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PAYTON WELLS AUTO DEALERSHIPS ARE THE SUBJECT OF A COMMERCIAL FORECLOSURE ACTION

Reports Friday from The Indianapolis Business Journal and Saturday from The Indianapolis Star state that Regions Bank has sued prominent African-American auto dealer Payton Wells in connection with his default on a $3.1 million loan, which evidently is secured by real estate in Marion County and auto dealership property in Indianapolis and Anderson.  National City Bank, another secured lender, also is involved in the case.  In response to the suit, the auto dealerships were closed, although quotes from the dealerships' general manager suggest the closings are temporary.  It will be interesting to see if Wells and his lenders can achieve a workout, or whether the businesses are headed toward bankruptcy or perhaps foreclosure.  I'll continue to follow the story as it's reported in the local media. 

2-1-07 Update:  Here's some additional insight from Star business columnist John Ketzenberger.  As of today at least, the future of the dealerships does not look promising.  But it would not surprise me if Wells and his lenders reach a compromise and refinance the loan (or loans) in order to salvage the dealerships for the foreseeable future.  Quotes in today's column suggest otherwise, however.


YIELD MAINTENANCE FEES, PART I: INDIANA LAW

Depending upon the nature of the deal, a commercial lender’s promissory note may contain a yield maintenance provision (the descendant of a prepayment clause).  The provisions come in all shapes and sizes, and, to my knowledge, there is no universally-followed form.  But they all have one thing in common:  in the event the note is paid before maturity, the borrower must pay fees over and above the standard payoff amount of principal and interest.  The purpose of such provisions, in theory, is to compensate the lender for the interest it would have received had the borrower made all the payments called for under the note.  The question is whether these kinds of contract terms are enforceable in Indiana and, if so, under what circumstances. 

The case law.  Because the Indiana Supreme Court has not ruled on the validity of prepayment premiums or yield maintenance fees, the law in Indiana stems from two Court of Appeals decisions (in 1990 and 1991) and one opinion from the United States Court of Appeals for the Seventh Circuit (in 1984). 

1.  LHD.  The first case, In the Matter of: LHD Realty Corporation, 726 F.2d 327 (7th Cir. 1984), dealt with a promissory note and a mortgage on an office building and parking garage.  The borrower was to repay the note in monthly installments over fifteen years.  The note provided that, if the borrower paid the loan before maturity, then the lender received a prepayment premium.  The borrower subsequently filed for Chapter 11 bankruptcy and stopped making payments.  The lender sought relief from the bankruptcy stay in order to foreclose its lien.  The Court denied the lender relief but instead permitted the borrower to sell the property.  One of the issues in the case was whether the lender could receive a prepayment premium in the payoff from the sale. 

According to the Seventh Circuit, the general rule is that reasonable prepayment premiums are enforceable.  “Prepayment premiums serve a valid purpose in compensating at least in part for the anticipated interest a lender will not receive if a loan is paid off prematurely.  Among other things, a prepayment premium insures the lender against the loss of his bargain if interest rates decline.”  Id. at 330.  One exception (there are a few)  to the rule is that the lender loses its right to a premium when it elects to accelerate the debt.  Here’s the logic – acceleration, by definition, “advances the maturity date of the debt so that payment thereafter is not prepayment but instead a payment made after maturity.”  Id. at 331.  The Seventh Circuit held that the LHD case fell within the acceleration exception.  The lender abandoned (waived) its claim to interest payable over a period of years by requesting relief from the automatic stay in order to proceed with foreclosure.  As such, “it is not appropriate, under these circumstances, for the lender to receive a prepayment premium in lieu of the interest foregone since it has voluntarily waived the unpaid interest in the expectation of accelerated payment of the remaining principal.”  Id.   

Interestingly, the lender argued that recognition of the acceleration exception may cause borrowers to default intentionally and “court” acceleration and foreclosure in order to avoid prepayment liability.  The Seventh Circuit dismissed this, however, as “implausible given the ramifications of default for a borrower’s credit rating and the ability of the lender to sidestep the ploy by suing only for overdue payments as they mature, together with attorney’s fees.”  Id.  [I’m not sure I agree with the Court on this point.  I’ve seen an intentional default, and in the Coca Cola Bottling case discussed below the borrower ostensibly took this approach.]

2.  McCae.  The next in the line of three cases, decided in 1990 by the Indiana Court of Appeals, is McCae Management v. Merchants National Bank, 553 N.E.2d 884 (Ind. Ct. App. 1990).  The case surrounded a loan for the construction and operation of two nursing homes and involved two promissory notes secured by real estate mortgages.  The notes provided that there was no right to prepayment.  On the other hand, the notes did not have yield maintenance provisions.  Id. at 886.  Before maturity, however, the borrower sold the two healthcare facilities and requested payoff amounts from the lender.  The lender demanded a “yield maintenance fee,” though that term appeared nowhere in any of the loan documents.  The borrower paid a reduced yield maintenance fee under protest and then filed suit, arguing that the yield maintenance fee was not warranted since it was not mentioned in the notes of mortgages.  The Indiana Court of Appeals upheld the fee assessment and cited with approval the general rule in LHDId. at 888.  “When [borrower] sought to prepay, it was attempting to vary the terms of the previously existing agreement.  In essence, it was negotiating a new contract which would deprive [lender] of the interest it was to receive as consideration for making the loans [borrower] sought at the time.  Clearly, [lender] was entitled to negotiate for and receive a ‘yield maintenance fee’ in lieu of the interest it would lose by prepayment.”  Id

3.  Coca Cola Bottling.  The last Indiana case on point is Coca Cola Bottling Company v. Citizens Bank, 583 N.E.2d 184 (Ind. Ct. App. 1991).  The very complicated dispute surrounded a loan to Coca Cola Bottling of Portland, Indiana that was secured by the bottling plant property.  The relevant loan agreement prohibited any prepayment before a certain date.  The borrower ultimately stopped its interest payments to the lender in the hope that the lender would accelerate the loan obligation (seemingly as predicted by the lender’s lawyers in LHD).  The pertinent issue in Coca Cola Bottling was whether acceleration was an exclusive remedy.  Without actually using the words “prepayment premium” or “yield maintenance fees,” the lender argued it was entitled to interest as agreed for the full term of the loan documents, even if the lender accelerated, on the theory that the lender should receive the benefit of its bargain.  The Court concluded, however, that once the lender chose to accelerate the maturity date and render the borrower’s debt immediately due and payable, the lender could not pursue any other remedy because other remedies were not available.  “Acceleration, when acted upon, by maturing the debt, precludes any other remedy; the parties are receiving the benefit of  the bargain as contemplated by the specific terms of their agreement by acceleration.”  Id. at 190.  In other words, as a general proposition, lenders can’t recover both default and yield maintenance remedies.

Look for Part II on this subject next week in my blog’s Practical Pointers category.


THE COMMERCIAL LENDER’S 8-ITEM CARE PACKAGE FOR ITS FORECLOSURE ATTORNEY

As a secured lender, once you decide to foreclose on a business borrower’s loan collateral, you must provide certain information and documentation to your lawyer so he or she can file suit.  The more quickly you send this data, and the more thorough the data is, the more efficient your attorney can be in initiating the action. 

Care Package.  I recommend that lenders develop a practice of compiling a “care package” for their lawyers when assigning a non-performing loan for collection.  The package should include:

1.  Loan documents.  Each and every piece of paper documenting the loan needs to be forwarded.  This would include all promissory notes, mortgages, security agreements, amendments, modifications, assignments, etc.  Not only will the law firm need these materials to analyze the case, but Indiana Trial Rule 9.2(A) requires written instruments, upon which a cause of action is based, to be filed as exhibits to the Complaint.

2.  Defaults.  Although most defaults will be for non-payment, there may be other breaches of the loan documents.  All such defaults need to be identified in the Complaint.  To give your attorney a jump start on the default analysis, a listing of any and all contract breaches, with the operative dates and citations to loan document sections, will be useful. 

3.  Debt figures.  Even though the loss amount may change (increase) over time, the standard practice in Indiana is to specify the debt (damages) as of the filing of the Complaint.  These figures will include any losses recoverable under the loan documents, mainly the entire unpaid principal (assuming the debt is being accelerated), accrued interest and late fees.  A brief calculation of the figures should be explained, including relevant dates, interest rates, etc.

4.  Notice letter.  A copy of the notice and cure letter to the borrower should be provided, assuming that the loan documents required one and that you sent one.  Not only will your counsel need to evaluate the notice and cure element of the case, but it’s good practice to attach the letter as an exhibit to the Complaint.

5.  Title/UCC searches.  If you have a prior title insurance policy and/or UCC search, those materials should be sent with the care package.  Lenders could save some expense simply by ordering an update to the title policy from the same company.  Or, a separate title insurance company may provide a new commitment faster and more cheaply based on a prior policy.

6.  Environmental analysis.  If an environmental liability analysis has been performed, the report should be included in what you send to your counsel.

7.  Appraisals.  If the you had any collateral appraised in the weeks leading up to the decision to foreclose, the appraisal reports should be provided.  Knowing the present value of the collateral may be helpful in work-out negotiations or decisions regarding the disposition of the collateral.

8.  Contact information.  Current contact information for the borrower or, if applicable, the borrower’s counsel should be supplied.  It’s also a good idea to provide a copy of all correspondence between the lender and the borrower (or the borrower’s lawyer) related to pre-suit/work-out discussions.  This information will enable your counsel to understand better the nature of the dispute, and to hit the ground running with future communications.   

Efficiency.  Two things are saved when lenders and their counsel are efficient:  time and expense.  If, at the beginning of an assignment, your staff provides outside counsel with the care package I propose, law firms (at least mine) will initiate the foreclosure action quicker and for less money.  Delays and attorney’s fees can be avoided by bypassing the follow-up that usually is required in obtaining data from the lender – things that can be provided at the outset, even before the lender first contacts its attorney.