FYI: 9th Cir Holds Nevada Deficiency Limitation Preempted as to Transferees of FDIC

The U.S. Court of Appeals for the Ninth Circuit recently affirmed final judgments against corporate borrowers and guarantors in three separate cases, holding that:

(a)  the Nevada statute limiting the amount of the deficiency recoverable in a foreclosure action was preempted by federal law as applied to transferees of the Federal Deposit Insurance Corporation (FDIC);

(b)  the plaintiff bank had standing to enforce the loans it acquired from the FDIC;

(c)  the bank was not-issue precluded from showing that the subject loans had been transferred to it;

(d)  the bank did not breach the implied covenant of good faith and fair dealing by suing instead of giving the borrowers more time to restructure the loans because the alleged oral promise of more time lacked consideration and without a binding contract the implied covenant did not apply, the loan documents provided that any modification must be in writing, and defendants had entered into written agreements acknowledging that the bank reserved it right to enforce the loans.;

(e)  the bank was not estopped and did not waive its right to enforce the loans because the defendants at all times knew the loan documents could only be modified in writing and the written acknowledgments reserved the bank's right to enforce the loans;

(f)  the doctrine of laches did not bar the bank's right to foreclose on two of the loans because the bank sued within the statute of limitations and no exceptional circumstances were shown to justify application of laches;

(g)  the bank did not fail to mitigate its damages because it owed no duty to time its foreclosure proceedings so as to minimize any deficiency;

(h)  the trial court did not abuse its discretion by refusing to extend the deadline to amend the pleadings to allow the defendant to add four new defenses and a counterclaim based on the alleged work-out agreement because they showed neither good cause nor excusable neglect for seeking to amend after the pretrial deadline had already passed;

(i)  the defendant debtors were not entitled to a jury trial on the fair market value of the property in two of the cases; and

(j)  the bank did not violate the Nevada statute requiring notice to beneficiaries of the family trusts that guaranteed the debts.

A copy of the opinion is available at:  Link to Opinion

In 2004 and 2005, three limited liability companies received loans from a bank. The loans were guaranteed by the companies' principals in their capacity as trustees for family trusts. The borrowers failed to repay the loans.

The bank was succeeded by an Alabama bank of the same name, which in turn failed in 2009 and was placed in receivership by the FDIC.

The FDIC sold the failed bank's assets, including the subject loans, to a North Carolina bank. The sale was evidenced by a purchase and assumption agreement, a loss sharing agreement and an assignment.

The acquiring bank entered into negotiations with the borrowers about restructuring the loans and during this process the borrowers signed an acknowledgment providing that such negotiations were without prejudice to the lender's enforcement rights and specifically reserving the bank's right to enforce the loan documents.

In November of 2011, the acquiring bank sued to collect one of the loans, raising claims for breach of the promissory note, guaranty and breach of the covenant of good faith and fair dealing. The parties moved for summary judgment and the district court granted the acquiring bank's motion and entered judgment for 7.1 million dollars against the defendant debtors, from which they appealed.

In February of 2012, the properties securing the other two loans were sold at non-judicial sales and in March of 2012 the acquiring bank filed separate lawsuits against the borrowers and guarantors alleging breach of the promissory note, guaranty and breach of the covenant of good faith and fair dealing. The district courts granted summary judgment in the acquiring bank's favor in both actions, entering judgment for approximately $1.9 million dollars and $630,000 respectively against the defendant debtors, from which they appealed.

On appeal, the debtors argued that the acquiring bank lacked standing to enforce the loans when the complaints were filed. The Ninth Circuit rejected this argument, reasoning first that the purchase and assumption agreement, loss sharing agreement, assignment and deeds of trust securing two to loans sufficiently described and encompassed the subject loans and thus the acquiring bank had the right to enforce them.

Next, the Ninth Circuit rejected the debtors' argument that the acquiring bank was issue-precluded by a 2013 Nevada Supreme Court ruling that held that the same bank could not rely on the purchase and assumption agreement to prove that the loan involved in that case had been assigned.

The Court reasoned that the case cited by debtors did not involve the same loans and the Nevada Supreme Court's decision was not based on lack of standing, but instead on the acquiring bank's failure to "produce schedules to the [purchase and assumption agreement] listing assets excluded from the transfer. There was thus no evidence that the loan at issue there was not excluded from the [agreement] by one of those schedules." In the case at bar, by contrast, the acquiring bank "produced not only the [purchase and assumption agreement], but also the attendant schedules showing the loans at issue were not excluded from the terms of the [agreement]."

The Ninth Circuit then turned to analyze the debtors' argument that the acquiring bank "failed to prove each element of its deficiency action" because it did not prove the amount that it paid for the assignment of the subject loans and a Nevada statute limits the amount of the deficiency to the greater of the amount by which the amount paid for the loan "exceeds the fair market value of the property sold at the time of sale or the amount for which the property was actually sold…."

The Court rejected this argument, agreeing with the acquiring bank that the Nevada statute is unconstitutional and preempted by federal law. The Court relied upon a 2015 Nevada Supreme Court case which held that the statute at issue is preempted by [the Financial Institutions Reform, Recovery, and Enforcement Act of 1989 ("FIRREA") "to the extent that it would limit recovery on loans transferred by the FDIC."  

The Ninth Circuit noted that "[i]t would be more difficult for the FDIC to dispose of the assets of failed banks if the transferee could not turn a profit on those assets." Thus, the Court adopted the Nevada Supreme Court's reasoning and held that the Nevada statute "is preempted by federal law as applied to transferees of the FDIC."

Next, the Court rejected the debtors' argument that the trial court erred in granting summary judgment because the acquiring bank breached the implied covenant of good faith and fair dealing by not honoring its oral promise to give the borrowers time to restructure the loans. It reasoned that the alleged work-out agreement was not an enforceable contract because it lacked consideration and, "[a]bsent a contract, there can be no implied covenant of good faith and fair dealing."

In addition, the Court noted that the loan documents provided that any modification must be in writing, such that the alleged oral modification was unenforceable.  Moreover, the Ninth Circuit noted, during the loan work-out negotiations, the debtors had entered into written agreements acknowledging that the acquiring bank reserved it right to enforce the loans.

The Ninth Circuit also rejected the debtors' argument that the acquiring bank was estopped or, alternatively, waived its right to enforce the loans, reasoning that even though "[e]stoppel can apply to a promise for which there was no consideration paid [and,] [i]n such a case, reliance is a substitute for consideration[,]" the third element of estoppel, "the party asserting estoppel must be ignorant of the true state of facts[,]" was missing.

The Court explained that the debtors at all times knew the loan documents could only be modified in writing and the written acknowledgments reserved the acquiring bank's right to enforce the loans. The waiver argument failed for the same reasons.

The Ninth Circuit next rejected the debtor's argument that laches barred the acquiring bank's right to foreclose on two of the loans because it waited to sue until the market value of the collateral had fallen, reasoning that "[e]specially strong circumstances must exist … to sustain a defense of laches when the statute of limitations has not run." No such circumstances were shown and the two lawsuits at issue were filed within the statute of limitations.

The debtors also argued that the acquiring bank failed to mitigate its damages because it "strung [them] along with promises of a work-out agreement, all the while intending to foreclose on the properties when the market bottomed out." The Court first noted that debtors cited no precedent showing that by doing this the acquiring bank "thereby breached a duty to them." The Court relied upon and found persuasive the Texas Supreme Court's holding in a 1990 case the "held that there is not duty for a secured creditor to time a foreclosure sale so as to minimize a deficiency."

The Ninth Circuit next rejected the debtors' argument that the trial court erred by refusing to allow them to amend their answer to "add four new defenses and a counterclaim based on the alleged work-out agreement" after the pretrial deadline had passed, reasoning that they did not show good cause or excusable neglect as required because "[t]he defenses and counterclaim they sought to add were based on the work-out agreement, which [they] knew about long before the deadline to amend had passed." The Court noted that this showed a lack of diligence, and the debtors could not show excusable neglect because they offered no explanation for the delay in seeking to amend.

In addition, the debtors argued that the trial court erred in two of the cases by deciding to "determine the fair market value of the … properties itself rather than submitting the issue to a jury … [thereby violating] their Seventh Amendment right to a jury trial…."

The Ninth Circuit rejected this argument, reasoning that "[u]nder the Seventh Amendment, the right to a jury trial exists in 'Suits at common law.'" "Nevada law appears to contemplate that fair market value in deficiency actions will be determined by the court, not by a jury. … Thus while the nature of the action may be legal, the nature of the remedy calculated based on fair market value is equitable. As the nature of remedy is the more important consideration under the Seventh Amendment, [the debtors] were not entitled to a jury trial on the fair market value of the property."

Finally, the Court rejected the debtors' argument that the bank violated Nevada's statute requiring that the foreclosing mortgagee give notice to known trust beneficiaries at least 30 days before obtaining a judgment, because the statute expressly provides that the notice may be given within such time as the court may fix, and the trial court "in these cases determined that the notice requirement was met by the service of the complaint and by a letter of August 29, 2013."  Because "[j]udgment in the cases was not entered until approximately two years after this letter, well before the 30-day limit in the statute[,]" the Ninth Circuit held that the acquiring bank did not violate the statute.

Accordingly, the judgments of the trial court in all three actions were affirmed.

Eric Tsai

Maurice Wutscher LLP 
71 Stevenson Street, Suite 400
San Francisco, CA 94105
Direct: (415) 529-7654

Fax: (866) 581-9302

Mobile: (714) 600-6000

Email: etsai@MauriceWutscher.com

Admitted to practice law in California, Nevada and Oregon

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FYI: 9th Cir Holds Creditor in Fraudulent Transfer Action May Recover Amounts Above Collateralized Debt

The U.S. Court of Appeals for the Ninth Circuit recently held that, where husband and wife debtors fraudulently transferred assets, the creditor was entitled to the full sum the creditor would have recovered and was not limited to the amount of the collateralized debt. 

In so ruling, the Ninth Circuit reversed a bankruptcy court and trial court judgment in the creditor's favor that the debt was non-dischargeable due to the debtor's fraud, but improperly limiting the non-dischargeable debt to only the collateralized amount.

A copy of the opinion is available at:  Link to Opinion

A bank (Lending Bank) made a commercial loan to husband and wife borrowers. The husband borrower was the sole member and manager of a cash advance business, which purchased five insurance agencies with the $1.7 million loan from the Lending Bank,

The cash advance business executed a promissory note for the loan and gave the Lending Bank a blanket security interest in all of its assets, including intangibles, and the debtors personally guaranteed the note.  The Lending Bank in turn financed the loan under a credit and security agreement with another bank (Financing Bank) in which the Financing Bank was granted a security interest in the loan to the business.

Ten months later, the Lending Bank defaulted on the security agreement with the Financing Bank and filed for bankruptcy. The Financing Bank and the Lending Bank agreed to transfer the cash advance business's note and the personal guarantee to the Financing Bank.  The cash advance business formally acknowledged the assignment and agreed to pay the balance on the note to the Financing Bank.

Over the next several years the cash advance business repeatedly requested loan modifications and entered into several forbearance agreements with the Financing Bank. The cash advance business also executed an elaborate series of transfers and sales to place their assets beyond their creditors' reach.

The cash advance business transferred $123,200 of assets to a closely-held business of which the husband owned 100% of the shares. The husband and wife created a family trust, of which they were the beneficiaries. The closely-held business then transferred its total assets, valued at $385,000, to another company that the husband purchased from a friend for $200. The trust then purchased that company and the company agreed to pay its $385,000 in assets to the husband. The result left all of the businesses and the trust insolvent.

The cash advance business defaulted on the loan and the debtors defaulted on the guarantee.

The Financing Bank filed a lawsuit against the cash advance business and husband and wife. The husband and wife then filed for bankruptcy. The Financing Bank's lawsuit against the husband and wife was stayed but the lawsuit against the cash advance business proceeded and resulted in a judgment of $1.7million.  The Financing Bank could not collect, however, because the cash advance business was insolvent.

The Financing Bank then filed an adversary action against the husband and wife in bankruptcy court alleging that they had fraudulently transferred assets under the Washington Uniform Fraudulent Transfer Act, Wash. Rev. Code § 19.40.041 ("WUFTA"), and thus the debt was non-dischargeable under 11 U.S.C. §523(a). As you may recall, section 523(a) excepts from discharge debts obtained by actual fraud, which includes fraudulent conveyance. 11 U.S.C. § 523(a)(2)(A).

The bankruptcy court ruled in favor of the Financing Bank on the fraudulent transfer claim but limited the judgment to $123,200, which was the amount that was traceable to the Financing Bank's security interest in the cash advance business's assets.

The Financing Bank appealed and the trial court affirmed on different grounds, explaining that the Financing Bank could not maintain a fraudulent transfer claim on "non-collateral assets" because the Financing Bank could only recover assets that were the property of the debtors, meaning legally titled in the debtors' name.

Thus, the lower court held, the Financing Bank could not recover any assets from the family trust or the closely-held businesses involved in the fraudulent transfers, and, do to so under WUFTA, the Financing Bank would have had to obtain a ruling that those entities were the alter egos of the debtors, which it had failed to do.

The Financing Bank appealed.

On appeal, the Ninth Circuit reversed explaining that the purpose of WUFTA is "to provide relief for creditors whose collection on a debt is frustrated by the actions of a debtor to place the putatively satisfying assets beyond the reach of the creditor," which is also known as fraud.

The Court compared the facts of this case to others around the country under identical or similar fraud laws and concluded that, through the series of transfers, the husband "depleted the value of his assets to the detriment of his creditors" while he continued to receive payments from the trust even after he filed for bankruptcy, thereby preventing the Financing Bank from collecting the debt he owed. Thus, the Ninth Circuit agreed with the bankruptcy court's finding that the debtors had engaged in actual fraud.

The Ninth Circuit reversed on the issue of the amount the Financing Bank could recover because it was only the fraudulent transfers that prevented the Financing Bank from being able to collect.

Based on 11 U.S.C. §523(a)(2)(A), if the husband had not fraudulently transferred the assets from the closely-held company, the Financing Bank would have been able to recover against it because a non-dischargeability claim based on a fraudulent transfer scheme between closely-held companies intended to defeat collection of a debt is actual fraud. 

Thus, the Ninth Circuit held, the amount of the non-dischargeable debt was not merely the $123,200 in assets from the cash advance business, but included the $385,000 in fraudulently transferred assets.

     

Accordingly, the lower court's judgment was reversed and the matter remanded.

Eric Tsai

Maurice Wutscher LLP 
71 Stevenson Street, Suite 400
San Francisco, CA 94105
Direct: (415) 529-7654

Fax: (866) 581-9302

Mobile: (714) 600-6000

Email: etsai@MauriceWutscher.com

Admitted to practice law in California, Nevada and Oregon

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FYI: 9th Cir Holds Federal Foreclosure Bar Preempts Nevada HOA Superpriority Statute

The U.S. Court of Appeals for the Ninth Circuit recently held that the Federal Foreclosure Bar's prohibition on nonconsensual foreclosure of assets of the Federal Housing Finance Agency preempted Nevada's superpriority lien provision, Nev. Rev. Stat. § 116.3116, and invalided a homeowners association foreclosure sale that purported to extinguish Freddie Mac's interest in the property.

A copy of the opinion is available at:  Link to Opinion

In 2013, an investor ("Purchaser") purchased a home at a homeowners association foreclosure sale for $10,500 and recorded a deed in his name.  Purchaser argued that Nevada's superpriority lien provision allowed the association to sell the home to him free and clear of any other liens.  The Federal Home Loan Mortgage Corporation ("Freddie Mac") claimed it had a priority interest in the purchased home. 

As you may recall, Freddie Mac is under Federal Housing Finance Agency ("FHFA") conservatorship, meaning the FHFA temporarily owned and controlled Freddie Mac's assets.  See 12 U.S.C. § 4617(b)(2)(A)(i) (FHFA acquired Freddie Mac's "rights, titles, powers, and privileges … with respect to [its] assets" for the life of the conservatorship). 

The Federal Foreclosure Bar's prohibition on nonconsensual foreclosure protected the FHFA's conservatorship assets.  12 U.S.C. § 4617(j)(3) ("No property of the [FHFA] shall be subject to levy, attachment, garnishment, foreclosure, or sale without the consent of the [FHFA], nor shall any involuntary lien attach to the property of the [FHFA].").

Purchaser sued to quiet title in Nevada state court.  Freddie Mac intervened and counterclaimed for the property's title, removed the case to federal district court, and moved for summary judgment.  The FHFA joined Freddie Mac's counterclaim.  Together the federal entities argued that Purchaser did not acquire "clean title" in the home because the Federal Foreclosure Bar preempted Nevada law, and invalidated any purported extinguishment of Freddie Mac's interest through the association foreclosure sale.  The trial court ruled in favor of the federal entities.

On appeal, Purchaser argued that the Federal Foreclosure Bar did not apply in this case, and even if it did, Freddie Mac lacked an enforceable property interest due to a split of the note and the security instrument. 

First, Purchaser argued that the Federal Foreclosure Bar did not apply to private homeowners association foreclosures generally, because it protected the FHFA's property only from state and local tax liens.

To determine whether the Federal Foreclosure Bar applied to private foreclosures, the Ninth Circuit began by examining the statute's structure and plain language.  The section titled "Property protection" in the Federal Foreclosure Bar did not expressly use the word "taxes."  12 U.S.C. § 4617(j)(3).  The statute did not limit "foreclosure" to a subset of foreclosure types.  Id. 

In the Ninth Circuit's view, a plain reading of the statute revealed that the Federal Foreclosure Bar was not focused on or limited to tax liens, and therefore the Federal Foreclosure Bar should apply to any property for which the FHFA served as conservator and immunized such property from any foreclosure without FHFA consent.  12 U.S.C. § 4617(j)(1), (3).

Purchaser citied F.D.I.C. v. McFarland, 243 F.3d 876 (5th Cir. 2001) as support for his argument that the Federal Foreclosure Bar applied only to tax liens.

In McFarland, the Fifth Circuit interpreted 12 U.S.C. § 1825(b)(2), a provision of the Financial Institutions Reform, Recovery, and Enforcement Act of 1989 ("FIRREA") that governed Federal Deposit Insurance Corporation ("FDIC") receiverships.  The FIRREA provision is worded identically to the Housing and Economic Recovery Act of 2008's ("HERA") Federal Foreclosure Bar except that the word "Corporation" appeared in the former where "Agency" appeared in the latter.  Compare 12 U.S.C. § 1825(b)(2) with 12 U.S.C. § 4617(j)(3). The court in McFarland declined to extend § 1825(b)(2) to private foreclosures. 

The Ninth Circuit, however, distinguished McFarland and reasoned that the statutory framework in that case was different from the framework surrounding the Federal Foreclosure Bar.  Specifically, the Ninth Circuit found that the unlike § 1825, § 4617(j) did not include any language limiting its general applicability provision to taxes alone. 

Therefore, the Ninth Circuit held that the language of Federal Foreclosure Bar cannot be fairly read as limited to tax liens.

Purchaser then argued that that the Federal Foreclosure Bar did not apply in this case because Freddie Mac and the FHFA implicitly consented to the foreclosure when they took no action to stop the sale. 

The Ninth Circuit rejected this argument because the plain language of Federal Foreclosure Bar did not require the Agency to actively resist foreclosure.  See 12 U.S.C. § 4617(j)(3) (flatly providing that "[n]o property of the Agency shall be subject to … foreclosure, or sale without the consent of the Agency").

Thus, the Court concluded that the Federal Foreclosure Bar applied generally to private association foreclosures and specifically to this foreclosure sale.

Next, the Ninth Circuit addressed the issue of whether the Federal Foreclosure Bar preempted Nevada state law, which had triggered multiple lawsuits in Nevada. 

As you may recall, "[t]he Supremacy Clause unambiguously provides that if there is any conflict between federal and state law, federal law shall prevail."  Gonzales v. Rich, 545 U.S. 1, 29 (2005).  Preemption arises when "compliance with both federal and state regulations is a physical impossibility, or … state law stands as an obstacle to the accomplishment and execution of the full purposes and objectives of Congress."  Bank of Am. v. City & Cty. Of S.F., 309 F.3d 551, 558 (9th Cir. 2002).

First, the Ninth Circuit determined that the Federal Foreclosure Bar did not demonstrate clear and manifest intent to preempt Nevada's superpriority lien provision through an express preemption clause.  Nevertheless, the Court found that the Federal Foreclosure Bar implicitly demonstrated a clear intent to preempt Nevada's superiority lien law. 

Nevada law allowed homeowners association foreclosures under the circumstances present in this case to automatically extinguish a mortgagee's property interest without the mortgagee's consent.  See Nev. Rev. Stat. § 116.3116.  Because the Federal Foreclosure Bar prohibited foreclosures on FHFA property without consent, in the Ninth Circuit's view, Nevada's law was an obstacle to Congress's clear and manifest goal of protecting the FHFA's assets in the face of multiple potential threats, including threats arising from state foreclosure law.

Therefore, as the two statues impliedly conflict, the Ninth Circuit held that the Federal Foreclosure Bar preempted the Nevada superpriority lien provision.

In addition, Purchaser argued that even if the Federal Foreclosure Bar applied to this case and was preemptive, Freddie Mac did not hold an enforceable property interest for "splitting" the note from the deed of trust, and failing to present sufficient evidence to establish its interest for purposes of summary judgment.

The Ninth Circuit rejected these arguments because Nevada law recognized that, in an agency relationship, a note holder remained a secured creditor with a property interest in the collateral even if the recorded deed of trust named only the owner's agent.  Although the recorded deed of trust here omitted Freddie Mac's name, Freddie Mac's property interest is valid and enforceable under Nevada law. 

Moreover, Freddie Mac introduced evidence showing that it acquired the loan secured by the subject property in 2007, and that the beneficiary of the deed of trust was Freddie Mac's authorized loan servicer. 

The Appellate Court concluded that the trial court correctly found Freddie Mac's priority property interest enforceable under Nevada law.  Accordingly, the Ninth Circuit affirmed the trial court's summary judgment in favor of Freddie Mac and the FHFA.

Eric Tsai

Maurice Wutscher LLP 
71 Stevenson Street, Suite 400
San Francisco, CA 94105
Direct: (415) 529-7654

Fax: (866) 581-9302

Mobile: (714) 600-6000

Email: etsai@MauriceWutscher.com

Admitted to practice law in California, Nevada and Oregon

ALABAMA   |   CALIFORNIA   |   FLORIDA   |   ILLINOIS   |   INDIANA   |   MARYLAND   |   MASSACHUSETTS   |   NEW JERSEY   |   NEW YORK   |   OHIO   |   PENNSYLVANIA   |   TEXAS   |   WASHINGTON, D.C.