U.S. markets closed

Right to Accelerate vs. a Convertible Note: Avoiding NY-UCC §1-309 Changes Accrual of Statute of Limitation

clock-money

Photo: Bigstock

NY-UCC §3-122 specifically provides that, for a time instrument, the statute of limitation accrues one day following the date of maturity and, for a demand instrument, the statute of limitation accrues on the date the instrument is executed or issued. These consequentially different accrual dates require an inquiry into whether, under the New York Uniform Commercial Code (the “Code”), a mortgage note under review is either a time instrument pursuant to subsection (c) of NY-UCC §3-109(1), a demand instrument pursuant to NY-UCC §3-108 or a hybrid instrument—i.e., a time instrument (pursuant to subsection (a) of NY-UCC §3-109(1)) that can be converted into a demand instrument. Central to this inquiry is NY-UCC §1-309 (formerly NY-UCC §1-208), the provision of the Code that defines what constitutes a permissible acceleration clause in a time instrument pursuant to subsection (c) of NY-UCC §3-109(1).

In reviewing a Fannie Mae form mortgage note and without regard to this important inquiry into whether said mortgage note is actually a time instrument pursuant to subsection (c) of NY-UCC §3-109(1), all four Appellate Division Departments have predetermined that the actual date of acceleration is the date the applicable statute of limitation accrues. Each Department has reviewed a letter sent by the mortgage noteholder to the debtor-in-default which provides that if the debtor fails to cure the default within thirty (30) days, then the debt “will be accelerated.” The First and Third Departments conclude that the letter is clear and unequivocal proof of actual acceleration. See Deutsche Bank Natl. Trust Co. v. Royal Blue Realty Holdings, 148 A.D.3d 529 (1st Dept 2017), lv. den. 30 N.Y.3d 960 (2017); Colonie Block & Supply Co., Inc. v. DH Overmyer Co., 35 A.D.2d 897 (3d Dept.1970). The Second and Fourth Departments conclude, however, said letter is a mere expression of a future intent that falls short of an actual acceleration. See Milone v. US Bank NA, 164 A.D.3d 145 (2d Dept. 2018); Ditech Financial v. Corbett, 166 A.D.3d 1568 (4th Dept. 2018).

Notwithstanding these different conclusions of law on whether the mortgage note was accelerated, each of the Departments deem the date of acceleration as the date the statute of limitation would accrue.

But only if the mortgage note is indeed a time instrument pursuant to subsection (c) of NY-UCC §3-109(1) would the search for the acceleration date be relevant. If, however, the mortgage note is in fact a demand instrument or a hybrid convertible instrument, then the actual date of acceleration would be irrelevant: the date of accrual pursuant to NY-UCC §3-122(1)(b) would be the date the right to accelerate existed and not the date the election to accelerate was made. Under the Code, the right to accelerate a demand instrument is a procedural demand rather than a substantive demand. (For a discussion of the difference between a procedural demand and a substantive demand, see Lehman XS Trust v. GreenPoint Mortgage Funding, 991 F. Supp. 2d 472, 476 (S.D.N.Y. 2014).)

This article argues that because the acceleration provision of the Fannie Mae Form mortgage note does not conform with NY-UCC §1-309 (formerly NY-UCC §1-208), said mortgage note is not a time instrument pursuant to subsection (c) of NY-UCC §3-109(1) but rather a hybrid instrument: a time instrument that can be converted into a demand instrument. See Mundaca Inv. v. Rivizzigno, 247 A.D.2d 904, 906, 668 N.Y.S.2d 854 (4th Dept. 1998). The consequence of the conversion is the statute of limitation would not accrue on the date of acceleration (i.e., the day after maturity), but would accrue on the effective date the mortgage note was converted into a demand instrument—i.e., at the end of the 30-day period identified in the specialized contractual notice sent pursuant to §6(C) of the Fannie Mae form mortgage note and §22 of the Fannie Mae form mortgage. The letter reviewed by the Appellate Departments is therefore not a notice of acceleration—and use of the phrase “will accelerate” or “may accelerate” is irrelevant—but the notice by which the noteholder elects to convert the time instrument (pursuant to subsection (a) of NY-UCC §3-109(1)) into a demand instrument (pursuant to NY-UCC §3-108).

Time Instrument Under NY-UCC §3-109(1) and Limits of NY-UCC §1-309 (formerly NY-UCC §1-208). A time instrument is defined in the Code at NY-UCC §3-109(1) which provides in pertinent part:

“(1) An instrument is payable at a definite time if by its terms it is payable



(a) on or before a stated date or at a fixed period after a stated date; or …



(c) at a definite time subject to any acceleration … .”



A demand instrument is defined under NY-UCC §3-108 which provides, “instruments payable on demand include those payable at sight or on presentation and those in which no time for payment is stated.”

The consequential difference between a time instrument and a demand instrument is the date the statute of limitation accrues. NY-UCC §3-122. Thus, it is important that the definition of these instruments be distinguishable under the Code.

Superficially, the definition of a time instrument pursuant to subsection (c) of NY-UCC §3-109(1), with its reference to a right to accelerate, could conflate the definition of a time instrument with the definition of a demand instrument. An unqualified right to accelerate is the essence of a demand instrument. See NY-UCC §3-108; 5 Hawkland UCC Series §3-108:1 Rev. (“the distinguishing characteristic of an instrument payable on demand is that the time payment is due is determined at the sole discretion of the holder.”).

However, to maintain the distinction between a time instrument pursuant to subsection (c) of NY-UCC §3-109(1) and a demand instrument, the drafters of the Code expressly limited the type of acceleration clause that is permitted to be part of a time instrument per subsection (c) of NY-UCC §3-109(1). NY-UCC §1-309 (formerly NY-UCC §1-208) provides:

“A term providing that one party or that party’s successor in interest may accelerate payment or performance or require collateral or additional collateral ‘at will’ or when the party ‘deems itself insecure,’ or words of similar import, means that the party has power to do so only if that party in good faith believes that the prospect of payment or performance is impaired.”



Thus, NY-UCC §1-309 (formerly NY-UCC §1-208) limits the right the noteholder has to accelerate a time instrument. Acceleration can only occur when the noteholder “in good faith believes that the prospect of payment or performance is impaired.” The drafters of the Code, by incorporating NY-UCC §1-309 (formerly NY-UCC §1-208) to limit the acceleration clause in a time instrument, wanted to maintain the distinction between a time instrument and a demand instrument:

“Although acceleration clauses often serve the legitimate interests of holders, they also present the holder with potentially unfair power and are susceptible of misuse. The UCC addressed these competing considerations by permitting the activation of acceleration clauses only when the holder ‘believes in good faith that the prospect of payment or performance is impaired.’ Hawkland & Lawrence, UCC Series §3-109:04 (Art. 3). The imposition of such a restriction on the holder’s right to control the time of payment is fundamentally at odds with the concept of demand under the UCC, which vests absolute discretion in the holder respecting the time of payment. *** Hawkland & Lawrence, UCC Series §3-108:01 (Art. 3).”)



Wamco, III, Ltd. v. First Piedmont Mortg., 856 F. Supp. 1076, 1082-83 (E.D. Va. 1994).

The Acceleration Provision in the Fannie Mae Form Mortgage Note Does Not Conform With NY-UCC §1-309 (formerly NY-UCC §1-208). Because the Fannie Mae form mortgage note is an installment loan with a right of acceleration, the New York court has consistently assumed that said note is a time instrument pursuant to subsection (c) of NY-UCC §3-109(1). However, a review of the acceleration provision contained in §6(C) of the Fannie Mae form mortgage note and §22 of the Fannie Mae form mortgage reveals a provision that does not conform with NY-UCC §1-309 (formerly NY-UCC §1-208). Section 6(C) and §22 describe an unqualified right to accelerate the mortgage debt upon the uncured default of the debtor and the “at will” election of the noteholder.

The criterion for acceleration under NY-UCC §1-309 (formerly NY-UCC §1-208) involves whether (1) a reasonable person would have accelerated the debt under the circumstances, and (2) whether the creditor acted in good faith. See Blaine v. GMAC, 82 Misc. 2d 653 (County Ct. 1975). A note that conformed with NY-UCC §1-309 (formerly NY-UCC §1-208) would have a provision similar to the note reviewed in Coniglio v. Regan, 186 A.D.2d 709, 712 (2d Dept. 1992): “the promissory note provided that the note would be considered in default if the plaintiff ‘deems the risk of nonpayment of this Note to have increased’.”

The right of acceleration described in the Fannie Mae form mortgage note and Fannie Mae form mortgage is not limited in any such manner. The only restraint is that the right to accelerate cannot be exercised before the noteholder sends to the debtor-in-default the specialized contractual notice described in §6(C) of the Fannie Mae mortgage note and §22 of the Fannie Mae form mortgage. Said notice—which is the notice reviewed by the four Departments of the Appellate Division—is “a condition precedent to the noteholder’s right to accelerate and foreclose,” Huntington National Bank v. Haehn, 2018 Ohio 4837 (Ohio Ct. App. 2018). Until such notice is sent and the period therein expires, the noteholder does not have the right to accelerate at all—regardless of whether the debtor is in default or the noteholder deems the risk of payment is impaired.

The Fannie Mae Mortgage Note is a Time Instrument That Can Be Converted Into a Demand Instrument. Because its acceleration provision is unqualified, the Fannie Mae form mortgage note cannot be a time instrument pursuant to subsection (c) of NY-UCC §3-109(1).

At best, the Fannie Mae form mortgage note is a hybrid instrument—at execution it is a time instrument with each installment having a definite period of maturity; after the thirty (30) day period expires in the specialized contractual notice, the note is converted into a demand instrument. At the end of said period, the noteholder has the right—but not the obligation—to demand payment “at will.”

The consequence of said conversion is the shift in the accrual of the statute of limitation. Pursuant to NY-UCC §3-122(1)(b), the accrual date would be the effective date the note was converted; it would not be the date the actual election to accelerate was made. Thus, trying to determine the actual date of acceleration is not relevant to the accrual of the statute of limitation. The letter is in fact, as the Second and Fourth Departments have held, a mere expression of a future intent that falls short of an actual acceleration. But for purposes of accrual of statute of limitation, falling short of actual acceleration is not relevant.

A Hybrid Instrument Is Not a Novel Concept. Finding the Fannie Mae form mortgage note to be a hybrid instrument is not a novel concept. It is merely the result of the attempt to reconcile all of the provisions in the note. As the court held in Mundaca Inv. v. Rivizzigno, 247 A.D.2d 904, 906, “what appear to be conflicting provisions should be reconciled where there is a reasonable possibility of doing so citations omitted, especially where consideration of the contract as a whole resolves the apparent ambiguity citation omitted.”

In Mundaca the court reviewed an installment note dated November 1986 that provided for monthly installment payments beginning Jan. 1, 1987 and continuing through Dec. 1, 2001. The note further provided the following:

“‘Notwithstanding the maturity date of Dec. 1, 2001, the bank may demand the entire amount of unpaid principal and accumulated interest be paid at any time after December 1, 1991’.”



Id. at 905. The court found the instrument to be a hybrid: “It is a term note until December 1, 1991, after which the acceleration clause changes its nature to that of a demand note.”

Conclusion. The court must be made to realize that the contractual notice sent pursuant to §6(C) of the Fannie Mae form mortgage note and §22 of the Fannie Mae form mortgage is not intended to convey proof of the election to accelerate. The notice is not only a condition precedent to acceleration, it is the notice of conversion of the mortgage note from a time instrument, with separate installments, into a demand instrument payable on demand, at will. Simply, before the notice is sent and the period stated therein expires, the noteholder does not have the right to accelerate the debt, even if the debtor is in default.

Compared to an acceleration clause that conforms with NY-UCC §1-309 (formerly NY-UCC §1-208), an unqualified right of acceleration is obviously preferable to the noteholder. The hybrid convertible instrument preserves not only a noteholder’s unqualified right to accelerate, it eliminates the risk that the mortgage note could be deemed nonnegotiable for inclusion of a nonconforming acceleration clause. See NY-UCC §3-104. However, the tradeoff for use of the hybrid convertible instrument is the change in how the statute of limitation accrues.

With a Fannie Mae form mortgage note, when the question of whether the statute of limitation has accrued, the undertaking is to determine if and when the conversion of the time instrument into a demand instrument is effective. A quest to find the actual date of acceleration is not required. Pursuant to NY-UCC §3-122, for a demand instrument, accrual is from the date the right to accelerate exists, not the date the demand for acceleration is made. It is thus in the nature of a procedural demand rather than a substantive demand.

Francis M. Caesar is an attorney in private practice and former in-house general counsel.