Borrowers Sue Lender Over Alleged Wrongs From Loan Modification Agreement

Stender v. BAC Home Loans, 2013 U.S. Dist. LEXIS 30353 (N.D. Ind. 2013) (.pdf) provides a nice summary of how an Indiana federal court dealt with a lender’s efforts to promptly dismiss an assortment of causes of action brought by borrowers in connection with an alleged loan modification agreement. 

Specifics.  The plaintiff borrowers were mortgagors on two separate properties, and the defendant lender was an assignee of the loans.  The plaintiffs had defaulted on the mortgages but claimed that the defendant had agreed to a loan modification agreement.  The gravamen of the plaintiffs’ complaint was that the defendant refused to honor the modification agreement.  The plaintiffs sought damages for breach of contract, negligence, intentional infliction of emotional distress. 

Procedural maneuver.  The procedural context in Stender was important.  The defendant answered the complaint but promptly filed a motion for judgment on the pleadings under Fed. R. Civ. P. 12(c).  A motion for judgment on the pleadings essentially is an effort to get the court to dismiss the case at the outset.  A motion for judgment on the pleadings should not be confused with a motion for summary judgment, which as explained here deals with evidence, as opposed to mere allegations.  In Stender, the defendant moving party relied solely upon the allegations outlined in the complaint and any exhibits attached thereto.  Prevailing on such a motion normally is quite difficult because courts accept the factual allegations as true and look for “facial plausibility” of an alleged claim.  On summary judgment or, certainly, a trial, courts dig much deeper into actual evidence (testimony and exhibits).  In short, prevailing on Rule 12 motions is rare.   

Breach of contract, statute of frauds.  The defendant first asserted that the breach of contract count should be dismissed based upon Indiana’s statute of frauds, a subject I have discussed here previously.  The statute of frauds basically provides that the party against whom the action is brought (the defendant) must sign the alleged agreement that has been breached.  See, Ind. Code §  32-21-1-1(b).  In Stender, the defendant did not sign the loan modification agreement but did sign a cover letter, which plaintiffs contended satisfied the signature requirement.  The question was whether “the signature requirement of the statute of frauds must be satisfied with a pen-and-ink signature at the end of a contract.”  If so, then defendant would be correct that the lack of such signature on the loan modification documents was fatal to plaintiffs’ contract claim.  “But if the signature requirement can be satisfied in other ways, then the defendant’s argument fails.”  The Court denied the defendant’s motion because the defendant failed to demonstrate that the signature requirement had not been satisfied.  In other words, the Court wanted to see the evidence pertaining to the defense. 

Negligence, economic loss doctrine.  The defense associated with the negligence claim surrounded Indiana’s economic loss doctrine, which precludes liability based on certain theories, such as negligence, that seek purely economic loss (any pecuniary loss unaccompanied by any property damage or personal injury).  The Court granted the defendant’s motion and rejected the plaintiff’s argument that intangible alleged harms, such as injuries to credit scores and reputations, could be remedied with a claim for negligence.  The plaintiffs’ claims were purely economic in nature and, as such, Indiana law barred them. 

Intentional infliction of emotional distress.  The Court also dismissed the plaintiffs’ distress claims for similar reasons, namely that Indiana courts generally do not permit such claims based upon contractual or economic harm.  Although the plaintiffs’ allegations that the defendant lured them into signing loan modification agreement suggested that perhaps defendant was dishonest or acted with selfish economic motivation, “plaintiffs’ allegations do not permit any plausible inference that defendant’s intention was to harm plaintiffs emotionally.” 

In the end, the Court negated plaintiffs’ common law tort claims for negligence and emotional distress, which really have no place in a contract action such as Stender.  As to the statute of frauds defense to the breach of contract claim, however, the Court felt it was premature to rule.

Alleged Oral Release Of Mortgage Rejected

In Yoost v. Zalcberg, 2010 Ind. App. LEXIS 632 (Ind. Ct. App. 2010) (.pdf) , the Indiana Court of Appeals addressed the issue of whether an alleged oral release of a mortgage was enforceable.  At issue was Indiana’s Statute of Frauds, a subject I covered on April 16, 2010.  There are a handful of exceptions to the Statute of Frauds, and the Court in Yoost discussed one of them – the doctrine of promissory estoppel.  As explained, oral releases from loan documents are very difficult to uphold.   

Backdrop.  In Yoost, the defendant (Yoost) was the plaintiff’s (Zalcberg’s) paid personal assistant.  Zalcberg agreed to lend money to Yoost to buy a house, and the parties executed a note and a mortgage.  Yoost defaulted but claimed Zalcberg had orally agreed to release Yoost from the mortgage.  Yoost continued to work for Zalcberg for another year in reliance on the alleged oral release. 

Statute of Frauds.  The first step in the Court’s analysis was to examine Indiana’s Statute of Frauds, specifically Ind. Code § 32-21-1-1(b):

A person may not bring any of the following actions unless the promise, contract, or agreement on which the action is based, or a memorandum or note describing the promises, contract, or agreement on which the action is based, is in writing and signed by the party against whom the action is brought or by the party’s authorized agent:

(4)  An action involving any contract for the sale of land.

Promissory estoppel exception.  Yoost conceded that the alleged promise (release) was in contravention of the Statute of Frauds.  The question was whether the doctrine of promissory estoppel removed the alleged release from the writing requirement.  A party seeking to preclude application of the Statute of Frauds based on this doctrine must establish:

1. a promise by the promisor;
2. made with the expectation that the promisee will rely on the promise;
3. that induces reasonable reliance by the promisee;
4. of a definite and substantial nature; and
5. that injustice can be avoided only by enforcement of the promise.

Yoost cited to an Indiana Supreme Court opinion expanding on this concept:

in order to establish an estoppel to remove the case from the operation of the Statute of Frauds, the party must show that the other party’s refusal to carry out the terms of the agreement has resulted not merely in a denial of the rights which the agreement was intended to confer, but the infliction of an unjust and unconscionable injury and loss.

Thus, to prevail on a claim of promissory estoppel, a party must establish that there is a genuine issue of material fact that his reliance injury is not only (1) independent from the benefit of the bargain and the resulting incidental expenses and inconvenience, but also (2) so substantial as to constitute an unjust and unconscionable injury.

No independent reliance injury.  Yoost asserted that he suffered the required “independent reliance injury” by continuing to work for over a year at an extremely low rate of pay in reliance on the alleged oral release of mortgage.  But the Court found “nothing about [Zalcberg’s] alleged oral promise substantially changed either party’s behavior.”  The Court saw no inconvenience to Yoost, much less any unjust and unconscionable injury. 

Borrowers in Indiana will have a difficult time overcoming the Statute of Frauds, as well as the Lender Liability Act about which I posted on October 29, 2010, December 31, 2008, and July 11, 2008Yoost is more good precedent for creditors.  Courts generally focus on the written terms of the agreement and do not unravel loan documents absent written, signed representations to the contrary. 

Indiana’s Lender Liability Act Once Again Protects Bank From Borrower’s Claims

Indiana’s Lender Liability Act (Ind. Code § 26-2-9) saved another secured lender from litigation-related delays and costs.  Indiana Bank and Trust v. Hirsch, 2010 U.S.Dist. LEXIS 18505 (S.D. Ind. 2010) (.pdf) falls in line with my December 31, 2008 post regarding the Classic Cheesecake Company case.  When borrowers try to insert oral terms into written loan agreements, the Act is the lender’s first line of defense.

The problem.  The issue for the lender in Hirsch surrounded an alleged conversation that occurred between the borrower and the lender’s loan officer at the time of the origination of the subject loan.  The two individuals discussed the prospect of later converting the short-term line of credit into a conventional long-term mortgage loan.  The borrower subsequently defaulted on the loan by failing to pay off the line of credit by the maturity date.  In his defense, the borrower asserted that he entered into the loan based upon the loan officer’s promise that the short-term line of credit would later be converted into a long-term loan. 

Procedural posture.  The litigation started with the lender filing a mortgage foreclosure action against the borrower.  The borrower filed counterclaims for breach of contract, fraud and promissory estoppel – all based upon the allegation of an “oral agreement between [borrower] and [loan officer] that [lender] would, at some later time, convert the original line of credit into a long-term mortgage.”  The lender filed a motion to dismiss the counterclaims, together with its own motion for summary judgment.  Judge Barker of the Southern District of Indiana granted all of the lender’s motions. 

Missing link.  The borrower’s counterclaims all centered on the theory that a contract or commitment for long-term financing existed – in essence, that the loan should not have matured.  Significantly, however, there was no writing to support the borrower’s case.  The Court cited to I.C. § 26-2-9-1 and 5 and concluded that “even assuming all of the allegations in the counterclaim to be true, the contract alleged by the [borrower] never actually existed because it failed to meet the requirements of [the Indiana Lender Liability Act].”  The absence of a written, signed agreement was fatal to the borrower’s breach of contract counterclaim.  For similar reasons, the Court granted the lender’s motion to dismiss the borrower’s fraud and promissory estoppel claims.

Secured lenders in Indiana mortgage foreclosure cases, when faced with allegations of alleged oral promises that vary written loan agreements, need to remember that I.C. § 29-2-9 generally requires credit agreements to be in writing and signed.  Hirsch is a favorable decision for lenders, particularly because the Court entered an early dismissal of the borrower’s counterclaims that prevented litigation-related holdups and additional expense. 

Unsigned Cross-Collateralization Agreement Unenforceable In Recent Case

This will supplement my April 5, 2010 post regarding Wells Fargo v. Midland.  If you’re a secured lender struggling with cross-defaulted and cross-collateralized loans, hopefully you have fully-signed agreements clearly capturing the intent of the deal.  Wells Fargo shows what might happen if you don’t. 

Cross-collateralization problems.  One of the two loans at issue in Wells Fargo was not in default.  The borrower thus fought the foreclosure action related to the loan that was current.  The question became whether a non-executed draft of a cross-guaranty, which contained cross-default and cross-collateralization provisions, should have been incorporated into the executed loan documents memorializing two loans.  The subject borrower never executed the cross-guaranty.  Despite that fact, the lender sought to establish that an executed mortgage incorporated the cross-guaranty so as to permit the lender to enforce defaults on both loans.   

Statute of Frauds.  If you have ever heard the term “Statute of Frauds” and wondered what it meant in the foreclosure context, Wells Fargo provides guidance.  The applicable statute in this case is I.C. § 32-21-1-1(b).  Generally, contracts subject to this statute “must be in writing and signed by the party against whom enforcement is sought.”  In Wells Fargo, the cross-guaranty in question was subject to the Statute of Frauds because it was “a promise to answer for the debt of another.” 

Exception to statute?  In Indiana, there are limited circumstances in which an unsigned document can satisfy the Statute of Frauds.  A memorandum satisfying the statute may consist of several writings even though only one writing is signed.  The test is:

The signed instrument must so clearly and definitely refer to the unsigned one that by force of the reference the unsigned one becomes a part of the signed instrument.

Thus the question in Wells Fargo was whether the signed mortgage “so clearly and definitely [referred] to the unsigned cross-guaranty that by force of that reference, the cross-guaranty became a part of the mortgage.”  The Court examined the loan documents and ultimately concluded that they did not satisfy the test. 

Lender Liability Act.  The lender in Wells Fargo got creative with a second theory around the Statute of Frauds that focused on Indiana’s Lender Liability Act, about which I wrote on July 11, 2008.  The lender argued that the conclusion not to enforce the cross-guaranty necessarily meant that the original mortgage had been amended.  Because the ILLA provides that a credit agreement may not be amended without a written agreement, the lender asserted that the signed mortgage must control all the material terms and conditions of the loan, including the alleged cross-collateralization term.  (See I.C. § 26-2-9-5).  But the Court rejected the premise that there was a change and/or revision to the mortgage, stating “that the cross-guaranty provision in the mortgage was, essentially, meaningless” from the start:

When the parties either failed to agree upon the terms of a cross-guaranty, or failed to ensure that the final version was executed, their own conduct resulted in a document that contained a provision referring to a document that did not exist.

Get signatures.  The Court stood firm that the unexecuted cross-guaranty did not survive the Statute of Frauds and that the result did not run afoul of the ILLA.  The obvious lesson here is to make sure all the relevant papers memorializing the terms and conditions of a loan are signed by the appropriate parties.  The absence in Wells Fargo of a signed cross-collateralization agreement, which may have been a simple oversight, prevented the lender from fully enforcing rights that even the borrower may have intended to be a part of the deal.

Next week’s post will explain how the lender’s cross-default/cross-collateralization problem complicated its efforts to have a receiver appointed.

ILLA Saves Bank From Alleged Misrepresentation That Loan Was “A Go”

In Classic Cheesecake Company v. JPMorgan Chase Bank, 546 F.3d 839 (7th Cir. 2008) (Classic.pdf) , the Seventh Circuit affirmed an Indiana District Court’s dismissal of a case brought against a bank that denied approval for a business loan.  The plaintiff claimed it had been damaged by the bank’s conduct.  The Court’s decision is favorable to lenders operating in Indiana and illustrates that, generally, the statute of frauds within the Indiana Lender Liability Act (“ILLA”), Ind. Code § 26-2-9, should carry the day in suits where purported borrowers claim to have been damaged by certain conduct of lenders.

Factual context.  Plaintiff Classic needed capital to grow, so it contacted the defendant bank to secure an SBA loan.  Although there were problems associated with getting the loan approved, a loan officer of the bank at one point told Classic that the loan was “a go.”  Despite further approval problems, the bank representative continued to make verbal assurances to Classic that the loan would be approved.  Ultimately, it was not.

The ILLA and the exception.  In a prior post I discussed the ILLA, which the Seventh Circuit in Classic Cheesecake correctly termed a “statute of frauds” requiring that agreements to lend money be in writing.  Since that did not occur in Classic Cheesecake, plaintiff Classic alleged that there was an oral agreement to loan money upon which Classic relied to its detriment.  (Classic also asserted claims for fraud and promissory estoppel.) 

Under Indiana law, there is a very narrow exception to the ILLA’s statute of frauds:  “an oral agreement that the statute of frauds would otherwise render unenforceable creates a binding contract if failing to enforce the agreement would produce an unjust and unconscionable injury and loss.”  The Classic Cheesecake opinion analyzed in detail the “unjust and unconscionable injury and loss” exception.

The key.  Classic sued the bank, claiming that it suffered financial losses surrounding the bank’s breach of the alleged oral promise to make the loan.  The ultimate issue in Classic Cheesecake was whether the bank’s conduct “could have been found to inflict an ‘unjust and unconscionable injury and loss’ and so trumped the bank’s defense based on the statute of frauds.”  For a thorough history and analysis of that nebulous phrase, please review the opinion, which is impressive.  The Court noted that Indiana’s definition of ‘unjust and unconscionable injury and loss’ is as follows:

In order to establish an estoppel to remove the case from the operation of the statute of frauds, the party must show that the other party’s refusal to carry out the terms of the agreement has resulted not merely in a denial of the rights which the agreement was intended to confer, but the infliction of an unjust and unconscionable injury and loss.

In other words, neither the benefit of the bargain itself, nor mere inconvenience, incidental expenses, etc. short of a reliance injury so substantial and independent as to constitute an unjust and unconscionable injury and loss are sufficient to remove the claim from the operation of the statute of frauds.

Examination of the exception.  The Court analyzed the particular facts alleged in the case and took a hard look at what the phrase “unjust and unconscionable injury and loss” really means.  The Court focused on a handful of things, including any unjust enrichment of the oral promissor (here, the bank); any heavy loss to the promissee (here, the alleged borrower); and the reasonableness of the reliance by the promissee on the alleged promise.  In the end, the Court felt that “the case turns out to be a routine promissory estoppel case, and that is not enough in Indiana to defeat a defense of statute of frauds.”  Here is part of the Court’s rationale:

For the plaintiffs to treat the bank loan as a certainty because they were told by the bank officer whom they were dealing with that it would be approved was unreasonable, especially if, as the plaintiffs’ damages claim presupposes, the need for the loan was urgent.  Rational businessmen know that there is many a slip ‘twixt cup and lips, that a loan is not approved until it is approved, that if a bank’s employee tells you your loan application will be approved that is not the same as telling you it has been approved, and that if one does not have a loan commitment in writing yet the need for the loan is urgent one had better be negotiating with other potential lenders at the same time.

Mixed result.  The ultimate outcome of Classic Cheesecake favored the bank, and the opinion provides good precedent for lenders going forward.  The statute of frauds in the ILLA is very difficult to overcome.  Basically, loans need to be reduced to writing and signed before their terms can be enforced.  Nevertheless, the bank did get sued and no doubt incurred substantial attorney’s fees in defending the case through an appeal to the Seventh Circuit in Chicago.  Commercial loan officers therefore should be very careful about providing false hope to borrowers. 

Is The Label “Indiana Lender Liability Act” A Misnomer?

In the past, I’ve heard things from secured lenders like:  “you don’t see any exposure to our bank under the Lender Liability Act, do you?” or “surely the borrower won’t countersue us under Indiana’s lender liability statute.”  People are sometimes surprised to learn that the so-called “Indiana Lender Liability Act” (“ILLA”), Ind. Code § 26-2-9, doesn’t list claims or causes of action that can be asserted against a lender.  The ILLA primarily deals with the issue of evidence, specifically the inadmissibility of oral testimony about the terms of a loan.  (Interestingly, the statute’s official title in the Indiana Code is “Credit Agreements.”)  The definitive ILLA case is Sees v. Bank One, 839 N.E.2d 154 (Ind. 2005) (Sees.pdf).  Somewhat amusingly, the Indiana Supreme Court itself struggled with the label: 

In the first reported opinion discussing the statute since its 2002 re-codification, the Court of Appeals refers to it as the “Indiana Lender Liability Act.”  . . .  Sees refers to the statute alternatively as the “Indiana Lender Liability Act” and the “Credit Agreement Statute.”  . . .  Bank One refers to the statute as the “Credit Agreement Statute of Frauds.”  . . .  We agree with the Court of Appeals’ designation and thus refer to the statute as the Indiana Lender Liability Act.

Lender liability, generally.  It is true that “lender liability” is a common phrase used to describe a borrower’s potential claims against a lender due to the conduct of the lender with regard to a particular loan relationship.  Capello & Komoroke, Lender Liability Litigation: Undue Control, 42 Am. Jur. Trials 419 § 1 (2005).  This body of law comprises a wide variety of both statutory and common law causes of action.  One of many examples is the Fair Debt Collection Practices Act.  There are, in fact, a multitude of federal and state laws that could form the basis of a lawsuit against a lender.  The ILLA is not one of those laws, however. 

The ILLA rule.  The essence of the ILLA can be found in section 4, which provides that “a [borrower] may assert a claim . . . arising from a [loan document] only if the [loan document] . . . [1] is in writing; [2] sets forth all material terms and conditions of the [loan document] . . . ; and [3] is signed by the [lender] and the [borrower].”  The ILLA effectively protects lenders from certain kinds of liability.  That’s why the label “Lender Liability Act” seemingly is inconsistent with the law’s true nature. 

Statute of frauds.  Sees provides an excellent discussion of the statute, its history and its policies.  In a broad sense, the legislative intent behind the statute is to protect lenders from lawsuits by borrowers (or guarantors) asserting fraudulent claims.  Hence the “in writing” requirement in the ILLA.  As such, the ILLA actually is a “statute of frauds,” which at its core is a procedural law about the exclusion of certain testimony of a witness at trial.  Black’s Law Dictionary defines “statute of frauds” as “. . . no suit or action shall be maintained on certain classes of contracts or engagements unless there shall be a note or memorandum thereof in writing signed by the party to be charged . . ..”  As noted by Judge Posner in Consolidated Services, Inc. v. KeyBank, 185 F.3d 817 (7th Cir. 1999):

 [T]he principle purpose of the statute of frauds is evidentiary.  It is to protect contracting or negotiating parties from the vagaries of the trial process.  A trier of fact may easily be fooled by plausible but false testimony to the existence of an oral contract.  This is not because judgment or jurors are particularly gullible, but because it is extremely difficult to determine whether a witness is testifying truthfully.  Much pious lore to the contrary notwithstanding, ‘demeanor’ is an unreliable guide to truthfulness.

Be a wise guy.  Next time someone asks you whether your commercial lending institution may have exposure to a lawsuit or a counterclaim based on Indiana’s Lender Liability Act, you can explain to them that the ILLA does not really articulate any theories of liability.  Rather, the ILLA limits breach of contract actions to the terms of the loan that are memorialized.  Again, this is not to say that there is no “lender liability” in Indiana.  The generic term “lender liability” is proper when referring to the many possible claims of wrongdoing that exist.  In short, lenders can be exposed to liability, but they shouldn’t be held liable in Indiana for any alleged violations of loan terms unless such terms (promises or duties) are in writing, signed by all parties.