Schoenmann v. Carmel Fin., LLC (In re Mayacamas Holdings LLC), Bankruptcy Case No. 17-30326-DM

608 B.R. 522

IN RE MAYACAMAS HOLDINGS LLC, Debtor.

E. Lynn Schoenmann, Chapter 7 Trustee, Plaintiff,

v.Carmel Financing, LLC, et al., Defendants.

Bankruptcy Case No. 17-30326-DM

Adversary Case No. 19-03012-DM

United States Bankruptcy Court, N.D. California.

Signed September 5, 2019

Thomas F. Koegel, Crowell and Moring LLP, San Francisco, CA, for Plaintiff

Carl L. Grumer, Los Angeles, CA, for Defendant

Profit Recovery Center LLC, pro se

Callie Konno, pro se

William Rhyne, pro se

PENSCO Trust Co. FBO Betty Droubi IRA, pro se

Scott Mattoon, pro se

The Entrust Group, Inc. FBO Richard R. Hashim, pro se

The Mac Mor Limited Partnership, pro se

Anne Somerset Littlewood Trust, pro se

Benjamin W. Emerson, pro se

Anne Burney J. Dougherty Living Trust, pro se

Michael Engmann, pro se

Douglas Engmann, pro se

Brad Engmann, pro se

Sean Engmann, pro se

MDNH Partners LLP, pro se

Garvey Family Trust, pro se

County of Sonoma, pro se

Generocity Capital, LLC, pro se

David H. Levy, pro se

MEMORANDUM DECISION ON MOTION TO DISMISS CLAIMS AGAINST DEFENDANT CARMEL FINANCING LLC

DENNIS MONTALI, U.S. Bankruptcy Judge

On April 7, 2019, plaintiff E. Lynn Schoenmann, chapter 7 trustee ("Trustee") of the chapter 7 estate of Mayacamas Holdings LLC ("Debtor"), filed a Complaint to Determine Validity, Priority, and Extent of Liens; to Avoid Unperfected Security Interests and Fraudulent and Preferential Transfers; and to Object to Claims Relating to Sonoma County Assessor's Parcel 120-190-033 (the "Complaint") against 23 named defendants, including defendant Carmel Financing, LLC ("Carmel"). See Complaint at dkt. 1. On April 22, 2019, Carmel filed a motion to dismiss ("MTD") (dkt. 5) the adversary proceeding for failure to state a claim upon which relief can be granted. Trustee filed an opposition (dkt. 10), to which Carmel replied (dkt. 12). Following a hearing on June 3, 2019, the court took the MTD under advisement. For the reasons set forth below, the court is denying the MTD in part and granting it in part.

I. INTRODUCTION

On April 10, 2014, Debtor executed a promissory note in the principal amount of $2,000,000 to the order of Carmel (the "Note"). The Note was secured by a first priority deed of trust (the "DOT") encumbering property located in eastern Sonoma County (the "Ranch Parcel"). On April 7, 2017, Debtor filed a chapter 11 petition and listed the Ranch Parcel as its principal asset. Trustee was appointed as the chapter 11 trustee on October 4, 2017, and the case was converted to chapter 7 on December 5, 2017.

On October 8, 2017 -- four days after the appointment of Trustee -- the Tubbs Fire erupted and caused significant damage to the Ranch Parcel. To date, Trustee has received more than $2 million from Debtor's insurance carrier for claims arising out of the Tubbs Fire (the "Insurance Proceeds"). Carmel contends that under the Note and DOT, the remaining Insurance Proceeds should be turned over to it. Trustee commenced this adversary proceeding seeking, among other things, an adjudication that Carmel has no secured interest in the insurance policy and the Insurance Proceeds. Trustee additionally seeks a judicial determination that certain provisions of the Note are unenforceable, including those imposing an 18% default interest rate, monthly late charges of four percent, and a $75,000 "Exit Fee."

II. ISSUES AND CONTENTIONS

A. Who is Entitled to the Insurance Proceeds?

Trustee alleges that Debtor was the only named insured on a "commercial lines policy" covering the Ranch Parcel (the "Policy"). As of April 7, 2019, Philadelphia Indemnity Insurance Company ("Insurer") had remitted to Trustee $2,114,268.76 in Insurance Proceeds for damages to the Ranch Parcel caused by Tubbs Fire. See Complaint at dkt. 1, 3:11-20, ¶ 9. Except for a court-approved expenditure of $418.541.50 for post-fire clean-up required by law, Trustee continues to hold the Insurance Proceeds, which equaled $1,695,727.26 as of the commencement of this adversary proceeding. Id.

In paragraph 11 of the Complaint, Trustee asserts that the chapter 7 estate, and not Carmel, is entitled to the Insurance Proceeds. In support of this claim, Trustee alleges that the Policy does not mention Carmel or identify it as an additional loss payee. She also alleges that Carmel did not notify Insurer that it should be added as a loss payee on the Policy in accordance with California's law ( Cal. Comm. Code § 9312(b)(4) ) governing the creation and perfection of security interests in insurance policies; she further contends that Colorado law excludes insurance policies from property in which a creditor can claim a security interest. Carmel does not dispute either allegation, but instead contends that it has a security interest in the Insurance Proceeds, not the policy itself.

Exercising the strong-arm avoidance powers conferred upon her by 11 U.S.C. § 544(a)(1), Trustee seeks to avoid any security interest that Carmel may have had in the Insurance Proceeds prior to and as of the petition date. "The avoided lien may be preserved under 11 U.S.C. § 551 for the benefit of the estate, thereby providing a possibility of payment to estate's general unsecured creditors." See Complaint, ¶ 11, dkt. 1, p.3. See also id. at ¶¶ 23-26, 57, 60(a), and 62.

B. Are Carmel's Claims for Default Interest and Other Charges Viable under Governing Law?

The Note provides for a 6% per annum interest rate. Complaint, ¶ 21. In addition, an "Event of Default" provision allows Carmel to recover an 18% "Default Rate;" monthly late charges of 4%; and a $75,000 "Exit Fee." Id. Trustee contends that California law governs the enforceability of these provisions. She further alleges that the default interest and interest charges do not bear a reasonable relationship to the actual damages that the parties could have anticipated from a breach of the Note and thus are unenforceable under California law, particularly under California Civil Code section 1671 (" CC § 1671"). Id. at ¶ 23.

In response, Carmel asserts that the loan documents executed by Debtor explicitly provide that Colorado law governs the matters pertaining to the Note's construction, validity and performance, and that the amounts owed by Debtor as of the petition date for default interest, late charges and the exit fee are permissible under Colorado law. MTD at dkt. 5, ECF pg. 15-17. Carmel also contends even if California law does govern the Trustee's claims, CC § 1671 is inapplicable when the loan has matured and the entire Note is due and payable.

III. STANDARDS GOVERNING MOTIONS TO DISMISS

To overcome a Rule 12(b)(6) motion to dismiss, a plaintiff must plead "enough facts to state a claim to relief that is plausible on its face." Bell Atlantic Corp. v. Twombly , 550 U.S. 544, 570, 127 S.Ct. 1955, 167 L.Ed.2d 929 (2007). "A claim has facial plausibility when the plaintiff pleads factual content that allows the court to draw the reasonable inference that the defendant is liable for the misconduct alleged." Ashcroft v. Iqbal , 556 U.S. 662, 678, 129 S.Ct. 1937, 173 L.Ed.2d 868 (2009). "The plausibility standard is not akin to a probability requirement, but it asks for more than a sheer possibility that a defendant has acted unlawfully." Id. (internal quotation marks omitted). In considering a Rule 12(b)(6) motion, this court must "accept factual allegations in the complaint as true and construe the pleadings in the light most favorable to the nonmoving party." Manzarek v. St. Paul Fire & Marine Ins. Co. , 519 F.3d 1025, 1031 (9th Cir. 2008).

IV. DISCUSSION

A. Does California or Colorado Law Apply?

1. Governing Law

Before addressing the merits of the substantive issues raised by the MTD, the court must determine which state law applies. Bankruptcy courts apply federal common law choice-of-law rules to determine the enforceability of a contractual choice-of-law provision, even when resolution of the underlying dispute turns on state law. Mandalay Resort Group v. Miller , 292 B.R. 409, 413 (9th Cir. BAP 2003) ; In re CMR Mortg. Fund, LLC , 416 B.R. 720, 728–29 (Bankr. N.D. Cal. 2009).

Federal common law applies section 187 of the Restatement (Second) Conflicts of Law to determine the enforceability of contractual choice-of-law provisions. Id. Subdivision (1) of the Restatement (Second) of Conflicts provides:

The law of the state chosen by the parties to govern their contractual rights and duties will be applied if the particular issue is one which the parties could have resolved by an explicit provision in their agreement directed to that issue.

In other words, parties to a contract "may agree to apply the law of a forum to decide all questions regarding the construction and performance of an agreement, but not questions regarding capacity to contract, or other contract-formation issues." CMR , 416 B.R. at 729. Where the making of a contract is not in dispute, "the law chosen by the parties need not have any reasonable relationship to the place of creation or performance of the contract." Id.

2. The Contractual Terms

Paragraph 10 of the Note provides that in "matters of construction, validity and performance, this note and the obligations arising hereunder shall be governed by, and construed in accordance with, the laws of the State of Colorado ...[.] See Carmel's Request for Judicial Notice ("RJN") at dkt. 6 at ECF pgs. 7-8. In contrast, the DOT provides that "at all times the provisions for the creation, perfection , and enforcement of the lien and security interest created pursuant hereto and pursuant to any other document entered into between [Carmel and Debtor] shall be governed by and construed in which the property is located[.]¹ RJN at dkt. 6, ECF pg. 18.

3. Analysis

Given the federal choice-of-law principles that place great weight on choice-of-law provisions executed by contracting parties with respect to the interpretation and enforcement of their contracts, and given California's interest in governing security interests granted in real property and fixtures located within its borders, ...