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Court Blocks Developers’ Ploy to Avoid Additional Payments

We are often asked when representing a client in defense of a claim whether the client could avoid the liability asserted by the claimant by potentially buying the cause of action out from under the claimant. The most common circumstance is when the plaintiff has an adverse uncollected judgment or, perhaps, owes money under a promissory note in default.  Prior decisional law has been sparse, particularly in Florida. Until now.

In a case decided last week, the Third District Court of Appeal foiled developers’ plan to strategically foreclose its own mortgage in order to wipe out a construction lien recorded against the same property by the general contractor.  In CDC Builders, Inc. v. Biltmore-Sevilla Debt Investors, LLC, et al. No. 3D13-603, 2014 WL 4628515 (Fla. 3d DCA 2014), the Court reversed the lower court’s ruling which had permitted a related entity to purchase the developers’ own construction loan from the construction lender, and thereafter foreclose the loan for the central purpose of wiping out a contractor’s construction lien on the property.

This artful legal saga began when developers, Riviera Biltmore, LLC and Riviera Sevilla, LLC, both of which are managed by Brian McBride, hired general contractor, CDC Builders, Inc., to build 25 luxury homes in Coral Gables.  When the developers failed to pay the contractor for the last 8 homes constructed, the contractor recorded two construction liens for the unpaid work.  At the same time, the developers were also in default of their construction loan.

In order to avoid its obligation to satisfy the construction liens, the developers schemed to create a related company to purchase the defaulted construction loan and thereafter assign the loan to the related entity. The loan assignment allowed the developers’ related entity to step into the Bank’s superior lien position.  The related entity thereafter foreclosed against the developers and the contractor so as to wipe out the contractor’s construction liens which were inferior in time to the construction loan.  This tactic worked at the trial court level, causing a judgment of foreclosure in favor of the related entity.

But on appeal, the Third DCA reversed and held that a person will not be permitted to do indirectly what he is not permitted to do directly.  In fact, the Court specifically noted that:

“The law does not permit a person to borrow money from a bank, give the bank a mortgage, incur additional liens and junior mortgages on the property, purchase the mortgage back from the bank, and then foreclose on the mortgage for the primary purpose of eliminating the additional liens and junior mortgages.

. . .

[I]nvestors cannot grant mortgages, contract for the improvement of the property mortgaged, and then use a network of companies to purchase and foreclose the mortgage for the primary purpose of extinguishing the construction liens that increased the value of the property.”

As construction continues to heat up in South Florida, it is clear that courts will be intolerant to schemes that have the effect of depriving lienors of their right payment.

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Scott L. Baena is a senior partner in Bilzin Sumberg Baena Price & Axelrod LLP's Miami office and chairman of the firm's restructuring & bankruptcy group. His practice focuses on creditor's rights, workouts, bankruptcy and commercial loan transactions.