FYI: MD Fla Dismisses Borrower's RESPA Servicing Claims For Lack of Actual Damages, Cites Spokeo

The U.S. District Court for the Middle District of Florida recently granted a mortgage servicer's motion to dismiss a borrower's claim that the servicer violated the federal Real Estate Settlement Procedures Act, 12 U.S.C. § 2601 et seq. ("RESPA"), by allegedly failing to respond in a timely or adequate manner to a written Request for Information ("RFI").

 

In so ruling, the Court held that the servicer' conduct did not cause the claimed actual damages incurred in preparing and sending the letters to the servicer, as required by RESPA at 12 U.S.C. § 2605(f). 

 

The Court also referenced the Supreme Court of the United States's ruling in Spokeo, Inc. v. Robins, as the borrower's claims that the servicer did not timely acknowledge and respond to his letters "failed to allege a concrete injury to establish Article III standing." 

 

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

 

On February 11, 2016, the borrower's counsel sent an RFI to the servicer stating that:  the borrower was concerned with how the servicer handled a loan modification application; the borrower believed the servicer was improperly assessing certain fees with respect to the loan; requesting a full accounting and explanation for all fees charged to the loan; and demanding seventeen additional items of information.

 

On March 4, 2016, the servicer mailed its response to the RFI to the borrower's counsel.  The response explained that it was limited to servicing the borrower's loan.  The response also provided the following: the loan owner's name and address; a detailed explanation of the fees and expenses charged on the loan; and a payment history.  The response also noted the servicer's internal requests for additional responsive information.

 

On March 5, 2016, the servicer sent a number of additional documents to the borrower's counsel including: a copy of the note and mortgage; copies of broker's price opinion invoices; and copies of property inspection invoices.

 

Although the borrower's counsel received the servicer's response to the RFI, the borrower's counsel nevertheless sent a Notice of Error ("NOE") to the servicer asserting that counsel did not know if the servicer had received the RFI.  The borrower's counsel then sent a second NOE claiming that the servicer did not "provide all relevant contact information for the owner and/or assignee of this loan." The borrower's counsel next sent a third NOE to the servicer following up on the RFI and claiming that the servicer did not provide the documents requested in requests numbers 1-4 and 15-17. 

 

The borrower then filed a three count complaint against the servicer in Florida state court alleging that the servicer violated RESPA by: (1) failing to acknowledge receipt of the borrower's RFI within the five-day time period required by 12 C.F.R. § 1024.36(c), in violation of 12 U.S.C. § 2605(k); (2) failing to provide the contact information for the owner of borrower's mortgage loan within the ten-day time period required by 12 C.F.R. § 1024.36(d)(2)(i)(A), in violation of 12 U.S.C. § 2605(k); and (3) failing to adequately respond to the borrower's RFI as required by 12 C.F.R. § 1024.36(d)(2)(i)(B), in violation of 12 U.S.C. § 2605(k).

 

The borrower claimed less than $100.00 in actual damages, attorneys' fees, and statutory damages under 12 U.S.C. § 2605(f) for an alleged "pattern of disregard" for Regulation X's requirements.

 

The servicer timely removed the case to federal court and moved to dismiss.

 

The servicer's motion to dismiss initially asserted that the borrower failed to allege actual damages.  The servicer argued that it was only required to respond to requests for information that related to the servicing of borrower's loan.  Specifically, the servicer argued that it did not have to respond to items that sought information concerning loan modification because those requests did not relate to the servicing of borrower's loan.

 

Further, the servicer argued that it provided the borrower all of the requested information related to loan servicing before borrower's counsel mailed the first NOE.  As such, the servicer argued that the borrower merely seeks compensation for an alleged violation of a statutory timeliness requirement that did not result in any concrete harm. 

 

The servicer also argued that the borrower's claimed injury is not fairly traceable to the servicer's alleged conduct because the borrower incurred his alleged damages after the servicer provided all the requested information.  As such, the servicer argued that the late receipt of any requested information did not cause the borrower's alleged actual damages because the borrower incurred the postage fee and attorneys' fees related to preparing and sending the three NOEs after the servicer provided all requested information.

 

The Court initially observed that to trigger a mortgage servicer's obligations under RESPA, an RFI must request information "related to the servicing of a loan". See Hudgins v. Seterus, Inc., 192 F. Supp. 3d 1343, 1348-49 (S.D. Fla. 2016).

 

As you may recall under RESPA, "servicing" means "receiving any scheduled periodic payments from a borrower pursuant to the terms of any loan . . . and making the payments of principal and interest and such other payments with respect to the amounts received from the borrower as may be required pursuant to the terms of the loan." 12 U.S.C. § 2605(i)(3).

 

Further, "[i]nformation related to loan servicing includes information about the receipt of periodic payments or the amounts of such payments." Hudgins, 192 F. Supp. 3d at 1349.  However, requests regarding loan origination or modification are not requests "related to the servicing of a loan." See Sirote v. BBVA Compass Bank, 857 F. Supp. 2d 1213, 1221-22 (N.D. Ala. 2010), aff'd, 462 F. App'x 888 (11th Cir. 2012). 

 

The Court next turned to whether the servicer properly responded to the RFI.  First, the Court noted that the borrower failed to respond to the servicer's claim that it adequately responded to the RFI.  Instead, the borrower merely alleged in a conclusory fashion that the servicer's response was inadequate.  However, the exhibits attached to the complaint belied the borrower's allegations.  When exhibits attached to a complaint conflict with the complaint's allegations, the exhibits control. See Crenshaw v. Lister, 556 F.3d 1283, 1292 (11th Cir. 2009) (per curiam). Thus, the Court dismissed the borrower's claim that the servicer did not adequately respond to the RFI.

 

The Court next examined the borrower's claim that the servicer did not respond to the RFI in a timely fashion.  The Court observed that the documents attached to the complaint established that the servicer acknowledged the RFI and provided the loan owner's contact information, albeit not within the time frames Regulation X required

 

The Court concluded that the borrower failed to state a factual basis for the incurred damages the servicer's conduct allegedly caused.  In doing so, the Court rejected the borrower's argument that damages caused by sending a subsequent NOE is sufficient to articulate actual damages because there was no need to serve the NOE after the servicer provided a substantive response to the RFI that produced all of the requested information. 

 

Consequently, the Court held, the servicer' conduct did not cause the claimed damages incurred in preparing and sending the NOEs, as required.  See Pimental v. Ocwen Loan Servicing, LLC, 2016 WL 6678523, at *3 (S.D. Fla. Nov. 8, 2016).

 

The Court concluded by stating that the Supreme Court of the United States's reasoning in Spokeo, Inc. v. Robins, ___ U.S. ____, 136 S. Ct. 1540 (2016) as revised (May 24, 2016), bolstered its reasoning.  Specifically, applying Spokeo's analysis here, the borrower's claims that the servicer did not timely acknowledge and respond to his RFI "failed to allege a concrete injury to establish Article III standing." 

 

Accordingly, the Court dismissed borrower's remaining claims that the servicer did not acknowledge receipt of the RFI within five days, and did not provide the contact information for the owner of borrower's mortgage loan within ten days, and entered judgment in favor of the servicer on all claims.

 

 

 

Ralph T. Wutscher
Maurice Wutscher LLP
The Loop Center Building
105 W. Madison Street, 18th Floor
Chicago, Illinois 60602
Direct:  (312) 551-9320
Fax: (312) 284-4751

Mobile:  (312) 493-0874
Email: rwutscher@MauriceWutscher.com

 

Admitted to practice law in Illinois

 

 

 

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FYI: Md App Ct Holds Foreclosures Require Collection Agency Licensure, Including as to Trusts

The Court of Special Appeals of Maryland, the intermediate appellate court in that state, recently held that a party who authorizes a foreclosure trustee to initiate a foreclosure action on a deed of trust must be licensed as a collection agency in the state before filing the foreclosure lawsuit, and that this licensing requirement applies to trusts formed outside of the State of Maryland.

 

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

 

A statutory trust formed in Delaware filed two foreclosure lawsuits against homeowners in Maryland through a substitute trustee. The trust through its trustee had purchased two mortgage loans that the borrowers had defaulted on by failing to make payments.

 

The substitute trustees initiated foreclosure actions.  At the time of foreclosure, the borrowers on one mortgage owed $3 million, and on the other mortgage, the borrowers owed $1.6 million.

 

The homeowners filed counterclaims and filed motions to dismiss or enjoin the foreclosure. The trial dismissed the foreclosures, holding that under the Maryland Collection Agency Licensing Act, Maryland Code (1992, 2015 Repl. Vol.), B.R. § 7-101, et seq. ("MCALA"), the trustee for the foreign statutory trust had to be licensed as a collection agency and because it was not, it had no right to file the foreclosure actions and any judgment entered in the foreclosures was void.  The trial court rejected the trust's argument that it was exempt from the MCALA license requirements because it was a trust company. The substitute trustees appealed on behalf of the trust.

 

The Appellate Court affirmed both rulings, pointing out that under Finch v. LVNV Funding, LLC, 212 Md. App. 748, 758-63 (2013), it had ruled that a collection agency without a license may not file suit against a debtor and that a judgment entered in favor of an unlicensed debt collector is void.

 

The Court noted that the definition of a "collection agency" under B.R. § 7-101(c) ("a person who engages directly or indirectly in the business of … collecting…") includes a trustee because the definition of the term "person" under B.R. § 7-101(g) includes a "trustee". The Court also noted that the MCALA had been expanded in 2007 to include debt purchasers by including in the definition of "collection agency" those who engage in the business of collecting on claims that the person acquired when the debt was in default.

 

Here, the Appellate Court found that the trustee was in the business of buying defaulted mortgages and deeds of trust at a discount, such that when the trustee initiated the foreclosure actions it was acting as a collection agency under the MCALA.

 

The Court rejected the trust's argument that the MCALA excluded actions taken to enforce a security interest such as foreclosure on a deed of trust. The trust argued that under Md. Code § 12-902(a), which is the corporations and associations article, foreclosing on a mortgage or deed of trust in Maryland is not considered "doing business." The Court reasoned that § 12-908(a) limits that exception to that particular subtitle of the statute. 

 

The Appellate Court referenced other sources in support of its ruling, including a ruling from the U.S. District Court for the District of Maryland.  More specifically, the Court cited Ademiluyi v. PennyMac Mortgage Investment Trust Holdings I, LLC, et al., 929 F. Supp.2d 502, 520-24 (D. Md. 2013), in which the federal court held that a collection agency license was required under MCALA license to bring a foreclosure action. It also relied an order from the Maryland State Collection Agency Licensing Board requiring at least one debt purchaser to stop initiating foreclosure actions without a license, which the Court gave particular weight to because that agency is charged with administering the MCALA.

 

The Appellate Court also rejected the trust's argument that it should be exempted from licensing because B.R. § 7-102(b)(8) exempts trusts from the MCALA.  The Court explained that the statute does not define "trust company" so it relied upon Black's Law Dictionary for the definition: "[a] company that acts as a trustee for people and entities and that sometimes also operates as a commercial bank." 

 

The Court found that the trust did not act as a trustee for any person or any entity and did not act as a bank as it was made up of two trustees, one of which was another trust. 

 

The Court also rejected the argument that the trust satisfied a second definition of "trust" from Black's Law Dictionary: "a corporation formed for the purpose of taking, accepting, and executing all such trusts as may be lawfully committed to it, and acting as testamentary trustee, executor, guardian, etc." The Appellate Court reasoned that the trust was not a corporation and there was no evidence that it acted as a trustee for anyone. 

 

The Appellate Court also considered several other definitions of the term "trust" in Maryland law but found that the trust did not meet any of them.

 

Ultimately, the Court concluded that Maryland's General Assembly did not explicitly exempt foreign statutory trusts from the licensing requirements of MCALA, which the Court took as "expressed clear intent" to subject them to the MCALA's licensing requirement.

 

Thus, the Appellate Court affirmed the trial court's ruling that a foreign statutory trust that brings foreclosure actions in Maryland is subject to the licensing requirements of the MCALA.

 

 

 

Ralph T. Wutscher
Maurice Wutscher LLP
The Loop Center Building
105 W. Madison Street, 18th Floor
Chicago, Illinois 60602
Direct:  (312) 551-9320
Fax: (312) 284-4751

Mobile:  (312) 493-0874
Email: rwutscher@MauriceWutscher.com

 

Admitted to practice law in Illinois

 

 

 

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FYI: 2nd Cir Holds Consumer Cannot Unilaterally Revoke TCPA Consent Provided in Binding Contract

The U.S. Court of Appeals for the Second Circuit recently concluded that a consumer's consent to receive manual or automated telephone calls is irrevocable under the Telephone Consumer Protection Act, 47 U.S.C. § 227, et seq. ("TCPA") when the consent was included in a binding contract. 

 

The Second Circuit described the issue as one not previously addressed by the Federal Communications Commission ("FCC") or any court of appeal – i.e., "whether the TCPA also permits a consumer to unilaterally revoke his or her consent to be contacted by telephone when that consent is given, not gratuitously, but as bargained-for consideration in a bilateral contract."

 

The Court held that consent given under those circumstances is irrevocable.  The Court reached its decision by analyzing the issue as one of contract law, and determined that one party to the contract cannot unilaterally revoke a term of the contract without the consent of the other party.   

 

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

 

The plaintiff leased an automobile from a car dealership.  The defendant finance company financed the lease, and in the lease application plaintiff provided his cellular phone number and agreed to a number of provisions within the lease.  One such provision authorized the defendant finance company to call plaintiff, and included the following language:

 

You [plaintiff] also expressly consent and agree to Lessor [dealership], Finance Company, Holder and their affiliates, agents and service providers may use written, electronic or verbal means to contact you. This consent includes, but is not limited to, contact by manual calling methods, prerecorded or artificial voice messages, text messages, emails and/or automatic telephone dialing systems. You agree that Lessor, Finance Company, Holder and their affiliates, agents and service providers may use any email address or any telephone number you provide, now or in the future, including a number for a cellular phone or other wireless device, regardless of whether you incur charges as a result. 

 

After plaintiff defaulted on the lease, the defendant finance company called plaintiff numerous times in an attempt to cure the default.  Plaintiff alleged that he then wrote a letter to defendant requesting that the defendant stop calling his cell phone.  Defendant contended it never received the letter, and it continued to call plaintiff even after he allegedly revoked his consent to be called. 

 

Plaintiff filed a complaint against defendant, alleging defendant violated the TCPA by calling him after he revoked his consent.  The defendant filed a motion for summary judgment, and the district court granted the motion, holding that (1) plaintiff had failed to produce sufficient evidence from which a reasonable jury could conclude that he had ever revoked his consent to be contacted by defendant, and (2) that, in any event, the TCPA does not permit a party to a legally binding contract to unilaterally revoke bargained-for consent to be contacted by telephone.  Plaintiff appealed both rulings.

 

On appeal, plaintiff contended (1) that he introduced sufficient evidence to create a triable issue of fact as to whether he placed defendant on notice of his revocation of consent, and (2) that the TCPA, when construed in light of its broad remedial purpose to protect consumers from unwanted phone calls, allows a party to revoke consent to be called, even if that consent was given as part of a contractual agreement.

 

The Second Circuit addressed both issues. 

 

As to the issue of the sufficiency of the evidence of revocation, the Court concluded that plaintiff had introduced sufficient evidence to create an issue of fact on whether he revoked his consent.  More specifically, the Second Circuit held that plaintiff (i) testified in his deposition that he sent the letter to defendant, (ii) provided an affidavit making the same assertion, and (iii) introduced a copy of the letter. 

 

According to the Court, when this evidence is viewed in the light most favorable to the non-moving party, it was sufficient to create a genuine issue of fact.  Thus, the Court concluded that the district court erred in granting the defendant summary judgment on that issue.

 

However, with regard to the issue of whether the consent can be revoked when it is given as a term in a valid contract with the calling party, the Second Circuit concluded that the consent is irrevocable. 

 

The Court first analyzed a few court of appeals rulings in which the courts concluded that consumers were permitted to revoke their consent under the TCPA.  The Court observed that those court of appeals opinions formed the basis of the FCC's 2015 Ruling in which the FCC established that "prior express consent" is revocable under the TCPA.  See In the Matter of Rules & Regulations Implementing the Tel. Consumer Prot. Act of 1991, 30 F.C.C. Rcd. 7961, 7993-94 (2015).

 

The Second Circuit then distinguished those previous opinions and the FCC's 2015 Ruling, finding that they considered the narrow issue of whether the TCPA allows a consumer who has freely and unilaterally given consent to be contacted can subsequently revoke that consent.  According to the Court, the circumstances in this case were different, and the issue was "whether the TCPA also permits a consumer to unilaterally revoke his or her consent to be contacted by telephone when that consent is given, not gratuitously, but as bargained-for consideration in a bilateral contract."

 

The Court recognized that the term "consent" had an established meaning under common law, but that consent was not always revocable under the common law.  The Second Circuit then compared the use of consent in tort and contract law.  According to the Court, under tort law the accepted meaning of consent was a "gratuitous action" or a "voluntary yielding."  The Court pointed out that the issues raised in the prior opinions and the 2015 FCC ruling addressed situations where the consumer voluntarily gave consent to be contacted. 

 

Under contract law, consent is not always revocable.  The Second Circuit observed that plaintiff's consent to be contacted by telephone was not provided gratuitously, but rather it was included as an express provision of a contract to lease an automobile from defendant. Under such circumstances, "consent," as that term is used in the TCPA, is not revocable. "The common law is clear that consent to another's actions can 'become irrevocable' when it is provided in a legally binding agreement, Restatement (Second) Of Torts § 892A(5) (Am. Law Inst. 1979), in which case any 'attempted termination is not effective,' id. at cmt. i."

 

The Second Circuit continued, "it is black-letter law that one party may not alter a bilateral contract by revoking a term without the consent of a counterparty." See Restatement (Second) Of Contracts § 287 cmt. a (Am. Law Inst. 1981).

 

The Court concluded that in the absence of express statutory language to the contrary, it could not conclude that Congress, in enacting the TCPA, intended to alter the common law of contracts to allow unilateral alteration of a term contained in a contract.

 

The Second Circuit rejected plaintiff's argument that the consent provision was not an "essential term" of his lease.  According to the Court, all essential and non-essential terms of the contract are enforceable as long as the required elements of contract formation are present and the contract is valid. 

 

The Court also rejected plaintiff's argument that the TCPA is a remedial statute enacted to protect consumers and the issue of consent and revocation should be construed to further that purpose.  "It was well-established at the time that Congress drafted the TCPA that consent becomes irrevocable when it is integrated into a binding contract, and we find no indication in the statute's text that Congress intended to deviate from this common-law principle in its use of the word consent."

 

Finally, the Second Circuit acknowledged that some businesses may try to undermine the TCPA by including consent provisions like the one in plaintiff's lease into their standard contracts.  According the Court, however, this issue is one grounded in public policy considerations, not legal issues, and, as a result, would need to be addressed by the legislature. 

 

Accordingly, the Second Circuit affirmed the trial court's granting of summary judgment in favor of the defendant finance company.

 

 

 

Ralph T. Wutscher
Maurice Wutscher LLP
The Loop Center Building
105 W. Madison Street, 18th Floor
Chicago, Illinois 60602
Direct:  (312) 551-9320
Fax: (312) 284-4751

Mobile:  (312) 493-0874
Email: rwutscher@MauriceWutscher.com

 

Admitted to practice law in Illinois

 

 

 

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FYI: 8th Cir Rules on Bankruptcy Trustee's Ability to Recover Overdraft Covering Deposits

In a bankruptcy preferential transfer dispute, the U.S. Court of Appeals for the Eight Circuit recently held that the bankruptcy trustee could recover true overdraft covering deposits, while deposits covering intra-day overdrafts were not recoverable.

 

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

 

A company filed for bankruptcy and, ninety days before filing, wired funds to its bank to cover overdrafts.  The bankruptcy trustee argued that those funds were avoidable transfers that could be recovered from the bank.

 

The bankruptcy court agreed as to some of the deposits but not others.  The trustee and the bank cross-appealed to the trial court, which affirmed.  The parties then cross-appealed again to the Eighth Circuit.  

 

The Eighth Circuit noted that, under the Bankruptcy Code, a bankruptcy trustee may "avoid" a debtor's transfer of a property interest (1) "to or for the benefit of a creditor"; (2) "for or on account of an antecedent debt owed by the debtor before such transfer was made"; (3) "made while the debtor was insolvent"; (4) "made . . . within 90 days before the date of the filing of the petition"; and (5) "that enables [the] creditor to receive more" than it would receive under Chapter 7 if the transfer had not been made. 11 U.S.C. § 547(b).

 

The trustee has the burden to prove a transfer is avoidable. § 547(g). The trustee may not avoid a transfer if a creditor proves an exception applies. § 547(c), (g).  If a transfer is avoidable, the trustee may recover it from "(1) the initial transferee of such transfer or the entity for whose benefit such transfer was made; or (2) any immediate or mediate transferee of such initial transferee." § 550(a). The trustee may not recover from a "mere conduit for an avoidable transfer." In re Reeves, 65 F.3d 670, 676 (8th Cir. 1995).

 

Here, the Eight Circuit noted that the bank's policies recognized two types of overdrafts: "intraday overdrafts," which occurred when provisional settlement or debiting caused a negative account balance, and "true overdrafts," which occurred when provisional settlements caused a negative balance that became final at the midnight deadline provided for under Iowa Code 554.4104(1)(j) and 554.4301.

 

The debtor company had two accounts, one for checking and second one that was unspecified.  The checking account was always negative during the 90 days prior to the company filing for bankruptcy, but the second account held a balance of approximately $1.4 million.  The bank netted the two accounts so that as long as the second account had balance higher than the negative checking account balance, the company had a positive balance and was treated as if no overdrafts had occurred. Near the end of the 90-day preference period, the bank transferred the $1.4 million balance to the checking account. 

 

The bankruptcy trustee sought to recover the deposits that covered the intraday and true overdrafts and the $1.4 million balance that the company had transferred to the checking account and disputed whether the accounts had been properly netted.  The bank argued that none of the deposits were recoverable and that the $1.4 million was a protected set-off.

 

The bankruptcy court had held that the trustee could recover the true overdrafts but not the intraday overdrafts and that, although the set-off was improper, it did not affect the trustee's recovery. On cross-appeal, the trial court affirmed the bankruptcy court's ruling except for holding that the bankruptcy court erred in finding the set-off improper, although the trial court agreed that the set-off error did not affect the trustee's recovery.  

 

The Eighth Circuit affirmed the bankruptcy court's holding entirely.

 

The Eight Circuit noted that, under the Bankruptcy Code, the trustee could not recover the intraday overdraft-covering deposits because intraday overdrafts do not create antecedent debt and the bank "was functioning as a mere conduit" for the intraday overdrafts. See 11 U.S.C. § 547(b)(2); Laws v. United Mo. Bank of Kansas City, N.A., 98 F.3d 1047, 1051 (8th Cir. 1996) ("[R]outine advances against uncollected deposits do not create a 'debt' to the bank."); § 550(a); In re Reeves, 65 F.3d 670, 676 (8th Cir. 1995).  

 

The Appellate Court refused to consider the trustee's argument that the intraday overdrafts were antecedent debt under 11 U.S.C. § 547 because, unless the 11 U.S.C. § 550 requirement was fulfilled — i.e., that the bank was more than a mere conduit when it received the funds to cover those overdrafts —the funds were not recoverable, an argument the trustee had failed to make. 

 

The Eighth Circuit also affirmed that the trustee could recover the company's true overdraft-covering deposits from the bank under the Bankruptcy Code because they qualified as debt.  

 

The Court applied the Bankruptcy Code's test for when a debt is incurred (i.e., "the test for when debt is incurred is whether the debtor is legally obligated to pay") and Iowa state law on overdrafts (i.e., "payment by a bank of an overdraft is considered an unsecured loan . . . and/or an extension of credit to a customer") to conclude that when the bank allowed provisional check settlements to become final, causing true overdrafts, the bank paid those overdrafts thereby making unsecured loans or extensions of credit to the company that the company was legally obligated to pay.  Thus, the Eighth Circuit held, the true overdrafts were debt. 

 

The Appellate Court rejected the bank's argument that it was a non-liable "mere conduit" as to the true overdrafts because overdrafts are different than "traditional loans" and should thus keep the true overdraft-covering deposits.

 

The Court reasoned that the bank was actually an initial transferee under 11 U.S.C. § 550 because it had dominion and control over the funds in question by virtue of the fact that it paid third parties in the amounts of the true overdrafts and, in exchange for doing so, the debtor company owed the bank a debt payable directly to the bank. Moreover, the Eight Circuit noted, when the bank received the true overdraft-covering deposits, it could use the funds for any purpose.  Thus, the Appellate Court affirmed the trial court's holding that the trustee could recover the company's true overdraft-covering deposits.

 

The Eighth Circuit also affirmed the lower court's rejection of the bank's exception-based affirmative defenses.

 

"A trustee cannot recover an otherwise avoidable transfer if the creditor proves a § 547(c) exception."  For the first exception, the Eighth Circuit found that the bank failed to show that it took the true overdraft-covering payments in exchange for an agreement to provide anything new or contemporaneous.  The Appellate Court rejected the bank's evidence of having waived overdraft charges because it did not show the parties' intent.

 

For the second exception, the Eighth Circuit affirmed that the debtor company did not incur the true overdrafts, which were debts, in the ordinary course of business.  Because there is "no precise legal test" for this exception, only a requirement to "engage in a peculiarly factual analysis", the Court examined the "cornerstone of debt inquiry", whether there is any consistency with other business transactions between the bank and company, and other relevant factors, such as whether any unusual payment methods or atypical pressure to pay were involved.  

 

The Eighth Circuit compared the number of overdrafts the company incurred during the preferential period to a time when he company was financially healthy and found that the number of true overdrafts dramatically increased during the preferential period, and that they were unplanned and discouraged, suggesting that true overdrafts were uncommon and thus inconsistent with the parties' ordinary course of business.  

 

The third possible exception, transfers creating security interests, was not raised.

 

Concerning the trustee's challenge to the bankruptcy court's calculation of the transfer recoverable from the bank, the Appellate Court affirmed the lower courts' rulings in favor of the bank on both arguments.  

 

More specifically, the Eighth Circuit affirmed the bankruptcy court's ruling that the calculation for the amount recoverable would be based on the pre-bankruptcy account balances containing the bank's posting errors, which resulted in less true overdrafts and thus less recovery for the trustee, instead of the post-bankruptcy corrected balances, which would result in more true overdraft-covering payments being avoidable. The Court explained that it would be inequitable to use the corrected balances because the company did not owe the corrected amounts until after it filed for bankruptcy, so those corrections did not result in debts under § 547.

 

The Eighth Circuit also affirmed the bankruptcy court's calculation of the bank's liability for true overdrafts based on the netting of the two accounts and rejected the lack of a written netting agreement as the netting arrangement was supported by three witness' testimony and rejected expert testimony that netting accounts did not eliminate the debt of the true overdrafts because the facts found by the bankruptcy court showed that in practice the bank and company had treated the accounts as netted.

 

The Court declined to consider a third argument because the trustee did not raise on the first appeal to the district court.

 

The final issue the Eighth Circuit affirmed was that the bankruptcy court properly ruled that the set-off did not apply to the transfer of funds between the two "netted" accounts. The trustee argued that the debtor company's transfer of its remaining $1.4 million to its checking account during the preference period was an avoidable transfer, and the bank countered that it was not because the transfer was a valid set-off protected by 11 U.S.C. § 553(a).  

 

The Eighth Circuit agreed with the bankruptcy court that, due to the netting arrangement between the two accounts, the debtor company did not incur a debt to the bank until the balance of the checking account fell below the balance of the second account.  

 

Thus, the lower courts' holdings were affirmed. 

 

 

 

Ralph T. Wutscher
Maurice Wutscher LLP
The Loop Center Building
105 W. Madison Street, 18th Floor
Chicago, Illinois 60602
Direct:  (312) 551-9320
Fax: (312) 284-4751

Mobile:  (312) 493-0874
Email: rwutscher@MauriceWutscher.com

 

Admitted to practice law in Illinois

 

 

 

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FYI: SD Fla Bankr Refuses to Approve Bankruptcy Plan That Relied on Medical Marijuana Lease Proceeds

The U.S. Bankruptcy Court for the Southern District of Florida recently held that a bankruptcy debtor's Chapter 11 proceeding should not be dismissed as filed in bad faith to delay or avoid foreclosure, but could not confirm the debtor's proposed plan to lease its commercial property asset to a business that generates income from medical marijuana.

 

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

 

A limited liability company ("debtor") owned 48.8% of a commercial property in Miami Beach, Florida (the "commercial property") that was secured by a mortgage held by a commercial bank ("lender") that had a long-standing relationship with the debtor.

 

The debtor and its affiliates filed a state court lawsuit raising several lender liability claims against the lender.  The lender later filed two cases against the debtor, its affiliates and guarantors to collect on some of the loans. The three cases involving three loans --all secured by the commercial property -- were eventually consolidated.

 

The state court entered summary judgment in favor of the lender in the amount of $667,113.17 and ordered the sale of the commercial property. The commercial property was redeemed prior to the foreclosure sale. Final summary judgment as to the remaining issues in the consolidated lawsuit was rendered in lender's favor in and affirmed by a state appellate court.

 

After a second appeal of the final judgment awarding lender attorney fees in an amount of $841,099.03 was affirmed, the state court set a foreclosure sale.  The night before the sale, the debtor removed the state court case to federal court which removal cancelled the foreclosure sale. Soon thereafter, the case was remanded to the state court and a second foreclosure sale was set.

 

On the eve of the second, and subsequent third foreclosure sale dates, the debtor twice removed the case to federal court, thereby cancelling the sale.  Following remand of its third failed attempt at removal, the debtor was enjoined from any further removal of the state court case.

 

After several other emergency motions to delay the foreclosure sale were denied, the debtor filed its Chapter 11 bankruptcy petition on October 4, 2016, the day before the rescheduled foreclosure sale.

Shortly thereafter, the lender filed a motion to dismiss the bankruptcy petition pursuant to 11 U.S.C. §1112(b)(1) alleging that it was filed in bad faith, citing the debtor's repeated attempts to stop the foreclosure sale by improperly remanding the action to federal court.

 

Prior to the hearing on the lender's motion to dismiss, the debtor filed a plan of reorganization and disclosure statement, which proposed, among other things, to rent space in the commercial property to a business that generates income from medical marijuana.

 

At hearing on the motion to dismiss, the Court was unpersuaded by the debtor's argument that the timing of its filing was actually a result of the debtor acting without advice of bankruptcy counsel, because the debtor's principal is a lawyer, who was responsible for filings in the previous suits and co-author of some of the pleadings filed in the bankruptcy.

 

Citing potential issues with the plan to lease the commercial property to a business that generates income from medical marijuana -- including the fact that the commercial property was not listed as one of the seven licensed dispensing organizations approved in Florida to dispense low-THC cannabis and medical cannabis -- the bankruptcy court ordered the debtor to file an amended plan that better addressed the plan's structure and either did not depend on marijuana as an income source, or briefed the issue if the amended plan was going to rely on marijuana income.

 

The first amended plan filed by the debtor still relied upon income generated from medical marijuana to make plan payments, including payments to lender tied to the amount of income generated from the marijuana business.  The debtor and lender subsequently filed their supplemental briefs on the marijuana issue.

 

The lender argued the bankruptcy action was filed in bad faith.  When determining whether a chapter 11 case should be dismissed as a bad faith filing, the court must consider factors that evidence "an intent to abuse the judicial process and the purposes of the reorganization provisions," such as "when there is no realistic possibility of an effective reorganization and it is evident that the debtor seeks merely to delay or frustrate the legitimate efforts of secured creditors to enforce their rights." lbany Partners, Ltd. v. Westbrook (In re Albany Partners, Ltd.), 749 F.2d 670, 674 (11th Cir. 1984).

 

The Eleventh Circuit in Phoenix Piccadilly, Ltd. v. Life Insurance Co. of Virginia (In re Phoenix Piccadilly, Ltd.), 849 F.2d 1393 (11th Cir. 1988), listed a number of subjective factors in determining whether a dismissal for bad faith is appropriate. The factors include whether:

 

(i) The Debtor only has one asset, . . .;

(ii) The Debtor has few unsecured creditors whose claims are small in relation to the claims of the Secured Creditors;

(iii) The Debtor has few employees;

(iv) The Property is the subject of a foreclosure action as a result of arrearages on the debt;

(v) The Debtor's financial problems involve essentially a dispute between the Debtor and the Secured Creditors which can be resolved in the pending State Court Action; and

(vi) The timing of the Debtor's filing evidences an intent to delay or frustrate the legitimate efforts of the Debtor's secured creditors to enforce their rights.

 

Phoenix Piccadilly, 849 F.2d at 1384-95.

 

Here, the debtor's sole asset was the commercial property (and leases relating thereto) and the debtor had no employees.  Although eight other unsecured creditors placed undisputed, non-insider, non-priority claims totaling $631,987.00, the bankruptcy court concluded that it was clear the debtor filed for chapter 11 bankruptcy to avoid a foreclosure of the commercial property and liability against the lender and various guarantors.

Next, the bankruptcy court considered whether the debtor had the ability to reorganize itself.

 

The debtor argued that it would be able to prove feasibility at confirmation, as the proposed tenant had applied for both state and federal approval to cultivate and sell marijuana.  The lender argued that its approval was unlikely due to the commercial property's proximity to a school and a synagogue.

 

Citing rulings in several other jurisdictions that declined to confirm bankruptcy plans funded by federally illegal income derived from marijuana cultivation and sale, the Court noted that in each of those cases, the marijuana source of funding was legal under the relevant state law.  See In re Rent-Rite Super Kegs W. Ltd., 484 B.R. 799, 809 (Bankr. D. Colo. 2012);  In re Jerry L. Johnson, 532 B.R. 53 (Bankr. W.D. Mich. 2015); In In re Arenas, 535 B.R. 845 (10th Cir. B.A.P. 2015).  

 

Here, the issue was whether or not the proposed tenant would be approved under federal law to manufacture or sell marijuana.  Because only the University of Mississippi has ever received approval by the federal government to grow and cultivate medical marijuana, the Court reasoned that it was highly unlikely that the debtor and prospective tenant would receive approval from the federal government.

 

The Court concluded that (i) the debtor cannot rid itself of the taint of the bad faith filing (See In re Natural Land Corp., 825 F. 2d at 296; Albany Partners, 749 F.2d at 670); (ii) the amended plan was based on an enterprise illegal under federal law, and the debtor cannot satisfy the requirements of 11 U.S.C.§1129(a)(3), and; (iii) the amended plan was highly speculative and failed to meet the standards of effective reorganization established by the Supreme Court of the United States that "there must be 'a reasonable possibility of a successful reorganization within a reasonable time."  United Savings Ass'n of Texas v. Timbers of Inwood Forest, 484 U.S. 365, 376 (1988).

 

The Court noted that the case was found to be ripe for dismissal for bad faith, due to the amounts of non-insider unsecured debt, but the lender's motion to dismiss was denied in the best interest of the unsecured creditors. 

 

However, the Court reasoned that the same factors warranted relief from the automatic stay as to the lender. See Natural Land Corp., 825 F. 2d at 296.

 

Accordingly, (i) the lender's motion to dismiss was denied, with the debtor ordered to file a plan that does not rely upon marijuana as a source of income within 14 days or face conversion to a Chapter 7 filing, and; (ii) the lender was granted relief from the stay to continue the foreclosure action and set a foreclosure sale date no earlier than 75 days to be cancelled if the debtor's amended plan is confirmed, or at the earliest date allowed under state law should the debtor fail to file a plan within 14 days.

 

 

 

Ralph T. Wutscher
Maurice Wutscher LLP
The Loop Center Building
105 W. Madison Street, 18th Floor
Chicago, Illinois 60602
Direct:  (312) 551-9320
Fax: (312) 284-4751

Mobile:  (312) 493-0874
Email: rwutscher@MauriceWutscher.com

 

Admitted to practice law in Illinois

 

 

 

Alabama   |   California   |   Florida   |   Georgia   |   Illinois   |   Indiana   |   Maryland   |   Massachusetts   |   Michigan   |   New Jersey   |   New York   |   Ohio   |   Pennsylvania   |   Texas   |   Washington, DC   |   Wisconsin

 

 

NOTICE: We do not send unsolicited emails. If you received this email in error, or if you wish to be removed from our update distribution list, please simply reply to this email and state your intention. Thank you.

Our updates and webinar presentations are available on the internet, in searchable format, at:

 

Financial Services Law Updates

 

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The Consumer Financial Services Blog™

 

and

 

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California Finance Law Developments