Liens and mortgages in the world of maritime law

Q: I am the mortgage holder of a Coast Guard documented vessel that has a properly recorded Preferred Ship Mortgage. The boat sank when the owner hit a rock, after which it was removed by the county at considerable expense. I understand that the boat eventually sold at a salvage auction, but I have not confirmed this. I knew nothing about any of this it until recently. As the recorded lien holder with a preferred ship mortgage, I assumed that I would have been notified by the authorities so that I would have an opportunity to protect my interests. Did the county have an obligation to notify me? If not, what is the purpose of recording the mortgage, and how can a lender protect himself against this scenario? If the county was required to notify me, what are my options now?

A: Our reader is going to be disappointed with this one. The mortgage documents would require the boat owner to notify the lender, but there are no laws or regulations that require any third party to notify a mortgage holder that the collateral for the loan has been destroyed. This is true regardless of whether the entity in question is a government agency or a private party.

Liens and mortgages are treated differently in the world of maritime law, and there are many reasons to record a lien or mortgage. But none of those reasons impose a burden on a third party to look out for the interests of the lien holder.

Liens and mortgages both encumber a boat to provide collateral for a monetary obligation. A maritime lien arises when a service is provided to the boat and the service is not paid for. As we have discussed many times in past installments of this column, a maritime lien is automatically perfected without the need to record anything, but recording is optional and usually a good idea.

A mortgage that is recorded with the Coast Guard is known as a Preferred Ship Mortgage. The mortgage secures a monetary obligation that is usually in the form of a promissory note, and unlike a maritime lien, the loan proceeds that are generated from the note and mortgage do not need to be used for anything related to the boat. Also unlike a maritime lien, a Preferred Ship Mortgage MUST be recorded to be valid and enforceable.

Maritime liens and Preferred Ship Mortgages provide an avenue for a creditor to foreclose on the boat to collect his or her money. Recording these encumbrances with the Coast Guard provides notice to third parties who may be considering the granting of credit to the boat owner, and it gives notice to prospective buyers of the claims against the boat. But as noted above, recording does not obligate a third party to do anything, such as notify lien or mortgage holders of the pending salvage of the boat, as suggested by our reader.

The recording procedure for our reader’s mortgage does provide some protection for him in connection with the rumored sale of the boat. The Coast Guard will not process a bill of sale for the transfer of ownership if a boat is encumbered by an unsatisfied mortgage. So, even if the boat was sold at a salvage auction, the new owner will not be able to transfer title without the lender signing off on the mortgage.

Finally, our reader asked how a lender’s interest in a vessel can be protected, if there is no requirement for third parties to contact the lender in the event of a catastrophic incident. The answer may be found in the language of the Preferred Ship Mortgage. Most mortgage documents include a requirement for the owner to notify the lender when the boat is lost or seriously damaged. But more importantly, mortgage documents always require the boat owner to insure the boat.

The insurance provision in a mortgage typically requires the insurance policy to name the lender as loss payee and additional insured. Thereafter, a breach of the insurance agreement will be deemed to be a default of the mortgage, allowing the lender to repossess the boat. Unfortunately, in our reader’s case, it appears that the insurance lapsed prior to the incident, which led to the precarious place in which he finds himself today.

Private party loans are always dicey, and the risk is amplified when the collateral is a boat.  My typical advice in cases like this is, therefore, to encourage the buyer of the boat to use a conventional lender. Individual private party lenders aren’t experienced in loan servicing, and events such as the expiration of an insurance policy can easily fall through the cracks.

David Weil is licensed to practice law in the state of California and as such, some of the information provided in this column may not be applicable in a jurisdiction outside of California. Please note also that no two legal situations are alike, and it is impossible to provide accurate legal advice without knowing all the facts of a particular situation. Therefore, the information provided in this column should not be regarded as individual legal advice, and readers should not act upon this information without seeking the opinion of an attorney in their home state.

 David Weil is the managing attorney at Weil & Associates (weilmaritime.com) in Long Beach. He is an adjunct professor of Admiralty Law at Loyola University Law School, a member of the Maritime Law Association of the United States and is former legal counsel to the California Yacht Brokers Association. If you have a maritime law question for Weil, he can be contacted at 562-438-8149 or at dweil@weilmaritime.com.

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