Texas Court: Deed of Trust Extinguished Upon Payment and Did Not Secure Additional Non Recourse Note

Generally, a deed of trust is extinguished upon payment of the indebtedness which it was created to secure even without a written release. However, if the deed of trust contains a dragnet clause, in some circumstances, the deed of trust may be found secure future indebtedness created after the original indebtedness was paid. A Texas Court recently analyzed these issues in Craig v. Ponderosa Development, LP.

A debtor executed a promissory note (“Note”) in favor of creditor. The Note was secured by a Deed of Trust against property owned by the debtor. The Deed of Trust contained both a dragnet clause and a release provision. A “dragnet” clause is a future advance clause. In other words, the dragnet clause in the Deed of Trust provided that the property secured both the Note and the payment of future indebtedness. The release in the Deed of Trust stated that “upon payment of all sums accrued by this Instrument, Lender shall release this Instrument.”

The debtor paid the full amount of the Note to creditor; however, creditor never released the Note or Deed of Trust. After debtor paid the Note in full, debtor executed a Non-Recourse Promissory Note in favor of creditor. Debtor defaulted on the Non-Recourse Promissory Note and creditor attempted to foreclose on the Deed of Trust. The creditor argued that the dragnet clause of the Deed of Trust covered the Non-Recourse Promissory Note.

A deed of trust has no legal effect apart from the debt it is intended to secure. A deed of trust is usually extinguished upon payment of the indebtedness which it was created to secure. Extinguishment is complete even without a written release. However, there may be an exception to extinguishment when the deed of trust contains a dragnet clause.

Texas courts do not recognize the enforceability of dragnet clauses unless the subsequent debt to be secured was reasonably within the contemplation of the parties to the deed of trust at the time it was executed. If the requisite intent is found, however, courts have indicated that dragnet clauses will be given effect even as to indebtedness created after the debt originally underlying a deed of trust has been paid in full.

In this case, the Court found that when read in conjunction with other provisions in the Deed of Trust, it was clear that the dragnet clause was not intended to secure future indebtedness created after the Note was paid in full. Any other interpretation would render the release in the Deed of Trust meaningless. The court concluded that the application of the dragnet clause to the Non-Recourse Note was not within the parties' contemplation at the time they signed the Deed of Trust.