Guarantors May Seek Protection Under Anti-deficiency Statute | Practical Law

Guarantors May Seek Protection Under Anti-deficiency Statute | Practical Law

In a recent case, the North Carolina Supreme Court overruled a line of decisions that prevented commercial real estate guarantors from seeking protection under an anti-deficiency statute. The decision may reduce a guarantor's deficiency liability when the secured lender succesfully bids less than fair market value at the foreclosure sale.

Guarantors May Seek Protection Under Anti-deficiency Statute

Practical Law Legal Update w-000-6267 (Approx. 4 pages)

Guarantors May Seek Protection Under Anti-deficiency Statute

by Practical Law Real Estate
Published on 02 Oct 2015 • North Carolina
In a recent case, the North Carolina Supreme Court overruled a line of decisions that prevented commercial real estate guarantors from seeking protection under an anti-deficiency statute. The decision may reduce a guarantor's deficiency liability when the secured lender succesfully bids less than fair market value at the foreclosure sale.
On September 25, 2015, the North Carolina Supreme Court in High Point Bank and Trust Company v. Highmark Properties, LLC determined that an anti-deficiency statute applied to commercial real estate guarantors (). The statute allows a court to reduce the deficiency amount when the secured lender purchases the collateral property for substantially less than its true value by offsetting the foreclosure sale price against the property's fair market value (N.C. Gen. Stat. Ann. § 45-21.36).

Background

The defendants were a North Carolina real estate development limited liability company and three individual guarantors. The plaintiff bank gave the defendants two loans secured by real property with accompanying personal guaranties. The defendants defaulted on the loans and the plaintiff instituted foreclosure proceedings. The plaintiff purchased the property at the foreclosure sale and sued the guarantors for the deficiency amount. The defendant guarantors asserted the anti-deficiency defense under section 45-21.36.
At trial, a jury found that the amount paid by the plaintiff at the foreclosure sale was substantially less than the fair market value of the property on the date of the sale. The court reduced the guarantors' deficiency liability by the difference between the price paid at the foreclosure sale and the fair market value of the property at the time of foreclosure sale. The Court of Appeals affirmed and the plaintiff appealed.

Analysis

Section 45-21.36 applies to "mortgagors, trustors and other makers of obligations" when the secured lender purchases the property at the foreclosure sale and:
  • The property was fairly worth the amount of the debt secured by it at the time and place of the sale.
  • The amount bid was substantially less than the property's true value.
The plaintiff argued that the guarantors:
  • Were not eligible for protection because "guarantors" are not specifically mentioned in the anti-deficiency statute.
  • Waived their rights to the anti-deficiency defense in the guaranty agreements.
The North Carolina Supreme Court disagreed with both arguments. The original version of section 45-21.36 was codified in 1933 during the depression to protect debtors. The court cited two cases from the 1930s to show that the statute applied to guarantors and its protections could not be waived:
  • In a 1938 case, the court allowed the estate of a deceased guarantor to benefit from the statute on equitable grounds because the creditor elected to take the land and the purpose of the statute was to discharge the debt.
  • In a 1936 case, the court determined that the anti-deficiency statute was an equitable method of calculating indebtedness as opposed to a traditional defense and was not subject to waiver.
The current court held that because the statute is narrowly tailored to protect the public from particular bad acts of lenders, a lender's demand for a waiver as a prerequisite to receive a mortgage or as a condition of a guaranty would violate public policy and is therefore, unenforceable as a matter of law.

Practical Implications

This decision provides a powerful safeguard for the rights of guarantors in North Carolina and potentially in other jurisdictions with similar anti-deficiency statutes. Prior Court of Appeals decisions allowed a guarantor to assert this defense only if the guarantor actually held title to the property. In most commercial real estate transactions, title is held by a separate borrower entity and the loans are guaranteed by other individuals or entities. Those decisions are now effectively overruled.
Commercial real estate lenders should also be aware that waivers in their guaranty agreements may not eliminate the rights granted by anti-deficiency statutes.