LITIGATION ALERT: Fairness and Fair Market Value: Requirements for Waiver of Fair Market Value Determination in Non-Judicial Foreclosure Sales

Fairness and Fair Market Value: Requirements for Waiver of Fair Market Value Determination in Non-Judicial Foreclosure Sales

Author:
Catherine E. Gaither

In Texas, when a lender forecloses on real estate in a non-judicial foreclosure sale, the foreclosing lender often places a "credit bid" for the property, meaning that, if the bid is accepted, the outstanding debt owed on the note will be credited in the amount of the bid.  Thus, a potential purchaser of the property will typically have to bid more than the lender is willing to credit bid in order to acquire the property.  As a result, the foreclosing lender is frequently the purchaser of the property.

What happens to the defaulted loan after the lender forecloses on the property by way of a credit bid?  And what happens if the lender's credit bid is less than what the borrower believes was the fair market value of the property at the time of the sale?

A typical scenario is this:  A borrower defaults on a loan collateralized by real property.  The guarantor of the loan fails to cure the default.  The lender, after the appropriate notices and demands, appoints a substitute trustee to conduct a non-judicial foreclosure sale of the collateral property.  At the foreclosure sale, a representative of the lender, armed with specific bidding instructions, places one or more "credit bids" for the property.  If the lender's bid—often the only bid—is the high bid, then the lender will take title to the property, and the defaulted loan obligation will be credited in the amount of the lender's successful bid.  If the bid for the property was less than the amount owed on the loan, the lender will frequently sue the borrower and guarantor jointly for the deficiency remaining on the note.  Inevitably, the borrower and guarantor will complain that the fair market value of the foreclosed property was more than the lender bid at the sale, and often will claim the fair market value actually exceeds the outstanding balance due on the note.  Therefore, the borrower and/or guarantor will claim that they are entitled to a credit based on the fair market value of the property, not the amount that the lender bid to acquire the property.

 How will a Texas court resolve this issue?

Prior to 1991, the rule in Texas was that where a valid non-judicial deed of trust foreclosure occurred on real property securing a debt, the amount to be credited on the debt for deficiency judgment purposes was the amount received at the foreclosure sale, regardless of whether the lender purchased the property at foreclosure.[1]  However, in 1991, the Texas legislature enacted Tex. Prop. Code §51.003, which enables "any person" against whom a deficiency judgment is sought to seek a determination of the property's fair market value and a corresponding credit against the deficiency.

The Fifth Circuit and several Texas appellate courts have held that the rights conferred by §51.003 can be contractually waived.[2]  Accordingly, a question often arises during deficiency litigation concerning whether the particular language in the loan documents at issue is sufficient to waive the rights conferred under §51.003.  With one exception, Texas courts have held that general language in loan documents waiving all defenses, set-offs, counterclaims, or other rights is sufficient to waive  the right to request a fair market value determination under §51.003.  The outlying case, Salvagio v. Madison Realty Capital, L.P.,[3] held that present-tense language is not broad enough to encompass rights that might accrue, but rather only applied to those in existence at the time the loan documents were signed.

To date, the Texas Supreme Court has declined to address whether heightened notice requirements apply to a waiver of rights under §51.003.[4]  However, the court is currently considering a petition for review filed in Interstate 35/Chisam Road, L.P. v. Moayedi.  There, a guarantor waived "any defense other than the full payment of the indebtedness. . . ." which the Court of Appeals held, as a matter of contract interpretation and plain meaning, encompassed a waiver of rights under §51.003.[5]  In his petition for review, the guarantor argues that in order to waive statutory rights, such as those under §51.003, the contractual language must specify the rights that the guarantor waives, rather than generally referencing any and all defenses, counterclaims, or rights that might subsequently accrue.  The Texas Supreme Court has not yet decided whether to grant the petition for review, but as of May 7, 2013, the Court requested and received full briefing on the issue.

Thus, while it seems clear that borrowers and guarantors can waive their rights under §51.003, the specificity with which loan documents must express the waiver remains an open question under Texas law.  To be sure, the more specific the waiver language in loan documents, the less likely the issue will be litigated in the future.

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This Litigation Alert is a summary of recent developments in the law and is provided for informational purposes only.  It is not intended to constitute legal advice or to create an attorney-client relationship.  Readers should obtain legal advice specific to their situation in connection with topics discussed.

Copyright © 2013 Kane Russell Coleman & Logan PC.  All rights reserved.  Unless otherwise indicated, the authors are not certified by the Texas Board of Legal Specialization.

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