Sun NLF Limited Partnership v. Sasso

313 N.J. Super. 546, 713 A.2d 538 (App. Div. 1998)
  • Opinion Date: June 26, 1998

MORTGAGES; FORECLOSURE—Even though federal law generally bars defenses based upon documents other than the actual loan document, in a dispute with a federal bank receiver, if it can be shown that a banking regulator could have known that a document in the bank’s records reduced the value of the bank’s loan as an asset, the separate document may be used as a defense.

After a series of related transactions, a developer purchased an unapproved subdivision from a bank subsidiary and took a series of loans from the bank itself for development and site work. When the site approvals were obtained, the developer demanded that the bank’s subsidiary close on the sale of the subdivided lots, but neither the bank nor its subsidiary responded to the developer’s request. Shortly thereafter, the bank went into receivership and was taken over by the RTC. The RTC then assigned the note and mortgage (together with many others) to a new lender. There was no issue as to the validity of the note and mortgage, but when the developer attempted to raise the agreement by the bank’s subsidiary as a defense to a foreclosure by the new lender, the defense was stricken as non-germane and as barred by federal and state law. Even though the motion judge held that the developer’s counterclaim defenses were barred by state law because the new lender was a holder in due course, the new lender conceded (in the appellate hearing) that it was not a holder in due course under state law, at least because it had notice that the note was overdue when the new lender acquired it. This, however, left open the issue as to whether the new lender was a holder in due course under federal law. Relying on the proposition that the only issues in a foreclosure action were the validity of the mortgage, the motion judge also held that the developer’s fraud and breach of contract claims were barred under state law because they were non-germane counterclaims to a foreclosure action. The Appellate Division disagreed. In its view, had the foreclosure action been brought by the bank itself, the claims and defenses would have been properly before the court. In fact, under the entire controversy doctrine, failure to raise the defenses and counterclaims in a foreclosure action may very well have barred their assertion in a subsequent action.

In examining the matter under federal law, the motion judge held that the agreement for sale of the subdivision could not provide a defense because the loan agreement and subsequent notes failed to incorporate or even cross-reference the purchase contract. In the leading case of D’Oench Duhme & Co. v. FDIC, the maker of a note entered into a written side agreement with the bank that the note would not be paid, the purpose of which was to enable the bank to appear fiscally healthier than it really was. In that case, the court held that the side agreement was not enforceable against the FDIC because it diminished what would appear to banking regulators to be a valid bank asset. That case “created a federal common law doctrine of estoppel to protect the FDIC from defenses raised by debtors based on ‘secret agreements’ with failed banks.” The doctrine was codified by Congress in 1950. With this in mind, the issue in the instant case was whether the notes and mortgage needed to cross reference the contract or whether the mere presence of the contract in the bank’s files would allow a developer to rely on it as a defense or counterclaim. After citing cases on both sides of the question, the Appellate Division remanded the matter to the lower court to determine if the contract appeared in the bank’s records in such a way that a federal bank examiner who found the contract might have reason to think that its breach would excuse payment of the notes. On the other hand, if the subdivision sales agreement, after a full hearing, turned out to be an independent executory contract which the RTC could have disaffirmed when the bank went into receivership, its existence would not constitute a defense or counterclaim.

Lastly, the new lender claimed that under federal common law, holder in due course status is granted to the RTC “when it acquires a promissory note in a purchase and assumption transaction involving an insolvent bank.” After its analysis of federal case law, the Appellate Division held that, as a general rule, there is no such federal common law, and in most instances a federal receiver stands in the shoes of the insolvent bank to work out its claims under state law except when some provision of federal law expressly provides otherwise.