California Court Holds That Individual Members of an LLC Can Be Personally Liable for Debts of a Dissolved LLC Under Certain Conditions

The case of CB Richard Ellis, Inc. v. Terra Nostra Consultants has important implications for anyone seeking to collect on a judgment against the individual members of an LLC that has no assets, that has been dissolved, and that was unable to pay the debt as a result of failing to set aside sufficient funds to pay creditors.

In CB Richard Ellis, Defendant Jefferson 38, LLC (“Jefferson”) sought a buyer for 38 acres of land in Murrieta, California. To this end, in March of 2004 Jefferson signed an exclusive sales listing agreement with Plaintiff CB Richard Ellis, Inc. (CBRE). Under the agreement, Jefferson agreed to pay CBRE a sales commission of 6 percent of the gross sales price for any sale completed within the term of the listing agreement.

Eventually, a buyer contacted Jefferson. Normally, any commission to the listing agent is paid out of the escrow funds, and there is no problem. However, according to the court’s recitation of the facts of this case, Jefferson, in spite of its agreement with CBRE, excluded CBRE from its sale of the property. Sometime around September 2004, a representative of Jefferson told a potential buyer, Covenant Development, Inc. (“Covenant”), that Jefferson had fired CBRE because Jefferson was dissatisfied with CBRE’s performance. Moreover, Jefferson took the position that it did not owe CBRE a commission because the listing agreement had expired in September 2004, well before the sale was completed.

On July 11, 2005, escrow closed on Jefferson’s sale of the property to an entity to which Covenant had assigned its interests for a gross sales price of $11,800,000. As the court explains, “On July 12, 2005, $11,025,625 was transferred into Jefferson’s bank account as a result of the close of escrow. The next day, Jefferson transferred all but $474.45 out of its account. This money was ultimately transferred in varying amounts to defendants and others.” The commission for the sale was split between NAI Capital (the buyer’s agent) and L. James Grattan & Associates (Jefferson’s agent). CBRE received no commission.

In July 2005, pursuant to an arbitration clause in the listing agreement, CBRE brought an arbitration claim against Jefferson. CBRE was awarded $960,649.30, which included the 6 percent commission, pre-award interest, and attorney fees and costs. The Los Angeles Superior Court confirmed the award and a  judgment for $985,439.80. However, by this time, Jefferson had no assets and was unable to pay CBRE. Eventually, the LLC was dissolved.

In June 2008, CBRE filed a complaint for breach of contract and prohibited distributions against the four (former) individual members of Jefferson. A jury trial began in 2011. The jury ultimately found that Jefferson had failed to perform under the agreement, that Jefferson had been dissolved, and that Jefferson had made a distribution to the members upon dissolution. The court entered judgment against the defendants for $354,000.

Defendants appealed the judgment, claiming, among other things, that the trial court had improperly instructed the jury regarding dissolution of the company, an issue that hinged partly on interpretation of the California statutes governing LLCs. However, the court rejected this and other arguments, found that the jury had been correctly instructed, and upheld the trial court’s judgment.

Generally, the individual members of an LLC are not liable for the debts, obligations, or judgments of the company. Indeed, as the name implies, the whole point of forming a limited liability company is to protect its members from personal liability. Nevertheless, there are exceptions to this rule. As the court explained, “Part of CBRE’s case involved proving Jefferson was a dissolved limited liability company, which lacked the ability to pay CBRE as a result of its distribution of assets to its members without reserving sufficient funds to pay CBRE.” With respect to its interpretation of California’s LLC law, the court further explained,

It is self-evident that former section 17355, subdivision (a)(1), was designed to prevent the unjust enrichment of members of limited liability companies, when such members have received assets the dissolved company needs to pay creditors. (See Gottlieb v. Kest (2006) 141 Cal.App.4th 110, 154 [former § 17355 “simply creates an enforcement mechanism so that company liabilities can be recovered out of distributed assets; it ‘compel[s] [a member] to return distributed assets’”].) Other sections contemplated that limited liability companies will not distribute funds to members without reserving sufficient assets to pay debts and liabilities. (Former §§ 17254, 17353.) If defendants’ interpretation of the statutory scheme were correct, companies (and their members) could avoid the force of former section 17355, subdivision (a)(1)(B), by the simple expedient of transferring assets out of the company the day before voting to dissolve.

In other words, even though LLCs are intended to limit liability against individual members, it would be unjust to allow members to dissolve their company and divert funds to themselves that should have been set aside to pay a creditor to satisfy a company debt. This case is important because it appears to be the first published opinion that involves a plaintiff getting a judgment against individual members of an LLC. It sends a clear message that the California courts are not willing to let individual LLC members abuse the LLC system in order to enrich themselves personally.

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California Court of Appeal Rules on Homeless Campers’ Challenge to Sacramento’s “Anti-Camping” Ordinance

Three weeks ago I blogged about Allen v. City of Sacramento, a case in which several homeless people challenged a Sacramento city ordinance that prohibits camping on private or public property, commonly known as Sacramento’s “anti-camping ordinance.”

As explained in my prior posting, the ordinance makes it a misdemeanor to camp or store “camp paraphernalia” for more than one consecutive night on public or private property (even with the consent of the owner). The impetus for the case was its enforcement against several homeless people who had set up what amounted to a small “tent city” on the private property of Mark Merin, the attorney and homeless rights advocate who brought the action on behalf of the homeless campers. The challenge was based on a number of grounds, mostly Constitutional. At the time of my posting, the trial court had sustained in its entirety Defendant’s demurrer to the complaint, and the case was pending before the California Court of Appeal.

The Court of Appeal has now issued its ruling on the case. In short, the Court of Appeal upheld the demurrer in all but one respect—the “as-applied” challenge based on the Equal Protection clause of the U.S. Constitution. The Court held, “Although plaintiffs fail to meet their appellate burden on most of their claims, they state a cause of action for declaratory relief asserting an as-applied challenge based on equal protection.”

Essentially, a law is unconstitutional “as applied” if it is applied in a way that discriminates against a particular group—in this case, homeless people. As the Court of Appeal notes in its decision, it has merely determined that Plaintiffs may proceed with their as-applied challenge, not “whether plaintiffs can ultimately prevail on this cause of action.” There will be further proceedings in the trial court to determine whether the plaintiffs can successfully challenge the ordinance by proving that it was applied to them in a discriminatory manner.

As the Sacramento Bee reports, Merin plans to ask the Court of Appeal to reconsider its ruling and, if the Court declines, he will petition the California Supreme Court for review.

One interesting issue raised by this case is whether Merin himself, as the owner of the property involved, could have challenged the ordinance on the grounds that it somehow infringed upon his right to use his own private property as he pleases. We will never know whether such a challenge would have succeeded here, but it may also be an issue peculiar to this case that would not otherwise have wide applicability in other cases.

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Trio of California Bills Aims to Curb ADA Lawsuits Against Small Businesses

Back in July of 2013, I blogged about the passage and implementation of California Senate Bill SB-1186, a bill intended to curb abusive lawsuits based on the federal Americans with Disabilities Act (ADA). In that article, I chronicled some infamous abuses of the law by unscrupulous litigants (and their attorneys) and explained the basics of the bill. I also noted, “Although the changes seem to be promising, Orlick and Sudeck [attorneys writing for the HotelLaw blog] remain hardened by their experience as defenders against ADA lawsuits. They conclude, ‘Experienced plaintiff’s attorneys have already figured out how to work within the boundaries of or circumvent the new law. It does not appear to be slowing the onslaught of lawsuits.’”

Apparently, Orlick and Sudeck’s observation was spot on. As a result, the California legislature has recently introduced three new bills—AB 52 (December, 2014), AB 54 (December, 2014), and SB 67 (January, 2015)—that are meant to further curb abusive ADA lawsuits and remedy some of the defects of Senate Bill SB 1186.

SB-67

As mentioned in my prior blog article, California, like some other states, allows ADA plaintiffs to recover damages in addition to those recovered under the federal ADA law itself. Existing law allows minimum statutory damages for $4,000 per offense, although SB-1186 reduced that minimum to $1000 as long as the defendant meets either of the following requirements: (A) the site’s new construction or improvement was approved pursuant to the local building permit and inspection process on or after January 1, 2008, and before January 1, 2016, or (B) the site’s new construction or improvement was approved by a local public building department inspector who is a CASp (Certified Access Specialist).

I also noted that SB-1186 provided that “[s]ome defendants can request a stay of court proceedings and an early evaluation conference,” as long as they met the following requirements: (A) the site’s new construction or improvement was approved pursuant to the local building permit and inspection process on or after January 1, 2008, and before January 1, 2016, (B) the site’s new construction or improvement was approved by a local public building, and (C) the defendant is a “small business” under the Code and declares that all violations were corrected or will be corrected within 30 days of service of the complaint.

In its current form, SB 67 would make significant changes to this existing law. According to the legislative digest for SB 67, the bill, authored by California state senator Cathleen Galgiani,

would except a small business from statutory damage liability in connection with a construction-related accessibility claim, as described above, and would instead limit recovery to injunctive relief and reasonable attorney’s fees as deemed appropriate by the court.

The bill would also extend the period for correcting construction-related violations to within 120 days of being served with the complaint. Like SB-1186, SB 67 would apply to “small businesses.” The bill defines a “small business” as one that “has employed 25 or fewer employees on average over the past three years, or for the years it has been in existence if less than three years, as evidenced by wage report forms filed with the Economic Development Department, and has average annual gross receipts of less than three million five hundred thousand dollars ($3,500,000) over the previous three years, or for the years it has been in existence if less than three years, as evidenced by federal or state income tax returns.”

AB 52

According to the legislative digest for AB 52, the bill would “provide that a defendant’s maximum liability for statutory damages in a construction-related accessibility claim against a place of public accommodation is $1,000 for each offense if the defendant has corrected all construction-related violations that are the basis of the claim within 180 days of being served with the complaint and the defendant demonstrates that the structure or area of the alleged violation was determined to meet standards or was subjected to an inspection, as specified.”

In addition, the bill would “reduce that maximum liability to $1,000 for each offense if the defendant has corrected all construction-related violations that are the basis of the claim within 180 days of being served with the complaint and the defendant is a small business, as revised. The bill would also provide that specified statutory damages in a construction-related accessibility claim against a place of public accommodation that is a small business, as defined, may only be recovered if the place of public accommodation is granted a 180-day stay of court proceedings to meet specified requirements.” The bill’s definition of a “small business” is the same as for SB 67.

AB 54

AB 54, introduced by Assemblywoman Kristin Olsen, would provide that when a plaintiff brings a claim alleging a violation of a construction-related accessibility standard against a “place of public accommodation” within 3 years of a change in that standard, the plaintiff may collect statutory damages only if he or she also provides the business with “a written notice or demand letter at least 60 days prior to filing any action and the violation is not cured.” By using the phrase “place of public accommodation” in this portion of the bill, AB 54 does not appear to be limited to “small businesses” as defined in the other two bills.

Conclusion

It remains to be seen whether these proposed laws will get enacted in their current form and, if so, whether resourceful ADA plaintiff’s lawyers will find ways to get around them, as they appear to have done in the case of SB-1186. In the view of some, the legislation could also be improved by placing a cap on the number of ADA lawsuits an individual litigant can bring in a 12 month period. The would be similar to the rule that caps the number of lawsuits someone can bring in small claims court. (Currently, in California a litigant may not sue more than twice in one calendar year for over $2,500.) Such a cap could possibly prevent serial litigants from using the ADA laws to perpetuate a litigation cottage industry for their own financial gain.

Posted in ADA, ADA abuse, ADA Lawsuits, Americans with Disabilities Act, California AB 52, California AB 54, California SB 67 | Tagged , , , , , , , | Leave a comment

Lawsuit Against Homeless Camping Ordinance in Sacramento Raises Important Questions about Private Property Rights

A recent article in the Sacramento Bee addresses a fascinating and important issue: Should homeless people have a right to camp on public or private property (with the consent of the owner) in the city of Sacramento? As the article explains, in 2009, Mark Merin, an attorney and homeless rights advocate, began allowing homeless people to camp on a “vacant lot” that he owned. This led to the creation of what some called a small “tent city” on the property. Soon after, “police raided the encampment, seizing tents, sleeping bags and other property, and detaining and citing homeless people.”

The police were acting pursuant to a Sacramento city ordinance that prohibits “unlawful camping.” The anti-camping ordinance is codified at Chapter 12.52 (“Camping”) of the Sacramento City Code—specifically, Sac. City Code §§ 12.52.010 0 to 12.52.080. Sac. City Code § 12.52.010 sets forth the purpose of the ordinance:

The streets and public areas within the city should be readily accessible and available to residents and the public at large. The use of these areas for camping purposes or storage of personal property interferes with the rights of others to use the areas for which they were intended. Such activity can constitute a public health and safety hazard which adversely impacts neighborhoods and commercial areas. Camping on private property without the consent of the owner, proper sanitary measures and for other than a minimal duration adversely affects private property rights as well as public health, safety, and welfare of the city.

Although the above section states that the purpose of the ordinance is to prevent disruption of public property and of private property without the consent of the owner, Sac. City Code § 12.52.030 (“Unlawful Camping”), the heart of the ordinance, goes further. That section provides in relevant part as follows:

It is unlawful and a public nuisance for any person to camp, occupy camp facilities, or use camp paraphernalia in the following areas

A. Any public property; or

B. Any private property.

  1. It is not intended by this section to prohibit overnight camping on private residential property by friends or family of the property owner, so long as the owner consents and the overnight camping is limited to not more than one consecutive night.

(Emphasis added.) This prohibition of camping on consecutive nights is the key aspect of the ordinance that applies to homeless people and prohibits them from setting up long-term camps on private property such as the lot owned by attorney Mark Merin, even though Merin consents to these people camping on his property for as long as they like.

The ordinance defines “camp” as “to place, pitch or occupy camp facilities; to live temporarily in a camp facility or outdoors; to use camp paraphernalia.” Sac. City Code § 12.52.020. The ordinance also covers sleeping in vehicles, since “camp facilities” are defined as facilities that “include, but are not limited to, tents, huts, vehicles, vehicle camping outfits or temporary shelter.” Id. “Camp paraphernalia” “includes, but is not limited to, bedrolls, tarpaulins, cots, beds, sleeping bags, hammocks or cooking facilities and similar equipment.” Id. A violation of the ordinance is a misdemeanor, punishable by the same remedies as those set forth in Cal. Penal Code § 370, the criminal statute that prohibits “public nuisances.” In addition, “the city attorney may institute civil actions to abate a public nuisance” under the ordinance. Id.

In a separate section, Sac. City Code § 12.52.040, the ordinance also addresses storage of personal property on public and private property. This section makes it “unlawful and a public nuisance for any person to store personal property, including camp paraphernalia, in the following areas, except as otherwise provided by resolution of the city council: A. Any public property; or B. Any private property without the written consent of the owner.” (Paragraphing omitted.) As with the aforementioned “unlawful camping” section, a violation of the anti-storage provision is a misdemeanor punishable by the same remedies as those set forth in Cal. Penal Code § 370, and the city attorney may institute civil actions to abate violations of the section. Id.

An interesting aspect of the section on unlawful storage of property is that, unlike the main section that prohibits unlawful camping, the section prohibiting storage of property contains no “more than one consecutive night” limit. So, a fair reading of the ordinance is that even though it prohibits a homeless person from camping on private property on consecutive nights (even with the permission of the owner), the ordinance would not prohibit anyone from storing personal belongings on the property on consecutive nights as long as that person had the written consent of the property owner. Nevertheless, as the Sacramento Bee article points out, police have “seiz[ed] tents, sleeping bags and other property” belonging to the homeless people whom they cited and detained for camping on Mark Merin’s private property. This may be the basis for another class action suit filed by Merin in 2012 on behalf of homeless people “for reimbursement for bicycles, tents and other items seized by city police during raids of illegal campsites in recent years.”

In fairness to the police, it is possible that in some cases they were acting pursuant to the general public nuisance statute, Cal. Pen. Code § 370, which defines a public nuisance as “[a]nything which is injurious to health, or is indecent, or offensive to the senses, or an obstruction to the free use of property, so as to interfere with the comfortable enjoyment of life or property by an entire community or neighborhood, or by any considerable number of persons, or unlawfully obstructs the free passage or use, in the customary manner, of any navigable lake, or river, bay, stream, canal, or basin, or any public park, square, street, or highway….”

Nevertheless, as the Bee article reports, at least some of the homeless people on Merin’s property were cited under the anti-camping ordinance, and this led Merin to file a complaint challenging the ordinance in Sacramento Superior Court. In February of 2010, a Sacramento Superior Court judge dismissed that complaint. In response, “advocates” filed an appeal challenging the constitutionality of the ordinance. The Bee reports that the California Court of Appeal heard arguments in the case on January 20, 2015, and a ruling is expected 60 days from that date.

Although few people would question a law that prohibits homeless people from blocking access to or otherwise disrupting public property, or from occupying private property against the owner’s wishes, this case is notable in that the ordinance prohibits people from long-term camping on private property even if they have the owner’s permission. The libertarian view is that a person should be able to allow anyone on his or her private property as long as that person’s behavior does not disrupt the rights of others, including nearby property owners.

The anti-camping ordinance goes beyond this free-use principle, however, by simply defining long-term camping on private property, even with the consent of the owner, as a public nuisance and criminalizing such conduct, whether or not the camper has done anything that constitutes a public nuisance under Cal. Penal Code § 370 or any other nuisance statute. It is this feature of the ordinance that makes the case so pivotal and so interesting from the standpoint of private property rights. As the Bee notes, the outcome of the case “could set a precedent for others waging similar battles over the rights of homeless people to sleep outdoors without police interference.”

Needless to say, as soon as the Court of Appeal issues its opinion, you can find further analysis and commentary on this blog.

In a related matter, we are still following the status of California AB 5, the “Homeless Bill of Rights” bill that I blogged about back in January of 2014. As I noted back then, this bill would extend a laundry list of rights to homeless people when they are in a “public space,” such as the right to solicit donations, to “move freely”; to “eat, share, accept, or give food or water”; to not be harassed by police or private security people; to “engage in lawful self-employment (such as recycling and “junk removal”); to pray, meditate, or practice religion; to “decline admittance to a public or private shelter; and to sleep in one’s vehicle, provided it is “legally parked on public property.” As of this blog posting, according to the bill’s legislative history page, it “[d]ied pursuant to Art. IV, Sec. 10(c) of the Constitution” on January 1, 2014″ and then was “[f]iled with the Chief Clerk pursuant to Joint Rule 56” on February 3, 2014.

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Recent Case Clarifies Standard of Accuracy for Descriptions of Real Property by Seller’s Broker in MLS

A case from March of 2014, Saffie v. Schmeling (2014) 224 Cal. App. 4th 563, clarifies the duties of an agent in accurately describing real property in a multiple listing service (MLS). The case is notable in that it is apparently one of only three published opinions interpreting the requirements of Cal. Civ. Code § 1088. That statute provides in relevant part as follows:

If an agent or appraiser places a listing or other information in the multiple listing service, that agent or appraiser shall be responsible for the truth of all representations and statements made by the agent or appraiser of which that agent or appraiser had knowledge or reasonably should have had knowledge to anyone injured by their falseness or inaccuracy.

In June 2006, Defendant Robert Schmeling (“seller’s broker”) posted information on an MLS about an undeveloped commercial parcel for sale in Hemet. California. The description of the property included the following statement: “This parcel is in an earthquake study zone but has had a Fault Hazard Investigation completed and has been declared buildable by the investigating licensed geologist. Report available for serious buyers.” As it happens, the Fault Hazard Investigation (“report”) was dated May 20, 1982. The report stated that it was prepared by a “Registered Geologist” and found “no evidence of an active fault” on the property. Among other things, the report also concluded that “the secondary effects of ground fissuring and cracking and the primary effects of ground rupture and displacement on a fault are unlikely to occur on the subject property.” The report was accompanied by a letter, dated July 23, 1982, by an engineering geologist for Riverside County Planning. The letter granted “[f]inal approval of the report,” based on his opinion that the report “was performed in a competent manner….”

During the same month the property was listed, George Saffie, Jr. (“buyer”) was looking to buy property to commercially develop. His broker (“buyer’s broker”) saw the listing for the property and notified the buyer. The buyer ended up purchasing the property. During escrow, the seller’s broker gave the buyer’s broker a copy of the 1982 report and accompanying letter of approval. The buyer’s broker gave both documents to the buyer. The trial court found that, despite the fact that the report was nearly 24 years old, “buyer’s broker led buyer to believe that the report was current and could be relied on as an indication that the property was ‘ready to build.’” Id. at 567. Neither the buyer nor his broker did any further investigation with respect to the report, and escrow closed.

Later, the buyer’s attempt to develop the property was blocked by the County of Riverside. The County told the buyer that the report was outdated and unreliable, as the standards for investigating fault hazards had changed after the 1994 Northridge earthquake. The buyer eventually determined that complying with current standards would require “substantial excavation,” which would have been cost-prohibitive and rendered the property unsuitable for commercial development.

The buyer sued, among others, his own broker, the seller, and the seller’s broker. In a bench trial, the court found the buyer’s broker liable in the amount of $232,147.50 for breach of fiduciary duty and negligence, but found the seller and seller’s broker not liable. The buyer appealed the judgment as to the seller’s broker.

The court of appeal affirmed the trial court’s ruling.

The court first considered the seller’s argument that the seller’s broker’s statement in the MLS was false or inaccurate because it “fails to specify that the report dates to 1982, thereby giving a false impression that the report was current as of the date of the MLS listing and remained ‘valid’ as a basis for commercially developing the property in 2006,” id. at 568, and that the seller’s broker was therefore liable to the buyer for damages under Cal. Civ. Code § 1088.

The court of appeal disagreed. First of all, the seller’s broker was not in a fiduciary relationship with the buyer. The court noted that while real estate brokers owe their own clients fiduciary duties, “they owe third parties who are not their clients, including the adverse party in a real estate transaction, only those duties imposed by regulatory statutes….These duties include a general obligation of honesty, fairness and full disclosure toward all parties.” Id. (Internal quotation marks omitted.)

Under this standard, the seller’s broker met the requirements of Cal. Civ. Code § 1088. Although the listing did not volunteer that the report dated back to 1982, it did not suggest that the report was current, either. If the buyer made an assumption to that effect and failed to carry out his own investigation, this was not the fault of the seller’s broker: “There is nothing in section 1088, or any other source of law, imposing responsibility on a seller’s broker to ensure that true statements in an MLS are not misconstrued, or to make certain that the buyer and the buyer’s broker perform the appropriate due diligence to evaluate the significance of such true statements for the buyer’s particular purposes.” Id. at 570.

The court also found it highly relevant that the listing said the report would be “availableto serious buyers”—and in fact the buyer and his broker did receive a copy of the report before close of escrow. The court noted that “any misleading effect the omission of the report’s publication date conceivably had on a reader was corrected by offering to the reader who is a ‘serious buyer’ a copy of the report itself, which displayed the date on its cover, and by actually providing the report to buyer.” Id. at 571.

The court noted that the buyer’s own broker, who had been found liable by the trial court, had a higher duty, given that he was in a fiduciary relationship with the buyer. Citing prior case law, the court held, “It was incumbent on buyer—and on buyer’s broker, in his role as a fiduciary for buyer—to determine whether the Fault Hazard Investigation report was something buyer should rely on for his particular purposes. Seller’s broker had no obligation to perform that research for buyer and buyer’s broker.” Id. at 572.

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NYC Pushing for Right to Counsel for Poor Tenants in Housing Court

A recent article in the New York Times highlights efforts to provide court-appointed counsel in New York City’s bustling and befuddling “Housing Court.” Democratic Councilman Mark D. Levine has sponsored “[a]n act to amend the administrative code of the city of New York, in relation to providing legal counsel for low-income tenants who are subject to eviction, ejectment or foreclosure proceedings.” The stated purpose of the bill is to “improve access to legal services for low-income tenants who are unable to afford said services, thereby reducing chances of homelessness.”

The Times article notes that “[s]ince 2005, the number of evictions in the city has risen almost every year, reaching 28,849 in 2013….” According to the article, “Tenant advocates argue that as many as half of those evictions could have been averted with legal representation.” The author profiles several indigent people who lost their housing mainly because they could not navigate what one lawyer called a “maze of housing laws.” One woman lost by default simply because she “had not been aware of her court date.” The article notes that “[a]bout one-third of homeless families that entered shelters from 2002 to 2012 were evicted from private housing, and about half of them came from rent-regulated apartments, the budget office reported this month.”

In addition to tenant advocates, the article quotes Judge Lippman, an NYC Housing Court judge, who the article says “has been a leader in the movement for the right to counsel for the poor in civil cases.” According to Judge Lippman, “The tenant doesn’t know what to say except, ‘Judge, help me.’ That’s the typical situation. It puts the judge in a very difficult situation because he’s neutral. It creates such havoc in the system because it’s an uneven playing field.”

This article touches on a broader topic that many Americans seldom think about: The right to counsel in our legal system. Most people know from civics class that under the Sixth Amendment of our U.S. Constitution, “in all criminal prosecutions, the accused shall enjoy the right to…have the assistance of counsel for his defense.” For decades, however, it remained an open question exactly what this guarantee entails. Does it mean only that the state cannot prevent someone from hiring a lawyer? Or, more profoundly, does it mean that poor criminal defendants have a right to a lawyer at public expense?

That issue was put to rest in the landmark case of Gideon v. Wainwright (1963) 372 U.S. 335. In 1961, Clarence Earl Gideon was arrested in Panama City, Florida for the felony offense of breaking into a  pool hall with the intent to steal money from vending machines. The trial court denied his request for court-appointed counsel, and he lost his case. While in prison, Gideon, with the help of the prison law library, appealed the judgment. Eventually, the U.S. Supreme Court unanimously overturned his conviction. The court held that ample precedent, as well as “reason and reflection, require us to recognize that, in our adversary system of criminal justice, any person haled into court, who is too poor to hire a lawyer, cannot be assured a fair trial unless counsel is provided for him. This seems to us to be an obvious truth.” Id. at 344.

The NYC Housing Court case, of course, is a different animal because it involves a civil court proceeding, not a criminal one; so, the Sixth Amendment right to counsel for “an accused” does not apply. However, the push to provide court-appointed counsel in NYC is part of a larger movement to expand the right to counsel for poor people in other types of civil cases. For example, according to a recent article on the American Bar Association website, John Pollock of the Public Justice Center “focuses entirely on working to establish the right to counsel for low-income individuals in civil cases involving fundamental rights and basic human needs such as child custody, housing, safety, health, and benefits.” Pollock notes, “The rights to counsel in criminal and civil cases are mirrors of each other for more reasons than just the collateral consequences that each has on the other. They also share an identical reality as to what it means to be a litigant trying to protect basic needs on one’s own.”

Pollock maintains that the policy arguments that applied in Gideon

are no less applicable to adversarial civil cases implicating basic human needs: Most wealthy people would hire an attorney to avoid losing their home, their children, or, in cases that involve health or safety (such as domestic violence), potentially their very life. The typical indigent civil litigant cannot hope for a “fair trial” when facing off alone in an adversarial proceeding against a landlord’s attorney, or a bank, or a state’s social services agency, or an abuser that brings the full force of intimidation into the courtroom. Moreover, in the end, litigants do not care whether their proceeding is labeled “criminal” or “civil”; they care about what they stand to lose. And what they stand to lose in basic human needs civil cases is every bit as precious as that at stake in most criminal cases.

It is possible that Pollock’s arguments eventually may carry the day and lead to widespread recognition of a right to counsel for poor civil litigants. However, before that happens, it seems more likely to me that certain states will start requiring lawyers to donate a portion of their time to pro bono (free of charge) causes, such as housing court, to help people who just don’t have the money to pay rent in these increasingly expensive urban environments. Indeed, pro bono work is already an important priority of the American Bar Association, which states, “Every lawyer has a professional responsibility to provide legal services to those unable to pay.” ABA Model Rule 6.1. The rule states that attorneys “should aspire to render at least (50) hours of pro bono publico legal services per year.” ABA Model Rule 6.1(a).

Although less insistent than the ABA rules, the State Bar of California has a Pro Bono Resolution providing that “lawyers should ensure that all members of the public have equal redress to the courts for resolution of their disputes and access to lawyers when legal services are necessary.” Likewise, Cal. Bus. & Prof Code § 6068(h) lists as one of the duties of an attorney “[n]ever to reject, for any consideration personal to himself or herself, the cause of the defenseless or the oppressed.”

Moreover, in 2009, California became the first state to enact a law providing counsel at public expense for the poor in certain types of civil case. The Sargent Shriver Civil Counsel Act, sometimes called California’s “Civil Gideon” law, provides free legal counsel in eviction, foreclosure, domestic abuse, predatory lending, child custody, disability, and elder abuse cases for persons 200% below the poverty rate. It remains to be seen if other states will follow suit.

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A Pair of Recent California Cases Expands Borrowers’ Remedies for Negligent Handling of Loan Modifications and Wrongful Foreclosure

Alvarez v. BAC Home Loans Servicing, L.P. (2014) 228 Cal. App. 4th 941

Plaintiffs Arnulfo and Consuelo Alvarez and Enrique and Ofelia De Haro sued their lenders, BAC Home Loans Servicing, L.P., Bank of America, N.A., and ReconTrust Company, N.A. (collectively “Bank of America” or “defendant”) for, among other things, negligence in the servicing of their loans, including negligent review of their applications for loan modification. Plaintiffs alleged that their lender owed them a duty to exercise reasonable care in processing and reviewing their applications for loan modifications under the Home Affordable Modification Program (HAMP) guidelines. Plaintiffs alleged that their lender breached this duty by failing to review their applications in a timely manner, foreclosing on their properties while they were under consideration for a HAMP modification, and mishandling their applications by relying on incorrect information. For example, Plaintiff Arnulfo Alvarez was told his application to modify his loan was rejected because his monthly gross income of $2,554.75 was insufficient, whereas his paystubs showed that his monthly gross income was actually $6,075.00. Alvarez also alleged that the lender falsely claimed he had submitted no documents for review, even though he had sent the documents.

The trial court sustained Defendant’s demurrer without leave to amend, holding, in relevant part, that Defendant owed no duty of care to Plaintiffs in reviewing their applications for loan modifications. Plaintiffs appealed. The court of appeal reversed, holding that Defendant did owe a duty of care and that Plaintiffs had properly alleged a claim for negligence. Id. at 944.

At the outset, the court cited the holding from Nymark v. Heart Fed. Savings & Loan Assn. (1991) 231 Cal.App.3d 1089 that “[a]s a general rule, a financial institution owes no duty of care to a borrower when the institution’s involvement in the loan transaction does not exceed the scope of its conventional role as a mere lender of money.” Id. at 945. However, the court noted the Nymark court’s acknowledgement that in some cases, a lender may owe a duty of care depending on “the balancing of [the ‘Biakanja factors’].” Id. The court recognized that a lender has no duty to review an application for loan modification in the first place. Nevertheless, after applying the Biakanja factors, the court concluded that once a lender “undertakes to review a loan for potential modification,” then the lender becomes subject to a duty of care in considering that application—and breaching that duty can support a claim of negligence.

The court relied heavily on the persuasive authority of the U.S. district case of Garcia v. Ocwen Loan Servicing, LLC, 2010 U.S.Dist. Lexis 45375. The court noted that “it was entirely foreseeable that failing to timely and carefully process the loan modification applications could result in significant harm to the applicants.” Id. at 948. Such harm included loss of title in their home, “deterrence from seeking other remedies to address their default and/or unaffordable mortgage payments, damage to their credit, additional income tax liability costs and expenses incurred to prevent or fight foreclosure, and other damages.” Id. 948–949. The court favorably quoted the Garcia court’s holding that, “[a]lthough there was no guarantee the modification would be granted had the loan been properly processed, the mishandling of the documents deprived Plaintiff of the possibility of obtaining the requested relief.” Id. at 949 (emphasis added).

The court cited several public policy grounds for its decision. For example, the court found it “highly relevant that the borrowers’ ability to protect his own interests in the loan modification process [is] practically nil and the bank holds all the cards.” Id (internal quotation marks omitted). The court also noted that while in the past, a single lender managed a loan “from cradle to grave,” nowadays, various aspects of loan servicing have been “dispersed among different actors in the modern mortgage servicing context, however, changing the relationships between the borrower, the loan originator, the ultimate holder of the loan, and the servicer of the loan…Borrowers cannot pick their servicers or fire them for poor performance. The power to hire and fire is an important constraint on opportunism and shoddy work in most business relationships. But in the absence of this constraint, servicers may actually have positive incentives to misinform and under-inform borrowers. Providing limited and low-quality information not only allows servicers to save money on customer service, but increases the chances they will be able to collect late fees and other penalties from confused borrowers.” Id. (Internal quotation marks and citations omitted.)

In light of these concerns, the court held, “The borrower’s lack of bargaining power coupled with conflicts of interest that exist in the modern loan servicing industry provide a moral imperative that those with the controlling hand be required to exercise reasonable care in their dealings with borrowers seeking a loan modification.” Id.

The court brushed aside concerns about its holding, stating, “Recognizing this general duty will not place an undue burden on mortgage banks and servicers, nor will it have a chilling effect on borrowers’ ability to obtain loan modifications.” Id. at 951. However, others have criticize aspects of the opinion. The most obvious target for criticism is a seeming double standard concerning new loans versus modified loans. Remember, the holding applies only to modification of existing loans. As noted above, the general rule from Nymar is that a financial institution does not owe a duty of care to a borrower when the institution’s involvement in the loan transaction does not exceed “the scope of its conventional role as a mere lender of money.” It is unclear why the lender’s role in modifying a loan exceeds this scope, but its role in considering a new loan does not.

Fonteno v. Wells Fargo Bank, N.A. (2014) 228 Cal. App. 4th 1358

In Fonteno, the lender, Wells Fargo Bank, N.A. (“Wells Fargo”), foreclosed on the mortgage loan of Plaintiffs Fonteno and Childs for their home in Pittsburg, California. Wells Fargo later purchased the home at a trustee sale, filed an unlawful detainer action, obtained a judgment against Plaintiffs, and obtained a writ of execution to evict Plaintiffs from the property. Plaintiffs sued, alleging, among other things, that Defendant violated both (a) their deed of trust’s incorporation of a preforeclosure meeting requirement contained in National Housing Act (NHA) regulations and (b) the Fair Debt Collection Practices Act (FDCPA).

The trial court sustained Defendant’s demurrer to both claims. Plaintiffs appealed. The trial court reversed in part. Although Plaintiffs failed to establish that Wells Fargo was a “debt collector,” as necessary for the FDCPA to apply, the court held that “plaintiffs have pled viable causes of action for the equitable cancellation of the trustee’s deed obtained by Wells Fargo based on their allegation that Wells Fargo did not comply with the NHA requirements incorporated into the deed of trust.” Id. at 1361.

Among the alleged NHA violations were that Wells Fargo failed to meet with plaintiffs face-to-face to discuss alternatives to foreclosure, such as loan modification, and failed to get the approval of the Secretary of Housing and Urban Development prior to foreclosing. Defendant argued that Plaintiffs did not have the right to pursue an affirmative claim for equitable cancellation of the trustee’s deed after the trustee sale has been completed. The court disagreed, relying heavily on the case of Pfeifer v. Countrywide Home Loans, Inc. (2012) 211 Cal.App.4th 1250, in which the court established that foreclosure was void if the foreclosing entity failed to comply with “condition precedents” in the loan agreement, such as FHA face-to-face meeting and other steps that must be taken before foreclosure.

Although Pfeifer was distinguishable because the plaintiffs in that case sought injunctive relief before the trustee sale had taken place, whereas the plaintiffs in the instant action sought equitable cancellation of a completed trustee sale, the court did not find this difference to be decisive: “The fact that plaintiffs seek the equitable cancellation of the trustee’s deed is not a meaningful distinction either. The Pfeifers similarly sought to cancel recorded documents (a notice of default and a notice of trustee’s sale). As we suggested in Pfeifer by our citation to Dimock, such actions may be brought, whether based on the theory that a sale is void or voidable. And as indicated by the discussion in Dimock, the question is not the viability of such an action, but whether tender is required.” Id. at 1369. (The court concluded that tender was not required in this case, citing a number of equitable reasons.)

While many borrowers will rejoice in this holding, some commentators have criticized it. One policy argument raised by Defendants in the case was that “concluding the trustee’s deed is void under these circumstances violates public policy because the threat of such litigation would cloud title to residences for years.” Id. at 1371. The court replied, “Such a public policy argument is best made to the Legislature, not the courts. We must follow the law as it exists. Furthermore, should a trustee’s deed be voidable, rather than void, bona fide purchasers are generally entitled to keep the property purchased.” In response to this statement, the editors of the California Real Estate Law Newsletter (Nov. 2014) wryly note that

in the real estate market, buyers of foreclosed homes are not interested in a court or attorney’s opinion that, in the event of protracted and expensive litigation by a bitter and disgruntled homeowner who lost her home in a foreclosure, the buyer of the foreclosure home will prevail and keep title to the foreclosed home. A buyer of a foreclosed home is interested in obtaining title insurance when she buys a home. If title insurance companies will not insure against a post foreclosure equitable action to cancel a trustee’s deed, buyers will be reluctant to buy foreclosed homes. This decision will have a chilling effect upon the market for foreclosed homes.

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