Here is a dirty trick sometimes used by banks; manipulate the value of collateral to force a default, obtain more collateral or both. In many commercial loans, lenders require a borrower to maintain a certain value of collateral to secure their loan. Sometimes an unscrupulous bank will artificially manipulate these “loan to value” collateral ratios to gain more leverage over the borrower. Some dishonest bankers recognize the value of the collateral and want it for themselves.
Usually the amount of collateral is expressed in percentage terms. If borrower obtains a $100,000 loan from the bank, the bank may require collateral with a loan to value ratio of 75%. That means the borrower’s collateral in our hypothetical must appraise at $75,000.
Most loans also require that borrowers must provide up-to-date financial statements to the lender on demand. That means they know when a borrower has more collateral or might be most vulnerable to the threat of a sudden default. Often unscrupulous lenders want more collateral even though they are not entitled to it.
Currently we are litigating a case against PNC, Wells Fargo and several other banks in which the borrower was forced to post more collateral when the lender improperly appraised its collateral. That case is presently pending in a New Jersey state court. Wells Fargo, however, is no stranger to collateral manipulation claims.
The Colorado Court of Appeals decided a similar case in 1994 involving Wells Fargo. In that case, the bank had foreclosed on loan made to a corporate borrower and three individuals. In Wells Fargo v. Uioli, Inc., the bank foreclosed but the borrowers fought back and filed a counterclaim. That case is worth revisiting as these tactics continue today.
The first loan was in 1984. That year Uioli’s three owners obtained a credit line for $18.5 million. The loan was secured by several property deeds. The loan documents required that the collateral must be worth at least 75% of the loan. Between 1984 and 1989, the loan was modified several times. Each time the credit line was increased, the bank obtained more collateral. No problem so far.
The problem occurred later in 1989 when Wells Fargo decided to perform another appraisal even though they had just obtained one a couple months prior. In the intervening five months, Wells Fargo says the value of the property securing the credit line decreased a whopping 31%.
The sudden alleged decrease in value triggered a default. Even though the borrowers had not missed a payment, the drop in value constituted a default. These defaults are called non-monetary or nonpayment defaults.
Nonpayment defaults are problematic in that they are usually highly subjective and subject to manipulation by the banks. Courts typically don’t like them either. A non-payment default can be triggered by something pretty obvious like the death of the borrower or by something more sinister like a questionable appraisal. The latter was at issue in the Wells Fargo case.
Faced with losing their credit line, the borrowers were forced to pledge more property. The bank also imposed more stringent credit terms. Whether or not the new restrictions forced the borrowers to ultimately miss a payment or not isn’t clear. Several months after agreeing to the new terms the borrowers did miss a payment, however.
The borrowers went back to Wells Fargo and asked that in lieu of foreclosure, they be allowed to sell the collateral. Property sold at a sheriff’s sale brings far less than property listed and sold by a realtor. Common sense says it would be to everyone’s advantage to get the best price for the collateral… unless the bank wanted it.
Wells Fargo refused. In typical bank fashion, the bank demanded the borrowers deed 100% of the property and waive any claims to the collateral or its seizure.
The bank proceeded with their foreclosure but the borrowers filed counterclaims against the bank alleging breach of an implied covenant of good faith and fair dealing under the contract and breach of fiduciary duty. The trial court found that the borrowers legitimately had defaulted but also noted that the bank had acted wrongfully as well.
On appeal a three judge panel found that the bank “intentionally engaged in bad-faith appraisal practices in order to get more property than it was entitled to.” The court also found that the lender violated its implied covenant of good faith and fair dealing. Although there was no fiduciary duty owed by the bank to the borrowers, the banks still had to act in good faith. It didn’t.
Despite losing the case, Wells Fargo is still at it today. So are many other banks.
Many borrowers think that banks owe them a fiduciary duty. Often they don’t. That doesn’t give the bank a license to steal however. As this case points out, banks do have a duty of good faith and fair dealing and can’t manipulate appraisals or the collateral valuation simply to take advantage of their customer.
We see cases like this one every day. It goes on far more than most people realize. Many business borrowers feel helpless because the fine print in most commercial loans pretty much give the bank carte blanche to do anything they want. Courts and the U.C.C., however, have tempered the bank’s ability to act like sharks. Many businesses don’t find back simply because they can’t find a lawyer willing to sue their bank.
Even in this case, there was evidence at trial that at least one bank insider thought the bank was going too far.
If you have been the victim of predatory lending or predatory foreclosure practices, give us a call. Unlike most law firms, we are not afraid to sue banks. Because our focus is on lender liability law, we are able to quickly address a problem and usually for far less than other law firms that need to learn the law and get up to speed.
MahanyLaw and Judge, Lang & Katers are two separate national boutique law firms that join together on lender liability cases. We have helped businesses and individuals all over the United States. For more information, contact attorney Chris Katers at [hidden email] or the author of this post, attorney Brian Mahany at [hidden email]. We can also be reach at 888.249.6944*.
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