ENFORCEMENT OF NON-RECOURSE CARVEOUTS AND THE BLUE HILLS CASE: A COMFORT TO LENDERS AND WARNING TO BORROWERS
In Blue Hills Office Park LLC v. J.P. Morgan Chase Bank (477 F. Supp. 2d 366 (D.Mass. 2007)), a federal court strictly enforced non-recourse carveouts in the context of a large CMBS loan, resulting from a borrower’s failure to turn over zoning dispute settlement proceeds. The case involved a borrower who entered into a $33 million, non-recourse, CMBS loan transaction with a lender. The loan documents contained typical non-recourse carveouts with full deficiency liability (to the borrower and guarantors) triggered upon an unconsented transfer of the mortgaged property. The court handed the lender a complete victory, confirmed the enforceability of non-recourse carveouts and, in the process, sent a strong message to both borrowers and lenders alike.
Background
The case began as a fierce battle between Blue Hills and a neighboring landowner over a tenant departing to the neighbor’s property—it culminated with Blue Hills challenging the neighbor’s obtaining of a building permit. This dispute was settled quietly between the parties and Blue Hills received a $2 million payment to withdraw its appeal. The money was wired to a trust account belonging to a Blue Hills affiliate, but the payment was not disclosed to the lender and the receipt did not appear in any of Blue Hills’ financial statements.
Blue Hill’s loan soon went into default and they requested a meeting with the servicer to ‘work out’ the loan. The meeting never occurred and the lender ultimately foreclosed and obtained title to the property. The mortgage contained a typical, broad definition of the “Mortgaged Property” which included the real property and rights and property related interests including “causes of action that now or hereafter relate to” the property.
Lender’s Counterclaims
The lender accidentally discovered the $2 million payment. When Blue Hills sued for wrongful foreclosure and breach of good faith and fair dealing, the lender fired back with counterclaims seeking full recourse (a $10.77 million loan deficiency, plus interest and attorneys’ fees) as the result of Blue Hills’ transferring part of the “Mortgaged Property” without the lender’s consent.
Court’s Analysis
Judge William G. Young interpreted the mortgage’s granting clauses broadly to determine that the $2 million payment was part of the mortgaged property and that Blue Hills defaulted by not disclosing or seeking permission from the lender. As Judge Young explained, “if you mess around with the collateral, that’s when you’ll be liable for the entire amount of the deficiency.”
The court also found a violation of the SPE covenants resulting from Blue Hills’ failure to maintain required independent directors and commingling of funds (the $2 million settlement was transferred to the account of an affiliate of the borrower). After a failed appeal, Blue Hills ultimately settled by paying $17.25 million—more than 98.5% of the original judgment.
What Borrowers and Lenders Need To Know Now
The ruling represented a convincing lender victory in what has been considered a typically “lender friendly” jurisdiction. It further demonstrated the power and enforceability of lenders’ non-recourse carveout provisions in their loan documents. Finally, the ruling serves as a useful caution for borrowers to carefully review, negotiate and abide by the terms of their loan documents. In Judge Young’s words, “don’t mess around with the collateral.”
Contact Us
We will continue to monitor the nationwide development of non-recourse carveout enforcement case law and keep you updated as necessary. If you have any questions about the content of this alert or any other matter, please contact a member of Oppenheimer’s Financial Services Group.
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