New York Commercial Division Rules Forbearance Agreement with Deed in Lieu Must Be Treated as Mortgage

It has long been the law in New York that a deed that serves as security for a debt is considered nothing more than a mortgage. Applying this principle, New York courts have treated deeds given to lenders at origination or upon the extension of the maturity date of the loan as mortgages, even so-called "deeds in the box," which have long been treated as mortgages. Patmos Fifth Real Estate Inc. v. Mazl Building, LLC, 124 A.D.3d 422 (1st Dep't 2015). However, a recent decision from the Commercial Division of the New York State Supreme Court, New York County, applied New York Real Property Law ("RPL") § 320 to invalidate a deed in lieu provided to a lender pursuant to a forbearance agreement in what appears to be a case of first impression. The court held that a deed in lieu of foreclosure provided in connection with a forbearance agreement must be treated as a mortgage under RPL § 320 and required the lenders to proceed by foreclosure and sale to extinguish the borrower's interest in the property. See Shanghai Commercial Bank Ltd., New York Branch et al. v. New Tent, LLC et al., No. 850240/2024 (Sup. Ct. N.Y. Cnty. June 13, 2026). The court reached that decision despite express language in the forbearance agreement that the deed in lieu was not intended to be a mortgage or security instrument, instead relying on RPL § 320 for the principle that conclusive proof was not required to establish that the deed was intended to serve as a security for the debt.

Shanghai Commercial Bank appears to mark the first time that a New York Court has expressly held that a deed in lieu of foreclosure given in connection with a forbearance agreement should be considered a mortgage under RPL § 320. The lenders have appealed that decision to the Appellate Division, First Department, and we will monitor the ultimate resolution of the case. If the decision is ultimately affirmed on appeal, lenders who require delivery of a deed in lieu of foreclosure as a remedy for a default under a forbearance agreement runs the risk of being subject to the expense and delay associated with pursuing a judicial foreclosure proceeding. This avenue would no longer be an efficient mechanism for creditors seeking to avoid the time consuming process of foreclosure. Still, several alternatives remain available to lenders to effectuate a transfer that would not be subject to RPL § 320.

Background

RPL § 320 provides that "[a] deed conveying real property, which, by any other written instrument, appears to be intended only as a security in the nature of a mortgage, although an absolute conveyance in terms, must be considered a mortgage…" This statute codifies a longstanding equitable principle recognized in New York that so long as an instrument functions as security for a debt, the borrower retains an unwaivable right to redeem the property upon payment of the loan. See Mooney v. Byrne, 163 N.Y. 86 (1900). RPL § 320 looks to the intent of the parties over the instrument's form when determining whether the protections afforded to mortgagors-most notably the right to redeem-will be preserved. Basile v. Erhal Holding Corp., 148 A.D.2d 484, 485 (2d Dep't 1989) (quoting Peugh v. Davis, 96 U.S. 332, 336-37 (1877)).

Shanghai Commercial Bank Ltd., New York Branch, and The Shanghai Commercial & Savings Bank, Ltd. v. New Tent, LLC et al.

The case arose out of a series of loans totaling approximately $75 million (the "Loans") made by Shanghai Commercial Bank Ltd., New York Branch and The Shanghai Commercial & Savings Bank, Ltd. (collectively, "Lenders") to defendants New Tent, LLC and Neo Image Enterprises, LLC (collectively, "Borrowers"). The Loans were secured by a mortgage on the real property located at 335 West 35th Street, New York, New York 10001 (the "Property"). The parties executed a Forbearance Agreement, dated April 27, 2022, pursuant to which Lenders accelerated the Loans but agreed to forbear from exercising further remedies under the loan documents through April 30, 2022, and provided Borrowers with a right to extend the forbearance period until October 31, 2022. In consideration of such forbearance, Borrowers executed a "Bill of Sale in Lieu of Foreclosure" (the "Deed in Lieu"), conveying their right, title, and interest in the Property to Lenders if the loan was not repaid by the end of the forbearance period. Borrowers extended the forbearance period until October 31, 2022, at which point Lenders did not provide consent for any further extension and no agreements were reached. When the loan was not repaid by that date, Borrowers threatened litigation and refused to cooperate with Lenders' attempts to record the deed. As a result, Lenders could not obtain marketable title to the Property and record the deed.

Lenders initiated suit against Borrowers, seeking a judgment that they were entitled to record a deed and related documentation, an order that Borrowers should cooperate with recording the deed, and alternatively sought a judgment of foreclosure. The court initially granted Lenders' motion for summary judgment and found that Borrowers breached the Forbearance Agreement. But on a motion to reargue, the court granted leave to reargue and ruled that the Deed in Lieu constituted a mortgage under RPL § 320, vacating its prior decision.[1]

In determining that the Deed in Lieu provided as a remedy under a forbearance agreement constituted a mortgage, the court relied on the relationship between the Forbearance Agreement and the Deed in Lieu. Lenders executed the Forbearance Agreement in connection with the Deed in Lieu and agreed to forbear "any further remedies under the applicable Loan Documents" excluding the recovery of any protective advances made "to preserve the value of the collateral under the Loan Documents." Slip Op. at 5. Specifically, the court noted that the Deed in Lieu, conveying Borrowers' "right, title, and interest, in the real property" was executed pursuant to the Forbearance Agreement, and "in consideration of such forbearance." Id. Because of this structure, the Deed in Lieu "functions legally as a mortgage." Id. (quoting 21-55 45th Rd. LLC v. Altamirano, 2024 N.Y. Misc. LEXIS 75128, at *2 (Sup. Ct., Queens County, Apr. 3, 2024)). The court's reasoning would seem to apply to any deed in lieu made in connection with, and consideration of, a forbearance agreement.

Even an express provision in the Forbearance Agreement denying that it should be construed as a mortgage was insufficient to withstand RPL § 320. The court noted in a footnote that Section 3(e) of "[t]he Forbearance Agreement explicitly provided that the conveyance 'will be an absolute transfer, assignment and conveyance of all of Borrower's right, title and interest in and to the Property in fact as well as in form and is not now and shall not be intended as a mortgage, trust conveyance, deed of trust or security instrument of any kind.'" Slip Op. at 5 n. 2. Still, Justice Masley held that the structure of the agreements was sufficient evidence for RPL § 320 to apply. The court relied on precedent from the First Department holding that RPL § 320 "does not require a conclusive showing that the transfer was intended as security; it is sufficient that the conveyance 'appears to be' intended only as a security in the nature of a mortgage." Id. (quoting Leonia Bank v. Kouri, 3 A.D.3d 213, 217 (1st Dep't 2004)). The structure of the Forbearance Agreement appeared to the court to render the deed a mortgage, regardless of what the document itself claimed it was.

Once the Deed in Lieu was determined to be a mortgage, the court held that the Forbearance Agreement could not serve to waive the protections of a mortgage or the right of redemption. For this proposition the court quoted Mooney v. Byrne, 163 N.Y. 86, 92 (1900): "[A]lthough many attempts have been made, no form of covenant has yet been devised that will cut off the right of a mortgagor to redeem . . . Even an express stipulation not to redeem does not prevent redemption." Given its holding, the court found that Lenders must proceed via judicial foreclosure. The Lenders have appealed.

Lenders should take caution in light of this decision: a contractual disclaimer purporting to characterize a deed in lieu as an "absolute conveyance" may not insulate the transaction from recharacterization under RPL § 320 where the surrounding circumstances indicate the conveyance was given as security for an existing debt.

This Holding Does Not Foreclose All Alternatives to Foreclosure

While Shanghai Commercial Bank establishes that a deed in lieu of foreclosure given in consideration of forbearance on an existing loan may be treated as a mortgage under RPL § 320, this holding does not eliminate all alternatives to transfer the property in connection with workout negotiations.

One established alternative is a consent judgment of foreclosure. Unlike a deed in lieu, which purports to transfer title directly, a consent judgment involves the borrower's voluntary agreement to the entry of a judgment of foreclosure and sale by a court. The consent judgment does not itself transfer any property, but rather speeds up the ordinary foreclosure process. Because the foreclosure and sale process is preserved, the borrower's equity of redemption is not extinguished before the sale, and RPL § 320 is not implicated. A consent judgment can provide lenders with a streamlined path to foreclosure while avoiding the risks of recharacterization that the court identified in this case.

Another alternative structure is the use of an accommodation pledge. [2] An accommodation pledge, whereby the holder of the equity interests in the borrower pledges those interests to the mortgage lender as additional security, provides the lender with the ability to conduct a UCC foreclosure sale of the pledged equity interests, which is significantly faster than a judicial foreclosure in New York. Moreover, in exchange for forbearance following an event of default, a lender could take an assignment in lieu of the membership interests that would not become effective until the expiration of the forbearance period. Any lender that seeks to use an assignment in lieu should seek to understand the obligations and debts of the entity it is taking control of and also include appropriate language to address any concerns about the merger of fee and mortgage.

Conclusion

The decision in Shanghai Commercial Bank is a significant development for lenders and borrowers in the New York real estate market. The decision raises concerns as to whether lenders may use a deed in lieu of foreclosure as a remedy in connection with a forbearance agreement under a defaulted mortgage loan. Such an arrangement may be treated as a mortgage under RPL § 320, regardless of express contractual provisions disclaiming such intent. Where RPL § 320 applies, the lender must proceed by foreclosure and sale to extinguish the borrower's interest, and may not simply take title through the deed in lieu.

The decision underscores the breadth of RPL § 320's protections. Courts need not find conclusive evidence that the parties intended the conveyance as a mortgage; it is sufficient that the conveyance "appears to be" intended only as security. Even explicit contractual language stating that the conveyance is "not . . . intended as a mortgage, trust conveyance, deed of trust or security instrument of any kind" may not overcome the statute's application.

Lenders should carefully evaluate their workout strategies in light of this decision. While deeds in lieu of foreclosure carry heightened recharacterization risk, alternatives such as consent judgments, accommodation pledges, and assignments of equity interests remain available in workout discussions as alternatives to a time consuming judicial foreclosure process.

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