Borman, LLC v. 18718 Borman, LLC

BORMAN, LLC, a Missouri limited liability company, Plaintiff, v. 18718 BORMAN, LLC, a Michigan limited liability company,and JOSEPH SCHWEBEL, Defendants.

Case Number: 12-15567

UNITED STATES DISTRICT COURT EASTERN DISTRICT OF MICHIGAN SOUTHERN DIVISION

Dated: March 11, 2014

Honorable Victoria A. Roberts

OPINION AND ORDER GRANTING DEFENDANTS' MOTION FOR

SUMMARY JUDGMENT (DOC. # 29); DENYING PLAINTIFF'S MOTION FOR

SUMMARY JUDGMENT (DOC. # 35); and DISMISSING PLAINTIFF'S CLAIMS

I. INTRODUCTION

In October 2010, defendant 18718 Borman, LLC ("Borrower") defaulted on a commercial mortgage loan secured by a mortgage on real property. After a foreclosure sale, Plaintiff Borman, LLC ("Plaintiff") acquired the rights of the original lender and brought this action to recover the deficiency between the balance owed on the loan and the amount recovered at foreclosure - an amount exceeding $6,000,000. Plaintiff claims that the loan documents allow it to recover the deficiency from Borrower and the guarantor of the loan, defendant Joseph Schwebel ("Guarantor"; together "Defendants").

Before the Court are: (1) Defendants' Motion to Dismiss and/or For Summary Judgment (Doc. # 29) and (2) Plaintiff's Motion for Summary Judgment (Doc. # 35).

Defendants say the Court should dismiss the action because: (1) the Nonrecourse Mortgage Loan Act, MCL 445.1581, et seq. (the "NMLA" or "Act") - a lawpassed by the Michigan Legislature and signed into law in March 2012 - bars Plaintiff's claims; or (2) even without the NMLA, they are not personally liable under the loan as a matter of contract interpretation.

In support of its affirmative summary judgment motion, Plaintiff argues that: (1) the NMLA does not apply to the loan; and (2) even if applicable, the Act does not bar its claims because it unconstitutionally applies retroactively to destroy its vested contractual rights; specifically, Plaintiff says the NMLA violates: (i) the Contract Clause; (ii) its due process rights; and (iii) separation of powers.

Also before the Court is nonparty Michigan Attorney General's amicus brief in support of the constitutionality of the NMLA (Doc. 46), to which Plaintiff responded. Both motions are fully briefed; the Court heard oral argument on March 10, 2014.

Defendants' Motion to Dismiss and/or For Summary Judgment (Doc. # 29) is GRANTED; Plaintiff's Motion for Summary Judgment (Doc. # 35) is DENIED. Plaintiff's claims are DISMISSED.

No genuine issue of material fact exists; Defendants are entitled to judgment as a matter of law. The Loan is a nonrecourse loan and the SPE provisions Plaintiff relies on are post closing solvency covenants within the meaning of the Nonrecourse Mortgage Loan Act; the NMLA applies to the Loan Documents and bars Plaintiff's claims. The NMLA does not violate the Constitution of the United States or Michigan.

II. BACKGROUND

A. Commercial Mortgage-Backed Securities Financing

The loan at issue is a type of securitized loan known as a Commercial Mortgage-Backed Securities ("CMBS") loan. The CMBS loan structure is, for the most part, standard nationwide. CMBS loans are packaged with other commercial loans and sold as part of a securitized pool of mortgages; they are underwritten, marketed, sold, and documented under standardized loan documents as "nonrecourse" loans, which means that the borrower is not personally liable except in limited circumstances.

In CMBS financing, a lender's typical recourse for a borrower's default is foreclosing on the property which secures the loan. In return for the lender agreeing not to pursue recourse liability directly or indirectly against the borrower or its owners, the borrower promises that the financed asset and its cash flows are isolated from other creditors and liens. The borrower makes specific covenants to the lender promising to maintain a single purpose entity ("SPE") status; the purpose of maintaining a SPE status is to minimize the possibility of a borrower declaring bankruptcy, which could drag the entire securitized mortgage pool into bankruptcy. If the borrower fails to abide by the covenants - by engaging in certain "bad boy acts" and/or failing to maintain SPE status - the loan can become fully recourse against its borrower and/or guarantors.

The following excerpt from a Michigan Court of Appeals' case summarizes the characteristics of CMBS financing:

One of the bedrock elements of a CMBS financing is the isolation of the asset to be financed. This is the essential bargain between borrower and lender that permits financing on a non-recourse basis: the lender agrees not to pursue recourse liability directly or indirectly against the borrower or its owners, provided that the lender can comfortably rely on the assurance that the financed asset will be "ring-fenced" from all other endeavors, creditors and liens related to the parent of the property owner or affiliates, and from the performance of any asset owned by such parent entity or affiliates. More specifically, it is not just the isolation of the real property asset, but the isolation of the cash flows coming from the operation of the real property, from which debt service is paid on themortgage loan and subsequently distributed to the holders of the securities issued backed by such mortgages....

The twin components of asset isolation are (i) separateness covenants (the " Separateness Covenants") and (ii) narrow limitations on the lender's general agreement not to pursue recourse liability (the " Limited Recourse Provisions")....

The Separateness Covenants, while often referred to and discussed as a unitary concept, are really a package of separate and independent covenants made by a borrower to a CMBS lender. The following is a sample set of Separateness Covenants, taken from the form documents for a CMBS lender:

The borrower has not and, for so long as the mortgage loan shall remain outstanding, shall not:

* * *

(xviii) fail to remain solvent or pay its own liabilities (including, without limitation, salaries of its own employees) only from its own funds....

* * *

The Limited Recourse Provisions are the other key element of asset isolation in CMBS financing. It is important to note that the nature and purpose of this limited recourse is different from a financing that relies on recourse to the borrower, its parent or sponsor for additional credit enhancement beyond the security offered by the mortgaged property. In a CMBS financing, in the event of certain "bad acts" (the "Recourse Triggers") on the part of the borrower and/or its affiliates, the lender's basic agreement not to pursue recourse liability against a borrower or its owners or principals has limited application, allowing the lender to pursue recourse as part of its remedies....

Wells Fargo Bank, N.A. v. Cherryland Mall Ltd. P'ship, 295 Mich. App. 99, 103-04 (2011) ("Cherryland I") (citation omitted).

B. Loan History

In June 2005, Borrower obtained an $8,700,000 commercial loan (the "Loan") from Plaintiff's predecessor-in-interest, Morgan Stanley Mortgage Capital, Inc.("Lender"). Borrower used the Loan proceeds to purchase commercial property located at 18718 Borman in Detroit, Michigan (the "Property"). To memorialize the Loan, Borrower mortgaged the Property in favor of Lender (the "Mortgage") and executed a Promissory Note for the principal sum of $8.7 million (the "Note"); Guarantor - Borrower's sole member - executed a Guaranty of Recourse Obligations of Borrower (the "Guaranty"), in which he promised to repay all obligations of Borrower for which Borrower was personally liable under the Loan. The specific terms of the Mortgage, Note, and Guaranty (the "Loan Documents") are discussed in section II., C., infra. As additional security, Lender held various reserve and escrow deposits, as well as a $500,000 letter of credit from Guarantor.

As planned, the Loan was securitized and became part of the Morgan Stanley Commercial Pass-Through Certificates, Series 2006-HQ10 (the "Trust"). Lender transferred and assigned all of its rights, title and interest in the Loan Documents to the Trust in late 2006.

At the time of the Loan, the Property was leased in its entirety on a long-term basis to Borman's, Inc. ("Tenant"); it was used as a distribution center for Farmer Jack grocery stores. In December 2010, Tenant filed for bankruptcy protection and was allowed to terminate the lease; Tenant last paid rent in May 2010.

Once Tenant broke the lease, Borrower - a SPE with no assets other than the Property - had no income; due to the recession, the market value of the Property plummeted, and Borrower could not find a replacement tenant. Guarantor personally contributed approximately $200,000 to cover utilities, insurance and other property maintenance costs, as well as $64,000 to pay the June 2010 Loan payment. Shortlythereafter, however, Borrower stopped making Loan payments; Borrower received a formal notice of default in October 2010.

In January 2011, due to Borrower's default, the Trust transferred and assigned all of its rights, title and interest in the Loan Documents to MSCI 2006-HQ10 Borman Avenue LLC through its special servicer, LNR Partners ("LNR"); additionally, Borrower turned the Property over to a receiver for management. In November 2011, LNR foreclosed on the Property through advertisement; a foreclosure sale was held on December 29, 2011. LNR successfully bid $2.1 million and received the Sheriff's Deed of Sale.

In addition to taking back the Property at foreclosure, Lender - or one of its successors-in-interest - received the various reserve and escrow deposits, as well as Guarantor's letter of credit; that sum amounted to $1,768,616 from the escrow reserve accounts and $500,000 from the letter of credit. Neither Lender nor LNR sought a deficiency judgment against Defendants.

In 2012, LNR marketed the Property for sale through Auction.com, an on-line bidding auction website; the marketing materials for the auction listed the Loan as "Non-Recourse." Commercial...