La Paz Investments v. U.S. Bank CA4/2 (2013) · DecisionDepot
La Paz Investments v. U.S. Bank CA4/2
California Court of Appeal Jul 18, 2013 No. E055080Unpublished
Filed 7/18/13 La Paz Investments v. U.S. Bank CA4/2
NOT TO BE PUBLISHED IN OFFICIAL REPORTS California Rules of Court, rule 8.1115(a), prohibits courts and parties from citing or relying on opinions not certified for publication or ordered published, except as specified by rule 8.1115(b). This opinion has not been certified for publication or ordered published for purposes of rule 8.1115.
IN THE COURT OF APPEAL OF THE STATE OF CALIFORNIA
FOURTH APPELLATE DISTRICT
DIVISION TWO
LA PAZ INVESTMENTS et al.,
Plaintiffs and Respondents, E055080
v. (Super.Ct.No. RIC1113842)
U.S. BANK, N.A., OPINION
Defendant and Appellant.
APPEAL from the Superior Court of Riverside County. Paulette Durand-Barkley,
Temporary Judge. (Pursuant to Cal. Const., art. VI, § 21.) Reversed and remanded with
directions.
Katten Muchin Rosenman, Joshua Wayser and Yonaton Rosenzweig for
Defendant and Appellant.
Spach, Capaldi & Waggaman and Madison S. Spach, Jr., for Plaintiffs and
Respondents.
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I
INTRODUCTION
Defendant and appellant U.S. Bank National Association (U.S. Bank) appeals
from an order granting a preliminary injunction (Code Civ. Proc., § 904.1, subd. (a)(6))
against U.S. Bank’s foreclosure on deeds of trust securing about $40 million in
construction loans made by a predecessor bank, PFF Loan & Trust (PFF), and assumed
by U.S. Bank. Plaintiffs and respondents, La Paz Investments (La Paz) and the Maurer
Development Co. Money Purchase Pension Plan (the Maurer Plan), are junior lienholders
who contend U.S. Bank adversely modified their subordination agreements, causing U.S.
Bank to lose its senior priority.
In an action for declaratory relief, La Paz and the Maurer Plan (collectively
Maurer) seek permanently to enjoin U.S. Bank from foreclosing on real property in
Riverside County and for a declaration that U.S. Bank’s senior deeds of trust on the
properties should not maintain priority over Maurer’s junior deeds. In a separate action,
U.S. Bank seeks to quiet title and declaratory relief.
After a thorough review of the record, we do not find any material modifications
to the subordination agreements which increased the risk of default by Osborne
Development Corporation (Osborne), the obligor under U.S. Bank’s construction loans.
Based on the record before us, U.S. Bank is entitled to maintain its senior priority over
any subordinated junior lienors. Because respondents have not established the likelihood
of success in prevailing in the underlying proceedings, the trial court abused its discretion
in granting the motion for preliminary injunction. We reverse and remand.
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II
FACTUAL AND PROCEDURAL BACKGROUND
The facts, as alleged in the complaint and set forth in the declarations concerning
the preliminary injunction, are essentially undisputed, except as noted, in the following
summary.
A. 2000 Sale from La Paz to Osborne
In 2000, La Paz sold undeveloped property in Hemet to Osborne Development
Corporation (Osborne). The purchase price included $1.6 million in cash, a note for
another $1.6 million, and a profit participation agreement for 35 percent of the total net
profits in a subsequent sale. As part of the transaction, Osborne and the Maurer Plan
entered into a second profit participation agreement for 15 percent of the total net profits.
B. 2005 Sale from Osborne to Winchester
In 2005, Osborne transferred the property to Osborne Development-Winchester
Ranch, L.P. (Winchester). Winchester assumed all Osborne’s obligations to La Paz and
gave La Paz a note and deed of trust for $7.262 million (the La Paz Note) as a substitute
for the remaining purchase price on the Hemet property. Additionally, Winchester gave
the Maurer Plan a note and deed of trust for $3,112,286 (the Plan Note) as a substitute for
the profit participation agreement.
C. 2006 Sale for Winchester to Osborne
In January 2006, Osborne purchased the Hemet property and assumed the La Paz
note and the Plan Note. The La Paz note and the Plan Note were amended four times.
As of January 1, 2011, the combined amount owing from Osborne to Maurer under the
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La Paz note and the Plan note was nearly $9 million, with interest continuing to accrue
from that date.
D. The Construction Loans
In February 2006, to facilitate residential development of the Hemet property,
Osborne executed a note and deed of trust for a construction loan from PFF in the amount
of $29.422 million. The Maurer Plan and La Paz executed subordination agreements,
making their liens junior in interest to the construction loan from PFF. A second
construction loan in the amount of $10,589,400, and related subordination agreements,
were executed and recorded in June and July 2007.1
The notes and deeds of trust held by PFF contained provisions for payment to PFF
of the loan principal and interest of 8.5 percent and 9.25 percent, expenditure
advancements or protective advancements, and cross-defaults of any other agreements
between Osborne and PFF. The term “indebtedness,” as used to describe the construction
loans, was defined to include “all renewals of, extensions of, modifications of,
consolidations of, and substitutions” for the subject notes and trust deeds and related
documents.
The express language of the subordination agreements executed by Maurer was as
follows: “. . . in order to induce Lender [PFF] to make the loan above referred to [the
construction loans], it is hereby declared, understood, and agreed as follows:
1 Another construction loan in the amount of $11.488 million, and related subordination agreements, were executed and recorded in November 2006. This loan has been repaid.
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“(1) That said deed of trust securing said note in favor of Lender [PFF], and any
renewals or extensions thereof, shall unconditionally be and remain at all times a lien or
charge on the property . . . prior and superior to [Maurer’s] lien or charge.” Additionally,
“Beneficiary [Maurer] declares, agrees, and acknowledges that [¶] (a) He consents to and
approves (i) all provisions of the note and deed of trust in favor of Lender [PFF] . . . .”
Thus, according to U.S. Bank and disputed by Maurer, the subordination
agreements provided that Maurer consented to all provisions in PFF’s deeds of trust and
the underlying notes, including the rights (1) to assert “cross-defaults” such that a breach
by Osborne of any of its obligations to PFF could result in the declaration of a default
under the PFF deeds; (2) to recover from Osborne the loan principal plus interest at a
minimum of 8 percent per year or more based on the prime rate; and (3) to make
expenditure advancements to protect the properties, which could be added to the
indebtedness. Maurer further agreed that Osborne’s failure to perform could justify
foreclosure either under existing or later deeds securing the indebtedness.
E. Modifications by U.S. Bank and Nonjudicial Foreclosure
Osborne eventually defaulted on its monthly loan payments. In November 2008,
PFF became defunct and U.S. Bank became its successor in interest on the construction
loans.
In March 2009, in lieu of foreclosure, U.S. Bank and Osborne agreed to
forbearance agreements with various modifications of the construction loans, including
extending the loans’ maturity dates, suspending monthly payments of principal and
interest until maturity, lowering interest rates, and waiving accrued interest and late fees
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if the principal was timely paid. Additionally, Osborne (1) agreed that five other loans
could cross-default with the loans at issue; (2) provided additional collateral to protect
U.S. Bank in the event of default; and (3) agreed that the deferred lower interest would be
due at maturity at the lower interest rate unless the principal was repaid. Osborne
reiterated U.S. Bank’s right to make protective advances. According to Osborne, Maurer
was informed about the modifications and did not object to them. Maurer disputes this
point.2
In January 2010, U.S. Bank agreed to another one-year extension. As of January
1, 2011, Osborne had failed to repay under the forbearance agreements and related
extensions. U.S. Bank declared a default, based on the failure to repay the construction
loans, not on any other default. U.S. Bank began nonjudicial foreclosure proceedings in
March 2011. Maurer’s legal counsel wrote U.S. Bank objecting to the foreclosure
proceedings. Maurer contends the value of the property is less than the amount owed to
U.S. Bank and a foreclosure by U.S. Bank will wipe out Maurer’s interest.
The parties filed their separate complaints in August 2011. Maurer alleges the
modifications of the construction loans increased the risk of Osborne’s default, causing
U.S. Bank to lose its senior position. U.S. Bank asserts its priority interest is unaffected
by the modifications.
2 The supporting supplemental declaration of Robert Maurer does not appear in the record.
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F. Preliminary Injunction
On September 20, 2011, Maurer filed a motion for a preliminary injunction.
Maurer claimed the cross-default provisions of the forbearance agreements made
Osborne’s “likelihood of default more probable.” In particular, Maurer complained that
Osborne’s various obligations to PFF were cross-defaulted with one another and that the
obligations of borrowers other than Osborne were also cross-defaulted with the loans
secured by the PFF trust deeds. Maurer next asserted that it was harmed by adding
collateral to secure the bank’s under-secured debt and that Maurer suffered impairment
from deferring interest payments to the end of the extended maturity and by an increase
in the principal balances of the indebtedness.
In its opposition, U.S. Bank argued none of the modifications increased the risk of
Osborne’s default because the risks were consented to in the original PFF deeds. U.S.
Bank also argued that full loss of priority is a limited remedy which is unjustified in this
case.
On October 13, 2011, the court filed its one-sentence written ruling: “Upon
review of the [subordination] agreement, and the timeline of events (based on Plaintiff’s
argument that U.S. Bank took actions that adversely affected Plaintiff’s position and
value of security), the Court finds a basis for the preliminary injunction request.”
III
DISCUSSION
The parties ask this court to decide whether the forbearance agreements and
modifications between PFF and Osborne materially increased the risk of default by
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Osborne and whether the trial court abused its discretion by issuing a preliminary
injunction against foreclosure. (Gluskin v. Atlantic Savings & Loan
Assn. (1973) 32 Cal.App.3d 307 (Gluskin).) If the loan modifications increased the risk
of default, an alternative question is whether the trial court abused its discretion by
enjoining foreclosure instead of limiting its injunction to foreclosure based upon the
modifications. (Lennar Northeast Partners v. Buice (1996) 49 Cal.App.4th 1576.)
Gluskin held that modifications of senior liens can result in priority loss if they
materially affect the junior’s rights and materially increase the risk of default. (Gluskin,
supra, 32 Cal.App.3d at p. 314.) U.S. Bank asserts a loan modification cannot present an
increased risk of default when it is based on conditions that existed before modification.
U.S. Bank contends that, under the subordination agreements, Maurer consented and
agreed to the terms in PFF’s loans, allowing the lender to declare cross-defaults, to make
protective advances and add them to the indebtedness, and to earn interest. Having
agreed in advance to these rights, Maurer cannot now claim it was impaired by
modifications asserting these rights. In opposition, Maurer strenuously objects to U.S.
Bank’s characterization of the risks posed by the modifications.
A. Standards of Review
In reviewing the trial court’s ruling granting a motion for preliminary injunction
for abuse of discretion, we consider the likelihood of success by the party seeking the
injunction and balance the relative interim harm to the parties. (Butt v. State of
California (1992) 4 Cal.4th 668, 677-678; People ex rel. Gallon v. Acuna (1997) 14
1487, 1493.) Factual determinations supported by substantial evidence are resolved in
favor of the trial court’s ruling but an abuse of discretion occurs when, as a matter of law,
the trial court’s ruling contravenes the uncontradicted evidence. (Smith v. Adventist
Health System/West (2010) 182 Cal.App.4th 729, 739; Pro-Family Advocates v. Gomez
(1996) 46 Cal.App.4th 1674, 1680; People v. Mobile Magic Sales, Inc. (1979) 96
Cal.App.3d 1, 8.)
In considering the issue of likelihood of success by Maurer, we must analyze the
impact of the modifications of the construction loans on the subordination agreements.
Whether a modification has a material adverse effect on a junior lienor is usually a
question of fact. (Gluskin, supra, 32 Cal.App.3d at p. 315.) When reasonable minds
cannot differ, the conclusion that the modification resulted in a material adverse effect
can be decided as a matter of law. (Lennar Northeast Partners v. Buice, supra, 49
Cal.App.4th at pp. 1586-1588.)
There is no contradictory evidence about the objective facts that the various parties
executed the subject construction loans and the subordination agreements in 2006 and the
forbearance agreements in 2009. It is not disputed that Osborne’s default was not caused
by the 2009 modifications but, rather, by the economic conditions afflicting the United
States between the end of 2008 and the present time. The parties disagree, however,
about whether the 2009 modifications of the construction loans increased the risk of
default by Osborne. In other words, Maurer contends that a hypothetical risk caused by
the 2009 loan modifications caused U.S. Bank to lose its priority position. The only
evidence offered by Maurer was a declaration in which Robert Maurer stated: “I believe
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such modifications materially increased the risk that [Osborne] would default on its
obligations under the PFF Trust Deeds and jeopardized the security represented by the La
Paz and the Plan Trust Deeds.” In the absence of any other evidence in the record of a
material risk caused by modification, we conduct an independent legal review of the
issue.
B. Modifications of the Construction Loans
If modifications in the senior lien have a material adverse effect on the junior lien
either by increasing the risk of default or making protection of the junior lienor’s position
potentially more burdensome, then the senior lien may lose priority to the junior lien.
(Lennar Northeast Partners v. Buice, supra, 49 Cal.App.4th at pp. 1586-1587; Gluskin,
supra, 32 Cal.App.3d at p. 315.) Where a seller’s lien is subordinated to a construction
loan, the law generally protects the subordinating seller and a breach of the terms of the
subordination, including a modification of terms of the senior loan that materially
increases the risk of default and makes it more expensive or urgent for the junior lien to
protect its position, can result in a complete loss of priority by the senior lien. (Gluskin,
at pp. 316-318.) The construction lender has a particular duty not to “make a material
modification in the loan to which the seller has subordinated, without the knowledge and
consent of the seller to that modification, if the modification materially affects the seller’s
rights.” (Id. at p. 314.) However, under some circumstances a material modification of a
senior lien may not result in loss of priority absent a “special relationship” or contractual
subordination. (Friery v. Sutter Buttes Sav. Bank (1998) 61 Cal.App.4th 869, 877-879.)
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The kind of modifications deemed material are like those discussed in Gluskin and
Lennar. In Gluskin, the modifications were “substantial and drastic.” (Gluskin, supra, 32
Cal.App.3d at p. 312.) The bank in Gluskin changed the basic financial structure of the
original agreement, causing a default because it accelerated maturity from 30 years to 10
months, doubled the interest rate, and halted the flow of construction funds. As Lennar
recognized: “The effect of these modifications . . . was to allow the construction lender
‘to escape its obligation to disburse construction funds. . . .’ The very short term with a
large balloon payment clearly enhanced the likelihood of default. . . . [And] the default
occurred before construction had enhanced the value of the property, . . .” (Lennar
Northeast Partners v. Buice, supra, 49 Cal.App.4th at p. 1589.) In Lennar, the lender
and borrower increased the interest rate and principal beyond the originally approved
levels. (Id. at pp. 1583-1584.)
By contrast in this case, U.S. Bank here funded the entire loan promised; the
modifications extended maturity by two and a half years and decreased the interest rate
by half. As we discuss below, the five modifications identified by Maurer do not qualify
as increasing Osborne’s risk of default.
1. Modification to Allow Default Based on Five Other Deeds of Trust
According to Maurer, the first material modification which increased the risk of
Osborne’s default under the PFF construction loans was the addition of five “Other
Deeds of Trust” as an amendment to the original provisions for cross-default and cross-
collateralization. The five other trust deeds were held by four trustors who are affiliated
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with Osborne.3 The risk of the “Other Deeds of Trust” modification, as described by
Maurer, was that “if the obligations . . . under any of the five foregoing deeds of trust
went into default, the Bank was entitled to declare a default under the PFF Loans and
foreclose on the Hemet property even if [Osborne] was faithfully performing all of its
obligations under the notes secured by the PFF Trust Deeds. The conclusion that such
an expansion of the circumstances under which the Bank was entitled to foreclose is a
material modification of the PFF Trust Deeds is not subject to serious dispute.”
We disagree with Maurer’s position for two reasons. First, Osborne was not
faithfully performing its obligations and there is no evidence whatsoever that the “Other
Deeds of Trust” modification had any bearing on the risk of Osborne defaulting on the
construction loans from PFF. Osborne’s default was not related to the five other deeds of
trust.
Secondly, as U.S. Bank explains, it is Osborne–not the four affiliated trustors–who
is the obligor on the five other deeds of trust. Contrary to Maurer’s assertion, the PFF
trust deeds were not amended to permit U.S. Bank to foreclose if the four affiliated
trustors defaulted on their obligations to U.S. Bank. Instead, the PFF trust deeds in their
original form permitted U.S. Bank to foreclose if Osborne defaulted on its other
obligations to PFF. If Osborne, not the four trustors, had defaulted under the other deeds
of trust, then U.S. Bank could reasonably have declared a default by Osborne on the
3 The Robert E. Osborne and Patricia A. Osborne Trust 2/3/04; REO Investments, LLC; Osborne Development-Calimesa Ranch LP; and Robert E. Osborne and Patricia A. Osborne.
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construction loans. The modification did not increase the risk of Osborne’s default on the
construction loans held by U.S. Bank.
2. Modification to Allow Default If Osborne Defaulted on Its Obligations to Third Party
Creditors
Maurer next contends the risk of Osborne’s default was increased because of a
change in the treatment of defaults involving third parties. Maurer contends that,
although Osborne’s default to third parties had to be material under the original
construction loans, the modification agreements permitted any default to third parties,
even one that was not material, to be treated as a default under the construction loans. As
framed by Maurer, “[f]ollowing modification . . . [Osborne] was in default on the PFF
Loans immediately upon [Osborne’s] default on a third-party obligation, irrespective of
whether there was any effect whatsoever on the Bank’s position. The . . . Modification
Agreements undeniably effected a material change to the PFF Trust Deeds.”
Again, we note the subject modification had no bearing on the actual reason
Osborne defaulted on the construction loans. U.S. Bank also argues this is a new
argument that was not made in the lower court. Nevertheless, in the interests of judicial
efficiency, we will address this and Osborne’s other “new” arguments to the extent they
are based on legal issues that may be fairly said to have been encompassed by the
arguments below.
On the merits, we conclude the subject modification for third-party defaults caused
no increase in the risk of Osborne’s default to U.S. Bank. Under California law, a
lender’s right to declare a default is always subject to a requirement of materiality.
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(Tucker v. Lassen Savings and Loan Assn. (1974) 12 Cal.3d 629, 639; Superior Motels,
Inc. v. Rinn Motor Hotels, Inc. (1987) 195 Cal.App.3d 1032, 1051-1052.) Nothing about
the modification allowed Osborne’s nonmaterial default to third parties to be treated as a
material default under the construction loans. If Osborne had defaulted under the
forbearance agreement, U.S. Bank could still have exercised its rights under the original
PFF trust deeds. The subject modification, however, did not increase the risk of
Osborne’s default.
3. Modification of Notice of Default
In another new argument, Maurer contends the forbearance agreements eliminated
the grace period and notice of default requirements–especially for lines of credit–to
which Osborne was entitled under the original PFF trust deeds, thus increasing the risk of
Osborne’s default to U.S. Bank. We disregard this argument as it pertains to lines of
credit because it was not raised below. Nor was U.S. Bank’s failure to give notice about
default in lines of credit the reason for Osborne’s default.
Furthermore, this argument is unsupported by the record because the forbearance
agreements require the same notice as required under the PFF trust deeds and the deeds
require notice be given allowing 15 days or more to cure a default. Maurer does not
assert there was any lack of notice. The subject modification cannot be said to have
increased the risk of Osborne’s default to U.S. Bank.
4. Modification Regarding Protective Advances
At the time of modification in March 2009, U.S. Bank had made protective
advances of about $522,000, which were added to the principal balance. Maurer argues
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there is no evidence that this was a permissible advance under the original PFF trust
deeds, again an argument not made below, limiting our review to the legal issue.
The right to make such advances is included in the PFF trust deeds and is
recognized by California law. (Manning v. Queen (1968) 263 Cal.App.2d 672, 674.)
Maurer agreed to protective advances in the subordination agreements. The protective
advances were not related to the foreclosure and did not materially increase the risk of
Osborne’s default beyond the risk already anticipated in the PFF trust deeds and the
subordination agreements.
5. Modification Regarding Interest
Finally, Maurer claims that U.S. Bank and Osborne increased the risk of
Osborne’s default by suspending Osborne’s obligation to pay any interest until the
extended maturity date and by lowering the interest rate from a floor of 8 percent to about
4 percent. The obligation to pay monthly interest was also waived if the principal was
paid on time.
A senior lender is not liable for modifying its loan unless the modification
increased the risk of default and impaired the value of the junior lien. An extension of
time to repay a debt does not increase the risk of default, even though interest accrues in
the meantime. Such a modification does not adversely affect the junior lienholders rights
or the value of their security. (Swiss Property Management Co. v. Southern Cal. IBEW-
NECA Pension Plan (1997) 60 Cal.App.4th 839, 843.) The courts do not want to punish
lenders for trying to help a borrower escape default. Accordingly, the deferral of interest
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payments until maturity cannot be considered to cause an increased material risk of
default.
IV
DISPOSITION
The uncontroverted evidence shows that the five modifications of the construction
loans did not materially increase the risk of Osborne’s default. Because Maurer did not
establish a likelihood of success in the underlying action, the issuance of the preliminary
injunction was an abuse of discretion. In light of our conclusion there were no material
modifications, we do not need to engage in balancing of interim harm or address the issue
of an alternative remedy.
We reverse the order granting the motion for preliminary injunction and remand to
the trial court with directions to enter an order denying the motion. In the interests of
justice, we order the parties to bear their own costs on appeal.
NOT TO BE PUBLISHED IN OFFICIAL REPORTS
CODRINGTON J.
We concur:
McKINSTER Acting P. J.
KING J.
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AI Brief
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Holding. The court held that the trial court abused its discretion in granting a preliminary injunction because the loan modifications did not materially increase the risk of default, and therefore the respondents failed to establish a likelihood of success on the merits.
Issues
Whether the forbearance agreements and loan modifications between the senior lender and the obligor materially increased the risk of default by the obligor.
Whether the trial court abused its discretion by issuing a preliminary injunction against foreclosure based on the alleged modifications.
Disposition. Reversed and remanded
Quotations verified verbatim against the opinion
“After a thorough review of the record, we do not find any material modifications to the subordination agreements which increased the risk of default by Osborne”
“Because respondents have not established the likelihood of success in prevailing in the underlying proceedings, the trial court abused its discretion in granting the motion for preliminary injunction.”
“The uncontroverted evidence shows that the five modifications of the construction loans did not materially increase the risk of Osborne’s default.”