Due Process Being Trampled By Maryland’s Home Foreclosure System, Argues Appeal

From Public Citizen Litigation Group, the litigating arm of the consumer advocacy group Public Citizen:

• Maryland resident Joyce Griffin lost her house in a foreclosure sale because she never received notice until it was too late for her to save her home. Her case is a stunning example of how predatory subprime lenders, high-volume foreclosure mills, and a hands-off legal system can combine to wreak havoc on people's lives.

• Griffin's mortgage company, the now-defunct Ameriquest, tricked her into refinancing the home she owned, when, after her fiancé died, she'd simply wanted to have his name taken off the mortgage. When the single mother could no longer make the increased mortgage payments, a "foreclosure mill" law firm representing Ameriquest quickly began foreclosure proceedings. After they made a bare-bones and unsuccessful effort to notify her of any pending action, Griffin lost her home when it was literally auctioned off on the courthouse steps. She never learned that her home had been sold until the new owner tacked a note on her door.

• Griffin immediately hired a lawyer to block the sale, arguing that the notice procedures violated her constitutional right to due process, but the court upheld the lender's actions. Public Citizen and Baltimore-based Civil Justice Inc. are appealing that decision. We argue that the 2006 decision in Jones v. Flowers — a case that Public Citizen argued in the U.S. Supreme Court — means that additional reasonable steps must be taken to notify a property owner if a foreclosure notice is returned as unclaimed by the post office. But the lawyers who conducted the foreclosure of Ms. Griffin's house say they can ignore undelivered letters and do not have to make any effort to follow-up before selling someone's house.

• If Griffin had been a defendant in a small-claims case, a property tax foreclosure, a federal tax foreclosure, or even a tenant in an eviction proceeding, the law would have required that the documents be served in person, sent via restricted certified mail (complete only upon delivery) or be posted by mail-and-nail notification in which the mailed documents are also posted directly on a dwelling's door. Even in a routine debt collection action, Ameriquest's mishandling of Griffin's case would have violated her constitutional rights. The Constitution demands more when someone's home is at stake.

Source: Description Of Pending Case in Griffin v. Bierman, et al. in the Maryland Court of Special Appeals (Public Citizen Litigation Group).

In a separate press release, Public Citizen attorney Deepak Gupta noted:

• "People are waking up to the reality of predatory subprime mortgages, but what they may not yet realize is the one-two punch of shifty loans and shiftier foreclosure firms that can knock them right out of their homes.”

For the entire press release, see Homeowners Facing Mortgage Foreclosures Denied Constitutional Right to Proper Notification.

To view the appellate brief in this case filed last week on behalf of the homeowner, see Brief - Griffin v. Bierman, et al.

Representing the homeowner in this case are: Deepak Gupta, Micahel T. Kirkpatrick, and Brian Wolfman, with Public Citizen Litigation Group (Washington, DC); Phillip Robinson, with Civil Justice Inc. (Baltimore, MD); and Scott Borison, with Legg Law Firm, LLC (Frederick, MD).

Central Florida Homeowners File Suit Against Foreclosure Rescue Operator; Others

A group of eleven Central Florida homeowners filed suit earlier this month against foreclosure rescue operator Peter Porcelli and a group of at least 16 other individuals and companies in which they allege having been scammed out of their home equity. They allege that the operators targeted homeowners with significant equity in their home who were facing temporary financial distress.

The typical equity stripping, foreclosure rescue transaction generally involves a home sale by a financially hard-up homeowner, coupled with a leaseback of the home, and an option to repurchase it at a future date. According to the lawsuit (paragraphs 46 through 54) filed in this case, however:

1. the money advanced by the foreclosure rescue operator actually took the form of a loan, and not a home sale with leaseback and repurchase option,
2. while most homeowners needed only a few thousand dollars to avoid foreclosure, loans were arranged that incorporated finance charges, origination fees, and underwriting fees that doubled or tripled the size of the loan,
3. the charges and fees were received by the operators and the others involved in the alleged conspiracy,
4. in some cases, the loans arranged had effective annual interest rates of 500% or greater. In all cases, they exceeded the 45% threshold set in Fla. Stat. Chapter 687 for criminal usury,
5. in addition to the criminally usurious interest rates, the loans incorporated a purchase option for the benefit of the lender, effective upon the default of the borrower; the option purchase price was calculated by subtracting the current equity in the home from the estimated value of the home, thereby allowing the purported option purchaser to obtain all the equity in the home by simply paying off any liens senior to its own, with little or no money going to the homeowner. Because of the criminal usury, the homeowners found it difficult or impossible to avoid default, thereby triggering the lender’s option and effectively forfeiting all of the homeowner’s equity. One member of the alleged conspiracy was an attorney who aided the operators in enforcing these purchase options by filing lawsuits for specific performance in state court against the financially strapped homeowners.

The suit also alleges that one of the entities used in the alleged scam was held out as a non-profit entity to enhance the lure to its prospective targets.

The lawsuit sets forth the following six counts:

1. Civil Rico, (18 USC § 1961 et seq.),
2. Truth In Lending (15 USC § 1601 et seq.),
3. Unlawful Mortgage Brokering & Mortgage Lending (Fla Stat. Chapter 494),
4. Usury (Fla. Stat. Chapter 687),
5. Declaratory Judgment,
6. Civil Conspiracy.

In addition to actual and punitive damages, the suit asks for declarations that (1) the loans are unenforceable, and (2) that the plaintiffs are the true owners of the homes involved in the alleged scam, thereby voiding any title transfers and mortgage loans against the homes that resulted as a result of the alleged scam.

In addition to the "usual suspects" being named as defendants, the suit also names title insurance underwriter First American Title Insurance Company.

Representing the homeowners is Michael Alex Wasylik Esq., with the law firm Ricardo & Wasylik PL, Dade City, Florida.

To view a copy of the lawsuit, see Heise, et al. vs. Porcelli, et al. (U.S. District Court, M.D. Fla.).

For media reports from the St. Petersburg Times related to this story, see:

• Victims strike back at shady lenders (The companies promised foreclosure protection only to wind up taking the homes themselves) (10-13-07),
• Facing new fields of fraud (Guilty in one scam, an Oldsmar man is scrutinized in a high-risk loan scheme that preyed on those facing foreclosure) (5-20-07).

Peter Porcelli currently awaits an October 29 felony sentencing in Federal Court on an unrelated scam.

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Note: A financial arrangement similar to that described in this case (where a so-called "money lender" also acquires an option to buy the property in question at a price well below market value) was ruled to be a device used to circumvent the Virginia state usury law that the Virginia Supreme Court prohibited in Carter v. Hook, 116 Va. 812; 83 S.E. 386 (Va. 1914). Go here for more on the Use Of Devices To Circumvent Usury Statutes - Virginia.

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Allegations of racketeering (RICO) act violations, requests for punitive damages, and the naming of title insurance companies as defendants in these alleged equity stripping real estate scams seem to be occurring with more frequency. See, for example, the following recent lawsuits targeting the Maryland-based foreclosure rescue scammer, Metropolitan Money Store:

• Brown, et al. vs. Fordham, Jackson, Metropolitan Money Store, et al. (First American Title also named as a defendant in this case, as well as the local title insurance agents who issued the title policies),
• Winston vs. Daniels, Fordham & Fordham, Metropolitan Money Store et al. (both Southern Title Insurance Corportation, the title insurance underwriter and the policy-issuing title agent named as additional defendants),
• Proctor, et al. v. Metropolitan Money Store, et al. (names both Chicago Title Insurance Company and Southern Title Insurance Corportation (title company underwriters), as well as the policy-issuing title agents as defendants).

Federal Court Says Foreclosure Rescue Sale Leaseback Is A Usurious Loan, North Carolina Equitable Mortgage Doctrine Invoked

In a 1985 case, the U.S. Court of Appeals for the 4th Circuit affirmed a lower court jury verdict finding that North Carolina's usury statute (N.C. Gen. Stat. § 24-2; for interest, generally, links to provisions of N.C. Gen. Stat. § 24, or for the text of the entire chapter, see N.C. Gen. Stat. § 24) was violated in a foreclosure rescue deal that involved a sale leaseback transaction with a homeowner facing foreclosure who was given a right to repurchase her home. The lower court determined that the arrangement, in substance, was a mortgage under North Carolina's equitable mortgage doctrine.

On a cautionary note, however, to those making claims under the Federal Truth In Lending Act ("TILA"), the Federal appeals court reversed a lower court finding that the TILA applied to the transaction in question. Notwithstanding the fact that it was undisputed that the foreclosure operator had entered into twelve similar sale leaseback transactions with other financially strapped homeowners in the year in question, the appeals court ruled that the foreclosure rescue operator did not fall within the definition of a "creditor", as specifically defined by the TILA, and accordingly, the TILA was inapplicable. In essence, the court said that the evidence presented as to the other twelve sale leaseback transactions did not show that enough of those transactions could be found to be equitable mortgages. Therefore, the evidence was lacking to show that the foreclosure rescue operator engaged in the requiste number of equitable mortgage transactions that would cause the operator to fall within the definition of "creditor" as defined by the TILA.

In this case, the homeowner presented affidavits from only four of the other 12 homeowners claiming that they thought their transactions were mortgage arrangements (one of whom recanted the assertion at trial); the operator, on the other hand, presented affidavits from eight of the 12 other homeowners in which they asserted that they knew the transactions were sale leasebacks. Several of these homeowners later testified at trial on behalf of the operators. In this regard, the court stated:

• We do not think a jury is free to recharacterize another transaction not the subject of the suit as a loan with a security interest, rather than a sale with an option to repurchase, when the transaction is evidenced by a general warranty deed absolute on its face and both parties to the transaction give unrefuted testimony that the transaction was a sale with an option to repurchase. To allow a jury to recharacterize such a transaction as a loan with a security interest would be contrary to the North Carolina Supreme Court's command that the true nature of a transaction depends upon the intention of the parties.

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With respect to the equitable mortgage doctrine, the court set forth the applicable North Carolina law as follows (text broken up for ease of reading, bold text is my emphasis):

A) Under North Carolina law, the test for determining whether a conveyance with an option to repurchase represents a true sale or merely a loan with a security interest focuses on the intent of the parties and not the form of the transaction. O'Briant v. Lee, 214 N.C. 723, 200 S.E. 865 (1939); McKinley v. Hinnant, 242 N.C. 245, 87 S.E.2d 568 (1955). In ascertaining the real intention of the parties, however, the simple declaration of the plaintiff, who was grantor in the deed, will not suffice to show that the parties intended to create a mortgage. The North Carolina Supreme Court has stated:

• The intention [to create a mortgage] must be established, not by simple declaration of the parties, but by proof of the facts and circumstances dehors the deed, inconsistent with the idea of an absolute purchase; otherwise, solemnity of deeds would always be exposed to the slippery memory of witnesses.

O'Briant v. Lee, 214 N.C. at 731, 200 S.E. at 870 (quoting Watkins v. Williams, 123 N.C. 170, 31 S.E. 388 (1898)). Thus, although a plaintiff may repeatedly testify that the transaction was intended to be a loan and that the land was conveyed for the sole purpose of securing the payment of that loan, the plaintiff must present more than his own simple declaration. Instead, the plaintiff must present proof of facts and circumstances dehors the deed inconsistent with the idea of an absolute purchase.

B) The North Carolina Supreme Court has identified six factors as pertinent in determining whether a transaction is a sale or a loan:

1. whether there was a debtor-creditor relationship created at the time of the transaction, Hardy v. Neville, 261 N.C. 454, 457, 135 S.E.2d 48, 51 (1964);
2. whether the "grantor" remains in possession or whether the grantee takes immediate possession of the property, id. at 457, 135 S.E.2d at 51;
3. whether the "grantor" was under distress and hard-pressed for money at the time of the transaction, O'Briant v. Lee, supra; Hardy v. Neville, 261 N.C. at 457, 135 S.E.2d at 51;
4. whether the transaction originated out of an application for a loan, O'Briant v. Lee, 214 N.C. at 733, 200 S.E. at 871;
5. whether the purported sale price is less than the net worth of the property, id. at 733, 200 S.E. at 871; and
6. whether the "grantor" was obligated to exercise the "option to repurchase." Hodges v. Hodges, 37 N.C. App. 459, 246 S.E.2d 812 (1978).

The North Carolina Supreme Court has counseled that doubts about whether the transaction is a sale or a mortgage are to be construed in favor of a mortgage in order to prevent the possibility of oppression created by an outright sale. O'Briant v. Lee, 214 N.C. at 732, 200 S.E. at 869; McKinley v. Hinnant, 242 N.C. at 252, 87 S.E.2d at 573.

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In affirming the jury verdict with respect to the violation of the state usury statute, the only issue of law addressed was whether, in light of the reversal of the Federal claims under the TILA, the pendent state usury claim should be dismissed for lack of federal jurisdiction. In this regard, the court stated:

A) In United Mine Workers v. Gibbs, 383 U.S. 715, 16 L. Ed. 2d 218, 86 S. Ct. 1130 (1966), the Supreme Court held that if a federal claim against a party is dismissed before trial, the pendent state law claims should be dismissed as well.

B) The Ninth Circuit has held, however, that once a trial is held a court of appeals should order dismissal of a pendent claim on remand only "when the federal cause of action was so insubstantial and devoid of merit that there was no federal jurisdiction to hear it." Traver v. Meshriy, 627 F.2d 934, 939 (9th Cir. 1980) (citing Hagans v. Lavine, 415 U.S. 528, 94 S. Ct. 1372, 39 L. Ed. 2d 577 (1973)). It also stated that if the federal claim was not frivolous, then the issue of whether the district court should have heard the pendent state claim is a matter committed to the sound discretion of the district court. Traver, 627 F.2d at 939.

C) We conclude that Redic's Truth in Lending claim was not frivolous and that the district court did not abuse its discretion in hearing Redic's pendent North Carolina claim for usury. Therefore, we affirm that portion of the district court's decision awarding her $1,944 in damages against Schwartz for charging her usurious interest.

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Redic v. Gary H. Watts Realty Co., 762 F.2d 1181 (4th Cir. 1985) North Carolina equitable mortgage kappa

Iowa Appellate Court Recharacterizes Sale Leaseback As A Mortgage

Last week, the Court of Appeals of Iowa ruled that a transaction taking the form of a sale of a home by a financially strapped homeowner coupled with a contemporaneously executed leaseback of the home with an option to buy was to be disregarded and, rather, was to be treated as an equitable mortgage.

Tullis v. Weeks

Iowa App. Ct.

October 12, 2007

The facts of the case are as follows:

A) Tullis's father died testate and left a house he owned at 2728 Sheridan Avenue in Des Moines to Tullis. It was the house Tullis had lived in her entire life. The house was valued for tax purposes at $90,000. Tullis found herself in need of money to pay real estate taxes and attorney fees, among other things. In early 2004 Tullis attempted to obtain a loan with the house as security from Iowa Mortgage. Tullis had not been employed for two years, and as a consequence was unable to obtain a loan from Iowa Mortgage. Christy Frank, an employee of Iowa Mortgage who was working with Tullis, said she would help Tullis make other arrangements. Frank contacted her fiance, Andrew Weeks, to help Tullis get the money she needed.

B) Weeks was able to provide Tullis with $40,000. An agreement was reached which included:

1. a deed from the estate conveying the property to Weeks for $40,000,
2. an agreement signed April 9, 2004, whereby Weeks agreed to sell the real estate to Tullis on contract for $50,000 with a two-year balloon payment required, interest at 10.5%, (the interest rate is actually substantially higher than this because Tullis obtained only $40,000 but is paying interest on $50,000) and a further provision that the loan must be paid in full on the 1st day of May, 2006,
3. a lease of the property entered into on May 24, 2004, from Weeks to Tullis to commence April 1, 2004, and run through April 2006 for $520 a month, which included an option for Tullis to repurchase the house. The rent Tullis was to pay was to be credited against the payment to repurchase the property if the option was exercised. The April 9th agreement was made an addendum to the lease.

C) Tullis fell behind on rent payments. On July 31, 2005, Tullis advised Weeks in writing that she wished to exercise her option to purchase the home outlined in Section 18 of the lease. She offered to pay a balance of $49,749.75, which she said was pursuant to an amortization schedule. Weeks did not honor the option. His opinion was that because she was behind on her rent payments the option was null and void.

D) On August 31, 2005, Tullis filed a petition to quiet title and enforce her option claiming (1) specific performance, (2) deed as security, and (3) fraudulent practice. The case went to trial and the district court, among other things, found the deed to the property given to Weeks by Tullis's father's estate did not create a deed of security and was not a mortgage.

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In reviewing (and ultimately reversing) the decision of the lower court, the Iowa Court of Appeals set forth the principles of the equitable mortgage doctrine as it exists in Iowa. It then applied those principles to the facts of this case (Text broken up for ease of reading).
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EQUITABLE MORTGAGE

1) A conveyance absolute on its face may, by proper evidence, be shown to be but a mortgage. Steckelberg v. Randolph, 404 N.W.2d 144, 148-149 (Iowa 1987); Trucks v. Lindsey, 18 Iowa 504, 504 (1865).

2) It is a well-established rule that, where a conveyance absolute upon its face is accompanied by a contract or agreement, by which the grantee undertakes to reconvey the land to the grantor on specified conditions, and the terms of such agreement or the circumstances under which it was made render it doubtful whether a mortgage or conditional sale was intended, the courts will hold it to be a mortgage. Collins v. Isaacson, 261 Iowa 1236, 1243, 158 N.W.2d 14, 18 (1968); Greene v. Bride & Son Constr. Co., 252 Iowa 220, 224-25, 106 N.W.2d 603, 606-07 (1960); Brown v. Hermance, 233 Iowa 510, 514-15, 10 N.W.2d 66, 68 (1943); Fort v. Colby, 165 Iowa 95, 102, 144 N.W. 393, 395 (1913).

3) It is proper to show by parole evidence a warranty deed was in fact intended as security only, and upon payment of the debt the debtor is decreed to be the legal, as well as the equitable, owner of the property. Collins, 261 Iowa at 1243, 158 N.W.2d at 18.

4) If a deed is to be construed as a security instrument, the supportive evidence must be clear, satisfactory, and convincing. See Lovlie v. Plumb, 250 N.W.2d 56, 59 (Iowa 1977); North v. Manning Trust & Sav. Bank, 169 N.W.2d 780, 784 (Iowa 1969).

5) In arriving at the intention of the parties courts look behind the form of the instruments to the real relationship between the parties. Collins, 261 Iowa at 1243, 158 N.W.2d at 18.

6) The instruments will be read in the light of the surrounding circumstances and the practical construction the parties themselves placed thereon. Id.; Guttenfelder v. Iebsen, 230 Iowa 1080, 1084, 300 N.W. 299, 301-02 (1941).

7) If it is unclear whether a mortgage or absolute deed was intended, we resolve the doubt in favor of an equitable mortgage. Greene, 252 Iowa at 226-27, 106 N.W.2d at 607; Fort, 165 Iowa at 102, 144 N.W. at 395.

8) We are reluctant to recognize as an absolute conveyance an agreement between the parties that continues or creates an obligor-obligee relationship. Steckelberg, 404 N.W.2d at 148-49; see also Koch v. Wasson, 161 N.W.2d 173, 177 (Iowa 1968) (citing Guttenfelder, 230 Iowa at 1084, 300 N.W. at 301).

9) With these principles in mind we look at the following factors:

1. intent of the parties to the transaction,
2. consideration for transfer, and
3. retention of possession.

INTENT OF THE PARTIES.

In determining intent of the parties, courts look behind the form of an instrument to ascertain the actual relationship between participants. Furthermore, a document will be read in light of surrounding circumstances and given such practical construction as is placed thereon by the concerned parties. Lovlie, 250 N.W.2d at 59; see also Collins, 261 Iowa at 1243, 158 N.W.2d at 18; Fort, 165 Iowa at 102, 144 N.W. at 395.

It is clear Tullis's intent was to convey title to her home to Weeks as a security arrangement rather than an absolute conveyance. Weeks was aware that she was seeking such an arrangement and not a sale of her property. Frank, who referred Tullis to Weeks, testified the agreement Tullis and Weeks made, "was more of a mortgage than a rental agreement."

CONSIDERATION FOR TRANSFER

Weeks advanced Tullis $40,000 for a property valued at $90,000. The inadequacy of consideration is a strong circumstance tending to show the transaction was intended to be a mortgage. Koch, 161 N.W.2d at 176-80; Greene, 252 Iowa at 226, 106 N.W.2d at 607.

RETENTION OF POSSESSION

Tullis retained possession of the property. Retention of possession by the grantor is considered a circumstance consistent with the claim of creditor-debtor relationship and inconsistent with the theory of absolute conveyance. Koch, 161 N.W.2d at 176-180; Guttenfelder, 230 Iowa at 1084, 300 N.W. at 301. Resolving all doubts in favor of finding a mortgage, the only conclusion we can reach is that the transaction between Weeks and Tullis created an equitable mortgage. See Brown, 233 Iowa at 514-15, 10 N.W.2d at 68.

REDEMPTION RIGHTS

An equitable redemption right attaches necessarily and conclusively to any grant given as security. Also, equity forbids an irredeemable mortgage. Lovlie, 250 N.W.2d at 59; see also Koch, 161 N.W.2d at 176. The equity right of redemption is the right of the mortgagor to pay what is owed to the mortgagee and take the property. Koch, 161 N.W.2d at 178-80; Swartz v. State, 243 Iowa 128, 134, 49 N.W.2d 475, 478 (1951).

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Based on the analysis of the foregoing factors, the Iowa Court of Appeals ruled that the transaction was an equitable mortgage, thereby reversing the decision of the lower court, and remanded to the lower court to determine the amount owed and, when such amount is determined, to establish a reasonable period for Tullis to redeem.

Representing the homeowner in this case was Laura Lockard, of Iowa Legal Aid, Des Moines, Iowa.

Tullis v. Weeks, Iowa App. Ct., 2007 October 12, 2007.

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For another recent case applying the Iowa law on the equitable mortgage doctrine, see in re Litwiller, Bankr. N.D. Ia. (2006), a Federal Bankruptcy case decided in Iowa.

Go here for othar posts on the equitable mortgage doctrine in Iowa. Iowa equitable mortgage uranus

Bankruptcy Court Voids Foreclosure Rescue Sale Leaseback; Calls It A Fraudulent Conveyance - Part 2

The following excerpt appears in The National Consumer Law Center's 2005 report on foreclosure rescue scams, DREAMS FORECLOSED: The Rampant Theft of Americans' Homes Through Equity-stripping Foreclosure 'Rescue' Scams, page 17 (4.61 MB), describing the view of California attorney William Flanagan on foreclosure scammers:

• Flanagan’s developed a hardened view of the foreclosure scammers. "They’re sociopaths," he says. Then he points to his wallet on a nearby desk for emphasis, saying: "If I leave my wallet on that table most people won’t take it. But a sociopath will say: ‘If you’re stupid enough to leave it there you deserve to lose it.’"

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When expressing this point of view, Mr. Flanagan could very well have been describing Mr. & Mrs. Suderov, the foreclosure rescue operators featured in Part 1 of this post. I say this because, despite the hammering they received by the bankruptcy court judge when she voided the foreclosure rescue transaction they entered into with the debtor / homeowner, the Suderovs decided to file an appeal of the judge's decision.

In a lengthy decision, a Federal District Court, sitting in an appellate capacity, methodically went through each point addressed by the bankruptcy judge, reviewed the applicable law, and affirmed the bankruptcy court's conclusions on each point of law as applied to the facts of the case.

For the District Court's review of the bankruptcy decision, I refer you to the case itself. I write here simply to highlight a couple of points that caught my interest.

Davis v. Suderov (In re Davis)

169 B.R. 285

(E.D. N.Y. 1994)

Scene at the closing of the

foreclosure rescue transaction

1) The court reviewed an excerpt from the transcript of the bench trial in the bankruptcy court that described the scene at the closing table when the financially strapped homeowners, the Davises, and their daughter, Tammy, signed the legal documents in which title to the home in question was transferred and in which they obligated themselves to the onerous terms of the leaseback which, the bankruptcy judge found, was sure to fail.

2) The scene was described as one where the Suderhovs, the attorneys, the title closer, etc. were all in a hurry to leave. It was late in the day; none of the documents were explained to the Davises or their daughter, Tammy. Questions that they had went unanswered. Tammy apparently felt that something bad was going on because she rushed out of the room in tears at least once, possibly twice. Papers were simply being put in front of the Davises and their daughter, Tammy and they were being pressured either for their signatures or initials.

3) The closing of the transaction, according to the court, occurred under tremendous pressure.

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The finding that the Davises' transfer of

their home was not made voluntarily within

the meaning of Section 522(g)(1) of the Bankruptcy Code

In determining that the Davises' transfer of their home was not a voluntary transfer, the District Court made the following observations in this excerpt from the decision (text broken up for ease of reading):

• The record amply shows that the Davises did not know all of the material facts of the transaction, that misrepresentations were made to them by Mr. Suderov, and that they were under considerable pressure to transfer the property.

• Moreover, it is clear that if the Davises had been made aware of the true nature of the transaction, then they would have not transferred the property to Mrs. Suderov.

• Mrs. Davis repeatedly stated that she did not want to sell her house. She transferred this valuable, irreplaceable asset to Phyllis Suderov only because of the misrepresentations by Mr. Suderov that the Davises would get the house back after the closing.

• The Davises were under the impression that Suderov had worked out a deal with the FHA that required the house being sold as a mere formality to satisfy the FHA mortgage, and they believed that they would get their house back after the closing. Mr. Suderov told them that they would get their house back, even though he knew that this was not true.

• Had the Davises known that they would not be getting their property back after the closing they would not have transferred title to Mrs. Suderov.

• Moreover, there is ample evidence in the record to show that the Davises were under pressure to execute the transfer. Apart from the significant coercion they faced as a result of the threatened foreclosure on their home, which led them out of desperation to the Suderovs in the first place, the closing transaction occurred under tremendous pressure.

At this point, the court decision sets forth the description of the scene at the closing of the transaction (described above) in which the Davises and their daughter Tammy were pressured into signing the documents pushed in front of them without explanation and with their questions left unanswered.

It was on the basis of the foregoing that the District judge ruled that the bankruptcy judge "did not err as a matter of law in her determination that the Davises involuntarily transferred their property to Phyllis Suderov within the meaning of section 522(g)(1)(A)."

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Description of the closing statement prepared

by the Suderovs' attorney, Daniel Naeder

The court described the closing statement prepared by the Suderovs' attorney in this excerpt:

• In this Court's view, the statement of closing expenses and costs prepared by Naeder is an accounting exercise that is devoid of reality, fraudulent in nature, and aimed at suiting the needs of Suderov by showing that more was paid for the property than what was actually paid. The Court need only point to the $5,000 expense for installation of cabinets never installed and the $1,000 "real estate commission" to Wiener [the Davises' attorney] as evidence of the statement's questionable character.

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Retention of the Davises' attorney, Richard Wiener

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One point that I missed in Part 1 of this post is that the Davises' original attorney, after seeing the documents that the Davises were being asked to sign, refused to represent the Davises in the transaction and suggested that they file bankruptcy instead. Failing to heed his advice, the Davises went ahead with the closing anyway, which was rescheduled for the following day. At that time, a new attorney, Richard Wiener, appeared and introduced himself to the Davises as their new attorney. He was obtained by the loan broker who originally put the Davises in touch with the Suderhovs in the first place.

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The District Court's comments on the

unconscionability of the transaction

In finding that the Bankruptcy Court correctly ruled that the transaction was unconscionable, the District Court state the following:

• Judge Goetz found that all of the elements of an unconscionable lease are present, "including gross imbalance in bargaining power and sophistication and a result which must shock any disinterested observer." Davis, 148 Bankr. at 177. This Court agrees.

• The Davises were people of little means who lacked any real estate experience. The Suderovs were sophisticated and experienced in real estate transactions, having entered into eight similar sale/leaseback transactions. Procedurally, the Davises did not comprehend the transaction and closing documents, were the victims of misrepresentations by Mr. Suderov, and were under considerable pressure to sign the closing documents under the impression that they would be getting their house back. There was no "meaningful choice" for them in this transaction, particularly since they had already expended $ 4,000 in cash in order to consummate the closing. Simply put, choice and a balance of bargaining power were lacking.

• Substantively, the terms of the transaction documents, particularly the Lease, were favorable to the Suderovs. This is reflected in the overall transaction, where Suderov effectively bought-out the Davises for $ 7,058 and made them indebted to her for rent payments she knew they could not meet, while the Davises paid Suderov $4,000 to be relieved of their $11,058 debt on the mortgage arrears, but lost title and the entire equity in their home in addition to incurring an obligation to guarantee $ 1,106 in monthly rent payments.

• The unfavorable terms of this transaction are also reflected in the Lease agreement. Under the Lease, Tammy Davis is obligated to pay, and the Davises guarantee, $ 1,106 a month and the entire year's rent upon default. As stated above, it is clear from the record that neither Tammy Davis nor her parents could meet this obligation. Moreover, the Lease is for a one year term renewable annually five times, and terminates on the fifth year unless the Davises exercise the option to purchase the property. According to paragraph 31 of the Lease agreement, it would cost $ 56,500 to purchase the property in the first year. The Bankruptcy Court determined that the cost to purchase the property would be $ 109,000 by the fifth year. If the Davises decided not to purchase the property but to remain tenants after the fifth year, their rent would increase according to paragraph 37 by "33 and 1/3 percent over the gross payment at the end of the term." The Bankruptcy Court found that by the fifth year, the rent would be just under $ 1800 per month. A 33 and 1/3 percent increase would raise the rent to approximately $ 2,400 a month. In effect, the Lease terms ensure that the Davises will loose the leasehold after five years because they would never be able to afford to purchase the property, or to pay the monthly rent at the end of the term of the Lease.

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The District Court judge's parting shot at the Suderovs and their confederates who participated in the foreclosure rescue transaction

In concluding its opinion in this case, the District Judge offers this parting shot at the foreclosure rescue operators, the Suderovs, and their enablers who participated in ripping off the Davises:

• In this Court's view, this case unfortunately reveals a picture of greed and unconscionable conduct. A family of eight people living on limited income was exploited by a group of real estate sophisticates with the aim of taking away from them their only real asset, the family home. But for the protection of the Bankruptcy Court, the family would have probably been evicted and would face a bleak residential future. The Court agrees with Judge Goetz's assessment, that "the deal into which the Davises were tricked into entering was worse than usurious. All those who participated deserve to be condemned." Davis, 148 Bankr. at 177.

Davis v. Suderov (In re Davis), 169 B.R. 285 (E.D.N.Y. 1994)

Go here for Bankruptcy Court Voids Foreclosure Rescue Sale Leaseback; Calls It A Fraudulent Conveyance - Part 1.

Bankruptcy Court Voids Foreclosure Rescue Sale Leaseback; Calls It A Fraudulent Conveyance - Part 1

A 1992 New York Federal bankruptcy case involving a homeowner facing foreclosure who, in the context of a Chapter 13 bankruptcy, successfully voided a foreclosure rescue, sale leaseback transaction may be of some interest to those representing homeowners in the context of a Federal bankruptcy court proceeding.

The homeowners sought to void the deed transferring their home (property in which they could have claimed a bankruptcy exemption) to the foreclosure rescue operator and to have the property returned to them pursuant to 11 U.S.C. § 550. They successfully attacked the conveyance of their house to the foreclosure rescue operator as a fraudulent conveyance voidable:

• under 11 U.S.C. § 548, and
• under 11 U.S.C. § 544(b) as violative of § 273 of the New York State Debtor Creditor Law.

The court also described the foreclosure rescue contract signed by the homeowners as being unconscionable, and provides a brief discussion thereon.

What follows below are some highlights and quotes from the case (bold text is my emphasis) and is provided for general information purposes only. Please note that the Federal Bankruptcy Code has been subject to several legislative amendments since this case was decided. If there is anything contained herein that may be of interest to you, please seek out a qualified bankruptcy attorney to determine continued applicability.

Along this vein, one point I want to highlight is that this case makes reference to certain specific Code provisions that, as a result of subsequent amendments, have been repositioned. For example, references made herein to the relevant provisions contained in Section 548 in effect at the time this case was decided are now found in Section 548(a)(1), Section 548(a)(1)(B)(i), and Section 548(a)(1)(B)(ii)(I).

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Davis v. Suderov (In re Davis)

148 B.R. 165

(Bankr. E.D.N.Y. 1992)

Description of the homeowners and family, the foreclosure rescue operator and the transaction & legal documents used therein

On the background, education and existing family situation of the homeowners, the court stated:

1) Living in the house at the [time of the bankruptcy court proceeding] are Mrs. Davis, her two grown daughters, four grandchildren and a greatgrandson, eight people in all. Until the Davises bought the house here involved, they had never bought a home. Apart from the FHA mortgage they had never borrowed money. Mr. Davis has a tenth grade education, obtained in North Carolina, and works as an orderly at a local hospital.

2) In 1982 Mr. Davis moved out of the marital residence and sometime later began divorce proceedings which are still pending. After the divorce action began, he stopped making payments toward the FHA mortgage which fell into arrears.

3) For some years now Mrs. Davis' sole income has been the disability allowance she receives from Social Security. One daughter and her four children also live on an allowance made them by Social Security. The only member of the family living in the house and currently employed is Tammy Davis [one of the Davis' daughters].

4) By 1991 arrears on the mortgage, on which the payments were $195 per month, had grown to approximately $10,000 and FHA commenced a foreclosure proceeding.

5) Depending upon what appraisal is used, the Davises by that time had an equity in their house of somewhere between $19,260 and $49,260.

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On the background and experience of the foreclosure rescue operator, the court stated:

6) Mrs. Suderov is a sophisticated and experienced lender. She has entered into at least eight or nine of these sale leaseback transactions. Currently she owns eight houses and three parcels of vacant land and holds five to six mortgages. What her husband holds was not disclosed. Over the years she has developed form documents and rubber stamps calculated to insulate her transactions from legal challenge.

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On the sale transaction, and the lease and option agreement, the court said:

7) The documents consisted of a deed, and a twelve page agreement with forty five numbered paragraphs entitled "Agreement with Option to Purchase," ("Agreement") to which was annexed an "Agreement Receipt and Statement," a "Memorandum of Municipal Requirements," and an "Insurance and Option Memo Excerpt." The Agreement is in fact both a lease and an option.

8) In essence, what these documents embody is a sale by Mr. and Mrs. Davis of their house to Mrs. Suderov and a leaseback of the premises to Tammy Davis [the Davis' daughter] with payment of the rent guaranteed by Mr. and Mrs. Davis. Contained in the lease is an option to buy back the premises (but not the fixtures in the house or related personalty) on extremely onerous terms at a price four to five times what the Suderovs were paying.

9) Execution of these documents gave rise to an immediate liability in Tammy Davis, guaranteed by her parents, to pay $ 12,719 to Mrs. Suderov. This is because the lease makes the first year's rent payable in its entirety upon execution of the Agreement.

10) These documents are not only complex, they are unintelligible. When Mrs. Suderov was asked at the trial to explain the paragraph calling for a recomputation of the option price each year she was totally unable to do so, offering as a lame explanation that the language represented Mr. Naeder's [her attorney] "legalese."

11) Although Mr. Wiener [the Davis' attorney] claims that he explained the documents to the Davises so that they would understand to what they were committing themselves, it is clear that he did not understand the transaction himself, since it was only at the trial that he realized that the option to buy the property back was given only to Tammy Davis and not to his clients, Mr. and Mrs. Davis. Furthermore, it was doubtful that Mr. Wiener, based on a few hours' examination of the complex documents in a tumultuous atmosphere, could have even understood, let alone intelligently explained, provisions which are so garbled and unintelligible that this Court has been unable to resolve their meaning after reviewing them carefully.

12) Mrs. Davis says that she did not understand what was taking place, that she simply signed where she was told to sign. She admits that she knew that she was transferring title but she relied on Mr. Suderov's representations that the transfer was only a formality necessary to satisfy the FHA and the house would continue to belong to her.

13) Execution of the lease, which was part of the transaction, generated an immediate obligation to pay $ 12,719 to Mrs. Suderov [the entire first year's rent payment was due immediately], dischargeable through equal monthly payments, described as an accommodation to the lessee. [...] The named lessee is Tammy Davis with payment guaranteed by both her parents.

14) The lease and option agreement are so full of penalties, escalation clauses, and monthly increases that it is impossible even for the most sophisticated lawyer to calculate exactly what the rent or the option price is or will be at any point in time.

15) When the transaction was completed, the house in which the Davises were living was the property of Phyllis Suderov and the Davises owed her $ 12,719 for the first year's rent on their former home with a first payment of $ 1,106 per month due two weeks after the closing. No money was given the Davises. They received not a penny for the transfer of an equity in the Bridgehampton home of a value of between $ 19,000 to $ 49,000 to Mrs. Suderov.

16) [O]ne month after the closing and two weeks after the first rental payment was due, Phyllis Suderov perfected a judgment against the Davises for a full year's rent and costs, $ 14,779.56. On that same date, she got a warrant of eviction for nonpayment. In addition, Tammy Davis was served by the Suffolk County sheriff with an income execution.

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Voluntary Transfer

One issue that the court addressed was whether the sale of the home by the homeowner to the foreclosure rescue operator, according to the court:

• "was a voluntary transfer within the meaning of Section 522(g)(1). The Bankruptcy Code does not define the word "voluntary," In re Tackett, 21 Bankr. 107 (Bankr. D.N.M. 1982), and the legislative history accompanying § 522(g) sheds no light on its meaning. In re Seidel, 27 Bankr. 347 (Bankr. E.D. Pa. 1983)."

The court found that the transfer was not a voluntary transfer and addressed that issue with the following observations:

1) By and large, the bankruptcy courts have refused to consider any transfer other than one that takes place by operation of law to be necessarily a voluntary transfer for purposes of Section 522(g)(1).

2) Economic coercion or fraud and misrepresentation have been held to render a transfer involuntary. In re Seidel, 27 Bankr. 347 (Bankr. E.D. Pa. 1983); In re Taylor, 8 Bankr. 578 (Bankr. E.D. Pa. 1981); In re Reaves, 8 Bankr. 177 (Bankr. D.S.D. 1981).

3) The following cases have recognized that general rule, but have concluded that the transfers there at issue were voluntary on the facts: In re Corwin, 135 Bankr. 922 (Bankr. S.D. Fla. 1992); In re Wernly, 91 Bankr. 702 (Bankr. E.D. Pa. 1988); In re Wernly, No. 88-0391 S, 1988 WL 96198 (Bankr. E.D. Pa. Sept. 16, 1988); In re Porter, 40 Bankr. 646 (Bankr. N.D. Tex. 1984); In re Dargis, 36 Bankr. 866 (Bankr. E.D. Pa. 1984); In re Evingham, 27 Bankr. 128 (Bankr. W.D.N.Y. 1983); In re Tackett, 21 Bankr. 107 (Bankr. D.N.M. 1982); In re Echoles, 21 Bankr. 280 (Bankr. D. Ariz. 1982).

4) In re Reaves, applied a two prong test. In that case a debtor had given, pre-petition, a third mortgage on her real property to a bank. An employee of the bank had contacted the debtor, and had pressured the debtor into signing the mortgage by telling her that her estranged husband's business would fail unless she executed the mortgage. The debtor had no legal connection with the business, but was unemployed and dependent solely upon her husband for her income. In considering whether the debtor could avoid the mortgage under Section 522(g)(1), the bankruptcy court stated:

• An 11 U.S.C. Section 522(g)(1)(A) voluntary transfer occurs when a debtor, with knowledge of all essential facts and free from the persuasive influence of another, chooses of her own free will to transfer property to the creditor. A voluntary transfer does not occur where a creditor has harassed, insulted, and shamed a debtor into transferring the property to the creditor. Nor has a voluntary transfer occurred where a creditor has concealed or failed to inform a debtor of essential facts necessary for the debtor to make an intelligent decision on whether to transfer the property to the creditor. This is especially true where a debtor can show that she would not have made the transfer had she been informed of all the essential facts.

5) The court [in In re Reaves] concluded that the debtor had not voluntarily transferred her interest in the real property to the bank. She had signed the mortgage as a result of the pressure applied by the bank and the bank had failed to explain to her the effect of a clause in the mortgage which waived her right to claim a homestead exemption, and the debtor would not have signed the mortgage had she understood the effect of the clause. While a failure to explain the clause would not, standing alone, have been sufficient to justify a holding that the debtor did not voluntarily transfer the property, continual pressure, coupled with a failure to inform the debtor of the consequences of the transfer, resulted in an involuntary transfer.

6) Other courts have adopted the approach in Reaves, or cited it with approval. In re Corwin, 135 Bankr. 922 (Bankr. S.D. Fla. 1992); In re Evingham, 27 Bankr. 128 (Bankr. W.D.N.Y. 1983); In re Echoles, 21 Bankr. 280 (Bankr. D. Ariz. 1982); In re Tackett, 21 Bankr. 107 (Bankr. D.N.M. 1982).

7) At least one court has gone further, and held that the pressure present in Reaves is not prerequisite to a finding of an involuntary transfer where there has been misrepresentation. In In re Seidel, 27 Bankr. 347 (Bankr. E.D. Pa. 1983), the court concluded that a voluntary transfer does not occur where a debtor does not have knowledge of all of the essential facts pertaining to the transfer, the creditor to whom the transfer is made fails to inform the debtor of any essential facts within the creditor's knowledge, and the debtor would not have made the transfer had he been aware of all of the essential facts.

8) In In re Wernly, No. 88-0391 S, 1988 WL 96198 (Bankr. E.D. Pa. Sept. 16, 1988), a Chapter 13 debtor sought to avoid his purchase of a home on the ground that it was a fraudulent conveyance. He contended that the seller and real estate broker had misrepresented the cost of necessary repairs. Recognizing that the purchase could be considered an involuntary transfer where "the wrongdoing on the part of the seller, or the seller's agent, [is] manifest, raising to the level of fraudulent conduct, or [is] at least manifested by the application of extraordinary sales pressure," the court held that in the case before it the transfer was voluntary, because the misstatements "were relatively innocent." See also In re Wernly, 91 Bankr. 702 (Bankr. E.D. Pa. 1988).

9) The misrepresentations by Richard Suderov, acting on behalf of his wife, can hardly be termed "innocent" and they were accompanied by "extraordinary sales pressure." In this case there was fraud and misrepresentation, coupled with the economic coercion inherent in the fact that the Davises thought they were facing foreclosure of their mortgage and the Suderovs were aware of that fact. Considering the totality of the circumstances present here, the transfer to Phyllis Suderov of the deed to the Davis residence was not a voluntary transfer.

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Fraudulent Conveyance

The court then had to decide whether the transfer of the home to the foreclosure rescue operator was a fraudulent conveyance within the meaning of the Bankruptcy Code or New York's Debtor & Creditor Law.

The court made the following statements in connection with this issue:

1) Indisputably, the transfer was made within one year [Editor's note: now two years, under current law] before the date of the filing of the petition. Therefore, it is avoidable under Section 548(a)(2) if (1) the Debtors received less than a reasonably equivalent value for the transfer and (2) they were then or were rendered thereby insolvent.

2) It is likewise avoidable as a fraudulent conveyance under Section 544 by reference to New York's Debtor and Creditor Law, which parallels the Federal statute and makes fraudulent any conveyance made without a fair consideration which renders the transferor insolvent.

3) Since the Debtors received nothing for their equity in the house, there can be no question but that they received less than reasonably equivalent value or fair consideration.

[...]

4) Whatever criterion is employed and however the facts are examined, it is indisputable that the price paid the Davises for the equity in their home was unconscionably low. How could it be otherwise when the Suderovs emerged with title to the property and with the Davises committed to pay Mrs. Suderov $ 1,106 per month for continuing to reside in the property to which Phyllis Suderov now held title and the Davises were left with nothing. Indeed, they were left with less than nothing in the view of the fact that the Suderovs, on one pretext or another, had earlier extracted $4,000 from them. [Editor's Note: Mr. Sudarov received $2,000 - appraisal, and $2,000 - for service rendered in negotiating satisfaction of a second mortgage].

5) Whatever value is placed on the house, since the Debtors received nothing in exchange for the transfer of their equity, Mrs. Suderov did not give the Debtors reasonably equivalent value. Nor did she give them fair consideration under New York law. N.Y. Debt. & Cred. Law, § 272 (McKinney 1990). Nothing was given the Debtors in exchange for their house "as a fair equivalent therefor," nor did Mrs. Suderov act in good faith.

6) Because the transfer was so unfair it rendered the Davises insolvent. It stripped them of their one significant asset, their equity in their house and left them with all their prior debts. That the transaction eliminated their liability on the mortgage and on the mortgage arrears was of no benefit since they no longer owned the house.

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Unconscionability

While the homeowners' complaint in this case did not request the court to void the transaction with the foreclosure rescue operator based on unconscionability, the court's "conscience" was presumably "sufficiently shocked" so as to cause it to address the issue of unconscionability anyway (possibly, this was the judge's attempt to (1) telegraph the legal grounds by which the Davises' counsel could use to go after the Suderovs' supporting cast who assisted in the screwing of the Davises, or possibly to (2) telegraph to future foreclosure rescue victims who are situated similarly to the Davises to include unconscionability in their complaint - maybe both). The court spoke as follows:

1) The Court limited itself to the issue of the existence of a fraudulent conveyance and has not considered whether the entire transaction, including the lease, is voidable as unconscionable. The complaint did not request such a determination.

2) The New York courts will not enforce an unconscionable contract. An unconscionable contract is "one which is so grossly unreasonable or unconscionable in the light of the mores and business practices of the time and place as to be unenforceable according to its literal terms." Sablosky v. Edward S. Gordon Co., 73 N.Y.2d 133, 538 N.Y.S.2d 513, 535 N.E.2d 643 (1989).

3) The doctrine contains both substantive and procedural aspects, and whether a contract is unconscionable is to be determined against the background of the contract's commercial setting, purpose, and effect. Id.

4) In determining whether a contract is substantively unconscionably, courts consider whether one or more key terms are unreasonably favorable to one party. Id.

5) All the elements of an unconscionable contract are present here, including gross imbalance in bargaining power and sophistication and a result which must shock any disinterested observer.

6) Mr. and Mrs. Suderov, under the pretense of helping the Davises, legally stole from them the house which has been home to them for 15 years and which shelters their children and grandchildren. The Suderovs knew that the moment the Davises committed themselves to pay $ 1,100 a month, the house was lost to them.

7) The deal into which the Davises were tricked into entering was worse than usurious. All those who participated deserve to be condemned. The Davises should explore recouping from Fran, from Mr. Naeder, Mr. Golub, Final Touch, Mr. Wiener, the money paid them by Mrs. Suderov for helping victimize the Davises.

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Davis v. Suderov (In re Davis), 148 B.R. 165; (Bankr. E.D.N.Y. 1992).

Go here for Part 2 of this post.

Use Of Devices To Circumvent Usury Statutes - Virginia

The Virginia Supreme Court has, on numerous occasions, indicated its refusal to recognize the form of transactions that are nothing more than devices used by money lenders to conceal usurious loans.

For example, in Patterson v. Shaver, 165 Va. 298 (Va. 1935), the court stated:

• A contract fair upon its face may be but a device to conceal a usurious transaction, but proof of this must appear by clear and cogent evidence.

[citation omitted]

The court in Van Dyke v. Commonwealth, 178 Va. 418, 17 S.E.2d 366 (1941) made the following observations in connection with analyzing a particular contract:

• Contracts of this character are scrutinized with care, and courts are alert to discover specious devices. The debtor often belongs to a class which needs protection, and his needs are sometimes so urgent as to extort from him any conditions which the creditor seeks to impose ...

• The cupidity of lenders, and the willingness of borrowers to concede whatever may be demanded or to promise whatever may be exacted in order to obtain temporary relief from financial embarrassment, as would naturally be expected, have resulted in a great variety of devices to evade the usury laws; and to frustrate such evasions the courts have been compelled to look beyond the form of a transaction to its substance, and they have laid it down as an inflexible rule that the mere form is immaterial, but that it is the substance which must be considered.

In Valley Acceptance Corp. v. Glasby, 230 Va. 422; 337 S.E.2d 291; (Va. 1985), after quoting the above language from Van Dyke (decided 44 years earlier), added the following:

• The need to scrutinize with care loans made to borrowers caught in financial distress continues to be a valid concern. Moreover, it remains necessary today, as in 1941, for courts to look beyond the mere form of a transaction and analyze its substance.

Further, in Chakales v. Djiovanides, 161 Va. 48 (Va. 1933), the court stated:

• The fact that a lender has to borrow from a third person the money loaned by him does not give the lender license to charge the borrower more than the highest lawful rate of interest for the loan of the money. If he does so, directly or indirectly, under whatever guise the charge in excess of lawful interest may be cloaked, the loan is usurious. Richeson v. Wood, 158 Va. 269, 163 S.E. 339, 82 A.L.R. 1189; Roanoke Mtg. Co. v. Henritze, 151 Va. 220, 144 S.E. 430.

In Heubusch v. Boone, 213 Va. 414; 192 S.E.2d 783; (Va. 1972), the court recognized their duty to determine, and be controlled by, the substance of a transaction, rather than its form:

• "In determining the fact of usury, courts are not bound by the form which the transaction took; on the contrary, it is not only the right but the duty of the court to probe behind the written contracts, and to examine all facts and circumstances which shed any light upon the true nature of the transaction." Massie v. Rubin, 270 F.2d 60, 62 (10th Cir. 1959).

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The following case is an example of the type of device that the Virginia Supreme Court has not allowed in circumventing the law on usury.

(In form, this case may not appear to be exactly on point with a contemporary foreclosure rescue transaction. However, I'll let the reader decide how close to the point it is.)

It involved a transaction where a loan of money was made to a property owner in urgent need thereof, and in exchange therefor, the lender received a secured note bearing the maximum interest rate allowed by law and, in addition, an option to buy the borrower's property (a three hundred acre farm) at a price well below fair value. The lower court ruled that the contract was unenforceable, and the Virginia high court affirmed, stating that the contract was unenforceable as being harsh, unconscionable and usurious. The court observed that "[i]f such a contract were sanctioned by this court, it would engraft a dangerous principle upon the law of usury."

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Carter v. Hook, 116 Va. 812; 83 S.E. 386 (Va. 1914)

The facts of this case are summarized as follows:

1) One, Hook, was under necessity to raise money of which he was in urgent need.

2) He went to Carter for the loan, and Carter loaned him $ 1,100, for which he agreed to execute his note bearing 6% interest, and to secure the payment thereof by deed of trust.

3) In addition to receiving a secured note for $1,100, Carter also received an option to buy 300 acres of Hook's property that, by Carter's own testimony, was worth between $8,000 - $10,000.

4) The option price for Hook's property was set at $3,600.

5) The option contract provided that the $ 1,100 with all interest that had accrued thereon should be deducted from the $ 3,600 to be paid for the land, if the option to purchase was exercised within one year from the date of the contract.

6) Within the twelve months he notified Hook that he desired to purchase the property and tendered to him $ 3,600, less the $ 1,100 with interest to date.

7) Hook refused to convey and Carter brought an action for specific performance.

8) Hook alleged a gross and unconscionable inadequacy in price for the property, and inequitable conduct in that, because Carter knew of Hook's "dire pecuniary necessities," Carter took advantage thereof, and harshly and unconscionably oppressed him and caused him to both bind himself to pay interest at the rate of 166.10 per cent, and to also bind himself to agree to sell him the tract of land for $ 3,600.

9) The lower court ruled in favor of Hook, determining that the contract with Carter was unenforceable and accordingly, dismissed Carter's action. Carter appealed.

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In affirming the lower court in ruling that the contract was unenforceable, the Virginia high court first commented that the "option for the purchase of a valuable tract of land [was one] to which Hook's necessities, but not his will, consented."

It then made the following analysis of the usury law and gave its conclusion in the case (bold text is my emphasis):

• Usury is defined in the 2nd edition of Black's Law Dictionary as being, "A premium or compensation paid or stipulated to be paid for the use of money borrowed or returned, beyond the rate of interest established by law." Wherever, therefore, by the terms of a contract, money is loaned and the lender is paid or stipulates to be paid a valuable consideration in excess of the rate allowed by law, the contract is usurious.

• In Stribbling v. Bank of the Valley, 5 Rand. 132, it was held that "When a proposition is made for a loan of money, and the lender will only consent to lend a part of the money wanted on condition that the borrower shall receive stock at a price much above the market value, to make up the deficiency, and the bargain is made on these terms, such contract is usurious."

• That case came again before the Court of Appeals in 7 Leigh 26, where it was held that where there was a sale of stock at an exorbitant price, coupled with a loan of money, arising out of a proposition to borrow money, the sale and the loan constituting one entire contract, inseparably connected with each other, and the one made dependent upon the other, the transaction was usurious.

• The principle of the cases just cited is precisely applicable to the one under consideration. In those cases the loan was made on condition that the borrower should purchase stock owned by the lender at a price much above the market value; while in the case before us the loan was made upon condition that the borrower should sell a farm to the lender at about forty per cent. of its actual value. If such a contract were sanctioned by this court, it would engraft a dangerous principle upon the law of usury. It would enable the lender to say, "You have a horse, a jewel, or a farm, which I crave, and in return for this loan you must pay me six per cent. interest, as allowed by law, and give me an option upon that which I covet."

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In my view, there are arguably enough similarities between the transaction in this case and the typical foreclosure rescue transaction to assert that, in many cases, the latter transaction is a disguised (and possibly usurious) loan based on this case. The differences in the transactions are, arguably, not substantive. They center simply on the specific labels one gives to the legal documents used to consummate each transaction (ie. deed vs. option to buy/repurchase), and a utilization of a simple reversal in the mechanics of the transaction.

In Carter v. Hook, it's the property owner who got to hold absolute title to the property while the lender received an option to buy with terms so favorable that its exercise was a foregone conclusion. In the typical foreclosure rescue transaction, it's the lender (ie. foreclosure rescue operator) who gets to hold (acquire) absolute title to the property, and does so at extremely favorable terms while the property owner gets the option to buy/repurchase (typically with an accompanying leaseback agreement) with terms so unfavorable that either default (on the leaseback) or expiration (on the option to buy / repurchase) is a foregone conclusion. In effect, the property owner's option to repurchase is no option at all, unfair and lacking in good faith, arguably a mere sham.

In either case, however, if the substance of these transactions were to be disregarded, and the transactions were to be sanctioned by the court based on its form, the financially strapped property owner will more often than not end up being an "ex-property owner," stripped of any equity he/she may have had.

Go here for all posts on the equitable mortgage doctrine in Virginia. Virginia equitable mortgage yak

Equitable Mortgage Doctrine In Virginia: Part 3

For whatever its worth, what follows are some excerpts from a number of decisions from the Virginia Supreme Court in which it wrestles with the equitable mortgage doctrine and how it is applied in Virginia.

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In a couple of cases, I've attempted to summarize the facts of the cases where the Virginia Supreme Court reached the conclusion that an absolute conveyance of title to property should be treated , in equity, as a mortgage.

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(Go here for Equitable Mortgage Doctrine In Virginia - Part 2).

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Earp v. Boothe, 65 Va. 368 (Va. 1874)

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(In ruling that the subject transaction between two individuals was a mortgage, and not a conditional sale, the court made the following observations - bold text is my emphasis; text broken up for ease of reading.)

1) "In the case of Robertson v. Campbell & Wheeler, 6 Va. 421, 2 Call 421, Pendleton, J., said:

• "It is often a nice and difficult question to draw the line between mortgages and conditional sales. But the great desideratum which this court has made the ground of their decision, is, whether the purpose of the parties was to treat of a purchase, the value of the commodity contemplated, and the price fixed; or whether the object was a loan of money, and a security or pledge for the repayment intended.""

2) "This rule, laid down by Judge Pendleton, has been adopted in several cases decided by this court. See King v. Newman, 16 Va. 40, 2 Munf. 40; Moss v. Green, 37 Va. 251, 10 Leigh 251; 2 Rob. Prac. (old ed.) 51, and cases there cited."

3) "Tried by these criteria and the authorities above cited, it is plain, that, (except as to the small tract of thirty or forty acres, ...) the transaction between the parties must be treated, as to the main tract, as a mortgage, and not as a conditional sale."

4) "As to this part of the land, there was no negotiation as to the price. Nothing was said as to its value. The negotiation was for a loan of money; and it is so treated by the plaintiff [purchaser] in his bill. [...] The defendant, in his answer, says that he applied to plaintiff to borrow the money to pay [a third party] for the land purchased of him; and that the only terms upon which the plaintiff [purchaser] would agree to lend respondent [seller], was upon the terms set forth in the covenant filed with the bill."

5) "It is thus clear that the transaction between the parties was a borrowing and lending of money, and not for a sale of the land, except as to the small quantity above referred to."

6) "The only object of the negotiation was a loan of money, and security for its repayment. In such cases the contract will be treated as a mortgage, and not a sale."

7) "Such is the unwillingness of courts of equity to sustain forfeitures and limit the right of redemption, that it will never be done, in a case where it appears that the first object of the party was to borrow money and not to sell property."

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Snavely v. Pickle, 70 Va. 27, 29 Gratt. 27 (Va. 1877)

1) "The general rule, that parol evidence is inadmissible to contradict or substantially vary the legal import of a written instrument, in its application to particular cases, is subject to many qualifications or exceptions, real or apparent, now as well established as the rule itself."

2) "Some of the more prominent of these are stated and explained by Judge Allen in a well considered opinion delivered in the case of Towner v. Lucas' Ex'r, 13 Gratt. 705; and amongst the rest, he mentions the exception, if exception it be, that parties to a deed may, by oral evidence, prove that a deed, absolute on its face, was intended to be a mortgage or security for a debt. Whether this be a real exception, or merely apparent and reconcilable with the general rule, as the judge seems to think it is, on whatever ground it rests, it is certainly well established."

3) "There is a well defined distinction between a mortgage and a conditional or defeasible sale, but it is often very difficult to determine whether a particular transaction amounts to the one or the other; and, after all, each case must be decided upon its own circumstances, and in doubtful cases the courts incline to construe the transaction to be a mortgage rather than a conditional sale." Russell v. Southard, 53 U.S. 139; Earp v. Boothe, 24 Gratt. 368, 374, et seq.

4) "[W]henever and as soon as a mortgage is created by the act of parties, equity at once annexes inseparably a right of redemption, independent of and paramount to the will of the parties. It is not meant, however, that after a mortgage has been once created, the mortgagee may not become the purchaser from the mortgagor of his equity of redemption. He may become such purchaser, thus combining the legal and equitable estates, and his purchase will be valid, if, under the jealous scrutiny of a court of equity, it is shown to be for an adequate consideration, that no undue advantage has been taken of the necessities of the mortgagor, and that it is in all respects fair."

5) "It is essential to a mortgage, that there should be a debt to be secured. It may be antecedent to, or created contemporaneously with the mortgage."

6) "The absence of a written obligation is sometimes adverted to as tending to show that a conditional or defeasible sale, and not a mortgage, was intended. This circumstance is certainly entitled to some weight, but alone has no great significance."

7) "The negotiations between the parties have always been much looked to and regarded as important in determining whether they contemplated a mortgage or sale." Earp v. Boothe, supra.

8) "There is another circumstance in this case which has always been regarded as very potent to show that a mortgage was intended and not a sale; and that is, the great disproportion between the value of the land and the amount of money advanced." Russell v. Southard, supra; 2 Minor's Institutes, 306, and cases there cited.

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(Note for Statute of Limitations fans: This case contains a discussion on the time limitation within which an action to redeem an equitable mortgage may be brought (ie. statute of limitations, laches). In this case, the party that successfully asserted that the subject transaction was an equitable mortgage was also successful in overcoming the fact that there was a 30+ year period that passed between the time of the equitable mortgage transaction and the time this case was heard and decided.

Inasmuch as this is an 1877 case, it could very well be that there may be current statutes governing the time within which a redemption can be attempted, thereby making the discussion in the case obsolete. But, then again, maybe not. The discussion is in the case, for anyone interested.)

Go here for other posts on this blog citing Russell v. Southard, 53 U.S. 139 (1851).

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Edwards v. Wall, 79 Va. 321 (Va. 1884)

"It is well settled that a conveyance of land, absolute on its face, may be shown in equity by extrinsic and parol evidence to be, in reality, a mortgage as between the original parties and those deriving title under the grantee, who are not bona fide purchasers for value and without notice. But the presumption, of course, always is that the deed is what on its face it purports to be, and to repel this presumption the evidence must be clear, unequivocal, and convincing." 3 Pom. Eq. 175, § 1196; Phelps v. Seely, 22 Gratt. 573; Snavely v. Pickle, et als., 29 Gratt. 27, and cases cited.

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Tuggle v. Berkeley, 101 Va. 83, 43 S.E. 199 (Va. 1903)

See Equitable Mortgage Doctrine In Virginia - Part 1 for a separate post on this case.

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Bachrach v. Bachrach, 111 Va. 232, 68 S.E. 985 (Va. 1910)

(Note: This case involves a house that the homeowner lost in a foreclosure sale. The ownership of the home went to the winning bidder - the homeowner's brother-in-law.

However, the homeowner claimed that her brother-in-law purchased the house and lot for her under a prior agreement that he would do so, advance the purchase price for her and take the legal title to himself to secure the repayment of the sum so advanced. The third party purchaser denied that there was any such agreement, and claimed that he purchased and paid for the property for himself.

Under the facts of this case, the lower court ruled, and the Virginia Supreme Court affirmed, that there was an arrangement in advance of the public sale, and accordingly, the third party purchaser's interest in the house that he purchased was ruled to be a mortgage.)

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With respect to the equitable mortgage doctrine, the court stated - bold text is my emphasis:

1) "It is well settled in equity, that although a deed is absolute on its face it may be shown by oral evidence that it was intended as a mortgage, and that such evidence is not restricted to cases of fraud, accident or mistake." See Snavely v. Pickle, 70 Va. 27, 29 Gratt. 27; Note to Thornbrough v. Baker, White & Tudor's Lead. Case. in Eq. (4th ed.), Vol. 2, Pt. 2, 1983-1985, and cases cited.

2) "The presumption is that a deed absolute on its face is what it purports to be, and while oral evidence is admissible to show that it is a mortgage, it must be clear and convincing." Snavely v. Pickle, supra; 3 Pom. Eq. Jur. (3rd ed.), sec. 1196.

3) "Whether such an instrument is to be regarded as a mortgage depends upon the circumstances under which it was made, the relations and negotiations between the parties."

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Batchelder v. Randolph, 112 Va. 296; 71 S.E. 533; (Va. 1911)

In this case, the court lower decreed that a certain deed, absolute upon its face, was a mortgage. The Virginia high court affirmed the lower court ruling.

With respect to the equitable mortgage doctrine, the court stated:

• "In Bachrach v. Bachrach, 111 Va. 232, 68 S.E. 985, it is said: "A deed, although absolute on its face, may be shown by oral evidence to have been intended as a mortgage; and such evidence is not restricted to cases of fraud, accident or mistake. The presumption, however, is that a deed absolute on its face is what it purports to be, and the oral evidence offered for the purpose of showing that it is a mortgage must be clear and convincing. Whether it is to be regarded as a mortgage depends upon the circumstances under which it was made, and the relations and negotiations between the parties.""

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The facts of the case are as follows:

1) Randolph & wife owned three tracts of land.

2) They executed a deed of trust on one tract to one, Batchelder, to secure a debt for $350 in 1885.

3) Fifteen years later (in 1900), they found themselves unable to keep up the payments on the one tract and, further, were seven years in arrears on the real estate taxes and were in danger of losing the one tract.

4) Batchelder agreed to pay up all the back taxes and "take up" the $350 note on the one tract in exchange for a transaction involving all three tracts.

5) Batchelder and his attorney subsequently brought to Randolph & wife, a deed conveying all three tracts to Batchelder for $807.66, which was signed by them. It appears that Randoplh & wife believed the paper being presented was another deed of trust, securing the debt for Batchelder's advances for the real estate taxes and the existing $350 note.

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The following factors were cited as weighing in favor of the 1900 deed by husband and wife to Batchelder to be a mortgage:

a) A witness present at the time of the deed signing testified that she heard wife ask Batchelder if he had the "deed of trust" for her to sign, to which he replied, "Yes, madam" - thereby indicating that the Randolph & wife were of the belief that they were signing a security agreement, and not conveying absolute title.

(Batchelder's attorney, a notary public, on the contrary, testified that he was present and heard no such conversation; and that if he had heard it he would not have certified the acknowledgment without being careful to explain the nature of the transaction to the parties signing the deed.)

b) There was proof that the land, at the time of the sale, was worth not less than $ 1,500 or $ 2,000, and that it has greatly increased in value, and at the time of the lower court decree was worth from $10,000 to $15,000 (ie. "great disproportion between the value of the land and the amount of money advanced" - see Snavely v. Pickle, 70 Va. 27, 29 Gratt. 27 (Va. 1877)),

c) the consideration named in the deed is within a few cents of the amount of the debt due under the deed of trust, together with the taxes and interest delinquent upon the land,

d) Randolph & wife remained in undisturbed possession of the property,

e) they exercised all the rights of ownership with respect to it, not only occupying it, but selling timber from it,

f) offering to sell and negotiating for the sale, with the knowledge of Batchelder, the grantee, of portions of the land, and

g) Randolph was shown to have been in very feeble health at the time of the transaction with Batchelder.

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Eggleston v. Eggleston, 127 Va. 334, 103 S.E. 603 (Va. 1920)

1) "The presumption in cases of this kind is that a conveyance is what it purports to be upon its face, and in order to prove that a deed absolute in form is in fact merely a mortgage, clear and convincing proof is required."

2) "But it is equally well settled that what appears to be an absolute conveyance may in equity be shown by sufficient parol evidence to be only a security for a debt. This proposition, as Judge Whittle said in Holladay v. Willis, 101 Va. 274, 278, 43 S.E. 616, 617, "is too well settled to require either discussion or citation of authority to sustain it.""

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Magee v. Key, 168 Va. 361, 191 S.E. 520 (Va. 1937)

See Equitable Mortgage Doctrine In Virginia - Part 2 for separate post on this case.

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Pretlow v. Hopkins, 182 Va. 826, 30 S.E.2d 557 (Va. 1944)

1) "The doctrine that a conveyance of land, absolute on its face, may in equity be shown by extrinsic parol evidence to be a mortgage is, of course, too well settled to require either discussion or the citation of authority to sustain it. But it is equally well settled that the presumption in such cases always is that the deed is what on its face it purports to be; and, in order to repel that presumption, the evidence must be clear, unequivocal and convincing." 3 Pom. Eq., sec. 1196; Phelps v. Seely, 22 Gratt. 573; Snavely v. Pickle, 29 Gratt. 27; Edwards v. Wall, 79 Va. 321." Holladay v. Willis, 101 Va. 274, 278, 43 S.E. 616.

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Johnson v. Johnson, 183 Va. 892; 33 S.E.2d 784; 1945

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Below is the court's recitation of some of the principles of the equitable mortgage doctrine in Virginia. In this case, after an examination of all the detailed facts of the case, the court ruled that a deed, absolute on its face, with contemporaneous agreement or option for re-purchase by grantors, was a mortgage.

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The court made the following observations regarding the equitable mortgage doctrine in Virginia (bold text is my emphasis):

1) "Whether the transaction was a conditional sale or mortgage must be determined upon a consideration of the written instruments, read in the light of the circumstances which surrounded the contracting parties and their disclosed intentions, acts and conduct prior to, at the time of, and subsequent to the execution thereof."

2) "Before discussing the evidence it may be well to advert to certain well settled principles. In Virginia, and in most of the courts of this country, it is allowable "to prove by parol that a conveyance, absolute on its face, was in fact intended only as a security for money; that is, as a mortgage, with the inevitable concomitant of an equity of redemption"". Minor's Institutes, Vol. 2 (4th Ed.) page 336.

3) "It is essential to a mortgage that there be a debt to be secured and an equity of redemption. The character of the transaction is fixed by the intent of the parties at the time the transaction is entered into. The burden of proof normally rests upon the party who alleges that a deed, absolute on its face, is in fact a mortgage, and the evidence in support thereof must be clear, credible and convincing." Snavely v. Pickle, 29 Gratt. (70 Va.) 34; Tuggle v. Berkeley, 101 Va. 83, 43 S.E. 199; Eggleston v. Eggleston, 127 Va. 334, 103 S.E. 603; Magee v. Key, 168 Va. 361, 191 S.E. 520; Pretlow v. Hopkins, 182 Va. 826, 30 S.E.2d 557 ; Annotation L.R.A. 1916B, page 18 et seq.; 90 A.L.R., page 953 et seq.; 36 Am. Jur., Mortgages, Section 136 et seq.

4) "Dean Ribble succinctly states the general rule in his admirable revision of Minor on Real Property (2d ed.) Vol. 1, Sec. 580, as follows:

• "As a conditional sale has no equity of redemption incident to it, the attempt is not unfrequently made to give what is really in purpose and intent a mortgage, the aspect of a conditional sale; and as the terms in which they are conceived are very similar, it is usually requisite to resort to parol evidence, extrinsic to the deed creating the estate, to determine the true character of the transaction. If, upon the whole investigation, it shall appear that a security for money was intended, it is a mortgage, whatever may be its terms; and it will be remembered that to a mortgage the right of redemption is inseparably annexed. And if, on the other hand, it shall, upon the whole, appear that it was a conditional sale, the performance of the condition punctually at the time can not be dispensed with. But doubtful cases are generally declared to be mortgages.""

[...]

5) "The presumption arising where the grantee [the buyer] is in possession that the deed constitutes a sale is a mere presumption and may be repelled by circumstances sufficient to satisfy the mind that a mortgage was intended." Snavely v. Pickle, supra.

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Go here for all posts on the equitable mortgage doctrine in Virginia. Virginia equitable mortgage yak