For the last twenty five years, lenders were penalized for originating staggered loans . This all changed when the 4th District Court of Appeal, Division Two, rendered the decision of Black Sky Capital, LLC vs. Michael Cobb et. al., decided June 13, 2017, Case Number E064482.
A copy of this published opinion can be found here. Black Sky Opinion
A audio file of the oral argument can be found here by clicking this download link:
On or about August 18, 2005, Michael and Kathleen Cobb (“the Cobbs”) borrowed $10,229,250 from Citizens Business Bank. The note was secured by a deed of trust on a parcel of commercial real property in Rancho Cucamonga. On or about September 13, 2007, the Cobbs obtained a second loan from Citizens Business Bank, in the amount of $1,500,000, which was secured by a second deed of trust on the same property. Black Sky purchased both notes from Citizens Business Bank for an undisclosed sum. After the Cobbs defaulted on the senior loan, Black Sky opted to conduct a trustee’s sale under the senior deed of trust. It acquired the property on or about October 28, 2014 for $7,500,000. On November 4, 2014, after the Cobbs defaulted on the junior loan, Black Sky filed the suit which is the subject of this case, seeking to recover the amount still owed on the junior note.
The trial Court applied an old prophylactic rule that was articulated in a case called Simon v. Superior Court, (1992) 4 Cal. App. 4th 63 (Simon). This economically injurious case prohibits a party holding both a senior and a junior lien on real property from both conducting a trustee’s sale after default on the senior note and obtaining a monetary judgment for the balance owing on the note secured by the junior lien. They contended that the monetary judgment would be a deficiency judgment, which is prohibited by section Code of Civil Procedure Section 580d otherwise known as the anti-deficiency statute. This statute generally prohibits deficiency judgments after a creditor has foreclosed on a single deed of trust securing real property.
On appeal, Black Sky contends that 4 Cal.App.4th 63, and the cases following it have erroneously expanded section 580d, based on an incorrect reading of the California Supreme Court case of Roseleaf Corp. v. Chierighino (1963) 59 Cal.2d 35. It contends that section 580d, by its express terms, does not apply to the present circumstances. It contends that it is a “sold-out junior” lienholder within the meaning of , and that it has the right to seek a judgment for the balance owed on the junior note.
After 25 long years, the case of Simon vs. Superior Court is finally dead. The case has caused havoc for both borrowers and lenders. First, as to borrowers, this was causing a disincentive for Lenders to originate a second loan because if they had to foreclose on the first, they were faced with the Hobson’s choice of losing the second or an expensive judicial foreclosure. Second, one remedy lenders typically used was to assign a deed of trust to a related company or sell it to a junior note buyer. Both options were problematic. If it was related company, the borrower would argue the assignment was invalid and argue alter ego. If it was to a arm’s length third party, they would want a deep discount on the Note.
Either result was unacceptable.
There is no purpose in denying the junior his single remedy after a senior private sale while leaving him with two alternative remedies after a senior judicial sale. The junior’s right to recover should not be controlled by the whim of the senior, and there is no reason to extend the language of section 580d to reach that result. (Roseleaf, supra, 59 Cal.2d at pp. 43-44. In Simon, supra, 4 Cal.App.4th 63, the court held that section 580d does preclude a deficiency judgment when the same lender is both the senior lienholder and the junior lienholder. (Simon , at p. 77.) The court reasoned as follows:
“Unlike a true third party sold-out junior, [the bank’s] right to recover as a junior lienor which is also the purchasing senior lienor is obviously not controlled by the ‘whim of the senior.’ We will not sanction the creation of multiple trust deeds on the same property, securing loans represented by successive promissory notes from the same debtor, as a means of circumventing the provisions of section 580d.”
Otherwise, creditors would be free to structure their loans to a single debtor, and the security therefor, so as to obtain on default the secured property on a trustee’s sale under a senior deed of trust; thereby eliminate the debtor’s right of redemption thereto; and thereafter effect an excessive recovery by obtaining a deficiency judgment against that debtor on an obligation secured by a junior lien the creditor chose to eliminate.
In this new opinion, the Black Sky Capital, court held that Roseleaf’s holding that section 580d does not apply to nonselling junior lienholders cannot be contorted into a rule that section 580d somehow does apply to preclude a lienholder from seeking damages under the junior note if it, in its capacity as the senior lienholder, has exercised its right to conduct a private sale of the property rather than seeking a judicial foreclosure. The Simon decision appears to have been motivated by the court’s concern that the bank in that case, by issuing nearly simultaneous loans secured by the same property, was attempting to circumvent the antideficiency statutes.
As Black Sky Capital pointed out in its argument and the appeals court agreed, “In any event, even if that result might arguably be justified under the circumstances present in Simon, it is not justified in this case. In this case, the second loan was issued two years after the first, and the default did not occur until seven years later. There is nothing in the record that supports the conclusion that the second loan was in any way an attempt to circumvent the antideficiency statutes in the event of default on the first loan.”
Finally, the Black Sky Capital Court pointed out that enforcing the sold out junior lien is not a deficiency judgment. It is a separate action. The piggy back financing cases that the Court was concerned about in Simon, supra got expanded over the years to any type of second loan because for years, attorneys didn’t attempt to limit Simon, supra, by its facts, which was a piggy back financing case. A piggy back financing loan is one where the lender issues two deeds of trust on a single loan that is divided at origination. Because the adage, bad facts make bad law was very applicable to Simon, this rule was abused and applied to facts over the years that had nothing to do with piggy back financing cases.
The State of California’s credit markets are finally liberated from an economically injurious decision that was hurting all parties, lenders and borrowers.
The Daily Journal ran a great story on this case. You can read it here: Black Sky Daily Journal