by on Wednesday, May 8, 2013 Leave a Comment

Is Nashville’s Brand What We Want it to Be?

NashvilleIn January, the New York Times acknowledged Nashville’s spot as the newest “it” city. Billboards and commercials across America showcase the city while advertising ABC’s hit series “Nashville.” On the business front, Nashville is leading the nation in job growth. Given these trends, Nashville must be doing something right.

According to the New York Times, Nashville was “once embarrassed by its Grand Ole Opry roots,” yet those roots seem to be precisely why Nashville is so popular. Nashville, it seems, is now starting to embrace its musical heritage and unique culture. Look no further than the $623 million Music City Center downtown, which will provide ample opportunity for increased visitors and visibility for the city. The Music City Center itself harkens back to Nashville’s musical roots, with its main section being shaped like a guitar. There has even been talk of a guitar-shaped office tower in recent years.

The question becomes, then, “What is Nashville’s brand now, and is that brand what we want?” If the purpose of branding is to distinguish oneself, we must wonder how Nashville can continue to stand out and capitalize on recent national publicity. It would seem Nashville should embrace the past, which it has done, while also looking to the future. Nashville’s extensive commercial real estate developments along West End, the Gulch, the Sobro district and other downtown neighborhoods reflects these values. Nashville has embraced its “Grand Ole Opry roots,” while also focusing on creating a business-friendly environment and varied business sectors that have kept Nashville successful during the economic downturn.

Nashville’s recent real estate development reflects a Southern city that is becoming more modern. The fact that Nashville’s finest and most well-known honky-tonks can be located down the street from a world-class Symphony Center and Nashville’s most prominent office towers seems to be precisely the brand that Nashville’s boosters should want to create — something unique, cool and different.

The new Omni Nashville Hotel, opening in October, is doing just that. It will feature both Bongo Java, a local coffeehouse, and a honky-tonk called Barlines. The ability to simultaneously attract hipsters and honky-tonkers is exactly what makes Nashville stand out. Nashville International Airport showcases live music, which my out-of-town friends always reference approvingly. If Nashville can continue fostering its unique brand of “cool” for the creative class, while also making itself an attractive business destination, then we can expect much more of the positive attention we have been receiving lately.

This post was first published by the Nashville Business Journal on May 7, 2013.  To read more commercial real estate articles by Walt Burton at the Nashville Business Journal, click here>

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by on Monday, April 29, 2013 Leave a Comment

Avoid This Costly Mistake When Signing Leases and Other Documents

One of the main reasons small business owners decide to incorporate is to limit personal liability for business debts. Lawyers usually advise clients to do certain things to maintain limited liability.  Those things are not difficult, but they must be done properly. The typical advice is to open a separate bank account, enact and follow corporate bylaws, hold regular board and shareholder meetings, keep a stock ledger and observe general corporate formalities.

This is all great advice, but sometimes lawyers forget to advise their clients regarding the simplest things: how to properly execute legal documents on behalf of the corporation. A recent opinion by the Tennessee Court of Appeals serves as a great reminder to business owners on just how important the proper execution of legal documents can be.

Mudd v. Goostree involves a fairly standard commercial lease in which Mudd Properties is identified as the “landlord” and (ostensibly) Liberty Cabinets & Millworks Inc. (Liberty) is identified as the “tenant” in the body of the lease. In the signature block, Rexford Goodtree, the primary shareholder of Liberty, signed (italics where handwritten) as follows:

TENANT:

REX GOOSTREE, JR.
By Rex Goostree, Jr.

After Liberty got behind on its rent, the landlord filed suit against Liberty and Mr. Goostree. Mr. Goostree argued that he should not be held personally liable because his company, rather than him individually, was named as the tenant in the body of the lease. The court was unpersuaded and held that by signing his name individually and not as “president,” or whatever corporate title he held in Liberty, it was a “clear and unambiguous designation of Mr. Goostree as the tenant on the lease agreement.”

It is extremely important with commercial leases, or any other legal document, to always clearly list one’s corporate title adjacent to or below one’s name when acting in one’s official corporate capacity. It is clear from this case and many others that courts will not bail you out of a simple mistake unless intent is crystal clear.

This post was first published by the Nashville Business Journal on April 23, 2013.  To read more Thompson Burton commercial real estate articles at the Nashville Business Journal, click here>

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by on Monday, April 1, 2013 Leave a Comment

Tennessee Real Estate Transfer Tax and Exemptions (Tenn. Code Ann. § 67-4-409)

Tennessee Transfer TaxThe Tennessee Real Estate Transfer Tax is codified at Tennessee Code Annotated § 67-4-409.  TCA 67-4-409(a) requires that “all transfers of realty, whether by deed, court deed, decree, partition deed, or other instrument evidencing transfer of any interest in real estate” are subject, upon recordation, to a tax of $0.37 per $100.00 (the “Transfer Tax”) calculated based on the greater of “the consideration for the transfer;” or “the value of the property” (“Transfer Tax Formula”).  The Transfer Tax is paid in consideration of the privilege of recordation and applies to both residential and commercial transactions.

As in most states, there are several exemptions from the requirement to pay the Transfer Tax, including transfer of a leasehold estate, creation or dissolution of a tenancy by the entirety, deeds of division in kind of realty formerly held by tenants in common, release of a life estate to the beneficiaries of the remainder interest, deeds executed by an executor to implement a testamentary devise, domestic settlement decrees, transfers by a transferor of real estate to a revocable living trust created by the same transferor or by a spouse of the transferor, or deeds executed by the trustee of a revocable living trust to implement a testamentary devise by the trustor of the trust. TCA 67-4-409(a)(2)-(3). A transfer of real estate will not be subject to the recordation tax if the transfer is only in the ownership of the entity that owns the realty, such as a stock transfer.  TCA 67-4-409(e).  Also, the recording and re-recording of all transfers of realty in which a municipality is the grantee are exempt from the Transfer Tax.

For purposes of calculating the Transfer Tax in connection with recording of a Quit Claim Deed, the actual consideration shall be used rather than the above Transfer Tax Formula.  TCA 67-4-409(a)(4).

Warranty deeds being sent for recordation in Tennessee must contain an oath regarding the amount of the Transfer Tax due based on the Transfer Tax Formula.  TCA 67-4-409(a)(6)(A).  Affidavits of value are usually placed below the signature blocks of the deed and state: “I hereby swear that the actual consideration of value, whichever is greater, for this transfer is $_______.”  Misrepresentation of value is considered perjury.  Tennessee does not require a separate form, like the Georgia PT-61 Transfer Tax Form, to be completed at the time of conveyance.

 The grantee party usually pays the Transfer Tax, but this can be negotiated between the parties.  The tax is collected by the register of the county in which the instrument is being recorded.  The Transfer Tax shall not exceed $100,000.00 in the aggregate for each transaction.  67-4-409(h)(1).

If you need assistance with calculation of your Transfer Tax or any other component of your commercial real estate transaction, please contact the commercial real estate attorneys at Thompson Burton PLLC.

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by on Sunday, March 3, 2013 Leave a Comment

Commercial Leasing – Top Strategies for Prospective Tenants

Leasing Lawyer

1.  Do a Thorough Review of Your Prospective Tenant Needs.  Prior to starting the property search, perform a evaluation of your overall business strategy and needs.  Ideally, give yourself at least 9-12 months to complete your review and identify the location of your future lease premises.  How much space do you need?  Is telecommuting or flex time an option for your employees?  How important is location?  Do you need to be close to your customers?  Where are your employees located?  Do they need mass transit access?  Is parking a major issue?  Is visibility (from major roadways) important to the success of your business?  What about signage?  Are you willing to execute a long-term lease?  Do you need a termination right?  How quickly is your business growing?  Do you need an expansion strategy?  Do you need use restrictions on the non-leased premises at the property to be successful?

2.  Engage a Commercial Real Estate Broker.  A good commercial real estate broker or representative can usually help tenants evaluate business needs and most importantly understand current market terms based on comparable deals.  This can save a prospective tenant potentially significant amounts of money, particularly given real estate is usually the second largest line-item on a company’s income statement.  Make sure the broker you select is familiar with your industry and market.  If you think representing yourself will save you money, think again.  Almost always landlords will pay an industry standard commission to be shared by both the landlord’s and tenant’s representative, whether there are two brokers or not.  Don’t think for a second that the landlord’s rep will look out for your interests.  Make sure you sign a written brokerage commission agreement that clearly states how the tenant rep will be compensated.

3.  Negotiate a Letter of Intent.  Once you identify a prospective location, negotiate a detailed “letter of intent” with the landlord before moving forward to negotiate definitive lease terms.  The letter of intent should include all material business terms, including description of leased premises, term, rental rates, security deposit (if any), operating expenses, parking rights, signage rights, description of any required landlord or tenant work to be performed prior to occupancy, any future rights (like right of first refusal or expansion option), and any termination rights.  A well negotiated letter of intent can usually save both landlord and tenant significant time and expense because it will let the parties know early on whether a deal is possible or not.  The letter of intent is usually signed by both the landlord and tenant and commits the parties to negotiate a written lease in good faith based on the terms of the letter of intent.  It would be unusual to see a binding letter of intent, so be careful that binding language is not contained in your letter of intent. Assuming the letter of intent is sufficiently detailed, it can save all parties money on legal fees by keeping lease negotiations focused.

4.  Understand the Key Financial Terms of Your Prospective Lease.  Before you execute the final letter of intent, make sure you understand how your lease will be structured.  Most importantly, make sure you understand what is covered by your rent.  Common terms in the commercial real estate industry are “gross” and “net” leases, with net leases being most common.  In a gross lease, the tenant pays rent, and all other expenses are generally the responsibility of the landlord.  A net lease, depending on the type of property and lease (single net, double net, or triple net), will require the tenant, in addition to rent, to pay for items such as taxes, insurance, maintenance, repairs, utilities, and other items related to operation of the property.  In multi-tenant properties (like shopping centers or office buildings), these expenses are almost always “passed through” to the tenants “pro-rata” based on total leased square footage.  If you are negotiating a ground lease, in addition to the requirements of the net lease, the ground lease may require you to actually make improvements to the property, including an obligation to re-build in the event of casualty.  If you are making significant improvements to the property or the term is lengthy, a Subordination, Non-Disturbance and Attornment Agreement (often referred to as an SNDA) is appropriate to protect your investment.

5.  Engage a Commercial Real Estate Attorney.  A commercial real estate attorney should be engaged early in the leasing process to assist with items #1 through #4 above, but the real value that a commercial real estate attorney can add will be during lease negotiations.  Commercial leases can be complex, and attorneys are trained to evaluate risk and structure the terms of the lease appropriately for the size, scope, use, and term of your lease.  I can’t tell you how many times I shake my head as I’m reading through a lease or other legal document at some of the unfair or non-market provisions that make there way into “Standard Form Leases.”  A tenant’s negotiating leverage will vary based on the size and type of transaction and marking conditions.  For instance, a landlord is going to  be more willing to negotiate a 100,000 sf lease than a 5,000 sf lease.  Also, depending on the type of lease (ground, in-line space, or office, etc.), the attorney can advise you regarding the appropriate due diligence to perform prior to entering into the lease.  The greater the size and complexity of your lease, the more important it is to ask an attorney to review the lease—as would be expected, bigger numbers tend to magnify mistakes in law and business.

6.  Understand the Pre-Possession Obligations Under Your Lease.  Now that your lease is negotiated, finalized, and executed, you will likely be responsible for some pre-occupancy obligations under the lease.  For instance, you may need to pay a security deposit and/or advance rent, deliver insurance certificates, and make improvements to the property.  Another common requirement is a “commencement date agreement,” which establishes critical dates that may not be clearly set out in the lease.  Your commercial real estate attorney can help you identify these pre-possession obligations and make sure satisfy them appropriately.

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by on Tuesday, February 5, 2013 Leave a Comment

Tennessee Mechanics’ and Materialmen’s Lien Statute Summary

Tennessee Materialmens' LienIn Tennessee, like most states, there is a statutory means by which a person or company who provides labor or materials for the improvement of real estate can secure payment for the work or materials.  Tennessee’s mechanics’ or materialmen’s lien statute was overhauled in 2007 to make it easier to understand and more simple; however, the statute remains full of potential pitfalls and rife with deadlines of various types that can be costly for the unwary.  We recommend hiring a commercial real estate attorney to ensure your rights are protected.

Although the statutory changes in 2007 require that the statute “be construed and applied liberally to secure the beneficial results, intents, and purposes” of the statute, “strict compliance” with the statute is still required.  Tenn. Code Ann. § 66-11-148; Sequatchie Concrete Co. v. Cutter Labs., 616 S.W.2d 162, 165 (Tenn. 1980).  To have a lien, the claimant must have improved the real estate in some way or have contributed to the improvement, such as by furnishing materials.  The statute defines “Improvement” and essentially states that improving real property means creating a change to it, cleaning it up, or enhancing or embellishing it.  Tenn. Code Ann. § 66-11-101(5).  Under the statutory definition, landscaping the property or activities of that nature qualify as improvements, so it does not have to be construction activity in the strictest sense to be considered an improvement under the statute.  The lien attaches automatically “from the time of the visible commencement of operations.” § 66-11-104(a).

A person or company who has a direct contract with the owner of the property, such as a general contractor, has 1 year from completion of the work (or from date of the last delivery of materials supplied) to file a lawsuit to enforce his lien.  § 66-11-106.  When the owner and direct lien claimant have a direct contract, the claimant does not have to serve or record any notice on the owner regarding the lien.  However, he does have to record a Notice of Lien in the register’s office within 90 days of competing the work to give notice of the existence of the lien to third parties.  § 66-11-112(a) (suggested form of notice of lien included in statute).

A remote contractor (or person or company who does not have a direct contract with the owner of the property) generally only has lien rights with respect to commercial real estate because indirect liens generally do not attach to “residential real property,” which is also a term defined in the statute.  § 66-11-146. A remote contractor must comply strictly with numerous statutory requirements to perfect and enforce his lien.  He must send a Notice of Nonpayment to both the owner and the contractor within 90 days of the last day of the month in which work, services, or materials not paid for were provided. § 66-11-145 (suggested form of notice of nonpayment included in statute).  The statute enumerates very specific information that must be included in the Notice of Nonpayment, which are listed below:

  1. The name of the remote contractor and the address to which the owner and the prime contractor in contractual relation with the remote contractor may send communications to the remote contractor;
  2. A general description of the work, labor, materials, services, equipment, or machinery provided;
  3. The amount owed as of the date of the notice;
  4. A statement of the last date the claimant performed work and/or provided labor or materials, services, equipment, or machinery in connection with the improvements; and
  5. A description sufficient to identify the real estate against which a lien may be claimed.

A remote contractor must also send a Notice of Lien within 90 days of the completion of the improvement or 90 days of the date on which materials were last supplied.  § 66-11-112.  The Notice of Lien must also be recorded in the land records to give notice of the lien to third parties.  A remote contractor has 90 days from the date of service of the Notice of Lien to commence his lawsuit to enforce the lien.  § 66-11-115.

An owner of residential or commercial real estate can force any potential lien holders to assert their lien after the project is completed.  The owner does so by filing a Notice of Completion to which any potential lienholders must respond within 10 days if the property is residential or 30 days for commercial real estate.  § 66-11-143.

Practice Pointers:

  • This area of the law is somewhat complex and requires strict compliance with the statute.  If you are faced with a situation involving a mechanics’ or materialmen’s lien, you may want to consider hiring a commercial real estate attorney with experience in this area to assist you.
  • Remote contractors have more difficulty complying with this statute.  They sometimes fail to send timely Notice of Nonpayment because they focus on the date that work was billed rather than when it was actually performed or when the materials were actually delivered.  Additionally, the Notice of Nonpayment must be served within the 90 day timeline, not mailed by the 90th day.  Whether you are a remote or direct contractor, strict compliance with the statute’s timeline is essential.  The time deadlines in the statute serve as a type of statute of limitations with respect to lien rights, so it is crucial to understand and follow all of the time deadlines.
  • It is also critical to commence the lawsuit to enforce the lien within the statutory time frame.  There is also a requirement that the complaint filed must be a verified complaint.  All of these specific requirements are why it is particularly important to involve a commercial real estate attorney or construction litigator in these types of matters.
  • Some contractors also lose their lien rights by failing to respond to a Notice of Completion.  Contractors must be familiar with the Notice of Completion and respond within the appropriate 10 or 30 day deadline to protect their rights.  From the owner standpoint, owners should use the Notice of Completion mechanism once their project is completed, if they believe there may be existing liens that could arise subsequently.  It is a valuable mechanism to resolve the lien issues efficiently once a project has been completed.
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by on Monday, January 28, 2013 Leave a Comment

FDIC D&O Lawsuits Continue in Georgia

FDIC LawsuitsIn December, I wrote an article about the FDIC’s fervent pursuit of lawsuits against former directors and officers of failed banks in Georgia.  At the time, the FDIC had elected to sue directors and officers at 11 of the approximately 85 banks that have failed in Georgia during this economic downturn.  Since I published that article, the FDIC has continued its onslaught against the directors and officers of failed banks in Georgia by filing 2 additional lawsuits last month.

Both lawsuits were filed in the Northern District of Georgia against former directors and officers of First Security National Bank, which was based in Norcross, Georgia, and Rockbridge Commercial Bank, which was based in Atlanta, Georgia.  The complaints against the directors and officers of these banks are substantially similar to the complaint against the directors and officers of Buckhead Community Bank that I discussed previously.  In the case against First Security National Bank’s directors and officers, the only two causes of action are ordinary negligence and gross negligence.  The claims are also based primarily on the alleged failure to follow the bank’s own loan policies and procedures and failures in underwriting.  The claims against the directors and officers of Rockbridge Commercial Bank are essentially the same factually.  However, against the Rockbridge directors and officers, in addition to the ordinary and gross negligence claims, the FDIC has also brought a claim for breach of fiduciary duty.  The allegations with respect to this claim are standard common law breach of fiduciary duty allegations, alleging that the directors and officers were fiduciaries of the bank, that they breached that duty by “abus[ing] their discretion and/or act[ing] in bad faith in the performance of their respective duties as officers and/or directors of the Bank,” and that these breaches of fiduciary duties proximately damaged the bank.

From a litigation standpoint, it is worth noting that it appears that these D&O cases are being assigned to different judges within the Northern District of Georgia, so it will be interesting to see if the different judges handle these matters differently.  Additionally, the FDIC is using several different law firms to represent it in these lawsuits, so that may also result in slightly different strategies being used.

As I mentioned in my previous post on this topic, Georgia is proving to be a bellwether for the nation with respect to these D&O cases being brought by the FDIC throughout the country.  If the two additional filings in December and the general rate of the filings throughout 2012 are any indication, the FDIC intends to continue to vigorously pursue this type of action, and former directors and officers of failed banks throughout the country should take note.  Although my home state of Tennessee has only seen 3 bank failures since 2007, they have all been fairly recently, in 2012.  Based on the D&O lawsuits in Georgia, it seems that the FDIC has been waiting several years to file the D&O lawsuits after the banks’ failures.  As an example, First Security National Bank and Rockbridge Commercial Bank both failed in December 2009, and the lawsuits were brought almost exactly three years later, which is the relevant statute of limitations in Georgia.  Given this delay, it is likely that Tennessee will not see any of these D&O lawsuits brought by the FDIC in Tennessee in 2013, if it sees any at all.  That delay should give the Georgia cases more time to play out and allow any potential lawsuits in Tennessee of this nature to have the benefit of the rulings by the Northern District of Georgia on the cases existing there.

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by on Tuesday, January 22, 2013 Leave a Comment

What to Expect in a Commercial Real Estate Loan Sale

Commercial Real Estate Loan Sale ChecklistI’m currently advising a bank client regarding the purchase of a loan secured by distressed retail commercial real estate.  There are numerous reasons lenders decide to buy and sale loans.  Often, sellers are facing liquidity demands, regulatory pressure, lack of experience working out a specific type of distressed asset, or simple portfolio realignment.  Buyers often have excess capital to lend or invest, possess the experience to work out a distressed loan, or simply want to try and get control of the note to attempt to foreclose on the underlying commercial real estate.  Recently, it seems like most sales that I see are regulatory related, as banks are pressured to move underperforming or disfavored industry-specific loans (i.e. homebuilder, retail, leisure) out of their portfolios, sometimes at significant discounts.  Many loan sales occur after the FDIC has seized a lending institution and placed it into receivership.  Loan sales can include pools of multiple loans or individual loans, but most loan purchases follow a similar pattern and include the following general checklist items:

 

  1. Non-Disclosure and Confidentiality Agreement (NDA).  Typically, the selling party will require an NDA to be executed by the buyer prior to disclosing any documents or other confidential information about the loan.  This agreement protects both parties and provides for general agreement on safeguarding borrower- and guarantor-specific information.  In most cases, documents are disbursed via an online data room filled with loan documents and diligence materials (title, survey, environmental, financial statements, appraisals, etc.).
  2. Letter of Intent.  By the time a commercial real estate attorney gets involved, presumably the Letter of Intent has been signed memorializing the general business terms (purchase price, earnest money, due diligence period, closing date, etc.) of the deal.
  3. Loan Sale Agreement.  Typically, parties will enter into a loan sale agreement providing time for the buyer to conduct due diligence, prepare for closing.  Loan Sale Agreements usually include basic representations from the seller as well as acknowledgements from the buyer regarding the potential distressed nature of the loan.  If the sale is “as is” or deeply discounted, there may not be an extensive due diligence period, and the parties may move directly to close (sometimes actually signing the loan sale agreement as part of closing, if at all).  This is often the case in FDIC-related loan sale transactions.
  4. Due Diligence.  The due diligence checklist for a loan sale is similar to any initial loan checklist for indebtedness secured by commercial real estate.  The purchaser should perform a title examination, update the assigning lender’s survey (or obtain a no-change survey affidavit), update environmental due diligence, perform a lien search on the relevant parties, review all existing loan documents, review the seller’s correspondence file with the borrower, and generally identify any deficiencies with the loan documentation, security interest, or underlying collateral.  I always try and obtain borrower’s and tenant estoppels if possible to verify my expectations regarding the loan status and rent roll.  Usually, loan agreements and lease documents will require borrowers and tenants to deliver estoppels upon reasonable request.  I always advise my buyer clients to update all available diligence information.  Based on the size and nature of the transaction, clients will determine the time and expense they want to devote to due diligence.  At a minimum, loan purchasers should (and can cheaply in most states) obtain an ALTA assignment endorsement that insures the assignment document properly vests the security title in the loan purchaser.
  5. Closing. There are three key documents that are typically part of a commercial real estate loan sale closing: (i) allonge endorsement to note; (ii) assignment of security documents (this is usually in recordable form); and (iii) general (omnibus) assignment of loan documents.  Other deal-specific assignment documents (like assignments of declarant’s rights or entitlement rights) may be included depending on the specific facts and circumstances of the transaction.  Another document that is typically executed at closing is a “hello letter.”  The hello letter notifies the borrower of the transfer and directs the borrower to make future payments to the new owner of the note.

 

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by on Friday, January 11, 2013 Leave a Comment

Construction Lending–Do Lenders ever owe a Duty to Ensure Construction Funds are Used Properly?

Construction SiteI can count on one hand the number of times I’ve seen commercial real estate construction projects come in under budget.  It never fails that last minute changes, upgrades, or “surprises” cause costs to be higher than expected.  Most of the time, one’s construction budget has been pre-approved by the lender and all draw requests are made as one progresses from beginning to end of the project.  So what happens if the lender isn’t really paying attention, funds all draw requests, and construction funds run out while the project is only partially completed?  Whose fault is it?  A question raised by this perpetual problem is what obligation, if any, does your lender have to make sure that your project is progressing appropriately and that the money that the lender has provided for the project is being used appropriately or prudently.

Recently, the Tennessee Court of Appeals decided a case involving a construction loan obtained by Frank and Beverly Booker for the construction of a new home.  Suzich v. Booker, No. W2011-02583-COA-R3-CV, 2012 WL 3055991 (Tenn. Ct. App. July 27, 2012).  Even after increasing the principal amount of the loan from $1.35 to $1.7 million, the loan funds were used before the completion of the home.  The contractor filed notice of his claim for a materialmen’s lien against the property and filed a lawsuit to enforce it, naming the Bookers and the lending bank as defendants.  In response, the Bookers filed a cross-claim against the bank, alleging breach of contract.  The Bookers alleged that the bank breached the following provision of the construction loan agreement because the bank allegedly disbursed all of the loan funds without performing any of the inspections that were allegedly required by the provision:

8.         CONDITIONS PRECEDENT TO ALL LOAN DISBURSEMENTS.

The following conditions will be complied with before [the Bank] disburse[s] . . . and Loan reserves and proceeds. . . .

D.         Inspection.  [The Bank] or [the Bank’s] consulting architect will have inspected the Project and have found the Project at that time reflects good quality work and materials, complies with the Plans and Specifications and completes that construction stage.

The bank answered and denied that it failed to inspect the construction and also denied that it owed any duty to the Bookers to inspect the construction.  Regarding the bank’s alleged duty to inspect the construction, among other provisions, the bank referred the court to the following provision:

13.       AGREEMENTS. Until the Loan and all related debts, liabilities and obligations are paid and discharged, [the Bookers] will comply with the following terms, unless [the Bank] waive[s] compliance in writing. . . .

L.         Lender’s Actions Only for Lender’s Protection.  [The Bookers] agree that [the Bank] and your consulting architect are not obligated to inspect, supervise, prevent Construction Liens, or inform [the Bookers] about the Project’s progress or performance.  [The Bank] and your consulting architect act for your protection when inspecting the Project, procuring sworn statements and waivers of liens, approving change orders and similar actions.  An Inspection for or by [the Bank] does not waive any default and is not a representation that I have complied with this Agreement, any applicable laws or that the Project is free from defective materials or labor.

The trial court entered summary judgment in the bank’s favor, finding that the bank had no duty under the construction loan agreement to inspect the construction of the Bookers’ home for the Bookers’ benefit.  The Court of Appeals affirmed the trial court’s ruling on the bank’s summary judgment motion.

“In the absence of a contrary agreement between the parties, the general rule in Tennessee is that a lender owes no duty to a borrower to disburse loan proceeds for the borrower’s benefit.”  Goodner v. Lawson, 232 S.W.2d 587, 589-590 (Tenn. Ct. App. 1950).  However, an exception to the general rule arises when a lender assumes such a duty by express or implied agreement.  The Tennessee Court of Appeals and courts in other jurisdictions have determined that, under those circumstances, the construction loan agreement governs the lender’s duty.  See, e.g., Lomax v. Headley Homes, No. 02A01-9607-CH-00163, 1997 WL 269432 (Tenn. Ct. App. May 22, 1997).

In Suzich v. Booker, both the trial court and the Court of Appeals upheld summary judgment for the bank and determined that the bank did not have a duty under the terms of the construction loan agreement to inspect the property for the Bookers’ benefit.  The Court of Appeals noted that the construction loan agreement provided that the bank was obligated to disburse advances as long as the Bookers “have complied with all conditions precedent required for each advance.”  The Court of Appeals also noted the provision of the agreement cited by the bank, stating that the bank’s inspections were for its benefit only.

Practice Pointers:

  • Lenders should avoid assuming any duties to disburse funds directly to contractors or other third parties.  If possible the lender should either disburse directly to the borrower upon satisfaction of various conditions or disburse to through a third-party agent (title company).
  • This case demonstrates the importance of reading one’s loan contracts in their entirety to understand the rights and obligations of each party clearly or to be represented by counsel who specializes in real estate finance.  It is vital to be properly represented by counsel in negotiating these types of contracts, especially when the amount financed is considerable, to ensure that your interests are properly protected and to make sure that you understand the risk that you are undertaking in connection with the loan and the contract.  Whether you are the lender or the borrower, it is important to understand each party’s role and clearly lay out each parties duties under the agreement.
  • Construction of large commercial real estate projects (or even an individual’s home) can involve many parties, many loans, and a lot of money.  These projects can be very complicated and many additional complications are certain to arise during the course of the project.  This is why it is so important to involve professional legal counsel from the outset who is trained to anticipate each eventuality and provide for those in the contracts, such as Thompson Burton PLLC.
Filed Under: Real Estate Finance, Tennessee Commercial Real Estate Tagged With: , , , , , , ,
by on Saturday, January 5, 2013 Leave a Comment

Tennessee Foreclosure Deficiency Statute; Is 86% the New Magic Number for Calculating Foreclosure Bids?

Tennessee Deficiency Statute

Tennessee Deficiency Statute

In response to the thousands of foreclosures of commercial and residential real estate that have taken place across Tennessee over the last few years, the legislature overhauled the Tennessee Deficiency Statute, which governs a lender’s collection of the balance owed by a borrower after foreclosure occurs.  The Tennessee deficiency law, which is codified at Tenn. Code Ann. Section 35-5-118, provides generally as follows:

  • Subsection (a) confirms that Lenders are entitled to deficiency judgments in Tennessee.
  • Sub-section (b) defines a deficiency judgment as “the total amount of indebtedness prior to the sale plus the costs of the foreclosure and sale, less the fair market value of the property at the time of the sale” and codifies the principle that a sale at public auction creates a rebuttable presumption that the sale price of the property is equal to the fair market value of the property at the time of sale.
  • Subsection (c) provides that a debtor can overcome the presumption set forth in subsection (b) by a “preponderance of the evidence” showing that the property sold for an amount “materially less” than the fair market value of the property at the time of the foreclosure sale.  If the debtor overcomes the presumption, the deficiency will be “the total amount of indebtedness prior to the sale plus the costs of the foreclosure and sale, less the fair market value of the property at the time of the sale as determined by the court.”

Most of my lender clients already calculate their foreclosure bids based on a formula.  I would say the most common formula is to bid the lesser of: (i) the loan balance (which includes all foreclosure costs and expenses as well as attorneys’ fees); and (ii) the current fair market value of the property (based on an updated appraisal or broker opinion letter) discounted by the estimated carrying costs during the marketing period to sale the property (if this isn’t already included as part of the appraisal or opinion).  Based on this formula, most lenders already comply with the above formula laid out by the Tennessee Deficiency Statute.

During the last 2 years, there has been some uncertainty regarding what “materially less” actually means as used in sub-section (c) of the Tennessee Deficiency Statute.  The Tennessee Code does not currently define this term.  Recently, the Tennessee Court of Appeals heard a case, Greenbank v. Sterling Ventures, L.L.C., No. M2012-01312-COA-R3-CV, 2012 WL 6115015 (Tenn. Ct. App. December 7, 2012), interpreting the meaning of “materially less” as used in the statute.  In that case, the bank bid $667,400 for the property at foreclosure.  The debtor argued that the actual value was somewhere between $735,000 and $750,000.  Even assuming the property was worth $750,000, the court opined that a bid of $667,400 (or 89% of the “fair market value”) was not materially less than fair market value of the property at the time of the foreclosure sale.  The court stated that in order to be “materially less,” there would have to be a “significant” or a “pretty substantial difference.”  The court approvingly cited to another case, State of Franklin Bank v. Riggs, No. E2010-01505-COA-R3-CV, 2011 WL 5090888 (Tenn. Ct. App. Oct. 27, 2011), that held that a foreclosure bid equal to 86% of appraised value was not “materially less” than fair market value.  Furthermore, probably most important for lenders is that provided the bank bids at least 86% of the borrower’s claimed fair market value, the lender will very likely win at summary judgment.

Practice Pointers:

  • Lenders who want to maximize any potential deficiency against the debtor parties will likely now multiply their appraised value by 86% (or more) when determining their foreclosure bid.  Given the strong language used in the opinion, it is likely a lender could bid much lower than 86% and withstand judicial review.
  • Lawyers should remind their lender clients that the bid should be 86% of whatever the highest alleged value by the borrower might be in order to win on summary judgment.
  • For lenders who don’t obtain current appraisals prior to the foreclosure, it may be advisable to incur the cost of an update to establish a reliable benchmark for calculation of the foreclosure bid.  The updated appraisal may come in handy if the foreclosure bid is challenged.  The appraisal may also give the lender more confidence to use an aggressive bid strategy by discounting from fair market value.  Assuming the lender can actually collect on an ultimate deficiency (big if), the lender may actually make money on the investment in an updated appraisal.
Filed Under: Ownership and Leasing, Real Estate Finance, Tennessee Commercial Real Estate Tagged With: , , , , , , , ,
by on Thursday, December 27, 2012 Leave a Comment

Should Lenders Notify Insurance Providers Regarding Foreclosure Proceedings Against Residential or Commercial Real Estate?

Foreclosure Notice

Foreclosure Notice

The Tennessee Court of Appeals recently decided an important case addressing whether lenders are required to notify property insurers regarding commencement of non-judicial foreclosure proceedings against residential or commercial real estate.  U.S. Bank, N.A. v. Tenn. Farmers Mut. Ins. Co., No. W2012-00053-COA-R3-CV (Tenn. Ct. App.  Nov. 29, 2012).

In the US Bank case, the owner of the residence failed to make timely mortgage payments, and the bank commenced foreclosure proceedings.  Soon thereafter, the owner filed for bankruptcy, which stayed the foreclosure proceedings.  After the foreclosure proceedings were stayed, the residence was destroyed in a fire, apparently as a result of methamphetamine production in the home.  After the fire, the bank made a claim to recover insurance proceeds, and the insurance company refused to pay the claim.  The insurance company’s refusal to pay the claim was based on the bank’s failure to notify the insurance company regarding commencement of foreclosure.  The insurance company argued that Tennessee Code Annotated § 56-7-804 requires the bank to notify the insurer of the commencement of the foreclosure proceedings because under the statute foreclosure is an “increase of hazard” of which the bank was aware.  When the insurance company denied the claim, the bank filed suit against the insurance company alleging breach of contract, bad faith, and unfair or deceptive practices under the Tennessee Consumer Protection Act (“TCPA”).

The trial court held for the bank, opining that there was no duty to notify the insurer regarding the foreclosure.  On appeal to the Court of Appeals, that court reversed, finding that the commencement of foreclosure proceedings did amount to an “increase in hazard,” and the bank’s failure to give notice precluded coverage.  The Tennessee Supreme Court then reversed the Court of Appeals and held that the commencement of foreclosure proceedings did not constitute an increase in hazard under the terms of the insurance policy at issue or under Tennessee Code Annotated § 56-7-804.  On remand from the Supreme Court, the trial court entered a judgment in the bank’s favor for the amount due on the mortgage plus accrued interest and attorneys’ fees and costs, stating that the insurer’s interpretation of the policy to require notice of the foreclosure proceedings amounted to bad faith and an unfair practice under the TCPA.  In this recent opinion, the Court of Appeals reversed and remanded the case to the trial court, finding that there was no basis for determining that the insurance company had acted in bad faith and in violation of the TCPA.

Our Observations:

Seemingly, this case applies in a very narrow class of situations, namely, when foreclosure proceedings have been commenced with respect to a residential property and that property is subsequently destroyed by fire.  However, lenders should be aware that we have seen an increase in insurance companies changing their policies to address this specific situation as a result of the increase in foreclosure proceedings.  Insurance companies are doing this because they perceive properties in foreclosure as increasingly risky because they are vacant, subject to vandalism, and property owners have a decreased incentive to protect the property.  Even though the Tennessee Supreme Court has determined that an insured person or entity is not statutorily required to notify the insurer of the commencement of foreclosure proceedings, because of the changes in the insurance policies themselves, including residential and commercial real estate property insurance policies, it is important to discuss this issue.

Whether a lender has commenced foreclosure proceedings or not, it is important to read and understand the applicable insurance policy with respect to residential or commercial real estate.  Insurance companies are increasingly including notice requirements regarding a wide array of events, and lenders should be aware of the events that require notice to the insurer.

Out of an abundance of caution, we recommend that lenders require their foreclosure counsel to notify the applicable insurer regarding commencement of foreclosure proceedings at the beginning of the foreclosure as a normal, routine part of their process.  It is very simple to send a form letter to the insurer notifying them of the commencement of foreclosure proceedings.  It seems that adding a notification to the insurer to the foreclosure proceedings is a cheap solution out of an abundance of caution.  This would avoid the possibility of missing a change in or misinterpretation of the insurance policy or a change in the applicable law.

Additionally, these types of notice requirements may apply even in the absence of foreclosure proceedings.  For example, an insurer may require lenders to notify them if one’s commercial real estate property is not currently leased (i.e., is vacant) because of the insurance companies’ perceived increased risks that are discussed above.  The key takeaway is to be aware of the requirements under the applicable insurance policy.

A few practice pointers to remember:

  • Most importantly, review the insurance coverage of your residential and commercial real estate properties to make sure that your investment is adequately protected.
  • Once you have adequate protection in place, review your insurance policies (or have counsel review them) to make yourself aware of any notice requirements or other conditions precedent to coverage.
  • If you commence foreclosure proceedings with respect to residential or commercial real estate property, review your specific insurance policy to determine if notice to the insurer of the commencement of foreclosure proceedings is required.  Even if it is not expressly required, consider giving notice to the insurer out of an abundance of caution as a normal part of your foreclosure checklist.
  • Lastly, any time you give notice to an insurer or otherwise, make sure that you adequately document and record evidence of the notice.  We recommend sending the mail certified, return receipt requested so that you have a record of the other party’s receipt of your notice.

 

Filed Under: Real Estate Finance, Tennessee Commercial Real Estate Tagged With: , , , , , , , ,
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