Guarantors Now Have North Carolina Anti-Deficiency Defense in Collection ActionsPDF
The North Carolina Supreme Court dramatically has changed the landscape of real estate-related collection actions: a guarantor of a defaulted real estate loan now can directly defend or offset a lender’s deficiency claim by alleging that the lender’s prevailing foreclosure bid did not represent the true value of the real property. Before the Court’s ruling in High Point Bank & Trust Co. v. Highmark Properties, LLC, 2015 WL 5655991 (N.C. Sept. 25, 2015), only the borrower-owner of the real property could assert this anti-deficiency defense in N.C.G.S. § 45-21.36. The Court’s decision increases a guarantor’s chance of surviving summary judgment because this now-available defense is fact-intensive. A lender pursuing collection from a guarantor may need to adjust its collection strategy to avoid more costly and time-consuming litigation.
The Anti-Deficiency Defense
N.C.G.S. § 45-21.36 gives a “mortgagor, trustor or other maker” whose real property has been purchased at a foreclosure sale by the lender an opportunity to reduce, if not erase, a deficiency in a collection action by showing that the “property sold was fairly worth the amount of the debt secured by it at the time and place of sale or that the amount bid was substantially less than its true value.” Before High Point Bank, a lender could often win summary judgment against guarantors because North Carolina courts had fairly consistently held that a guarantor could not assert § 45-21.36 as it was not a “mortgagor, trustor or other maker” of the underlying debt.
For this reason, a lender historically would structure its collection litigation to pursue only the guarantor—and not the borrower—for the deficiency to avoid a dispute over the real property’s true value under § 45-21.36 and a possible reduction or defense to its deficiency claim. Besides, more often than not, the borrower was a single-asset entity whose sole asset (the real property) had just been foreclosed upon so the judgment against the borrower would be meaningless.
As an example, assume the debt is $2,000,000, the lender credit bids $1,000,000 at the foreclosure sale, and the lender pursues its $1,000,000 deficiency claim. A guarantor now can validly defend the collection action by alleging the real property was worth more than the lender’s credit bid. Therefore, lenders will have to rethink their collection litigation strategy.
The essential facts in High Point Bank are fairly common. High Point Bank made two commercial real estate loans to Highmark Properties, LLC totaling over $5 million. The loans were secured by real property and were personally guaranteed by four individuals. After Highmark’s default, the bank filed a collection action against Highmark and the guarantors and, separately, completed a non-judicial foreclosure of the real property collateral. High Point Bank was the sole bidder at foreclosure and then pursued the $1.5 million deficiency.
At summary judgment, High Point Bank argued the guarantors could not assert the anti-deficiency defense found in § 45-21.36. The trial court granted High Point Bank summary judgment on the guarantors’ liability, but permitted the guarantors to assert the anti-deficiency defense. The court’s ruling, thus, required a trial on the real property’s true value. At trial, the jury found that High Point Bank’s winning foreclosure bid was far less than the real property’s fair market value. The court, accordingly, reduced High Point Bank’s deficiency to $300,000 from the $1.5 million sought.
The Supreme Court’s Decision
After losing at the Court of Appeals, High Point Bank argued on appeal to the Supreme Court that (1) the guarantors could not raise the anti-deficiency defense because they were not a “mortgagor, trustor or other maker” of the underlying debt, as set forth in § 45-21.36, and (2) the guarantors had waived their defenses in the guaranty agreement. The Court rejected both arguments.
The Court first interpreted the anti-deficiency statute as providing an “equitable method of calculating” the indebtedness due, rather than a typical defense. Because a guaranty is a promise to repay indebtedness, the Court reasoned, the guarantors could directly raise the anti-deficiency defense as it is simply a way of calculating the amount owed on their guaranty.
Using this same rationale, the Court also held that the anti-deficiency defense is not waivable. In the Court’s view, guarantors only guarantee to pay the debt owed. Thus, because the anti-deficiency defense is merely a statutory formula for calculating the debt owed, the defense is not a traditional defense subject to waiver. The Court even went further to hold that because the anti-deficiency statute is “narrowly tailored to address . . . the public’s vulnerability to lender overreach,” any purported waiver of the anti-deficiency defense violates public policy.
High Point Bank cements a powerful new defense in collection actions that will likely permit a guarantor to survive summary judgment. By introducing an appraisal or other competent evidence of the real property’s value that differs from the lender’s foreclosure bid, a guarantor can create a factual dispute to be resolved by a jury. A collection action against a guarantor now will be more expensive and time-consuming for a lender to pursue. What’s more, a lender cannot avoid this result by simply including a waiver of the anti-deficiency defense in the guaranty.
As a lender assesses its collection strategies in light of High Point Bank, it should consider postponing foreclosure until after obtaining a deficiency judgment to prevent the borrower and any guarantors from raising § 45-21.36 as a defense. On the downside, because of the costs and delay incumbent in pursuing a judgment, this strategy may eliminate many of the efficiency advantages of a non-judicial foreclosure.