In Emerald Portfolio, LLC v. Outer Banks/Kinnakeet Assoc., LLC, the North Carolina Court of Appeals refused to allow a debt purchaser to enforce a note where the original note was lost before it was transferred to a debt purchaser. The decision turned on a unique aspect of North Carolina law regarding the enforcement of lost, destroyed or stolen instruments. As a result, in dealing with purchases of notes that must be enforced in North Carolina courts, debt purchasers need to be particularly vigilant that they obtain the original note.
In Emerald Portfolio, First South Bank (“FSB”) sold a note from Outer Banks/Kinnakeet Associates, LLC (“Outer Banks”) in the original principal amount of $3,025,500 to Emerald Portfolio, LLC (“Emerald”). When Emerald brought an action to enforce the note and guaranties, it attached an affidavit signed by a Senior Vice President of FSB stating that FSB had been the lawful owner and payee of the note, that the note could not be located and that the note had been endorsed to Emerald. After some procedural maneuvering, Outer Banks answered and contended that Emerald was not entitled to enforce the lost note because FSB could not locate the promissory note at the time it was assigned to Emerald.
The North Carolina Court of Appeals agreed with Outer Banks' argument and reversed the trial court’s summary judgment decision. The court focused on North Carolina’s version of 3-309 of the Uniform Commercial Code (“UCC”). That code section provides:
"A person not in possession of an instrument is entitled to enforce the instrument if (i) the person was in possession of the instrument and entitled to enforce it when loss of possession occurred; (ii) the loss of possession was not the result of a transfer by the person or a lawful seizure, and (iii) the person cannot reasonably obtain possession of the instrument because the instrument was destroyed, it whereabouts cannot be determined, or it is in the wrongful possession of an unknown person or a person that cannot be found or is not amenable to service of process."
In contrast, the current version of Section 3-309 of the UCC has been amended and provides as follows:
- A person not in possession of an instrument is entitled to enforce the instrument if:
- The person seeking to enforce the instrument:
- was entitled to enforce the instrument when loss of possession occurred; or
- has directly or indirectly acquired ownership of the instrument from a person who was entitled to enforce the instrument when loss of possession occurred;
- the loss of possession was not the result of a transfer by the person or a lawful seizure; and
- the person cannot reasonably obtain possession of the instrument because t he instrument was destroyed, its whereabouts cannot be determined, or it is in the wrongful possession of an unknown person or a person that cannot be found or is not amenable to service of process.
The Court found that clearly under the revised version (particularly the highlighted language), Emerald would be protected, but since the North Carolina legislature had not adopted the revised UCC Emerald was not protected and was not allowed to enforce the note.
Emerald argued that despite the missing language in North Carolina’s version of 3-309, other courts had allowed the enforcement by a party who never had possession under two arguments: 1). by relying on UCC Section 3-203 which discusses the rights acquired by a transferee and states that the transfer “vests in the transferee any right of the transferor to enforce the instrument”; and/or 2). By relying on general assignment principles incorporated through Section 1-103 of the UCC. The North Carolina Court of Appeals seems to have rejected these arguments.