Daily Development for Thursday, October 5, 2006

dirt@umkc.edu

MORTGAGES; WASTE: Mortgagor's failure to conduct reasonable maintenance on roof constitutes tortious waste, not just a breach of contract (and collectible even where there is a judgment for the debt!!!)

This is still another issue arising in this case rich with issues, which has already been discussed in the DD for 9/4/06 under the heading "Landlord/Tenant; Commercial; Radius Clause." This aspect of the decision affirms an award of $1.9 million against the mortgagor for tortious waste for, inter alia, its failure to maintain and repair roofs at the shopping center.

Preliminarily, the editor must acknowledge some confusion here about the procedural posture of the waste claim. The opinion is voluminous, and perhaps the editor has missed something, but it does not appear that the mortgagee in fact foreclosed this loan, but rather began collecting the rents, sued for return of some inappropriately applied rents, and then sued everyone in sight for injury to it as well as for a judgment for the debt. It got a judgment against the borrower for the full amount of the loan, and against the principles of the borrower under the non-recourse "carve outs" also for the full amount of the loan (based upon their alleged fraud in representations made to the lender and its agents before the loan was made.) It also will get a huge attorney's fee award.

Given all of the above, it is difficult for the editor to see where a waste claim comes in. Perhaps the mortgagee included it as an alternative approach if the court did not permit it to invoke the "carve out" for fraud, thereby entirely avoiding the non-recourse provisions of the loan. But once the carve out was invoked (for pre-loan fraud - as indicated above), it would appear that the waste claim is moot.

A claim for waste normally can only be based upon a diminution in the value of the security to the injury of the secured party. But if the secured party already has a judgment against a waste defendant for the entire amount of the debt, then it would seem that such judgment would encompass entirely any waste claims. A tort claim for waste might be useful if the plaintiff were seeking punitive damages, but that is not the case here. Perhaps someone with familiarity with the case can clarify to the editor and his readers why there is even a waste claim here.

In addition, the court holds that the waste award is equal to the "costs to replace and repair the roofs that [mortgagor] failed to maintain." Again, the editor is befuddled, since this appears to say that the mortgagee gets these damages in addition to a judgment for the debt, as if it is the owner of the shopping center and the mortgagor injured it as owner. The mortgagee's interest in compensation for waste is only as a mortgagee.

The opinion is so sketchy on these items that the editor is hard pressed to describe what happened, but it does seem that what happened was unusual. The printed opinion in the editor's possession does not indicate who served as counsel for the mortgagee, but perhaps someone can clarify this and we can get a report.

Having discussed these preliminary issues, we can move to a holding in this part of the case that does clearly state law that will be useful as precedent. The court holds that the mortgagor had a duty, *sounding in tort* and apparently regardless of its contractual maintenance duties under the mortgage, to maintain the roof properly in order to prevent roofing problems. It cites for support the new Restatement of Mortgages, which indeed states, in Section 4.6, that "[w]aste occurs when, without the mortgagee's consent, the mortgagor: . . . fails to maintain and repair the real estate in a reasonable manner, except for repair of casualty damage or acts of third parties not the fault of the mortgagor; . . . (4) materially fails to comply with covenants in the mortgage respecting the physical care, maintenance, construction, demolition or insurance against casualty of the real estate or improvements on it . . . ."

In the comments, the authors of the Restatement comment that the traditional distinction between active waste and passive waste is a dead letter. Failure to maintain is tortious, except in the event that there is a damage to the property through casualty or vandalism. In the latter case, the duty of the mortgagor remains limited to preserving the property wind and weather tight. The Restatement cites a number of cases in support of its view that failure to maintain is waste, and cites no cases contra. Some of the cases indeed involve roof repairs.

Comment 1: Although the court appears to have studied the Restatement, it apparently missed that part of Section 4.6 that states that any recovery of damages for waste is limited to the extent that the waste has impaired or threatens to impair the mortgagee's security interest. When there is a judgment with recourse against the mortgagee for the entire amount of the debt, it would not appear that a waste claim should be added to the top.

Even if a mortgagee is not also suing on the debt, and claims that waste has occurred, the Restatement states specifically that there must be an impairment of the lender’s security interest.

Note that this must be coupled with the Restatement's definition of such impairment, which basically says that the mortgagee is entitled only to the original loan to value ratio, and not to any absolute value in the security. If the duty to maintain truly is an expansion of the traditional limitations on recovery for "passive waste," the editor can't see how any court could properly cite the Restatement on waste without also accepting the Restatement's definition of "impairment of security."

Comment 2: According to the Restatement, a mortgagor always has the "public" duty, sounding in tort, to maintain the property to proper standards, at least to the extent that failure to maintain would impair the mortgagee's security interest. This is an important concept, and bears emphasis. The court holds that even where the mortgage says nothing about maintenance, the mortgagor has a duty, sounding in tort, to maintain the mortgaged property in good repair. But, the editor emphasizes, so far as the Restatement is concerned, failure to perform that duty is actionable only when the loan to value ratio is affected. That is not what the court appears to find here.

Comment 3: Although the Restatement clearly states that "reasonable" maintenance is required of the mortgagor, and that failure to provide such maintenance sounds in tort, note that it also says that it is tortious waste to fail to perform the "covenants in the mortgage." How can this be? If the contract defines the duty, the remedy should lie in contract. Many states have adopted this principle as a general principle of remedies law, and certainly it should be considered as controlling in this instance. Consider, for instance, the context of this case. The parties agreed that the mortgagee would not have recourse liability for breach of the mortgage except in the case of a limited range of exceptional circumstances, one of which was the commission of waste. But if we define failure to perform the mortgage covenants in itself as waste, we have a circular liability. You're not liable for failure to perform the covenants except that you are if you fail to perform the covenants. This cannot be what the parties to this agreement actually intended.

The editor strongly disagrees with the Restatement on this point, and is interested in knowing what others have to say on the point.

Comment 4: The editor also wonders whether the same standard for waste - duty to maintain - ought to be applied to life tenants and lessees, parties who also have responsibilities concerning waste. Note that the common law rule for leases states that lessees have no duty to maintain except as stated in the lease. Is this all changed? The editor feels like Rip van Winkle. He didn't notice all this change occurring, but there it is, in the Restatement.

Readers are encouraged to respond to or criticize this posting.

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