by: Patrick A. Randolph, Jr.
Professor of Law
UMKC School of Law
randolphp@umkc.edu

BROKERS; MORTGAGE BROKERS; COMMISSION; PROCURING CAUSE: Contract providing for commission when client sells mortgages to buyers "introduced" by mortgage broker requires that broker be procuring cause of such sales, and broker does not qualify for commission simply by providing client with lists of potential purchasers of clients mortgages. Heging Concepts v. First Alliance Mortg. Co., 49 Cal. Rptr 2d 191 (Cal. App. 1996)

This case involves the relatively new concept of mortgage brokering in the developing "securitization" industry. Broker proposed to Client, a large dealer in second mortgages, that Broker assist Client in arranging securitization of portions of Client's mortgage portfolio.

The court describes "securitization" as "a bundling of secured real property loans for sale as a group to institutional investors." This is an overly broad and too vague description of what the editor understands securitization to be. But the court does go on to say that the technique "involves an investment banker, rating agency and trustee, and can take a year or more to complete." Thus, whatever the court's understanding of the concept, it clearly understood that the parties were discussing a complex financal arrangement involving a number of parties other than the buyer and the seller.

Broker's engagement letter, which Client signed, stated that it provided for "compensation paid to [Broker] in the event that a successful securitization . . . is initiated through firms introduced by [Broker to Client]." It goes on to say that Client "agrees to pay [Broker] a fixed percentage commission on `the principal balance of all mortgages sold, securitized or delivered to or through firms located or introduced by" [Broker] over an ensuing ten year term.

Veterans of the business can predict what happened next. Broker started bombing Client with lists of names of parties in the mortgage finance industry, including virtually every entity that ever had or even thought of participating in securitization projects. In the end there were 92 names, including all major institutional loan buyers. Client finally figured out what was going on, and wrote to Broker that it was not Client's understanding that Broker could lock himself into a commission over a ten year period just by registering a list of names with Client, but the parties could not negotiate any new understanding on this point.

Client then stopped any dealings with Broker and, a year and a half later, engaged a new broker and made some securitzation deals with parties who were on Broker's lists.

In the ensuing lawsuit over whether a commisssion was owed to Broker (with accompanying reciprocal fraud and misrepresentation claims), Broker claimed that, indeed, simple "registration" of potential mortgage purchasers names was sufficient, while Client argued that the contract required that Broker be a "procuring cause." The court concluded that the commission contract "was not necessarily an integrated agreement and was reasonably susceptible to either interpretation."

The trial court concluded that the parties each had a subjective belief in their interpretation of the meaning of the contract at the time it was formed, and that therefore there had never been a "meeting of the minds," but that no rational business person could conclude that the contract called for a commission to Broker on any sale to anyone on the list over a ten year period, and that therefore the Client's interpretation of the meaning of the contract was the correct one. The trial court then rescinded the contract based upon mutual mistake, but held that the broker was entitled to quantum meruit for the reasonable value of its services performed plus costs, plus prejudgment interest.

On Client's appeal, held reversed:

Broker should get no commission or compensation of any kind. The contract was formed, and it did not provide for quantum meruit payment. The court held that the trial court had properly found that the rational and proper interpretation of the contract was that the Broker was required to be a "procuring cause" of the securitization deals, and that there was no basis for rescinding this contract. There was no mutual mistake, as Client properly interpreted the contract, and Client did not know that Broker interpreted the contract differently, so Broker's unilateral mistake does not permit rescission.

The court conceded that other equitable factors might have justifed the trial court in rescinding the contract as to future dealings between the parties, but that this would not lead to the conclusion that quantum meruit should be available as to past activities.

To make its point a little more clearly, the court awarded "reverse attorney's fees" to Client, since the Broker's agreement had provided for fees to the Broker, and under California law, such provisions are automatically reciprocal.

Comment 1: The court's awarding of attorney's fees to the Client probably reflects its attitude, implicit in the tone of the opinion, that the Broker had overreached. The editor agrees. In the end, the Broker was unlucky that it found a trial court willing to "keep the pot boiling" while the Client had the resources to avoid getting cooked. Broker wound up paying for the whole affair.

Comment 2: Although the result may be predictable, the case is valuable as one of the first appellate opinions dealing the question of commissions for mortgage brokers in securitization deals. It is also a valuable lesson for parties dealing with such brokers. Pay close attention to the terms on which a commission is earned.

Securitization deals are complex and involve many parties. Perhaps a mere "introduction" should not earn the high fee that a broker might demand if the broker is unable to deliver the other services necessary to bring the deal together.

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