We are not a fan of special servicers, especially LNR Partners and CWCapital. Somewhere along the way, both companies forgot their mission and began to be motivated by their own financial gain and not the well-being of their clients, the public or property owners.
Few property owners can afford to litigate against a special servicer. By definition, a special servicer doesn't take control of a commercial real estate mortgage until there is a default or a decision that the borrowers are on shaky ground. At a time when borrowers most need help, some special servicers believe they can use that perceived "weakness" to their advantage.
A federal judge in Columbus, Ohio isn't buying it, however.
Creekside Equity Partners is an Ohio company that owns a development in Gahanna, Ohio. UBS Bank loaned $25 million to Creekside in December of 2013 to fund the acquisition of the property. In doing so, the bank asked for additional security in the form of a $375,000 reserve account. The parties agreed that if certain conditions were met, Creekside could get back the reserve. Included were typical conditions that Creekside must pay the mortgage on time and maintain a certain occupancy rate.
Like most loans today, UBS didn't hold the mortgage for very long. The bank securitized it and sold it to a trust. Called Commercial Mortgage Backed Securities or CMBS, the new noteholder wasn't a bank. It was a group of investors.
CMBS trusts typically don't have employees, staff or the equivalent. They don’t have an office. If you have a question or concern, there is no one to call. These trusts exist on paper only.
CMBS trusts rely on servicers and trustees to collect payments, make sure taxes are paid and insure that the borrowers are not in default.
Just a few short months after purchasing the property, Creekside approached the servicer of the loan, Berkadia Commercial Mortgage. Creekside thought they would be getting back approximately $400,000, money they could use to upgrade the property. According to their lawsuit, they had met all the conditions to get back the reserve monies.
Records suggest that the property had a 95% occupancy rate and cash flowed at twice the amount needed to make monthly mortgage payments. Creekside said it fulfilled its commitment and was entitled to the reserve funds.
Unfortunately, that isn't what happened.
On July 2nd, a Berkadia loan analyst told Creekside that she had approved its request for a refund of the reserve monies. All that was needed was a manager's signature. That signature never came.
Instead, Berkadia said they were going to first seek the approval of the master servicer (Key Bank) and the special servicer, LNR Partners. Although Berkadia may not have been sure what to do, we are genuinely perplexed as to why they sought the blessing of LNR Partners. Worse, either Berkadia or the trustee (U.S. Bank) transferred the reserve monies to LNR.
Unless a loan is in default or the borrower is feared insolvent, there should be no involvement by the special servicer.
Until this point, it appeared that everything would still be approved. On July 11th, however, LNR demanded Creekside sign a Pre Negotiation Agreement. Often called a "PNA" letter, the lopsided agreement demanded Creekside pay LNR's legal fees, demanded additional credit inquiries and required Creekside to agree not to sue LNR.
Who would sign such an agreement? You would be surprised. Desperate borrowers and struggling property owners when cornered will often give in to such pressure. [We call that “economic duress,” a legal doctrine recognized in many states.] Creekside wasn't in default, however, and was solvent.
They said "no."
In a rare move, Creekside declared the loan in default. It almost always the lender or servicer that declares a loan default. Creekside, however, said the trust defaulted by not returning the reserve monies.
With still no resolution, Creekside stopped payment on its July mortgage check.
Creekside claims that LNR then agreed to release the reserve monies if Creekside would pay the July mortgage payment. Happy to have the problem resolved, Key Bank waived any late fees. Creekside paid.
Actually, the problem wasn't solved and LNR never released the reserve monies. Once again, Creekside stopped payment on the mortgage and declared a default. With no August mortgage payment and no promises from LNR, the trust was forced to also declare a default.
By August, LNR won't release the reserve monies and Creekside says it will no longer pay the mortgage.
This is a long but necessary explanation to explain how the parties wound up in court. After Creekside declared the loan in default, it also filed suit against U.S. Bank and LNR. Among the charges against LNR, Creekside claimed that LNR "intentionally and improperly engaged in a pattern of obstructionist activity to cause the Trustee [U.S. Bank] to breach the Trustee's legal obligations under the loan agreement to approve [Creekside's] disbursement requests."
Creekside also claimed, “LNR, whose approval is not even required under terms of the loan agreement, has engaged in a pattern of improper and unnecessary requests for information with no apparent intention of ever acting upon the borrower's request.”
Creekside calls LNR's actions "intentional, malicious and in bad faith."
After a court battle spanning several months, Judge Gregory Frost last week ruled in favor of Creekside and refused to dismiss the complaint against LNR. While the suit against LNR is being heard in federal court, LNR and U.S. bank have since filed their own foreclosure suit against Creekside in state court.
We have no doubt that this case is far from over. Taking on a special servicer is like David taking on Goliath. With some good lawyering and the right facts, however, David can win.
In our opinion, special servicers like LNR operate through a system of intimidation. Creekside, however, wasn't buying it and sued. The case is still in its infancy. It is certainly one that bears watching however. If Creekside is right, LNR may have some big exposure.
Suing Banks and Servicers for Economic Duress
It is not uncommon today for lenders to insert waiver clauses in forbearance agreements and pre-negotiation letters. The lender or special servicer promises to negotiate in good faith (PNA letter) or not to foreclosure in return for certain promises of the borrower. Inevitably, one of those promises is a waiver clause, a promise by the borrower to not sue the lender.
This is precisely what LNR Partners attempted to do in its PNA agreement with Creekside. Fortunately, Creekside refused. Not all borrowers are able to say “no,” however. In fact, if your lender says it will take the property immediately absent a signature on a forbearance agreement or PNA, most borrower will cave.
The law on economic duress varies from state to state. Generally, the doctrine of economic duress is grounded on the principle that courts will not enforce an agreement in which one party unjustly took advantage of the economic necessities of another and thereby unlawfully threatened to cause an injury to that party.
The common elements are: 1) a threat, (2) which was unlawfully made and, (3) which causes involuntary acceptance of contract terms (4) because circumstances permitted no other alternative.
Simply because a borrower was in financial distress and agreed to a waiver of claims, higher interest rates, additional fees, or more restrictive covenants, isn’t enough to successfully claim economic duress. Courts generally day that it is not enough to merely demonstrate financial pressure and unequal bargaining power.
In context of the Creekside case, demanding a waiver and payment of fees is economic duress if LNR had no right to hold up release of the reserve funds.
Victim of economic duress or fighting a case against a special servicer such as LNR Partners or CW Capital? We may be able to help. For a confidential evaluation of your case, contact attorney Brian Mahany at [hidden email] or by telephone at 877-858-8018. We also urge you to read our CMBS workout page.
About Mahany Law and Judge Lang & Katers. We are a national boutique practice with some of the best lender liability lawyers in the industry. We never represent banks or special servicers.
MahanyLaw and Judge, Lang & Katers- Lawyers that Sue Banks.
*Our practice is limited to borrowers in CMBS transactions and to disputes with banks where the out-of-pocket losses exceed $5 million.
** This post originally appeared on our sister Mahany Law site in June 2015. It has been moved to this site in June 2016.