FORECLOSURE DEFENSE-RESIDENTIAL

• New York is a judicial foreclosure state, and a debt obligation (a mortgage loan) cannot be enforced in foreclosing on the security for the debt (a home) by way of foreclosure unless the bank or servicer is able to prove its case. Simply because there has been a default on a homeowner’s mortgage loan does not automatically entitle a bank or servicer to a foreclosure judgment. A mortgage loan default neither suspends operation of rules of civil procedure or the rules of evidence. Thus, a homeowner may have viable defenses and counterclaims to fight their Bank or Servicer to save their home. Some of the residential foreclosure defenses and pleadings to advance a homeowner’s claims are listed by the following: 

Appearance

In “appearance” is a party’s participation in a lawsuit. Failure to appear can lead to an entry of a default judgment against a homeowner. Appearing in a foreclosure action entitles a homeowner to defend and receive notice of all subsequent proceedings. An appearance by a homeowner in an action is deemed to be the equivalent of personal service of a summons upon him, and therefore confers personal jurisdiction over him, unless he asserts an objection to jurisdiction either by way of motion or in his answer.

Answer

After a homeowner is served with a summons and complaint, he must respond in writing within a limited period of time. An answer is a pleading submitted by a homeowner or respondent in response to allegations asserted by the plaintiff or petitioner. The written response must be made within 20 days of personal service, or within 30 days of the time when service by any other means is complete. If a homeowner fails to respond, he or she is in default and plaintiff may be able to obtain a default judgment against the homeowner for the relief requested. The Answer contains the legal defenses and counterclaims regarding the issues in a homeowner’s foreclosure action.

Statute of Limitations

New York law establishes a six-year statute of limitations for the commencement of a mortgage foreclosure action, triggered when the borrower defaults on the obligation and the lender accelerates the obligation to pay the secured debt.  On December 30, 2022, New York State Governor Kathy Hochul signed into law the “Foreclosure Abuse Prevention Act” (“FAPA”). FAPA applies to both residential (not only owner-occupied properties) and commercial foreclosures and became effective immediately. The passing of FAPA is significant because it essentially reverses long established judicial precedent that permitted a lender, after a borrower’s default, to undo the acceleration of a mortgage and stop the running of the statute of limitations in a foreclosure action through voluntary dismissal, discontinuance of foreclosure actions, or even de-acceleration letters. A lender's violation of FAPA can result in the dismissal of its foreclosure action and cancelation of a homeowner's mortgage debt obligation.  

Noncompliance with notice requirements

In a foreclosure suit, particularly with regard to a “high-cost home loan,” a “subprime home loan” or a “non-traditional home loan,” RPAPL 1304 law mandates that, at least 90 days before a lender or mortgage loan servicer commences legal action against the borrower, the lender or mortgage loan servicer must give the borrower a specific, statutorily prescribed notice called “90 Day Notice.” The 90 Day notice must be sent in a statutorily defined manner, method and form of delivery. In essence, the 90 Day notice warns the borrower that he or she may lose his or her home because of the loan default and provides information regarding assistance for homeowners who are facing financial difficulty. The bank’s failure to send the 90 Day notice in the compliance with the statutory requirements violates RPAPL 1304 and can warrant the dismissal of the bank’s foreclosure action.

Lack of Standing

New York courts have consistently held that to have standing, the plaintiff must have title to both the note and mortgage at the time the foreclosure action was commenced. “Foreclosure of a mortgage may not be brought by one who has no title to it and absent transfer of the debt [the note], the assignment of the mortgage is a nullity. To become a holder of a promissory note and thus to have standing, a foreclosing plaintiff must establish endorsement of the note and physical delivery of it prior to the commencement of the foreclosure action. “In order to commence a foreclosure action, the plaintiff must have a legal or equitable interest in the subject mortgage… A plaintiff has standing where it is both the holder or assignee of the subject mortgage and the holder or assignee of the underlying note prior to commencement of the action with the filing of the complaint… Either a written assignment of the underlying note or the physical delivery of the note prior to the commencement of the foreclosure action is sufficient to transfer the obligation, and the mortgage passes with the debt as an inseparable incident.” The court will dismiss a foreclosure action if it determines the bank lack’s standing in a particular matter. 

Lack of Agency

In a foreclosure action, the homeowner has a promising defense when an agency relationship between a principal and agent has not been established. It has been held that the agent, who has a fiduciary relationship with the principal, “is a party who acts on behalf of the principal with the latter’s express, implied, or apparent authority.” In a foreclosure context a principal is usually a Bank or Trust and its Agent is its Servicer or Trustee. An agency relationship is also within the context of a servicer and its mortgage employee. A party who claims to be the agent of another bears the burden of proving the agency relationship by a preponderance of the evidence. In the absence of any evidence that an officer or employee of loan servicing corporation was authorized to act as a representative of foreclosing lender, neither documents executed by officers for servicing corporation nor communications by counsel with officers could satisfy requirements of administrative order or otherwise support judgment of foreclosure and sale.

Personal Jurisdiction

Personal jurisdiction is obtained by serving a homeowner with a summons and complaint. But, a homeowner must be properly served for the court to obtain personal jurisdiction. The preferred methods of personal service on an individual are by delivering the summons to the homeowner (see CPLR 308 [1]), or by delivering the summons to a person of suitable age and discretion and mailing another copy of the summons to the defendant's last known residence or actual place of business (see CPLR 308 [2]). If service cannot be effected by those methods "with due diligence," CPLR 308 (4) permits so-called "nail and mail" service, which entails affixing the summons to the door of the defendant's "actual place of business, dwelling place or usual place of abode," and by mailing the summons either to the defendant's last known residence or actual place of business. A homeowner may raise a challenge to the summons or service of process in a motion to dismiss the complaint for lack of jurisdiction over the homeowner; or as an affirmative defense in the answer. A homeowner may move to dismiss a complaint for lack of personal jurisdiction where the homeowner was improperly served with process. 

An appearance by a defendant in an action is deemed to be the equivalent of personal service of a summons upon him, and therefore confers personal jurisdiction over him, unless he asserts an objection to jurisdiction either by way of motion or in his answer. However, the defense of lack of personal jurisdiction is waivable and must be raised at the outset of a homeowner’s appearance in the action. 

Traverse hearing

A Traverse Hearing is a pre-trial hearing ordered by a judge to determine the sufficiency of service of process in a civil action. To warrant a Traverse Hearing, the homeowner must submit a sworn affidavit denial containing a detailed and specific contradiction of the allegations in the process server’s affidavit that defeats the presumption of proper service. If a Judge deems that a homeowner has rebutted the presumption of valid service and the issue is unresolved, he will schedule a Traverse Hearing.  A judge may conduct the hearing himself or refer the case to a judicial hearing officer (“JHO”) to conduct the hearing. At the traverse hearing the burden is on the Bank to call the process server as a witness and testify as to the service. The process server must appear with his log book, copies of his affidavit(s), copy of the photograph of the premises served and, as is required by the New York City Administrative Code, his process serving license. Pursuant to New York General Business Law Section 89-cc, a process server is required keep a log including the details of the service.  

Commercial foreclosures, like residential foreclosures in New York State, are conducted through a judicial foreclosure process. Commercial foreclosures are often intricate and can involve numerous issues related to tenants’ rights, assignments of rents, UCC liens and personal property unconnected to real estate. Collateral pledged to secure a commercial loan may be liquidated through a UCC Sale. Such issues are usually resolved by litigation in both New York State and Bankruptcy courts. 

Commercial Foreclosure Defenses

According to the American Bar Association, the number one theory of lender liability used by defendant commercial borrowers against lenders is breach of contract. However, lender liability may also often be found in theories of fraud and duress, improper control, interference with borrower’s business opportunity, or failure to comply with the statute of frauds. Additionally, but to a lesser extent, relief for a commercial borrower may be sought under theories of usury, negligence, conversion, defamation, infliction of emotional distress and other statutory liability. Such claims are fact specific and in the event of foreclosure a slew of equitable, contractual, and statutory defenses become available to the borrower, under applicable circumstances. The ensuing is a list of some commercial foreclosure defenses.

Breach of Contract

Breach of contract claims can include issues arising in the loan commitments, refusal of the lender to advance the funds, improper acceleration and demand, failure of adequate notice, failure to provide new financing, failure to restructure, or breach of oral commitments made by lender contemporaneous with, or after, the written loan agreement. Some developing theories of lender liability include: constructive fraud based on a fiduciary duty; breach of the duty of good faith and fair dealing; improper control over borrower; interference with borrower’s prospective business advantage; or interference with borrower’s contractual relations.

Loan Origination Issues 

Loan origination issues arise from a lender’s treatment of the applications, commitments, documentation and closing, as well as disclosure of adverse information in relation to the formation of the loan agreement. In terms of applications and commitments, a lender becomes liable where the handling of the application and commitment to extend credit does not comport with regulations or duties. Specifically, a lender owes the borrower a duty of reasonable care to act without delay. Additionally, a lender may owe borrower a duty to process the application if a prior relationship exists or if the lender accepts a fee. 

Parol Evidence and Commercial Lending

Though in many contract scenarios oral agreements will be disregarded in favor of the written agreement, in terms of commercial loan obligations parol evidence will be admitted. This particularly comes into play with respect to oral modifications of the terms of the loan agreement, including payment terms, as well as oral waiver of the lender’s rights where he promises to forbear from foreclosing or taking other remedial measures in the face of default. Additionally, such oral statements can form the basis of fraudulent misrepresentation claims,

Breach of the Duty of Good Faith and Fair Dealing

Every contract is governed by the principles of good faith and fair dealing, an implied obligation that is imposed on both parties to a commercial contract including a commercial loan agreement under UCC 1-304. This duty requires that neither party do anything to deprive the other of the benefits of the agreement. This duty is well recognized in New York however, it will not be expanded to a point of conflict with the express terms of the bargained-for exchange, and equitable considerations will not allow an extension of coverage beyond [the agreement's] fair intent and meaning in order to obviate objections which might have been foreseen and guarded against. In other words, though the lender must act reasonably in asserting its rights under the contract, the court will refer to the contents of the four corners of the contract in order to determine the scope of the duty of good faith. As with any contract, the parties’ intent controls.

Unconscionability

Although unconscionability would generally form the basis for relief from a contract, including a loan agreement, in "a commercial transaction by business people in a commercial setting, under terms that are standard in the trade, [the facts give] rise to a presumption of lack of unconscionability." Thus, the burden is higher to prove unconscionability in the commercial context unless you can prove the agreement was not made under terms standard in the trade or conducted by business people in a commercial setting.

Fraud and Duress

Where fraud or misrepresentation in the procurement of a mortgage are successfully alleged and proved by the borrower, a mortgage may be set aside and cancelled. Definitionally, the concept of fraud is divided into two categories, fraud (or “actual fraud”) and constructive fraud (also referred to as “legal fraud”). Actual fraud can generally be viewed as the knowing and intentional deprivation of another’s legal rights. Alternately, legal fraud is the gaining of advantage by unfair means to the detriment of another. A cause of action for fraud—whether couched as a counterclaim or an affirmative defense—cannot arise when the sole fraud asserted relates to breach of contract.  Similarly, a fraud claim would be dismissed as duplicative when founded upon the same facts as a contract claim. 

Fraudulent Misrepresentation

To sustain a cause of action for fraudulent inducement, a commercial borrower must show misrepresentation or a material omission of fact which was false and known to be false by defendant, made for the purpose of inducing the other party to rely upon it, justifiable reliance of the other party on the misrepresentation or material omission, and injury. Fraudulent misrepresentation need not be intentional but rather a borrower’s reliance upon a lender’s alleged, verbal promise, even though not contained in the loan documents, may rise to the level of common law fraud, negligent misrepresentation may be found, and lender liability imposed. 

Constructive Duress

Constructive duress may be found where a lender has developed a fiduciary relationship with a borrower. A simple lending relationship, however, will not create a fiduciary relationship. A lender who only acts as a lender cannot be held a fiduciary, but rather there must be an understanding that the borrower is acting in reliance upon the expertise and advice of the borrower. Specifically, although the unilateral expressions of a borrower will not change the relationship, a fiduciary relationship may be found where a loan officer gives business advice to borrower, a borrower shares confidential information with the lender and the lender uses the information, or the borrower puts “trust and confidence” in the lender. 

Duress

Duress in the commercial lending context can include threats to reputation, business or property interests, economic duress, or equitable duress to defeat lender’s defenses or counterclaims. Only the first two apply in the context of borrower instigated litigation. Threats to Economic duress may be found where a lender uses the knowledge of a borrower’s precarious financial situation to acquire unconditional guarantees or other favorable outcomes. It is important to note, however, that even were this to rise to the level of economic duress, where the parties to a lending agreement have signed a release, said release “against sophisticated commercial actors . . . may be voided on grounds of economic duress only in extreme and extraordinary cases.

Improper Control

One of the biggest areas of liability for lenders lies in the exercise of improper control over the borrower. Particularly, this control is found outside of the construction lending context where the lender exerts some dominion over management of the Borrower Company, or control over operations through withholding or reduction of advances. 

Control is most often to be found where the lender directs what bills to be paid; the retention or replacement of management; the borrower’s choice of third party vendors; consultants; accountants or the like; reduction of officers’ salaries; or the day to day management of borrower’s operations.

Interference with a Business Contract

In the event a lender commits a tortious interference with borrower’s business contract, borrower may recover punitive damages in addition to remedial damages. The business advantage in the contract must be actual, however, not just borrower’s expectation. This requires an independent wrong by the lender and lender’s knowledge that action is substantially certain to disrupt an economic relationship between borrower and a third party. To establish a case for tortious interference with contract, it is necessary that there must be a breach of that contract by the other party.

Statute of Frauds

The applicable Statute of Frauds provides: "A contract for the leasing for a longer period than one year, or for the sale, of any real property, or an interest therein, is void unless the contract or some note or memorandum thereof, expressing the consideration, is in writing, subscribed by the party to be charged, or by his lawful agent thereunto authorized in writing." General Obligations Law § 5-703 (2). It is said, "[T]o satisfy the statute of frauds, a memorandum evidencing a contract and subscribed by the party to be charged must designate the parties, identify and describe the subject matter, and state all of the essential terms of a complete agreement." Thus, if the material terms are not included in the signed memorandum with sufficiency, which would include the terms pertaining to the mortgage or financing, then the contract is void.