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THE SUPREME COURT IS RESTRUCTURING THE POWER OF THE WARNING NOTE

Two rulings from recent days appear seemingly contradictory – The first restricts the power of the warning note, and the second actually strengthens it • Globes analyzes the latest legal situation with the help of experts

14.01.2021 | Arik Meirovsky


What is the precise status of the warning note?  The Supreme Court allowed apartment owners to remove a warning note in a TAMA 38 project that was experiencing difficulties and a trustee had been appointed.  This was a bombshell for the real estate market.  A few months later, in another case, the Supreme Court ruled that a trustee cannot remove a warning note that was issued for the property, in order to serve as collateral for payment  of the property owner’s debt. 

In May of 2015, an agreement was signed between Elimelech Reichman and Yitzchak Yaffe, whereby Reichman lent money to Yaffe.  As collateral for the credit payment, an agreement was reached that Yaffe would sign a commitment to refrain from executing the transaction on the lot he owns in the eastern section of Tel Mond, and a warning note was issued in the name of Reichman. 

However, when Yaffe became insolvent, bankruptcy proceedings were filed against him; and he was appointed a trustee, Adv. Avichai Vardi.    One of the things that Vardi asked to do was not to recognize Reichman as a secured creditor, by removing the warning note issued for the lot.  The subject was raised in the Tel Aviv District Court, which overruled the trustee’s intention.  Vardi appealed the ruling with the Supreme Court.

During the course of the deliberation in a panel of three Justices – David Mintz, Anat Baruch and Yitzchak Amit - the justices differentiated between two types of warning notes:  a positive warning note and a negative warning note.  In a positive warning note, the property owner for whom the warning note was issued undertakes to execute a certain transaction, such as selling the property to which a warning note was registered.  In a negative warning note, as in the present case, the purpose is the opposite – to prevent the property owner from executing the transaction on the property, until he receives the consent of the person in whose name the warning note was registered.

Justice Mintz, who led the panel, wrote that the legal language does not differentiate between a positive and a negative warning note; and it sets a substantive norm that protects the right of the person issued the warning note against detriment by others, who also have rights against the landowner.  The meaning of the warning note in the cases of insolvency of the property-owner is that the person in possession of the warning note shall not lose his rights, even when dissolution or receivership proceedings have commenced against the owner.

Justices Amit and Baron agreed with Mintz’ ruling.  Amit wrote that “as far as I’m concerned, the issuing of the warning note is sufficient to give preference to the respondent over the debtor’s other creditors.”  Regarding the warning note, Justice Baron wrote that “it is a type of flashing red light, warning against the ‘weight’ that the land carries in favor of the person with the warning note; i.e. when the person is in a state of insolvency…  priority for the land precedes the debtor’s other creditors.”

The Dispute:  Reducing or Strengthening the Warning Note

As previously mentioned, at first sight, this ruling contradicts a ruling entitled “Derech Ha’te’ena”, named for the TAMA 38 company that had encountered difficulties.  In that ruling, the Supreme Court accepted the trustee’s request and authorized the termination of the apartment sales agreements with the buyers and the removal of warning notes registered in their names, after the Court was convinced that the warning notes were encumbering the trustee’s work.  Although the Supreme Court qualified its statements and ruled that these were ‘irregular circumstances’ and emphasized that the ruling did not constitute a general rule or ‘a decision on the question of under which circumstances should the warning note be deleted.  Nevertheless, this ruling made waves in the real estate industry.

Adv. Idan Ben-Yaakov of the Ben Yaakov Law Firm that specializes in real estate, investments and family capital management:  “There are rarely cases in which the same suit, especially one which cannot be appealed, will reach two such decisive rulings on the same issue.  It appears that the Supreme Court was attentive to the reverberations or perhaps the shockwaves created following the dramatic decision in the Derech Ha’te’ena affair, and found an opportunity in another case to strengthen the status of the warning note and to prevent or restrict the shock to the field of collateral in land deals, a market in which security and stability constitute its foundations.”

It is possible that this ruling, issued in the final days of 2020, will somewhat balance the picture.  It also might cause greater confusion and a need to more precisely define the role of the warning note that is a part of almost all real estate deals in Israel.

Trustee Vardi represented himself and Adv. Ofir Ganz; Reichman was represented by Adv. Yehoshua Givon and Ziv Arieli and the official receiver was represented by Adv. Roi Niron.

Responses:  “Many Questions with No Answer”

 Adv. Lior Mazor, founding partner at Mazor Beit Halachmi Law Firm that specializes in insolvency, receivership and property, said that this ruling puts an end to the dispute that it abandoned for a long period of time in a ruling regarding the collateral validity of a ‘negative’ warning note.  “The Supreme Court’s ruling significantly expands the cases in which property will be made an exception from the body of properties that serve the non-secured creditors, and naturally worsen the situation of this group of creditors, which in any case does not benefit, if at all, from the high repayment and payment rates.

“Henceforth, third parties will be obligated to rely upon the fact that the property on which a warning note is registered will constitute a property that is subject to a quasi-proprietary right of a third party.  This outcome may have implications on a credit market level, because it may restrict the supply of collateral that the property owner can present in order to receive it, and this was not referred to as part of the ruling.

“It appears that many questions have been left unanswered, as in the question of the relationship between the Land Law to the provisions of the Pledges Law, which establishes an individual law related to property attachment to secure a debt and the need for ‘double’ registration, also in the Registrar of Pledges, in light of its determination in the matter of the status of the negative warning note.  An answer was not given to the question of the status and validity of the warning note in the case in which there was an earlier pledge that was registered on the property (prior to the registered note) when the creditor it secured wishes to exercise the pledge.”

Adv. Assaf Englard, Head of the Banking and Finance Department at Hamburger Evron & Co. Law Firm:  “To date, the ruling had referred to the secured status of the positive warning note.  Commitment to execute a transaction for which a warning note has been registered was perceived by this ruling as material security that grants a preferential right  to a secured lien rather than third parties; and consequently, this grants it the status of a proprietary right – right in rem.   As such, both the legislator and the courts have come a long way in strengthening and empowering the right included in the warning note.

“Along with the step forward in strengthening and establishing the status of the warning note, the fact that the warning note also includes a ‘negative’ aspect has been seemingly forgotten, i.e. refraining from executing a deal for which it appears that offering a proprietary right / right in rem is less appropriate.  The Court ruled that the interpretation that expands the warning note – as one that grants a material secured right to an equitable lien – should also be implemented with a negative warning note – not necessarily because this status is justified, rather because this is according to the letter of the law.”

Court case 3042/19 – Avichai Vardi, Trustee for the properties of debtor Yitzchak Yaffe vs. Elimelech Reichman