Courts: a pandemic foreclosure break? (Part 2) | Morrison & Foerster LLP

As borrowers continue to struggle financially and loans default due to the ongoing coronavirus pandemic and related issues, lenders are now focusing more on the need to take a closer look at the possibility to seize their mortgage and/or mezzanine loans. While there are still lingering questions, the results of a recent attempt to enforce such remedies with respect to a mezzanine loan may serve as yet another caveat for mezzanine lenders to proceed with caution. approach to any Uniform Commercial Code (UCC) foreclosure sale during the global pandemic lawsuit.

As we mentioned in our initial client alert on this, “Courts: A Pandemic Foreclosure Pause? (Part 1) “Mezzanine loans are governed by the UCC, and the UCC requires that”[e]every aspect of a collateral assignment, including the method, manner, time, place, and other terms, must be commercially reasonable. This commercial reasonableness requirement would apply to the lender’s method and efforts to locate potential buyers (through brokers, advertising, etc.), the content of foreclosure notices issued, where and method of bidding, selection of bidders, amount of notice prior to foreclosure sale, availability of salient information relating to interest being foreclosed, etc.

In a recent case in the New York County Supreme Court (Shelbourne BRF LLC v SR 677 BWAY LLC (NY State Supreme Court, August 3, 2020)), the court issued a preliminary injunction terminating a UCC foreclosure sale, finding that an administrative order prohibiting the seizure of real estate applied to the sale public auction of a mezzanine loan. The administrative order, issued by the Chief Judge of the New York Court of Appeals on July 23, 2020 (the “Administrative Order”), prohibits residential or commercial foreclosure sales until October 15, 2020. Shelbourne The case involves the seizure of Member’s interest in the owner of an office building located in Albany, New York, after the borrower defaulted on its debts and defaulted on the terms of its mezzanine loan. Unlike the case of D2 Mark LLC vs. OREI VI Investments, LLC (NY State Supreme Court, June 23, 2020), in which the court granted the borrower’s preliminary injunction to stop a UCC foreclosure sale and provided an in-depth analysis of how and to what extent in which the sale was not commercially reasonable, the Shelbourne The court made its decision to grant the preliminary injunction based largely on the administrative order, without addressing the factual issue of commercial reasonableness. Although the court acknowledged that the administrative order did not specifically apply to UCC foreclosure sales depending on the language of the text, the court determined that the administrative order was applicable to UCC foreclosure sales by finding that the value of the The borrower’s membership interest was inextricably linked to the value of the underlying property.

The court’s finding in the Shelbourne case contrasts with another recent case, 1248 Assoc. Mezz II LLC v. 12E48 Mezz II LLC (NY State Supreme Court, May 18, 2020), in which the court denied the borrower’s request to restrain its mezzanine lender from proceeding with a UCC foreclosure sale of a hotel owner’s interests. In this case, the court concluded that such a sale was not a mortgage foreclosure of real estate subject to Governor Cuomo’s various edicts, and the mezzanine lender has been authorized to proceed with its sale. the Shelbourne The court found that the same type of UCC foreclosure sale was in fact a real estate foreclosure sale and ruled that the sale fell within the scope of the administrative order. Interestingly, the Shelbourne the court noted the following:[s]The turmoil in the real estate market due to the pandemic makes the notion of a sale resulting in the payment of fair market value very uncertain. Offers will likely be reduced due to uncertainty about the duration and severity of the pandemic. . . Therefore, it would be unreasonable to allow the foreclosure sale to proceed” (internal citations omitted). It seems that the court of Shelbourne the case correctly considered the members’ interests at stake to be akin to immovable interests, but did not explain the analysis of commercial reasonableness in the given markets. Furthermore, it is important to point out that the sale was not prevented in its entirety, but was simply delayed, although the delay passed October 15, 2020 (or whenever the date of the Administrative Order may be further extended), does not mean that the lender will necessarily receive greater value for its security than if the sale had taken place on August 3, 2020.

Given the courts’ disparate treatment of mezzanine loans and corresponding UCC foreclosure sales, mezzanine lenders should be careful to approach their foreclosures with great caution, especially during the ongoing pandemic. We will continue to monitor court cases related to mortgage and mezzanine foreclosures and provide further updates on any significant decisions in such cases.

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