Sunday, June 19, 2011

Georgia Foreclosure Law, MERS, and Real Estate: Where Are We?

Around the country several courts have been ruling on some of the critical legal problems that have arisen as a result of the Foreclosure Crisis.  The basic problem, trying to avoid legalese, is that for over one hundred years, it was bedrock law in the United States that a mortgage had to be "attached" to the loan it secured in order for it to be enforceable against the property that secured the note.  In other words, the holder of the mortgage had to possess the note as well to foreclose on the home.  For example, the United States Supreme Court case  Carpenter v. Longan 83 U. S. 271 (1872) stated 139 years ago that "the note and mortgage are inseparable; the former as essential, the latter as an incident. An assignment of the note carries the mortgage with it, while an assignment of the latter alone is a nullity."  In other words, if the note is assigned without the mortgage attached to it, the person left holding the mortgage cannot foreclose on the property, and the note becomes unsecured.  Fast forward to 2011.

In the 90s the lenders got together to solve a problem.  The business of taking mortgages and putting hundreds of them all together in a security instrument, and selling shares of that pool of debt was a huge hit, and generated massive fees.  The debt could be sold over and over just like bonds and a big market began to flourish.  The problem was that every County in the United States taxes the transfer of mortgages on real property, and each mortgage transfer has to be recorded in the property records.  So in order to avoid the taxes and the hassle and cost of recording all these profitable transfers of the notes, they invented MERS, the Mortgage Electronic Registration System.  MERS was made the mortgage holder in a lot of mortgages, perhaps millions.  In foreclosure they serve as the "nominee" of the bank that holds the note.  The argument that this is illegal is a state by state issue, but the gist of it is that the MERS method of handling the mortgage and the debt is illegal because the mortgage and the note get separated  and, under cases like the Carpenter case, the mortgage is null and void, and the loan is unsecured.    MERS is not a bank, and cannot be a lender.  Thus, the argument goes, MERS cannot foreclose on homes.  This is a huge legal problem working its ways through courts in the fifty states.  Courts have come out both ways, with MERS winning some and the homeowners winning others, particularly in New York and Massachusetts.  Last week a big win for MERS occurred in California.  

None of the appellate courts of Georgia have had an opportunity to opine on this legal issue.  In his blog, well known Georgia real estate litigator Hugh Wood has discussed the arguments on behalf of the homeowner under Georgia law.   In different cases MERS is the agent, assignee, or nominee of the lender.  Mostly as the nominee.  Wood has identified several terms of the Georgia law that are, in his opinion, fatal to MERS acting as a nominee for the lender. Click here and you can see the argument laid out in full.  All of the cases about MERS and Georgia law appear to still be pending as of this writing.  In the cases that have gone for MERS, it seems like the courts have basically stretched the meaning of nominee because of a results oriented notion that, notwithstanding the fact that MERS clearly breaks the longstanding law on mortgages and loans having to move together, there are just too many cases out there and too much turmoil in the real estate market to let the old law stop the runaway train.  In other words, one could argue, MERS broke the law so many times that as a state policy issue we have to let it slide and get these houses moving through the market.  This is another version of the "too big to fail" argument the banks succeeded in making to the executive and legislative branches, and now they are making it to the courts. 

Of course, the loan is still in place, so the homeowner still owes the bank the loan, it is simply unsecured.  What a bank could do is sue on the note and levy all of the assets, garnish the wages, and make life miserable on the debt holder unless they surrender the house.  The bank can put a lien on the house after they get the judgment on the note, but that judgment lien all by itself cannot force the homeowner to leave involuntarily like a mortgage foreclosure.  Sooner or later, the bank will get the house, or if the bank gets shut down, the FDIC.  The only question is how long the homeowner gets free housing.  A stubborn homeowner could stay in a house a long time, but it would be awfully difficult to stay afloat financially.  If you live in the house it is not hard to find you.  Most judgment debtors are hard to find, but not a judgment debtor on a residential mortgage that still lives in the house.  Life would probably be simpler walking away from the house and renting something affordable, but for some people there is no place like home. 


Wednesday, June 15, 2011

Office Depot Learns That an Estoppel Certificate Can Stop a Tenant in Retail Lease Suit Over Exclusive Use Provision, and What About No Waiver Clauses in Leases?

Office Depot Brand Briefcase, Minus Form Lease
Office Depot lost an effort to terminate a lease based on the alleged breach of a restrictive covenant by another tenant after having signed an estoppel certificate after the alleged breach occurred.  Office Depot, Inc. v. The District at Howell Mill, 2011 Ga. App. LEXIS 381, Decided May 6, 2011.  Office Depot filed a declaratory judgment action against its landlord for breach of the exclusive use provision (The "Exclusive") of its retail commercial lease. It also sought a judgment that it could not pay rent or terminate the lease based on the alleged breach of the Exclusive.  The landlord counterclaimed for past due rent, attorney fees, and a declaration that it did not breach the lease.  The trial court granted the landlord summary judgment and the Court of Appeals affirmed. 

The record showed that Office Depot had a lease that was executed in 2005 that prevented the landlord from, among other things, leasing space to a business that "primarily" sold school supplies.  Nonetheless, the landlord leased space 18 months later to a store called The School Box which, naturally, sold school supplies.  The School Box opened in November 2006.  In May 2007, the company ELPF agreed to purchase a majority interest in the shopping center. As is usually the case, in connection with the sale of the shopping center the tenants were asked to sign estoppel certificates, which, as the name indicates, are designed to estop the signatories from claiming breaches based on actions prior to the signing.  The purchaser and lenders rely on these certificates to ensure that they are buying a shopping center without any problems.  On April 24, 2007 Office Depot signed an estoppel certificate that stated, among other things, that to Office Depot's knowledge, the landlord was not in violation of any terms of its lease. 

Obviously Office Depot knew that The School Box was in the shopping center selling school supplies at the time it executed the estoppel certificate.  The Exclusive was a standard one that provided the tenant alternative remedies, (1) to pay reduced or "Alternative Rent" and (2) to terminate the Lease.  On December 6, 2007 Office Depot gave notice it would start paying Alternative Rent in 60 days.  It started paying reduced rent in February 2008 and in May 2009 filed its lawsuit against the landlord.  

Office Depot argued that that the reliance on the estoppel certificate was unreasonable because the landlords knew that The School Box violated the lease.  The court disagreed.  The record showed that the review of the School Box lease (which listed many activities besides selling school supplies), a visit to the School Box store, and the fact that Office Depot made no complaints led the purchase ELPF to conclude that the School Box was not in the "primary business" of selling school supplies.  The record showed that the District at Howell Mill made the same conclusion when it entered into the lease.  Thus the court held that, as a matter of law, the landlords had reasonably relied on the estoppel certificate. 

It is unclear that reasonable reliance should even be a defense against an estoppel certificate in a case where the tenant clearly knows what is going on before signing the estoppel certificate.  Instead, it should be clear that the estoppel certificate operates as a waiver, which is the unilateral and knowing relinquishment of a right.  The landlord should be able to assume that if the tenant signed the estoppel certificate well after The School Box entered the shopping center, then they were waiving any rights to contest The School Box's presence, and thus need not show that the reliance was reasonable at all.  I do not know if the landlord raised waiver as an issue, but landlords and banks absolutely have to be able to rely on the fact that at the time the estoppel certificate is signed, all of the tenants in the shopping center are there legally with respect to any restrictive covenants.  

There may have been a clause in the Office Depot lease called a "no waiver" clause.  Depending on the wording of that clause in the lease, the landlord may have been unable to argue that the estoppel certificate is a waiver.  

Practice Point:  In commercial leases the language of the no waiver clause can make a big difference in the arguments available in a lawsuit.  For example, the waiver clause could read as follows:

No waiver by the parties of any right contained herein shall constitute a waiver of any other rights in the lease including subsequent rights related to the same term herein.

I call this the "one waiver" clause.  It means that one action can in fact be a waiver, such as signing an estoppel certificate or accepting one rental payment.  It just means that all other rights are reserved.  

On the other hand, the clause could read like this:  No action by either party to this lease shall constitute a waiver of any of the rights herein.  

This is a true "no waiver clause."  It means that whatever anyone does, it is not a waiver.  I do not favor this clause in leases, as a litigator, because it means that the parties can argue whatever they want to in a subsequent dispute and claim they are not bound by their actions, such as having signed an estoppel certificate.  What good is an estoppel certificate in that instance?

The court ruled that the term had to mean that the tenant could automatically terminate the lease six months after notice only if there actually was a breach.  This reading of the provision is also questionable, however, because it seems to render the clause somewhat superfluous, in that it requires the landlord to file a lawsuit to prevent termination, but only if the landlord has actually breached the lease, in which case, presumably, the landlord would lose every time.  If there is no breach then the landlord apparently does not have to file a suit.  Thus, in other words, that provision really has no meaning at all and requires the landlord to do nothing.

Saturday, April 23, 2011

The Roof, The Roof, The Roof is on Fire...

The Georgia Court of Appeals reversed a Cobb County decision in favor of a commercial tenant, finding that the lease (1) required the tenant to replace the roof of the structure it rented and (2) did not allow early termination to the tenant as a result of the tenant being in default for its failure to replace the roof.  NW Parkway LLC v. Lemser, Case No. A10A1781, Decided March 24, 2011.  The Landlord ended up not only getting a new roof but locked up the tenant for five more years on the lease in a tough market.  The trial court had held that the tenant did not have to replace the roof, relying heavily on the Jacobi v. Timmers Chevrolet case, 164 Ga. App. 198 (1982). 

In Jacobi the Court of Appeals held that the repair and maintenance clauses of a lease did not require the tenant to replace a roof that was in the same condition it had been in when the lease commenced.  The Jacobi case had a lease with common repair and maintenance clauses but also a clause that the tenant should return the building in as good a condition as it got it.  In Jacobi the tenant had not actually occupied the building on the property, it had leased it as a parking lot. Thus, the tenant got the building needing a new roof and turned it back in the same condition. 

In this case, the lease contained a special stipulation that stated that the lessee "shall be responsible for and pay directly, on a timely basis, all expenses for the entire property and building, of any nature whatsoever during the term of this lease" except for the walls, slab and foundation.  The lease also stated that where the rest of the lease conflicted with it, the stipulation governed.  The lease went on to include common maintenance and repair provisions.  Apparently the roof needed replacing during the term but the tenant refused to pay for it.  The landlord got a TRO allowing entry to replace the roof.

The Court of Appeals noted that the Jacobi case did not include a clause like the special stipulation that trumped the maintenance and repair clause.  Reading the plain language of the stipulation, the Court determined that the roof replacement fell within the meaning of "all expenses" related to the building, and that the tenant had to pay for the roof replacement.  Going further the Court noted that the early termination clause required that the tenant not be in default in order to invoke it.  Because the tenant was in default for not paying for the roof, when the time for early termination came, it was not able to terminate the lease.  Therefore, the landlord got the new roof paid for by the tenant and five more years of the tenant being on the hook for the lease.