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In California, generally when a real estate buyer defaults on the loan and loses the property to foreclosure, the lender may not pursue a deficiency judgment against the borrower where the foreclosure sale proceeds are not enough to cover the amount of the debt. Lenders may go after loan guarantors for a deficiency judgment, but only if they are true guarantors. Where the borrower and the guarantor are the same, however, the guaranty is considered an unenforceable sham. I like reading about sham guaranty cases, because the courts actually call them a sham, a word not used often enough in judicial opinions. Sacramento real estate attorneys see the argument applied when either the guarantors are trying to squirm out of liability, or where the bank set up the transaction to avoid the antideficiency laws. In a recent decision out of Napa County, it does not appear that the borrowers intended to set-up the lender for a sham, but were able to make the sham argument that they were the sole owners of the borrower LLC, which was merely a shell and they were its alter ego. The court said no, there was adequate separation between the guarantors and the borrower.

attorney sacramento sham loan guaranty.jpgIN CADC/RAD Venture 2011-1 LLC v Richard Bradley et al. Bradley and Yates were owners of No Boundaries LLC, which owed property in Seattle. They were selling that building and wanted to exchange it for 7 acres in Napa. Bradley entered a contract to buy the Napa land, and No Boundaries submitted a loan application. The loan was approved, with Bradley and Yates being required to sign loan guaranties. At the last minute the buyers decided to change the borrower to the newly created Nohea LLC. The bank was willing to allow the change in borrowers because the defendant guarantors had enough money to justify the loan. The $2.1 million loan closed, and Bradley and Yates signed commercial guaranty agreements in which they waived their rights under the California antideficiency laws. Nohea LLC did not provide the bank with any financial information. Of course, the loan went into default, the bank foreclosed, and brought this lawsuit against Bradley and Yates, the guarantors. Bradley and Yates claimed that the guaranties were unenforceable shams.

A threshold issue in sham guaranty cases is whether the guarantor of a loan is also obligated as a borrower. An example is where a partnership was the borrower, and the partners are guarantors. Under partnership law, general partners are already liable for the debts of the partnership, so the guaranty added nothing. Likewise where a corporation is organized solely to take out a loan, and is not capitalized. Thus the corporation was a mere instrumentality used by the defendants, who were in fact the buyers.

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Guarantors of California commercial real estate loans are regularly required to sign waivers of defenses. Guarantors would otherwise have the usual defenses that borrowers have, such as anti-deficiency protection (see at bottom re: the Gradsky Waiver). Civil Code section 2856 specifies what specific defenses may be waived; the waiver often includes language which provides for waiver of all defenses listed in Civil Code section 2856. However, Sacramento real estate attorneys occasionally see situations where the lender engaged in such bad behavior that the waivers come into question. This situation arose in a decision last year from Southern California.

sacramento loan guaranty waiver attorney.jpgIn California Bank & Trust v. DelPonti, Five Corners LLC obtained a loan to develop a 70-unit townhome project. DelPonti was one of the guarantors. After 18 months of work, the bank stopped paying approved payment applications, bringing the project to a halt. The bank entered an agreement with Five Corners in which the bank promised to pay the subcontractors if they discounted their bills, mitigating the guarantors’ damages. Nonetheless, the bank foreclosed on the project. The bank sued Five Corners and the Guarantors for the deficiency. The trial court ruled for the guarantors, finding that the bank was guilty of willful misconduct, and a) the bank breached the loan agreement by refusing to honor the four approved payment applications, and b) the bank led the Guarantors to believe that they would be released from the guaranty if they performed according to the later agreement. The Court of Appeals also ruled for the Guarantors, finding that the waivers they signed did not include equitable defenses for their bad conduct.

The bank argued that the Guarantors waived all their defenses under the guaranty agreement. The Court said, no, not all of them. Section 2856 provides lists of the specific defenses (set out below) to enforcement of the guaranty. However, a guarantor cannot be held liable where a contract is unlawful or contravenes public policy. Here, the Bank was arguing that, before default, the Guarantors waived the bank’s own misconduct. But that was not expressly waived in the Guaranty, nor provided for in the Civil Code. The Court did not interpret Civil Code section 2856 to permit a lender to enforce predefault waivers beyond those specified, where to do so would result in the lender’s unjust enrichment, and allow the lender to profit from its own fraudulent conduct. Thus, these Guarantors waiver was limited to those statutory defenses expressly provided for in the in the agreement. “A waiver of statutory defenses is not deemed to waive all defenses, especially equitable defenses, such as unclean hands, where to enforce the guaranty would allow a lender to profit by its own fraudulent conduct. The doctrine of unclean hands bars a plaintiff from relief when the plaintiff has engaged in misconduct relating directly to the transaction concerning which suit is brought.”

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When there has been a breach of contract or fraud related to a real estate contract, the injured party can either seek damages, or disaffirm the contract, treat it as rescinded (called rescission), and seek damages for the rescission. In the case of rescission, Civil Code Section 1689 permits rescission when the consent to the contract was given by mistake or obtained through fraud or undue influence exercised by the party as to whom he rescinds. The party that was harmed must offer to restore to the other party everything of value they had received under the contract. Sacramento real estate attorneys often see clients in difficult positions regarding returning everything of value – if it was a purchase contract, you have to give the property back though you have already made changes to it and it may now have encumbrances. If it was a loan contract, it is not always easy to give the money back, since it has already been spent. Nonetheless, rescission is a good remedy for undoing the damage done. Such was the case in an unusual situation in San Carlos when buyers bought a house for $2.35 million and spent $300,000 in renovations, but were able to rescind the purchase contract.

sacramento rescission attorney.jpgIn Wong v. Stoler (an UNPUBLISHED opinion), the Wongs bought a hillside home from the Stolers. After they moved in and renovations were underway, they were surprised to discover that they were not hooked up to the City’s public sewer system, but instead to a private system.

The sellers provided the Wongs with a transfer disclosure statement completed in 2002 by the prior owners, an updated 2008 transfer disclosure statement, and a supplemental sellers’ checklist, which represented to the Buyers that the property was connected to the City sewer. They did not tell the Buyers any details about recorded CC&Rs that discussed the private sewer system nor did they disclose the existence of a Homeowners Association.

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A Lis Pendens, or Notice of Pending Action, is a document that is recorded to give constructive record notice of a pending lawsuit. The lawsuit must involve a claim which affects (a) title to, or right to possession of, real property or (b) the use of an easement. (C.C.P. § 405.4) When recorded, the Notice gives notice to subsequent buyers, transferees and encumbrancers that an action is pending which affects the real property. Sacramento real estate attorneys routinely record Lis Pendens and, for the Notice to be effective, also mail a copy of the Notice, by registered or certified mail, return receipt requested, to all known addresses of the parties and to all owners of record of the real property affected by real property claim as shown by the county assessment roll. (Civ. Proc. Code § 405.22).

In a recent case from Riverside County, a claimant who recorded a lis pendens was disappointed that the mailing requirement was serious, and their Notice was ineffective against a party to whom it was not mailed, even though the party knew about the lawsuit.

lis pendens lawyer sacramento.jpgJ.A. Carr v. Ronald A. Rosen involved a vacant lot in Riverside. Carr claimed that he had adversely possessed it. The property was co-owner by Ortiz and Colon, and Colon conveyed her half interest to Lopez. Before Lopez’ deed was recorded, Carr filed a lawsuit, recorded a lis pendens on May 12, but did not mail it to anyone. His attorney filed a declaration stating that Ortiz and Colon had no known address; but the assessor’s role showed a mailing address. Lopez was neither named in the suit, nor mailed a Notice. On October 13 Lopez’ deed was recorded. The court entered judgment for Carr, against Ortiz, Colon.

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In the past, when multiple parties were obligated under the same commercial lease, they were presumed to be jointly liable. They are each responsible for their share of the total. If the other side wanted to enforce the agreement, they had to name all the jointly liable parties in the same lawsuit (the compulsory joinder or all-or-none rule). If you filed suit but couldn’t locate one of the lessees, they were off the hook. But over time the Courts changed the rule by converting “joint” obligations into “joint and several” obligations. These are considered to be a contract that is made both separately with each promisor and jointly with all the promisors. Civil Code section 1659 provides “Where all the parties who unite in a promise receive some benefit from the consideration, whether past or present, their promise is presumed to be joint and several.”

Sacramento commercial lease lawyer.jpgParties who are jointly and severally liable may be sued together in one lawsuit, or names in separate lawsuits, brought at different times. Nothing short of satisfaction of the debt bars any further actions against other parties. But, what happens to the rule of res judicata, or claim preclusion? Judgments are generally conclusive. The doctrine of res judicata precludes parties from relitigating a cause of action that has been finally determined by a court of competent jurisdiction. Any issue necessarily decided in such litigation is conclusively determined as to the parties or their privies if the issue is involved in a subsequent lawsuit on a different cause of action. Sacramento real estate attorneys rarely see issues of claim preclusion raised in commercial lease practice. However, in a recent decision the commercial landlord scored a judgment of over $2 million against one of three co-signors on the lease. The landlord then sued the other two tenants, who argued res judicata – there was already a judgment on the lease, and further action was prohibited. Both the trial court and court of appeals agreed with the tenants forgetting a key element of the res judicata doctrine. It took the Supreme Court to straighten them out.

In DKN Holdings LLC v. Wade Faerber, Caputo, Faerber, and Neal leased from DKN a commercial space in a shopping center to operate a fitness center for ten years. The lease stated that the parties who signed the lease “shall have joint and several responsibility” to comply with the lease terms. Caputo alone sued DKN for fraud, and DKN counter-claimed for rent. DKN did not bring the other tenants into the lawsuit. After trial, all the tenant’s claims were rejected, but the landlord was awarded over $2.8 million.

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An escrow involves the deposit of money, documents, or other things, with a third party to be delivered on occurrence of specified conditions. In a typical transaction, the buyer of real estate deposits the purchase money, and the seller deposits the deed to the property. The instructions provide that the deed is to be recorded on receipt and distribution to the seller of the purchase money. Typically, in Northern California real estate escrows are handled by a “controlled escrow company” referring to any person or company “whose principal business is the handling of escrows of real property transactions” that contemplate the issuance of title insurance, where the escrow holder is controlled by or controls a title insurer or an underwritten title company. (Ins. Code, § 12340.6, subd. (a)). What are most important in an escrow is who makes the deposit, and what their instructions are. In a recent escrow, the parties were sloppy in their $48 million dollar transaction and instructions, which resulted in a $1 million dollar surprise. It always amazes this Sacramento real estate attorney when a little bit of attention during the transaction would have prevented paying a huge amount of attention (read as ‘fees’) in litigation.

sacramento attorney escrow.jpgIn Tribeca Companies, LLC v. First American Title Insurance, Tribeca was an LLC that invested in distressed properties by buying and foreclosing defaulted mortgage loans. Tribeca entered a joint venture with Grishin that was to invest cash for the deals. The joint venture was called Sky Group LLC. Grishin’s member in the JV was his SGSF LLC. Tribeca’s member was Sky Pacific. Sky Pacific was the manager of the LLC. The Joint Venture Agreement provided that, for each deal, SGSF was to deposit $1 million in escrow and review the deal. If it did not like the deal, its money would be refunded. If it approved the investment in writing, the money would become nonrefundable, and SGSF was to deposit the balance of the necessary funds.

Tribeca opened an escrow for the JV with First American. Here’s where it gets sloppy – Grishin individually wired $1 million dollars into the escrow, but the escrow officer mistakenly credited the money to Tribeca. Grishin informed Tribeca by telephone that he approved of the deal. The deal they were working on fell apart, largely because Grishin had only $16 million to invest, but needed $47 million. Tribeca thought yahoo!, $1 million for me. Not so fast. Grishin instructed the escrow officer to return the funds, which they did. Tribeca sued the escrow company.

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The statute of frauds is legislation developed to prevent fraud by requiring a writing for several forms of agreement. The idea is that these transactions are too important to be left to claims of oral agreements. An important topic addressed by the statute of frauds is real estate. Covered are agreements for the sale, gift, financing, leasing for longer than one year, and contracts that cannot be performed within one year. (California Civil Code section 1624). The contract (called the ‘Memorandum”) must identify the subject matter of the contract and the parties; indicate that a contract has been made or offered by the person signing the memorandum; and state the essential terms of the agreement. If it is for the sale of real property, it must name the parties, identify the property, and set forth the price and terms of payment with a reasonable degree of certainty. Sacramento real estate attorneys rarely see real estate contracts that do not satisfy the statute of frauds except in old law books.

But there are different rules when it comes to trusts. Trusts are governed by the Probate Code, and in a recent decision a creditor was disappointed to learn how little it takes to satisfy the statute of frauds.

sacramento attorney Statute of frauds.jpgIn Ukkestad v. RBS Asset Finance, Inc., Larry created a trust, and then died. His creditor wanted to go after some real estate in Vista and Indio that he owned, claiming that it had not been conveyed to the trust.

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A lis pendens is a recorded notice of a lawsuit that concerns title or possession to real property. It is called a “Notice of Pending Action” in the statutes, but Judges and attorneys still like the old term. The purpose is to give notice of the lawsuit – anyone who acquires an interest in the property or a lien against it is later in time and subject to the results of the suit. A fraudulent conveyance is when a debtor transfers property out of their name in order to prevent their creditors from reaching it to satisfy their claim. Sacramento Business and real estate attorneys often see fraudulent conveyance actions to undo a transfer of a debtor’s assets that rendered the debtor insolvent. What happens when the two items coincide? In a recent case a judgment holder claimed that their lien was superior to that of someone who alleged a fraudulent conveyance and recorded a lis pendens, though they did not claim a direct interest in the property. The appellate court surprised them finding that the date of the fraudulent conveyance judgment related back to the recording of the lis pendens.

Sacramento lis pendens attorney.jpgIn Mira Overseas Consulting Ltd. v. Muse Family Enterprises, Ltd., David Smith owned BTM Funding. Smith bought a house in Pacific Palisades for $10 million, but BTM held title so he could hide it from his wife during their divorce. Defendant Muse was an investor in BTM. Smith later deeded the property to himself, then to his new wife, but these were not recorded until BTM had financial problems. Once they were recorded, BTM’s primary asset was gone, and BTM was insolvent.

Muse sued BTM, Smith, and his wife, seeking to void the deeds as a fraudulent conveyance. Muse recorded a Lis Pendens in September 2010. A Judgment was entered and recorded nullifying all the deeds.

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California landowners need to be concerned about public use of their property. A high level of public use may imply an offer of dedication for public use. Unlike a prescriptive easement, public recreational use rights may be created without regard to how much any one individual uses the property, but rather by the extent of use by the more general ‘public.’ However, since 1972, Civil Code section 1009 established that No recreational public use, after March 4, 1972, can establish a permanent public right of use of property by prescription or implied dedication unless the owner makes a specific written, irrevocable offer of dedication, or unless a governmental entity has made visible improvements on the land, or has cleaned and maintained it in such a manner that the owner should know of the public use. California real estate attorneys advise their clients as to how they can prevent rights from being establish by posting the property, resulting in a permissive use. In a recent case a landowner tried to invoke section 1009 to prevent rights being established to cross his property to use other property for recreation. He was disappointed when the court said no, the recreation has to be on your property for the statute to apply.

sacramento public recreation easement attorney.jpgIn Antonio Pulido et al., v. Alfred Robert Pereira, Jr., the Pulidos owned some bare land in Calaveras County. To reach it they took Hogan Dam Road and turned off onto Quartz Hill Drive to access their property. They intended to build a house on their property, but in the meantime were using the property to shoot at targets. In 2007 Pereira put a lock on the gate at the turn off to Quartz Hill Drive. The Pulidos claimed that they had established a prescriptive easement. The court first noted the requirements for a prescriptive easement:

“The party claiming such an easement must show use of the property which has been open, notorious, continuous and adverse for an uninterrupted period of five years.”

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There are numerous anti-deficiency laws concerning California real estate. An Important one, especially with commercial real estate, is CCP section 726(a). It is broadly described as the “one form of action” rule. This broad rule has two components – a) the “one action rule”, a prohibition of multiple lawsuits to collect a debt secured by real estate; and b) the “security first rule,” which requires the creditor to proceed first against all the real property security (exhausting the security) first through judicial foreclosure before enforcing the underlying debt. 726 provides for a lender to file a judicial foreclosure lawsuit which will allow them to recover a deficiency judgment against the borrower. This statute is subject to many Judge-made requirements and sub-rules, and a careful lender or borrower will want to consult a Sacramento real estate attorney. In a decision from Southern California, the lender got a big surprise when they discovered that because of its mistake, it could not obtain a deficiency judgment.

NOTE: A petition for review was granted by the Supreme Court; this case may not be cited.

Sacramento security first attorney.jpgIn First California Bank v. McDonald, the bank made a $1.5 million dollar loan to a husband and wife. The loan was secured by a deed of trust on property in Wasco. As additional security, the wife signed a deed of trust on her separate property located in Shafter. Eventually, Sally wanted to sell the Shafter property. The Bank agreed to the sale with the understanding that the bank would get the proceeds, and the couple would not be released of liability. The husband did not sign the release agreement.

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