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In re Theodore A. Kochs Co.

May 16, 1941


Appeal from the District Court of the United States for the Northern District of Illinois, Eastern Division; Michael L. Igoe, Judge.

Author: Kerner

Before SPARKS and KERNER, Circuit Judges, and LINDLEY, District Judge.

KERNER, Circuit Judge.

The petitioner, Efaich Company, purchaser of a real estate mortgage executed by the bankrupt, Theo. A. Kochs Company, claimed a lien on the plant machinery and equipment located on the premises or in the alternative asked to have the lien attach to proceeds of a sale consummated by the respondent, the trustee in bankruptcy. The referee in bankruptcy denied the claim, the District Court made an order approving the referee's finding and decision, and petitioner appeals.

The Theo. A. Kochs Company acquired land, constructed its own buildings thereon, equipped them with boilers, engine and generator to produce electric current for light and power, and installed therein plant machinery and equipment essential to the carrying on of its manufacturing processes. The plant machinery and equipment consisted mainly of (1) huge air blowers and dust collecting pipes, (2) heavy machines used in the production or manufacturing process, and (3) shaftings, pulleys, beltings and motors of considerable size and weight, used to drive the machines described in (2). The evidence shows that although this property was substantially attached or fastened to the premises and formed an indispensable part of the factory, nevertheless it was removable without material damage to itself or to the freehold.

In 1934 the Theo. A. Kochs Company borrowed $100,000 from the Federal Reserve Bank of Chicago, for which it executed and delivered the mortgage involved here. The mortgage corvered the land and buildings, together with the following described property:

" * * * the tenements, hereditaments and appurtenances thereunto belonging * * * and all apparatus and fixtures of every kind for the purpose of supplying or distributing heat, light, water or power, and all other fixtures in, or that may be placed in any building now or hereafter standing on said land, and also all the estate, right, title and interest of the said party of the first part of, in and to said premises.

"To Have and to Hold the above described premises, with the appurtenances and fixtures, unto the said praty of the second part, its successors and assigns, forever. * * * "

It is admitted that the boilers, engine and generator are covered by the mortgage above, as are the motor and shafting section operating the elevator. Our problem is to determine whether the plant machinery and equipment is subject to the lien of the mortgage.

In 1938 the mortgagor filed a voluntary petition to reorganize under Section 77B of the Bankruptcy Act, 11 U.S.C.A. ยง 207, and alleged that its liabilities consisted of "approximately $63,000 not yet due but secured by a mortgage on its fixed assets." A reorganization was not effected, and on January 26, 1940, an order of adjudication in bankruptcy was entered. April 16, 1940, the respondent (trustee in bankruptcy) filed his petition for leave to sell all of the property of the bankrupt either free and clear of all liens or subject thereto. This petition described the bankrupt's land and buildings as real estate, and the remainder of the property as personal property. It further stated that the real estate was subject to the lien of the mortgage above referred to, and that the personal property was free of liens except for two small conditional sales liens. April 26, 1940, the Federal Reserve filed its answer to the respondent's petition, asserting thereby that it was the owner of the mortgage in question and asking that its rights thereunder be observed. The answer further stated that with respect to the personal property as described in the respondent's petition, the Federal Reserve was without knowledge sufficient to form a belief as to the truth of the allegations that the personal property was free of liens except for the two small conditional sales liens.

On May 7, 1940, the date of the bankruptcy sale, the personal property of the bankrupt, including the plant machinery and equipment in question, was sold to a pruchaser for $50,100. At the sale the trustee announced that the personal property was free and clear of all liens except the two small conditional sales lines. Although the officers and counsel of the Federal Reserve were present, they made no statement that the real estate mortgage covered any of the property sold for $50,100. May 14, 1940, the petitioner purchased the mortgage from the Federal Reserve, thereafter intervened in the bankruptcy proceedings, and on May 29, 1940, filed its amended petition stating that the mortgage covered the plant machinery and equiment and asking that their removal from the premises be enjoined or that the lien thereon be transferred to the proceeds of the sale. It has been stipulated that of the sum of $50,100 realized by the respondent at the sale, some $15,087 is allocable to the plant machinery and equipment.

At the hearing before the referee in bankruptcy, parol evidence was adduced by respondent as to conversations and negotiations prior to the execution of the real estate mortgage. The bankrupt's auditor testified that at first a loan of $175,000 was contemplated on the strength of the land, buildings, machinery, stock-in-trade and accounts receivable, but that in the end the Federal Reserve decided to make a real estate loan of $100,000. The assistant vicepresident of the Federal Reserve testified that in the first instance the Federal Reserve asked for a mortgage on the land and buildings, together with a chattel mortgage on the "movable machinery and equipment and their hand tools," but that finally it reconsidered and made the loan on the security of the land, buildings and appurtenances only. In this connection the written resolution of the Executive Committee of the Federal Reserve authorized the making of a mortgage covering the "land, buildings and fixed equipment." The assistant vice-president of the Federal Reserve and its counsel were also permitted to testify that it was their understanding that the mortgage would cover only the real estate and such other property as could not be removed "without in any way defacing or mutilating the premises" or "without doing measurable damage to the real estate."

In addition there is testimony by the bankrupt's auditor to the effect that after the loan he prepsred monthly balance sheets and mailed them to the Federal Reserve. These financial reports contained a footnote referring to the mortgage, which did not appear in connection with the item "Plant Machinery and Equipment" but which did appear in connection with the two items "Land" and "Buildings." The record also discloses testimony that the motors, shaftings, pulleys and beltings are part of the equipment used in the production or manufacturing process. The theory, as explained by respondent's expert witness, is that the distribution of power ends when it enters the motors that drive the production machines. The expert witness for the petitioner states that this apparatus is really power equipment, advancing the theory that the distribution of power ceases only when it reaches the production machines.

It is presumed without more, when machinery is installed which is indispensable to the operation of the factory, that the owner intended to affix the machinery permanently to the premises. In our case the nature of the machinery, the manner of its attachment, its essential relation to the business, and the fact that the annexor owned both the plant and the machinery are manifestations that at the time of the installation the annexor intended the machinery to constitute a permanent improvement of the realty. Unquestionably, in such a situation, the case-law is that the machinery becomes part of the realty and passes with it under a real estate mortgage. Hill v. Farmers' & M. National Bank, 97 U.S. 450, 453, 24 L. Ed. 1051; Fifield v. Farmers' National Bank, 148 Ill. 163, 169, 173, 35 N.E. 802, 39 Am. St.Rep. 166; White Way Sign Co. v. Chicago Title & Trust Co., 368 Ill. 482, 485, 14 N.E.2d 839; Planters' Bank v. Lummus Cotton Gin Co., 132 S.C. 16, 128 S.E. 876, 878, 41 A.L.R. 592. It is true that the machinery in question was not an integral part of the permanent ...

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