DEVELOPER CANNOT USE SHELL COMPANIES TO PURCHASE MORTGAGE BACK FROM BANK AND THEN FORECLOSE THE MORTGAGE TO DISCHARGE CONTRACTOR’S LIEN
By: Richard E. Guttentag, Esq., Stearns, Roberts & Guttentag, LLC
A contractor is not permitted to borrow money from a bank, give the bank a mortgage, contract for the improvement of the property, purchase the mortgage back from the bank, and then foreclose the mortgage for the purpose of extinguishing construction liens that increased the value of the property. The case of CDC Builders v. Biltmore-Sevilla Debt Investors, LLC, 2014 WL 4628515 (Fla. 3d DCA September 17, 2014) analyzed this law.
In CDC Builders, McBride Family Properties deeded vacant properties to two companies (“Developers”) for the development of several luxury homes (“Project”). The Developers were controlled and largely owned by McBride Family Properties, of which Brian McBride (“McBride”) was the manager. Developers obtained construction loans from a bank (“Bank”) to fund the project, which were secured by mortgages against the property. Thereafter, Developers hired Contractor to build the homes. The Contractor completed the homes, but was not paid in full by the Developer. Consequently, the Contractor recorded construction liens against the property and filed a lawsuit to foreclose the liens.
When the construction loans matured, McBride, on behalf of Developers, obtained several extensions on the loans. McBride also instructed the Bank to treat various payments on the loans as junior liens against the property, rather than payments reducing the principal amounts of the loans. The Bank noted that McBride took this step to minimize the equity in the property that was available to satisfy the Contractor’s construction liens. In addition, McBride formed a company, BSDI, which purchased the mortgages on the properties back from the Bank.
BSDI filed a lawsuit against the Developers and Contractor to foreclose its construction loans on the property. The trial court entered a judgment of foreclosure in favor of BSDI, which eliminated the Contractor’s liens. The Contractor appealed the court’s judgment.
Florida law does not permit a developer to borrow money from a bank, give the bank a mortgage, fail to pay contractors for improvements resulting in liens against the property, purchase the mortgage back from the bank, and then foreclose on the mortgage to eliminate the contractors’ liens.
In this case, the evidence showed that McBride controlled the Developers as well as BSDI. Also, the Developers’ and BSDI’s interactions with the Bank all went through McBride. The evidence created a fair inference that the creation of BSDI, purchase of the loans, and foreclosure action were primarily for the improper purpose of defeating Contractor’s attempts to collect on its lien. Further, the Bank’s records showed that McBride’s transactions were for the purpose of strengthening his companies’ position in case Contractor prevailed on its action to foreclose its construction liens. Finally, there was no evidence of any legitimate business purpose for the formation of BSDI or its purchase of the mortgages. The absence of a legitimate business purpose also supported an inference that the actual purpose of BSDI’s existence and actions was to defeat Contractor’s liens.
Thus, the appellate court held that investors such as McBride cannot grant mortgages, contract for improvements to the mortgaged property, and then use a network of companies to purchase and foreclose upon the mortgages for the purpose of extinguishing construction liens on the property. Allowing such transactions would unfairly distort the bargain between a contractor and a developer by allowing the developer to receive the benefit of a contractor’s work without having to pay for it. Therefore, the appellate court reversed the judgment in favor of BSDI.
About the Authors: Richard E. Guttentag is a partner with Stearns, Roberts & Guttentag, LLC, and is Board Certified in Construction Law by the Florida Bar. Mr. Guttentag concentrates his practice exclusively in construction law including construction lien claims and defense, payment and performance bond claims and defense, bid protests, construction contract preparation and negotiation, and construction and design defect claims and defense. He can be reached for consultation firstname.lastname@example.org.