Changes in the California Legal Environment for Commercial Lenders and the Dangers of “Extending and Pretending” in Dealing with Commercial Loan Modifications

by Ervin Cohen & Jessup LLP

I have recently reviewed several articles about the recent trial court decision of Zigner v. Pacific Mercantile Bank, Orange County Case No. 30-2010-00337433 (filed in January 2010). Our firm did not represent any party in this action and I do not believe that any of the parties are clients of our firm. However, I understand that in the Zigner case, a jury apparently found the Bank liable for converting the customer’s bank accounts held by the customer, after the $200,000 line of credit with the Bank matured. According to several accounts of this case that I have read, the plaintiff alleged that the Bank led the plaintiff to believe that it would extend the line of credit as it had purportedly done on previous occasions. However, in 2009, the Bank did not extend the maturity date of the line of credit and, instead, called the line of credit in default. Thereafter, the Bank allegedly set off the customer’s bank account without notice to the customer but purportedly in accordance with the terms of the written agreement between the parties. Nevertheless, it seems that the jury awarded the plaintiff $250,00 in compensatory damages against the Bank as well as $1.8 million in punitive damages (although the punitive damage award may have been reduced later by the court to $950,000).

I am not aware of whether the Zigner trial court decision has been appealed but, if so, there does not appear to be any ruling by an appellate court regarding this case. Accordingly, this decision is not binding on any California court, and if an appeal has been taken to this case, this decision may later be overruled.

Assuming that the facts of the Zigner case as discussed above are correct, is this result surprising? Five to ten years ago, I would have said yes and, instead, predicted that there would have been a strong likelihood that the Bank would have been successful on a motion for summary judgment or other pre-trial motion, before this matter even went to jury trial. Now, I do not believe that this decision is terribly surprising, not because of the change in the law in the last five to ten years, but, instead, a noticeable change in the treatment of lenders in general, and banks in particular, by California courts especially after the most recent economic downturn. I believe the courts may be weary from hearing and reading about many cases of extreme lender misconduct, especially in the context of residential real property loans, in the last three to four years. I also believe that the recent decision by the California Supreme Court in the case of Riverisland Cold Storage, Inc. v. Fresno-Madera Production Credit Association, 55 Cal. App. 4th 1169 (2013) has also afforded borrowers a very important weapon to force trials in many cases that could previously have been disposed of by pre-trial motions, such as by motions for summary judgment. Please recall that in the Riverisland decision, the California Supreme Court vitiated the parol evidence rule by allowing a borrower to raise fraud claims against its lender that contradicted the terms of the written agreement between the parties. Accordingly, as demonstrated by the Riverisland decision and the Zigner case, commercial lenders cannot simply rely on the terms of their loan documents to be successful in California courts.

Although I believe it is unfair to generalize that all California courts will rule against commercial lenders whenever given the opportunity, I have witnessed new challenges being raised by California courts against commercial lenders resulting in additional delays and expenses for our lender clients both as a result of this new trend in the law against lenders as well as the overburdened state of the California court system. I believe that these trends will continue at least in the near future, making it potentially more difficult, time consuming and expensive for lenders to obtain resolution of their problem loans in court.

I do not want to suggest that commercial lenders are powerless in light of these recent trends. Ignoring both the state of current California law and the California court system and simply “kicking the can” or continuing to modify matured loans without carefully analyzing potential future harm to the lender and its collateral is also not the answer. Instead, I believe it is incumbent on commercial lenders to be more careful, especially when dealing with commercial loan modifications for loans that have been previously modified on numerous occasions over a prolonged period of time. Taking into account that an estimated $1.4 trillion in commercial loans is scheduled to mature between 2014 and 2017, commercial lenders may wish to review, revise and more consistently use their pre-negotiation letters and be extra diligent in terms of what is said (and what is not said) during negotiations, regardless of whether such communication is oral, or found in e-mails or in other correspondence. Lenders should be willing to avail themselves of all available tools to enhance their recovery, including such provisional remedies as writs of attachment, writs of possession and the appointment of receivers. Lenders should also not be using the same standard loan modification forms but need to be more creative in the preparation of their modification documents, if immediate enforcement of the loans is not the preferred solution.

I also believe that it is imperative for commercial lenders to keep in mind recent California decisions and the state of the California court system when negotiating new commercial loans with its borrowers and draft such commercial loans accordingly.


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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