Daily Development for Friday, October 27, 2000

By: Patrick A. Randolph, Jr.
Professor of Law
UMKC School of Law
Of Counsel: Blackwell Sanders Peper Martin
Kansas City, Missouri
randolphp@umkc.edu

ESCROWS; DUTIES OF AGENT; THIRD PARTY BENEFICIARIES: An escrow holder's fiduciary duty will extend to a third party beneficiary for the limited purpose of informing such a beneficiary of the termination of the escrow. An escrow agent also has a fiduciary duty to inform the parties to the transaction if it has reasonable cause to believe a party has perpetrated a fraud against another party to the transaction.

Butko v. Stewart Title Company of Washington, Inc., 991 P.2d 697 (Wash. App. 2000) (unpublished opinion)

An escrow agent was retained to carry out escrow functions relating to a closing of a real estate that included an elaborate workout of prior loans, including some deeds in lieu of foreclosure. The Butkos were shareholders in close corporations that were involved in or affected by these transactions. Allegedly, another shareholder arranged for the transfer of real estate held by the corporations without obtaining specific approval from the Butkos. While the closing, apparently, was proceeding (after recording but prior to disbursement of loan proceeds) the Butkos sent a letter to the escrow agent the day after the closing that stated they had an equitable ownership interest in the relevant properties involved in the transaction, that they had received no advance knowledge of the pending closing and that they did not approve of the transaction.

The escrow agent proceeded to disburse the monies despite this letter, and without informing other parties to the escrow, and the Butkos sued for breach of fiduciary duty and conversion.

The Court of Appeals reversed the trial court's summary judgment dismissing the claim of breach of fiduciary duty and remanded it for trial. According to the Court of Appeals, once the escrow agent received the letter from the Butkos, it had a fiduciary duty to advise all parties to the escrow about the allegations to allow the parties to make further inquiries and revise their escrow instructions if need be. One element of this duty, of course, ran to the parties to the escrow, as the presence of fraud might invalidate the deliveries that were part of the transaction. But the court went further, and held that the escrow agent had a direct duty to the Butkos, who were not parties to the escrow, but third party beneficiaries of the involved transaction as they were shareholders in the involved corporations.

On Ms. Butko's claim of conversion by the title company, the trial court also had granted summary judgment for the defendant. The Court of Appeals again reversed and remanded, holding that it would recognize a cause of action for conversion to recover damages arising from a defendant's willful acts that reduced the value of plaintiff's shares of corporate stock. Ms. Butko's ownership in corporate shares included rights to any proceeds derived from the liquidation or transfer of the corporation's assets, including the transfer of real property held by the corporation. The court found that there was evidence that the escrow agent may have had knowledge of the conversion, that it facilitated the conversion and that it benefitted from the conversion in the form of escrow fees.

Comment 1: The escrow agent's duty to take actions to notify parties to its escrow of information suggesting fraud has been recognized in other cases. Here the court makes clear that the duty arises when fraud is alleged, but the agent has no real evidence that it has occurred. (It had some documents allegedly signed by Mrs. Butko approving the sale, and a separate title insurance company had concluded that there was adequate evidence that the sale had been fully approved.) It would then be up to the parties to determine whether to proceed or to revise the escrow instructions.

Much more interesting, however, is the second part of the court's ruling the finding of a duty to persons who are not themselves parties to the escrow. Where does this duty end? And what are the implications pertaining to the duty to the principles to the escrow. For instance, if, after being informed of the Butkos' claim, the principles of the escrow had instructed the escrow agent to proceed, did the agent still have further duties to the Butkos, for instance to inform them that it was instructed to proceed, so that they could seek an injunction? The creation of a duty to nonparties that conflicts with the interests of the escrow's principles strikes the editor as the construction of a very slippery slope indeed.

Comment 2: One of the principles in the escrow agency testified that he felt compelled to go ahead and disburse proceeds because the deeds and mortgages had already been recorded. But clearly they might have been void if there were forged signatures or if the signatories lacked authority to bind the corporation. Under such circumstances, more harm potentially would have been done to the parties if the funds had been disbursed, so there is every reason to agree with the court's conclusion that, if there was a duty at all, it extended to the circumstances here, where the closing was well on the way to conclusion, but not quite done.

Comment 3: It is indeed unfortunate that the Court of Appeals has sufficient confidence in its identification of an entirely new principle of law to rule on the interests of the parties before it, but insufficient confidence to permit its ruling to serve as precedent. Is this new duty the law or not? The editor doesn't like the rule, but likes even less the tentative way in which the rule is introduced.

Readers are urged to respond, comment, and argue with the daily development or the editor's comments about it.

Items in the Daily Development section generally are extracted from the Quarterly Report on Developments in Real Estate Law, published by the ABA Section on Real Property, Probate & Trust Law. Subscriptions to the Quarterly Report are available to Section members only. The cost is nominal. For the last six years, these Reports have been collated, updated, indexed and bound into an Annual Survey of Developments in Real Estate Law, volumes 1‑6, published by the ABA Press. The Annual Survey volumes are available for sale to the public. For the Report or the Survey, contact Maria Tabor at the ABA. (312) 988 5590 or mtabor@staff.abanet.org

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