Tuesday, September 7, 2010

No Recovery Under UCC § 1-308 for Voluntary Payment Made By Wire Transfer “Under Protest” As Part of Settlement Agreement

Steinman v. Malamed, (June 28, 2010) 185 Cal.App.4th 1550, 111 Cal. Rptr. 3d 304.
This case suggests that UCC § 1-308 (allowing payment “under protest”) may not be interpreted broadly to allow a party to reserve rights when making a disputed payment.

This blog entry is longer than usual. That's because the court's opinion seems is suspect in analysis and perhaps result.

It is not too often that the court of appeal lets a party who admittedly is not owed $300,000 keep that money just because the rightful owner of money made a mistake paying it--and reverses the trial court to make that happen. What do you think?

In Steinman, the defendant financial advisor lost a bench trial and signed a $6,500,000 settlement agreement after the judge issued a proposed statement of decision concluding the defendant had breached its fiduciary duty. The settlement agreement provided for a reduced settlement amount if paid early. The defendant was anxious to meet the early payment deadline, but a dispute arose as to the how to calculate the payoff amount.

The defendant tried to hedge against losing the early payment discount by paying the greater amount demanded plaintiff “under protest.” The plaintiff stated that it would not accept a payment made “under protest.” The defendant made the payment by wire transfer. The defendant subsequently sought to recover the overpayment.

The trial court found that the defendant was correct and that there was in fact an overpayment and ordered the return of the money. But the appellate court reversed. It did not overturn the finding of an overpayment. Rather, it concluded that because the defendant’s overpayment was voluntary, it could not be recovered. The appellate court found that the defendant had not properly protected itself because the plaintiff had announced it would not accept a payment under protest and the defendant had paid anyway.

UCC § 1-308 (California Commercial Code Section 1308) would, on its face, provide a different result. Section 1-308(a) specifies that if a party performs under an explicit reservation of rights in response to a demand by the other side, then the performing party will not waive its rights. The Steinman court found that the UCC rule did not apply to this situation.

Since the disputed payment was made under a settlement agreement, not a typical commercial transaction, that result might not seem unusual. However, at least one prong of the court’s analysis missed a major point, and other portions of the opinion seemed to be guided by the intended decision rather than the analysis.

The court first stated that the UCC should not apply because payment was by wire transfer not check. (185 Cal. App. 4th at 1561).

• This is a questionable reason to refuse application of UCC § 1-308. California has enacted UCC Article 4A, which is designed to deal with commercial wire transfers. (California Commercial Code §11101 et seq.) UCC § 1-102 (California Commercial Code 1102) states that this division (Division 1, “General Provisions,” which includes § 1-308) applies to a transaction governed by another division, such as Division 11, “Funds Transfers” (UCC Article 4A.) So the method of payment (wire transfer not check) should not disqualify application of the UCC.

The appellant attempted to come under the UCC by arguing that the payment was made under a “negotiable instrument,” (the promissory note being paid as part of the settlement agreement).

• UCC § 3-104 does cover negotiable instruments. Without any description of the factual record, the court of appeal merely noted that the lower court “did not make” a determination that the promissory note was negotiable. The court of appeal did not make an independent analysis of whether the settlement note was a negotiable instrument.

The determinative factor for the court was UCC § 1-103(b) (California Commercial Code Section 1103(b).). Section 1-103(b) provides that common law principles concerning contract, duress, coercion and other matters continue to apply, unless the UCC specifically displaces them.

• The court cited Connecticut Printers, Inc. v. Gus Kroesen, Inc. (1982) 134 Cal. App. 3d 54. Connecticut Printers held that UCC § 1-308 (then known as 1-207) did not displace common law principles which allowed a party to offer an “accord and satisfaction” on a disputed account by tendering a check “in full payment” of the account. This is a different situation than the one facing the Steinman court. The Steinman court did not discuss the factual differing fact patterns. The court of appeal was unwilling to find that the UCC “explicitly displaced” common law principles of “economic duress” and “involuntary payment” in a transaction involving wire payment of an obligation arising under a settlement agreement. (185 Cal. App. 4th at 1562.)

Because the factual circumstances of the dispute were not explicitly within 1-308, the court of appeal chose to rely on common law.

The case, which sits at the intersection of common law and the UCC, could probably spawn some law review articles. In the meantime, for day-to-day lawyers, one must proceed carefully in order to protect a performing party’s rights in an ongoing contract.

Wednesday, September 1, 2010

UCC § 3-104 Definition of “Negotiable Instrument” Helps Bank Defeats Widow’s Stale Claim

Gabriel v. Wells Fargo Bank, N. A., (August 30, 2010) 2010 WL 3388062 (Not Officially Published)

This case illustrates how the UCC often appears in a supporting role, cited by the courts to bolster a conclusion.

A widow sued a bank (Wells Fargo) as the beneficiary of a bank certificate of deposit originally worth nearly $1 million. The certificate of deposit was opened by her husband in 1988. The husband placed a receipt for the certificate of deposit in a safety deposit box. He died a few years later without telling her about the certificate of deposit. The widow did not learn of the certificate of deposit for another 16 years (after the contents had been sent to the state as unclaimed property). The safety deposit box contained a receipt for the certificate of deposit—which the state controller sent to the widow.

In defense of the widow’s claim, the bank pointed out that the funds on deposit were subject to withdrawal; that most of its records had been destroyed; and that such records as it could locate implied that that no funds were left in the account at the time it was closed. The widow countered with California Evidence Code Section 635, which states that an obligation possessed by a creditor (in this case, the widow) is presumed not to have been paid. This is where the UCC comes in. Rightly or wrongly, the court interpreted Section 635 as dealing primarily with negotiable instruments. The court looked to UCC § 3-104 (California Commercial Code 3104) for the definition of a negotiable instrument. Under 3-104(d) an instrument is not negotiable if it “contains a conspicuous statement” to that effect. Unfortunately for the widow, the receipt for the certificate of deposit stated that it was “not transferrable or negotiable.” Thus, the Court did not apply the Evidence Code Section 635 in favor of the widow.

The Court cited other reasons why the widow could not prevail, primarily because she could not prove that any money her husband had not withdrawn the money prior to his death. Since the funds could be withdrawn, the existence of a receipt originally depositing the funds did not imply that the funds remained on deposit. This appears to be the dispositive reason why the court of appeals denied the widow’s claim.

For the litigator, the case illustrates how the UCC is often a persuasive source of authority. For the transactional lawyer, the case is another sad tale of how better estate planning (and estate administration) could have eliminated the need for the lawsuit and resolved the issue while records were intact.

Wednesday, June 16, 2010

Victim or Deadbeat: UCC Article 9 and California Real Estate Broker’s License Requirements

Greenlake Capital, LLC v. Bingo Investments, LLC (June 14, 2010)
2010 WL 2351460

This case illustrates the broad reach of the California Real Estate Broker's License law, the risks of noncompliance, and the potential impact of UCC Article 9 (lending secured by personal property).

Greenlake Capital originated and helped negotiate a $150 million mezzanine loan for Bingo Investments, charging a $3 million fee. Bingo reneged on the fee, asserting that Greenlake forfeited its fee by failing to hold a California real estate broker's license. (Ca. Bus. & Prof. Code Sections 10131, 10136.) The trial court granted summary judgment: Bingo was a victim of unlicensed activity, and therefore not required to pay the fee.

The court of appeal reversed for a full trial. Perhaps Greenlake's lending activity was not within the definition of real estate loan brokerage. If so, Bingo would be treated as a deadbeat, not a victim, and would be obligated to pay the fee.

The court cited recent cases holding that if some of the services fell outside the definition of real estate loan brokerage, part of the fee may be recoverable based on a theory of severability (services not requiring a license being severed from those that do). If the "central purpose" of the contract was not tainted with illegality, it may be possible to recover a part of the fee for those acts "for which no license was required." This was important, because "at the start of the relationship, neither party "intended the financing to take a form that would necessarily" violate the licensing requirement.

More importantly, the services may fall outside the scope of the licensing requirement altogether. A mezzanine loan is typically secured by equity in another entity--personal property-- rather than a mortgage. When the borrower had "no direct equity position" in the underlying real property, the licensing requirements may not be triggered. Thus, UCC Article 9 may apply, not local mortgage laws. On remand, the trial court will be required to sort it out, based on "a complete factual investigation" into the "nature of the obligations created by the" parties' credit and security agreements, and the "policies and equities" inherent in the licensing statutes. The case is not a quick fix for legal and financial professionals because the court did not offer any litmus test or even a checklist of factors.

The complicated financing arrangements have generated arguments on both sides as to whether the real estate loan brokerage licensing laws should apply. For businesses raising money, it is better to be safe than sorry. Holding the right license will transform the nonpaying client from a potential victim into a deadbeat. This will make it much easier to enforce the fee. Careful examination of the licensing arena is advisable.

Monday, May 3, 2010

Thirty Day Countdown to Disaster: Customer Consequences Under UCC 4-406(d)(2)

Litke v. City National Corp., (April 29, 2010) 201 WL 1712702 (not published)

Giving teeth to what must effectively be the shortest statute of limitations in the world (30 days) for commonly encountered situations, the California Court of Appeal denied relief to an 82 year-old bank account holder defrauded by his long-time bookkeeper.

In Litke v. City National Corp. (April 29, 2010) 201 WL 1712702 (not published), an 82 year-old bank customer held accounts for more than 15 years. He protected himself by requiring two signatures on checks not signed by him or his relative. The account holder received canceled checks and statements monthly. Unfortunately, he did not discover the fraud until the bank contacted him about a suspiciously large check (just under $10,000) flagged by the bank’s automatic fraud detection filters. The account holder’s subsequent review disclosed that over the course of more than six years, his bookkeeper embezzled nearly $380,000 by forging 180 checks.

The account holder sued the bank but was turned away cold. Under California’s version of UCC 4-406(d)(2) (California Commercial Code Section 4406(d)(2)) a bank account holder who receives regular monthly statements must discover and report the first fraudulent or forged check within 30 days; otherwise the account holder is barred from suing the bank to recover for subsequent forgeries by the same wrongdoer paid by the bank in good faith, unless the bank was negligent. In addition, there is a statutory one-year period for reporting each forgery, dating from when the applicable bank statement or canceled check is presented. Since the forgeries were all the work of a single wrongdoer, and the account holder could not prove that the bank was negligent, the account holder was barred from any recovery.

The account holder unsuccessfully argued various theories, such as estoppel, the bank’s failure to manually review each signature, alleged discrepancies between the signature cards and the account disclosures. The court sided with the bank based on the UCC’s policy that “there is little excuse for a customer not detecting an alteration of his own check or a forgery of his own signature.”

The court of appeal did not explain why it declined to publish the decision, but we may assume the court thought the situation common enough, and the law so well settled, that the opinion did not break new ground. It’s a cautionary reminder about how vulnerable businesses are to fraud. Failing to discover a forged or altered check returned with a monthly bank statement is a 30 day countdown to disaster.

Tuesday, April 6, 2010

UCC § 2-313: Reliance Not Necessary For Breach of Express Warranty

Weinstat v. Dentsply International, Inc.,
(Jan. 7, 2010) 180 Cal. App. 4th 1213, 103 Cal. Rptr. 614

Product Directions in Package Allow Breach of Warranty Claim; Unlike Fraud Claims, “Reliance” Is Not a Necessary Element

Can the buyer sue for breach of warranty based on an inaccurate statement in the product directions? Yes, according to the California Court of Appeal (1st District, Division 4) in Weinstat v. Dentsply International, Inc., (Jan. 7, 2010) 180 Cal. App. 4th 1213, 103 Cal. Rptr. 614. Actual “reliance” on such a statement by reading before purchasing is not necessary.

A group of dentists who purchased the “Cavitron” dental cleaning device sued the manufacturer (Dentsply International) for breach of warranty. The dentists complained that Cavitron product directions allegedly said the device could be used for oral surgery but dental health regulations allegedly precluded this application. The lower court denied a class action certification, reasoning in part that a plaintiff could not demonstrate “reliance” on the challenged warranty, since the warranty was included in the product directions, not the sales contract documents. The court of appeal reversed. The court of appeal interpreted UCC § 2-313 (California Commercial Code § 2313) to authorize a claim for breach of express warranty under these circumstances.

A fraud claim requires proof of reliance as an element. Not so for a breach of warranty claim under the UCC. The court found that the product directions, delivered with the product, could form a “basis of the bargain” under UCC § 2-313. The “bargain” extends beyond the “legal formation of the contract.” It includes affirmations contained in product manuals or other materials that are given to the buyer at the time of delivery.

The court recognized that its decision departed from a Maine case, Cuthbertson v. Clark Equipment Co., (1982) 448 A. 2d 315, 321. The California court bolstered its analysis of UCC 2-313 by stating that federal regulations required accurate medical product directions. Therefore, such product directions could form part of the “basis of the bargain” (UCC § 1-201(b)(3)) through the UCC provisions on “usage of trade.” UCC § 1-303(c); California Commercial Code § 1303(c). The element of “good faith” inherent in UCC sales supported this conclusion. UCC §§ 1-304; 1-201(b)(20); Cal. Comm. Code §§ 1304, 1201(b)(20) A “buyer would reasonably expect any statement or description of the product appearing in a user manual or similar publication to be true, regardless of when the manual was read or received.” 180 Cal. App. 4th at 1231, 103 Cal. Rptr. 614.