California Court of Appeals, Fourth District, First Division
BREWER CORPORATION et. al., Plaintiffs and Respondents,
POINT CENTER FINANCIAL, INC., Defendant and Appellant.
APPEAL from a judgment of the Superior Court of San Diego County, No. 37-2007-74230-CU- BC-CTL William R. Nevitt, Jr., Judge.
Fox Johns Lazar Pekin & Wexler, Michael H. Wexler, R. Gordon Huckins and Dale A. Martin, for Defendant and Appellant Point Center Financial, Inc.
Marks, Finch, Thornton & Baird, Jason R. Thornton, Jon F. Gauthier and Christopher R. Sillari; Hoyt Law Firm and Kenneth C. Hoyt for Plaintiffs and Respondents Brewer Corporation and Division 8.
Lincoln, Gustafson & Cercos and Theodore R. Cercos for Plaintiff and Respondent Brady Company/San Diego, Inc.
Niddrie Fish & Addams and David A. Niddrie for Respondents.
Law Offices of Murray M. Helm, Jr., and Murray M. Helm, Jr., for Respondent Dynalectric Company.
In this case, we are required to interpret several stop notice statutes. (Former Civ. Code, §§ 3082-3267; Civ. Code, §§ 8000-9566, effective July 1, 2012 (Stats. 2010, ch. 697, § 16). Unless otherwise indicated, undesignated statutory references are to the former Civil Code, which was in effect at all times material to this appeal and references to the current Civil Code are designated by the word current.) First, we conclude the trial court correctly followed Familian Corp. v. Imperial Bank (1989) 213 Cal.App.3d 681 (Familian) when it held that a construction lender must make available to stop notice claimants those amounts the lender has already disbursed to itself on the construction loan.
We next conclude that the trial court correctly found that one stop notice claimant's failure to serve a preliminary 20-day notice (preliminary notice) under section 3097 prevented it from recovering under its bonded stop notice. Nonetheless, the judgment in favor of the stop notice claimant is provisionally reversed and the matter remanded for further proceedings on a potentially dispositive factual issue.
Finally, we conclude that the trial court correctly found one stop notice claimant's failure to give the lender a notice of the commencement of the stop notice action under section 3172 did not bar the stop notice claimant from recovering where the lender suffered no prejudice.
FACTUAL AND PROCEDURAL BACKGROUND
Appellant Point Center Financial, Inc. (Lender) is a licensed real estate broker that facilitated the raising of construction loan funds for a condominium project (the project) located in San Diego, California, adjacent to Balboa Park. In 2006, the owner of the project borrowed $13, 625, 000 (the loan amount) from Lender to fund the remaining construction of the project (the construction loan). Lender agreed that it acted as a "[c]onstruction [l]ender" for purposes of the stop notice statutory scheme as this term is defined in section 3087. Under the terms of the construction loan, Lender was obligated to obtain about $2.8 million to close the transaction and agreed to use its best efforts to raise the balance of the loan amount in stages. Lender obtained the initial funds and disbursed them to the owner.
As Lender raised funds for subsequent stages of construction, it assigned portions of its beneficial interest in the construction loan trust deed to third-party investors. Lender entered into private loan servicing agreements with its third-party investors, by which it served as each investor's agent with regard to the construction loan. Lender paid the third-party investors interest on their fractional loan interest at a rate of 10 percent and charged a servicing fee of 1.5 percent. Significant to this action, under the private loan placement and fee agreements on each of these loans Lender prepaid itself interest, loan fee/points, loan underwriting and other fees—totaling $1, 555, 771.37. The loan servicing agreements between Lender and the third-party investors were not recorded as a public record.
Lender contributed some of its own money to fund the construction loan, which resulted in it obtaining a 2.99 percent beneficial interest in the construction loan trust deed and promissory note. In connection with the construction loan, Lender raised and disbursed a total of $12, 018, 612.50. Lender never funded the remaining balance of the loan amount.
Respondents Brady Company/San Diego, Inc. (Brady), Dynalectric Company (Dynalectric), Division 8, Inc. (Division 8) and Brewer Corporation (Brewer, collectively Respondents) are contractors who provided labor, services, equipment and materials to the project. In June 2007, Brewer served on Lender its bonded stop notice. At that time, Lender was holding sufficient unexpended construction loan funds to cover the claim. Lender, however, did not withhold funds pursuant to Brewer's bonded stop notice claim. The parties agreed that Lender had stop notice liability stemming from its failure to withhold funds under Brewer's bonded stop notice claim. By October 2007, Lender had fully disbursed all monies in the construction loan fund. Thus, when Lender received additional bonded stop notices from Brady, Dynalectric and Division 8 in March and April 2008, all construction loan funds held by it had already been disbursed.
Respondents filed individual actions against Lender, the owner and others; the trial court later consolidated these actions. All claims against the owner were stayed upon its bankruptcy filing. The bankruptcy court decided the priority of Respondents' mechanics' lien claims. The sole issue before the trial court was Lender's liability with respect to Respondents' bonded stop notice claims. Specifically, Respondents cited section 3166, which prohibits assignments, before or after receipt of a stop notice, and Familian, supra, 213 Cal.App.3d 681 which holds that "lenders cannot avoid a section 3166 priority by private agreement." (Id. at p. 686.)
Relying on Familian, the trial court determined that Respondents' stop notice claims took precedence over Lender's alleged contractual right to pay itself all interest, loan fees and other preallocated expenses. The trial court awarded Respondents a total of $1, 555, 771.37, which was then apportioned among them under section 3167. It further awarded Respondents costs, prejudgment interest and attorneys' fees pursuant to statute. The trial court also denied motions by Lender for entry of judgment against Dynalectric and Division 8 based on the alleged failure of these claimants to comply, respectively, with sections 3097 and 3172.
I. General Legal Background
A mechanics' lien is a claim against the real property, which may be filed if a claimant has provided labor or furnished materials for the property and has not been paid. (Kim v. JF Enterprises (1996) 42 Cal.App.4th 849, 854.) The mechanics' lien derives from the California Constitution and "courts have uniformly classified the mechanics' lien laws as remedial legislation, to be liberally construed for the protection of laborers and materialmen." (Connolly Development, Inc. v. Superior Court (1976) 17 Cal.3d 803, 826-827 (Connolly).) The mechanics' lien, however, lost its effectiveness when lenders began recording construction loan trust deeds before commencement of construction. (Id. At p. 827.) The recorded construction loan trust deed is superior to any later recorded mechanics' lien; thus, if the lender forecloses on the property, the mechanics' lien has no value. (10 Miller & Starr, Cal. Real Estate (3d ed. 2011) § 28:68, p. 234.) "Even if the prior lien is not foreclosed, if the value of the property does not exceed the debt secured by the prior lien, there will be no equity in the property to secure the mechanics['] liens." (Ibid.) The Legislature created the stop notice, now referred to as the stop payment notice, as an additional and cumulative remedy to protect laborers and materialmen. (Connolly, supra, 17 Cal.3d at p. 809; current § 8044, subd. (c).) As our high court explained, " '[l]abor and material contractors [in the construction industry] are in a particularly vulnerable position. Their credit risks are not as diffused as those of other creditors. They extend a bigger block of credit, they have more riding on one transaction, and they have more people vitally dependent upon eventual payment. They have much more to lose in the event of default. There must be some procedure for the interim protection of contractors in this situation.' " (Connolly, at p. 827.)
After giving a 20-day preliminary notice (§ 3160), a laborer or materialman may serve a stop notice upon the owner or the construction lender. (§§ 3158, 3159.) A timely served stop notice obligates the owner or lender to withhold funds for the benefit of the stop notice claimant. (10 Miller & Starr, supra, § 28:74, pp. 248-249.) Once a stop notice is timely served on an owner or lender, an action to enforce the stop notice must be commenced within 90 days of the deadline to serve the stop notice, regardless of whether the stop notice was served early. (§ 3172.) The party whom received the timely stop notice is required to withhold funds in the amount of the stop notice until the expiration of the claimant's deadline to file an action to enforce the stop notice, plus five additional days for receipt of a notice of commencement of the action under section 3172. (§ 3172.) If several stop notices have been filed and not enough money exists to pay them all, stop notice claimants share pro rata in the available funds. (§ 3167.) If a lender fails to withhold funds required by the bonded stop notice, it is personally liable to the claimant for the full amount of the claim. (Connolly, supra, 17 Cal.3d at p. 809.)
II. Familian Issue
A stop notice claimant obtains priority over any "assignment" of the construction loan funds, whether the assignment is made before or after a stop notice is served. (§ 3166.) In A-1 Door & Materials Co. v. Fresno Guarantee Sav. & Loan Ass'n (1964) 61 Cal.2d 728 (A-1 Door), our high court interpreted subsection (h) of Code of Civil Procedure section 1190.1, the statutory predecessor to section 3166. (A-1 Door, at pp. 731-732; Familian, supra, 213 Cal.App.3d at p. 684.) In A-1 Door, the contract between the lender and property owners required that the property owners assign the construction loan funds to the lender as security for their obligation to repay the loans and for any of their other obligations to the lender. (A-1 Door, at p. 735.) When construction stopped, the lender retained the unexpended loan proceeds per its agreement with the property owners. (Id. at p. 731.) Unpaid materialmen issued a stop notice and then sued the lender for enforcement. (Ibid.) The lender argued that there were no undisbursed funds to garnish because its contract with the property owners allowed it to retain possession of the funds. (Id. At pp. 733, 735.) Our high court disagreed, concluding that the anti-assignment provision in subsection (h) of Code of Civil Procedure section 1190.1 "require[d] that funds earmarked for construction purposes be used to pay suppliers of labor and materials who file claims under the subsection and therefore supersede[d] the private arrangements of borrower and lender." (A-1 Door, at p. 734.)
In Familian, the court answered a question of first impression, whether a secured construction lender could defeat a bonded stop notice claimant's statutory priority to construction loan proceeds by segregating the fund into preallocated accounts and thereafter deducting charges and interest as accrued. (Familian, supra, 213 Cal.App.3d at p. 683.) During construction, the lender paid itself for preallocated loan expenses including interest, loan fees, document preparation fees, and general and administrative expenses. (Ibid.) The lender then received stop notice claims greatly exceeding the remaining loan funds. (Ibid.) The lender foreclosed on the property and interplead the remaining loan funds, arguing that the laborers and materialmen were entitled to a pro rata share of this fund only. (Ibid.)
Interpreting section 3166, the Familian court rejected the lender's argument. It held that the preallocation of funds to pay points, interest and other non-construction costs constituted an assignment within the meaning of section 3166 that was subordinate to the perfected claims of laborers and materialmen. (Familian, supra, 213 Cal.App.3d at pp. 686-687.) It explained that "[s]ection 3166 does not prohibit [the lender's] practices; it simply assures priority to those who contribute the labor and materials to improve the property and increase the value of the lender's security." (Id. at p. 687.)
The Familian court then addressed the lender's argument that "a stop notice claimant's priority applie[d] only to 'unexpended' or 'undisbursed' loan funds" and that stop notice claimants were not entitled to priority for fees, points and interest incurred and paid to a lender before the borrower commenced work on the project as these funds had already been spent. (Familian, supra, 213 Cal.App.3d at p. 687.) The court quickly rejected this contention stating: "[T]his argument seeks to engraft a loophole into section 3166. A construction lender would need only to deduct its profits at the inception of the loan to assure a double recovery at the expense of those who enhance the value of the property by supplying labor and materials." (Ibid.) Accordingly, it held "that a preallocation of construction loan funds and periodic disbursements to the lender are assignments within the meaning of section 3166. Therefore, 'whether made before or after a stop notice or bonded stop notice is given to a construction lender, ' the assignment does not take priority over the stop notice. (§ 3166.) Laborers and materialmen ...