A Lender’s Claim For “Bad Faith” Waste Is Actionable Notwithstanding Antideficiency Statutes Unless The Waste Results From Economic Pressures Of A Depressed Market

A California Court of Appeal recently held that notwithstanding the antideficiency statutes, the holder of a note and deed of trust that exercises the power of sale may bring an action for bad faith waste and impairment of security that results from the destruction of a building on the secured property unless the destruction of the building itself was due to the economic pressures of a depressed market.  (Fait v. New Faze Development (--- Cal.Rptr.3d ----, Cal.App. 3 Dist., June 27, 2012).

Facts

Allen Warren (“Warren”) owns New Faze Development, Inc. (“New Faze”).  Wendy S. Saunders (“Saunders”) worked for New Faze as director of project development and Jay Rivinius (“Rivinius”) worked as its director of construction.  In February 2005, New Faze and Soul First Properties, LLC (jointly, the “Purchasers”), purchased real estate from The Harrison Holland Fait and Barbara Fait 1990 Trust (the “1990 Trust”).  The Purchasers paid a down payment of $52,500 and executed a promissory note for $472,500 to the 1990 Trust, which was secured by a deed of trust on the property.  At the time of the sale, a small social services agency and a church were tenants in the building located on the property.  A new roof had been installed on the building in 1999 and a new ceiling and light fixtures had been installed in part of the building in 2003.

The Purchasers bought the property with the intent to demolish the existing building, evict the tenants, and redevelop the property into a mixed-use development that would contain retail, residential, restaurant, and office space and a garage.  Warren made the decision to demolish the building, Saunders ordered the demolition, and Rivinius signed an agreement to hold the city harmless from any liability arising from the demolition.  The demolition took place in October 2006. 

In 2007, the 1990 Trust transferred its interest in the note and deed of trust to the Donna Fait and the Glenn Fait 2005 Trust (the “Faits”).  Prior to construction of their project, the Purchasers ultimately defaulted on their payments on the promissory note, failed to pay the taxes due on the property, and failed to pay for insurance for the property.  The Faits initiated nonjudicial foreclosure proceedings under the deed of trust.  The Faits bought the property at a public foreclosure sale in May 2009 for $14,097.  At that time, there was more than $7,000 due in property taxes on the property.

The Faits brought a lawsuit against New Faze, Warren, Saunders, and Rivinius, (collectively, New Faze) for bad faith waste, intentional impairment of security, and negligent impairment of security.  New Faze sought summary judgment on the ground that there was no evidence it acted in bad faith or with improper intent and that the Faits cannot state a cause of action against its agents or employees. The trial court granted summary judgment in favor of New Faze.

Decision

The court of appeal reversed the decision of the trial court and held that the Faits can proceed in their lawsuit against New Faze.  The court held the Faits' lawsuit is not barred by the antideficiency statute,   Code of Civil Procedure section 580.  Section 580(b) prevents a deficiency judgment after a private or judicial foreclosure sale of property that was used to secure a purchase money mortgage.  Section 580(d) provides that a mortgagee can obtain a deficiency judgment following a judicial foreclosure but not after a private foreclosure under the power of sale contained in a deed of trust. 

New Faze asserted that a claim of “bad faith” waste based on the destruction of the building on the property cannot be maintained against it because there was an “absence of recklessness and intent to despoil at the time of the demolition.”  The court rejected this argument finding that “it does not strictly matter whether those who demolished the building on the property did so based on a good faith belief that the property could be developed, or that they made substantial efforts to get the development project underway.”  The court found “it is no defense to an action for waste based on the demolition of a building to simply claim that the demolition was part of a good faith attempt to improve the property.”  The court concluded that as long as New Faze did not cause the building to be demolished solely or primarily due to the economic pressures of a market depression, it can be liable for “bad faith” waste.

The court found that if the owner of property that is subject to a deed of trust which secures a purchase money loan engages in conduct that impairs the value of the property that secures the loan, or in other words, commits “waste,” and he or she engaged in the conduct because of economic pressures due to market depression, the resulting reduction in value of the property is “for all intents and purposes, the same as if the loss in value had resulted directly from the general decline in property value due to the depression.”  In such a situation, the “damages for waste would be the functional equivalent of a deficiency judgment.” 

However, if the purchaser's conduct that impairs the value of property does not arise solely or primarily from the economic pressures of a depressed market, “then damages for waste are not the functional equivalent of a deficiency judgment.”  The reason for this conclusion is that “such circumstances 'do not involve the type of risk intended to be borne by' the purchase money lender,” which is “the risk the security will be inadequate because of a decline in property values due to a general or local depression.”  A purchase money lender is not required to assume the risk of conduct by the purchaser that devalues the property where the conduct is not caused primarily by economic pressures of a market depression.  Therefore, the court concluded that allowing damages for waste where the conduct is not caused primarily by a market depression does not contravene the policy behind section 580(b). 

The court concluded that “bad faith” waste can occur whenever an owner impairs the value of the property and the impairment is not related to the economic pressures of a market depression regardless of whether “the owner acts recklessly, intentionally, maliciously, or with some other mental state.”  The fact that New Faze may have had the best of intentions does not entitle it to escape liability to the Faits for waste.  The question that must be answered is whether the demolition of the building was caused by the economic pressures of a market depression.  This question is for the trier of fact to decide.

The court further held that “intent to harm” is not a required element for a cause of action for intentional impairment of security.  It also concluded that the trial court erred in granting summary judgment in favor of Warren, Saunders, and Rivinius on the Faits' cause of action for negligent impairment of security.  There was evidence that each of these individuals was involved in the demolition of the building and they failed to show as a matter of law that they “acted with ordinary care or skill with respect to the security interest in the property when they” made their decisions regarding demolition.   

Questions

If you have any questions concerning the content of this Legal Alert, please contact the following from our office, or the attorney with whom you normally consult.

Bruce A. Scheidt or Amara Harrell | 916.321.4500

Jon E. Goetz | 805.786.4302

 

Published In: Business Torts Updates, Civil Procedure Updates, Finance & Banking Updates, Commercial Real Estate Updates

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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