed between persons under such circumstances that, if one had brought an action against the other, a counter-claim could have been set up, the two demands shall be deemed compensated so far as they equal each other, and neither can be deprived of the benefit thereof by the assignment or death of the other."

The second is that under a statute providing that there can be but one action for recovery of any debt secured by mortgage the right of the bank to set off a matured indebtedness against the claim of a depositor does not permit of an indebtedness secured by a mortgage being used as an offset. 5 2 Michie, Banks and Banking, 236. In this state there is such a statute, being R.S. Utah 1933, 104-55-1, as follows:

"There can be but one action for the recovery of any debt or the enforcement of any right secured by mortgage upon real estate or personal property, which action must be in accordance with the provisions of this chapter."

The last-mentioned statute has been construed by this court in cases which hold there can be but one action permitted for recovery of a debt secured by mortgage. Bacon v. Raybould,4 Utah 357, 10 P. 481, 11 P. 510. That the security must first be exhausted as to quantity and value before other property of the debtor can be resorted to for payment of the debt. Salt LakeValley Loan Trust Co. v. Millspaugh, 18 Utah 283, 54 P. 893. That the mortgaged property constitutes a primary fund or thing to which the mortgagee must first resort for the discharge of the debt, and until this fund has been exhausted the mortgagee has no personal right of action against the mortgagor unless the mortgagor consents thereto. Boucofski v. Jacobsen, 36 Utah 165,104 P. 117, 26 L.R.A. (N.S.) 898; Jensen v. Lichtenstein, 45 Utah 320,145 P. 1036. The courts can impose a personal liability on the mortgagor only after having ordered sale of the property and after sale a deficiency appears. Hammond v. Wall, 51 Utah 464,171 P. 148; Howe v. Sears, 30 Utah 344, 84 P. 1107. That it was the legislative intention to withhold the right of a mortgagee to a writ of attachment or a garnishment, in cases where the debt or obligation for which the action was brought was secured by mortgage on property, until after sale of the mortgaged property and the entry of a deficiency judgment. BlueCreek Land Live Stock Co. v. Kehrer, 60 Utah 62, 206 P. 287. From these decisions it would seem to follow logically and naturally that a mortgagee, who could not reach by attachment or garnishment the assets of the debtor in the hands of a third party, could not for similar reasons apply personal credits in its own hands as an offset in reduction of the mortgage debt.

The right of a bank to apply a depositor's funds, held by it, to payment of his indebtedness, can exist only where each occupies the position of debtor and creditor, and where there exists mutual demands. 5 Michie, Banks and Banking, 218. The debt owing by the depositor must have matured. 5 Michie, Banks and Banking, 216. Both maturity and mutuality are 3 essential to the validity of a set-off.

The status of the mortgage debt under a statute like R.S. Utah 1933, 104-55-1, construed as it has been by this court, is somewhat analogous to one not yet due, or one that lacks mutuality. True the debt is past due but the creditor is not yet in a position to obtain personal judgment 4 against the debtor or to proceed to satisfy the debt out of the debtor's assets other than the mortgaged property. Until the fund set up as security for the debt is exhausted and the deficiency, if any, is ascertained, the debts are on a different footing. They are not mutual personal obligations which may be set off against each other and compensated pro tanto.

In other jurisdictions there are two lines of authority supporting the conclusions we have reached. The Massachusetts rule is that stated in 5 Michie, Banks and Banking, 235:

"It is said that a bank can not apply the deposits of the debtor to the payment of his matured indebtedness if that indebtedness is sufficiently protected by collateral security."

The cases cited in support of this statement do not disclose that the court is influenced by any statutory provision similar to section 104-55-1 of our Code. Prudential Realty Co. v.Allen, Commissioner of Banks, 241 Mass. 277, 135 N.E. 221, 25 A.L.R. 935; Furber v. Dane, 203 Mass. 108, 109, 89 N.E. 227;Farmers' Nat. Bank v. McFerran, 11 Ky. Law Rep. 183.

The following is from 5 Michie, Banks and Banking, 236:

"Under a statute providing that there can be but one action for the recovery of any debt secured by a mortgage, the right of a bank to set off a matured indebtedness against the claim of a depositor or his creditor does not permit of an indebtedness secured by a mortgage being so used as an offset."

The cases cited in support of the statement are from California, which state had identical statutory provisions to ours, in fact our provisions were taken from the California Code.McKean v. German-American Sav. Bank, 118 Cal. 334, 50 P. 656;Marble Co. v. Merchants' Nat. Bank, 15 Cal. App. 347,115 P. 59; First Nat. Bank v. Coplen, 39 Cal. App. 619, 179 P. 708;Gnarini v. Swiss American Bank, 162 Cal. 181, 121 P. 726;Gnarini v. Banca Svizzera Americana, 39 Cal. App. 200,178 P. 532.

In McKean v. German-American Sav. Bank, supra, the holding was that a bank having mortgage security for a debt must first exhaust that security before it can apply in reduction or cancellation of the debt any money on deposit with it belonging to the debtor.

In Moore v. Gould, 151 Cal. 723, 91 P. 616, 619, plaintiff brought suit to foreclose two mortgages of real estate and a pledge of stock in a corporation. Defendants counter-claimed, inter alia, for an indebtedness claimed to be owing the mortgagor by mortgagee. Section 440 referred to by the court is the same as our section 104-9-4. The court said:

"Is this a case of cross-demands which may be mutually compensated under this section? We think not. The plaintiff was suing on an indebtedness secured by mortgage, an indebtedness which could be recovered only by means of the action of foreclosure prescribed by section 726 of the Code of Civil Procedure. In such action the mortgaged premises must first be applied to the satisfaction of the debt, and there is no personal liability on the part of the mortgagor unless the security shall prove insufficient to satisfy the debt. The land is made primarily liable for the payment of the obligation, and the mortgagor can be called on to pay only where the proceeds of a sale of the land are insufficient. Bartlett v. Cottle,63 Cal. 366; Biddel v. Brizzolara, 64 Cal. 354, 30 P. 609;Crisman v. Lanterman, 149 Cal. 647, 87 P. 89 [117 Am. St. Rep. 167]. For this reason it has been held that in an action upon a simple contract debt (a bank deposit) the defendant cannot set off against such debt a liability of the plaintiff secured by mortgage. McKean v. German-American Sav. Bank, 118 Cal. 334,50 P. 656. The two claims, said the court, could not be deemed compensated under section 440, because ``the action of respondent for the deposit, and the right of action of appellant to foreclose its mortgage, are not cross-demands as contemplated by that section.' In that case the action was brought by the holder of the unsecured indebtedness, and the defendant sought to set up a debt secured by mortgage. Here the plaintiff sues on the mortgage, while the defendant relies on a simple debt as a cross-demand. But this difference does not make the principle of the McKean Case any less applicable here. If the demands, at their inception, were of such a nature that they were compensated, such compensation affected both parties alike. The rights of the parties under section 440 are necessarily mutual. One claim could not be compensated, without the other being compensated to the same extent. If the existence of the mortgage debt in favor of plaintiff was not available to reduce the amount of Gould's claims, his claims had no greater effect in discharging the mortgage debt."

The reason for this rule is that given in 4 Cal. Jur. 270:

"The reason of the rule which gives to banks the right to appropriate deposits for the payment of the depositor's matured indebtedness does not apply where the bank has security for that indebtedness. The ordinary presumption that it is the depositor's intent to have his note discharged from his deposit does not exist where the note is so secured. It has been said to be but reasonable that when the legislature declared that there should be but one action to enforce a debt secured by mortgage, it did not mean that payment could be enforced against the consent of the mortgagor by giving a bank the right to enforce payment under a general banker's lien upon some other property, and that, too, without any legal proceedings whatever. The rule, therefore, is that a mortgagee bank must first look to the mortgaged premises as constituting a primary fund out of which the debt secured by the mortgage must be paid, and that mortgage security must be exhausted before it can apply in reduction or cancellation of the debt any money on deposit with it belonging to the debtor."

See 18 Cal. Jur. 394; also 23 Cal. Jur. 254.

Counsel for appellant in a well-argued brief attempts to destroy the authoritativeness of the California and Massachusetts cases, but we are disposed to rely on these cases notwithstanding the criticism, especially because they support the doctrine we think must follow logically from our previous decisions.

Counsel remind us that the California Legislature in 1927 (St. 1927, p. 1620) amended section 438 (same as our 104-9-2) by adding a proviso that the right to

"maintain a counterclaim shall not be affected * * * by the fact that the action is brought, or the counterclaim maintained, for the foreclosure of such security."

So far as we are informed, there has been no decision by an appellate court in California since the amendment involving the question of set-off. In a recent case, Terry TradingCorporation v. Barsky, 210 Cal. 428, 292 P. 474, 477, involving other issues, the scope of the amendment was discussed:

"All of the other limitations were abolished by this amendment, and an intent on the part of the Legislature to avoid multiplicity of suits and to have all conflicting claims between the parties settled in a single action was most clearly manifested. In the instant case, obviously, both the claim for damages and the demand that plaintiff account for sums collected and not credited on defendant's obligation tend to diminish or defeat plaintiff's recovery. Under the amendment it is not necessary that there be any connection between the cause of action set up in the complaint and that which forms the basis of the counterclaim. Indeed, the statute contemplates the pleading of unrelated matters as counterclaims by providing that ``the court may, in its discretion, order the counterclaim to be tried separately from the claim of the plaintiff.'"

The New York court held to the view that an offset is permissible under circumstances similar to those here, but its decision is based on the fact that in that state the creditor has the right to sue the debtor on a secured debt without first having recourse to the pledged security. Kress v. CentralTrust Co., 153 Misc. 397, 275 N.Y.S. 14. The same is true of Texas. Harper v. First State Bank of Grand Prarie (Tex.Civ.App.) 3 S.W.2d 552.

Mitchell v. Dreher, 150 S.C. 125, 147 S.E. 646, is cited as an authority in point to the effect that offset should be allowed. It does not appear from the decision whether or not South Carolina has a statute like ours requiring the creditor to first exhaust the security in case of mortgage debt, although appellant has argued that the construction given the statute makes it in effect the same. In that case, however, the debtor died and his administrator sold the personal property pledged to payment of the bank's debt and he paid the bank out of the proceeds of the sale and the amount on deposit which had been previously transferred by the bank to the account of the administrator. The court approved what the administrator did, and said that the bank was entitled to the proceeds of sale of the mortgaged chattels and was also entitled to set off the credit deposit balance against the note it held. No reason was given for the statement that the bank was entitled to offset the credit balance against the note it held. The bank did not apply the deposit on the mortgage debt or claim the right to do so, but merely transferred the credit to the administrator who in turn paid the debt to the bank after sale of the security and a deficiency appeared. The statement regarding offset was merely argument and not a decision.

Under our statutes the bank was not in a position to apply the amount of defendant's deposit on the mortgage loan until after exhaustion of the security leaving a balance due and unpaid for which deficiency judgment could be entered.

In view of our disposition of this issue, the other questions argued need not be discussed.

The judgment of the district court of Salt Lake county is affirmed, with costs to respondent.

ELIAS HANSEN, C.J., and EPHRAIM HANSON and MOFFAT, JJ., concur.