A federal court in Milwaukee recently decided that the subsidiary of a failed bank, not the receiver for the failed bank itself, may also use the D’Oench, Duhme doctrine and 12 USC § 1823(e) to stop claims by a borrower and developer fostered by a construction loan that went very badly. The decision: SJ Properties Suites v. Specialty Finance Group, LLC (PDF).
Backstory: SJ Properties Suites v. Specialty Finance Group, LLC
Silverton Bank in Atlanta, Georgia had a wholly owned subsidiary called Specialty Finance Group, LLC (the “Lender”). The Lender focused on acquisition, development, and construction lending to hotel and other hospitality developers. One borrower was SJ Properties Suites for a project in Milwaukee, Wisconsin.
According to SJ Properties, their investors, and other related companies (collectively together, the “Developers”):
- The project encountered trouble and loan-to-value ration got out of balance, rendering the Lender reluctant to fund upcoming disbursements—”draws”—under the construction loan
- The Lender insisted that the Developers fund additional equity money into development and construction of the project and told the Developers that if they (the Developers) didn’t do so, the Lender would foreclose and “wipe-out” the they had already devoted to the project
- But despite the Developer’s funding additional equity money, not missing any scheduled payments, and the Lender’s assurance of loan funding, the Lender didn’t fund and even stopped accepting loan payments
Then things got bad: Silverton Bank—parent of the Lender—failed and the FDIC became Silverton’s receiver. This meant no more loan disbursements from the Lender. And without those disbursements, the project stalled, unpaid subcontractors started recording mechanics liens, and the position of the Developers’ equity grew more precarious.
So, the Developers sued the Lender. Principal to our discussion, their claims included:
- Unjust enrichment
- Promissory estoppel
- Violation of Chapter 224, Subchapter III of the Wisconsin Statutes, requiring a license to act as a mortgage banker in Wisconsin
The Developer focused their unjust enrichment and promissory estoppel claims on the Lender’s unfulfilled assurances that if the Developers fund more equity money, the Lender would overlook alleged loan defaults and fund future loan disbursements.
The Lender opposed these claims. Principal among their reasons: oral assurances of loan disbursements in exchange for more equity don’t comply with the 4 Requirements and are unenforceable under the D’Oench, Duhme doctrine and § 1823(e).
The Developers countered:
- Because the Lender is the subsidiary of a failed bank, not a failed bank itself, the Lender can’t use the D’Oench, Duhme doctrine or § 1823(e)
- And even if a failed bank subsidiary can sometimes use D’Oench or § 1823(e), the FDIC must intervene in the case. And the FDIC must also involve itself with “respect to an asset”—presumably the note and mortgage composing the construction loan—in which the FDIC has an interest
Judge Randa’s Decision
Hearing the case, Judge Rudolph T. Randa dismissed the Developers’ unjust enrichment and promissory estoppel claims. He held that a failed bank subsidiary—in this case the Lender—may use the D’Oench, Duhme doctrine and § 1823(e). And they may use each regardless of whether the FDIC intervenes in the case or otherwise participates “with respect to and asset” the FDIC has an interest in.
Responding to the Developers’ opposition, Judge Randa also analyzed whether holders of failed bank assets may use the D’Oench, Duhme doctrine and § 1823(e) after the FDIC no longer has an interest in those assets (e.g., after transfer under a Purchase and Assumption Agreement or assignment to a private purchase in a financial asset sale). Consistent with coverage of this issue in past posts here, Judge Randa held that successor asset holders may also use D’Oench and § 1823(e).
Judge Randa also addressed how the D’Oench, Duhme doctrine and § 1823(e) affect tort claims against a failed bank’s receivership estate and the successors who take assets from the estate. D’Oench and § 1823(e) apply regardless of whether the alleged tortious conduct relates to a specific failed bank asset—usually a loan—or against the failed bank at large. D’Oench and § 1823(e) will apply as long as the allegedly tortious conduct is “related to regular banking activity.” They’ll apply against claims based on bank representative misrepresentations about issuing a loan commitment. But they usually won’t apply to a bank representative’s false assurances of deferred payment to the painter who painted the lobby two weeks before the bank failed.
Judge Randa didn’t dismiss the Developers’ mortgage banker licensing claim under Chapter 224 of the Wisconsin Statutes. He observed that the Lender hadn’t shown that the D’Oench, Duhme doctrine or § 1823(e) grant immunity against claims for violating that particular statute.
But, in an interesting side note, Judge Randa observed that one of Silverton’s motives for converting from a Georgia state, to a national, banking charter before Silverton failed was to qualify subsidiaries—like Specialty Finance—for exemptions from registration and licensing laws in states beyond Georgia.
Conclusions and Observations
- A casual agreement with a bank subsidiary can be as risky as a casual agreement with the bank itself. You’re not just staking a wager that your counter-party will hold-up their end of the bargain. You’re also wagering that if they don’t and you sue them for it, they’ll continue to be in business long enough for you to collect all that you’re entitled to
- If your agreement satisfies each of the 4 Requirements, you’ll have less to worry about, maybe. Even if you satisfy the 4 Requirements, if your counterparts goes into a failed bank receivership (or a bank subsidiary bankruptcy), you may be left merely with an unsecured claim against the receivership or bankruptcy estate. The value of that claim will depend on the estate’s payouts to unsecured creditors. And if the payout is as modest as it often is—particularly from failed bank receivership estates—maybe the trouble of complying with the 4 Requirements just isn’t worth the effort?