Alliance Mortgage Co. v. Rothwell
10 Cal. 4th 1226 (Cal. 1995)
ARABIAN, J.
We here determine whether a lender's acquisition
of security property by full credit bid at a nonjudicial foreclosure sale bars the lender
as a matter of law from maintaining a fraud action against third party nonborrowers who
fraudulently induced the lender to make the loans. The Courts of Appeal are in conflict on
this issue. We granted review to resolve the conflict, and now conclude that such an
action is not precluded. We therefore affirm the judgment of the Court of Appeal.
I. FACTS AND PROCEDURAL BACKGROUND
This matter reaches us following plaintiff Alliance Mortgage Company's
(Alliance) successful appeal from a judgment on the pleadings dismissing all of its causes
of action against defendants Pioneer Title Company of California, now known as North
American Title Company (North American), and Ticor Title Insurance Company, Inc. of
California (Ticor). Accordingly, for purposes of this opinion, we treat the properly
pleaded allegations of Alliance's complaint as true, and also consider those matters
subject to judicial notice...
From 1983 through 1985, defendant Laurie Rothwell (Rothwell), a real
estate appraiser and broker, and other defendants including North American and Ticor,
devised and implemented an elaborate scheme to fraudulently induce Alliance, then known as
Charter Mortgage Company of Florida, to lend money for the purchase of nine Bay Area
residences. In furtherance of this plan, two fictitious, nonexistent companies, American
Medical Laboratories and American International Savings and Loan, were created to falsely
verify employment of and deposits by purported loan applicants. Defendants committed some
or all of the following fraudulent acts regarding each property: prepared false
residential purchase agreements and loan applications in the names of fictitious
borrowers, deliberately inflated "fair market value" property appraisals and
invented "comparable" property values to support the inflated and fraudulent
appraisals, falsified employment and deposit verifications, tax returns, credit histories,
and W-2 wage/income statements, drafted inaccurate title reports that contained misleading
descriptions of the properties, and falsely represented that the escrow instructions had
been followed and the required cash deposits and disbursements made.
Five of the properties were located on Haight Street in San Francisco;
the other four were located in various East Bay communities. Ticor issued title insurance
policies on three of the five Haight Street properties which falsely described them as
being four-unit dwellings. In fact, they were one-unit residences.
Relying on defendants' representations, and unaware of their fraudulent
conduct, Alliance loaned the Rothwell group the funds to purchase the Haight Street and
East Bay properties. The loans were secured by deeds of trust to the respective
properties. Not surprisingly, the fictitious borrowers defaulted. Alliance purchased many
of the properties at nonjudicial foreclosure sales by bidding the full credit value of the
outstanding indebtedness on the notes, plus interest and costs.
Alliance "discovered, upon acquiring title to the properties, that
the true market value of the properties was far less than the value represented to
Alliance and, at the time of the foreclosures, remained far less than the outstanding
principal amount of the loans together with all other expenditures. Alliance has in some
cases discovered that the physical improvements actually constructed on the separate
parcels of real property are not the type of improvements as assured in the title
insurance policies. As a proximate result of defendants' misconduct, described above,
Alliance has been damaged in an amount to be determined."
Prior to learning of the fraud, Alliance sold several loan obligations
to secondary investors. In the case of three of these properties, regulations of the
Federal Home Loan Mortgage Corporation (FHLMC) required Alliance to repurchase the loans
it had earlier sold to the Federal National Mortgage Association (FNMA). "Each of
those loans had gone into default and the properties were foreclosed upon before Alliance
repurchased them."
After foreclosure or repurchase of the loans from a secondary investor,
Alliance was required to pay various costs and expenses through the time it resold the
property, including property taxes, repairs to the property, correction of local housing
code violations, maintenance of the property, applicable insurance, and costs associated
with selling the property. In addition, after discovery of the fraud perpetrated by
defendants, some of Alliance's mortgage insurers denied coverage for Alliance's losses.
Alliance alleged that these facts gave rise to claims for intentional
misrepresentation, negligent misrepresentation, breach of contract against the escrow
defendants, including North American, breach of Ticor's title insurance contract, breach
of fiduciary duty against the escrow defendants, breach of fiduciary duty against the
title insurance defendants, and violation of the federal Racketeer Influenced and Corrupt
Organization Act (18 U.S.C. @ 1961-1968). It sought punitive damages on its intentional
misrepresentation claim, and attorney fees, costs, and interest on its breach of contract
and breach of fiduciary duty claims.
North American and Ticor moved to strike portions of the second amended
complaint on the ground that they were barred by Alliance's full credit bids. In opposing
the motions, Alliance argued that it was not seeking impairment of security damages, and
that its full credit bids did not bar an action for fraud committed by third parties. The
trial court granted the motions to strike, concluding that Alliance's full credit bids
barred claims for damages resulting from fraudulent representations as to the adequacy of
the security.
Prior to trial, Alliance moved to amend the complaint to conform to
proof that defendants' fraud resulted in damage to Alliance's goodwill, reputation, and
net worth. At or about the same time, defendants filed motions in limine to exclude all
evidence of impairment of security, damages for loss of goodwill, reputation, and net
worth, and damages for postforeclosure costs. Ticor also filed separate motions in limine,
some of which sought judgment on the pleadings, arguing that it had been improperly joined
as a Doe defendant, that the statute of limitations had run, and that its title insurance
policies were indemnification contracts that did not constitute representations regarding
the property. The trial court granted defendants' motions, denied Alliance's motion to
amend, and entered judgment in favor of defendants on all causes of action.
Alliance appealed, and the Court of Appeal reversed... [T]he Court of
Appeal held that a lender can state a cause of action for fraud against third parties for
fraudulently inducing a loan secured by real property despite the fact that the lender
acquired the property after making a full credit bid. The Court of Appeal further held
that Alliance's action against Ticor was not barred by the statute of limitations because
Alliance's pleadings did not establish that Alliance had been aware of Ticor's involvement
in Rothwell's scheme. The Court of Appeal also concluded that Alliance had stated a cause
of action against Ticor for intentional and negligent misrepresentation because, although
a title insurance policy is an indemnification contract and not a guarantee of title,
Alliance's reliance related not to the condition of title but to the nature and
description of the property securing the loans. Ticor's petition for rehearing was denied.
We granted North American and Ticor's petitions for review solely on
the issue of whether a lender's acquisition of security property by full credit bid at a
nonjudicial foreclosure sale bars the lender from maintaining a fraud action to recover
damages from nonborrower third parties who fraudulently induced the lender to make the
loans. We now affirm.
II. DISCUSSION
A. Background Principles
The issue here is the effect of a lender's full credit bid at a
nonjudicial foreclosure sale on its claim of fraud in the inducement of the underlying
loan obligation. To understand the context in which this issue arises, and the competing
legal and public policy arguments, we first briefly review certain background principles
regarding mortgages and deed of trusts, the antideficiency statutes, the full credit bid
rule, and fraud claims.
1. Mortgages and Deeds of Trust
A real property loan generally involves two documents, a promissory
note and a security instrument. The security instrument secures the promissory note. This
instrument "entitles the lender to reach some asset of the debtor if the note is not
paid. In California, the security instrument is most commonly a deed of trust (with the
debtor and creditor known as trustor and beneficiary and a neutral third party known as
trustee). The security instrument may also be a mortgage (with mortgagor and mortgagee, as
participants). In either case, the creditor is said to have a lien on the property given
as security, which is also referred to as collateral." (Bernhardt, Cal. Mortgage and
Deed of Trust Practice (Cont.Ed.Bar 2d ed. 1990) @ 1.3, p. 5, italics removed.)
A security interest cannot exist without an underlying obligation, and
therefore a mortgage or deed of trust is generally extinguished by either payment or sale
of the property in an amount which satisfies the lien. [Citations Omitted.] In addition,
merger of the lien and ownership of the property in one person or entity extinguishes the
lien, unless it is necessary for the protection of the buyer's rights that the lien be
sustained. [Citations Omitted.]
2. Foreclosure and Antideficiency Statutes
California has an elaborate and interrelated set of foreclosure and
antideficiency statutes relating to the enforcement of obligations secured by interests in
real property. Most of these statutes were enacted as the result of "the Great
Depression and the corresponding legislative abhorrence of the all too common foreclosures
and forfeitures [which occurred] during that era for reasons beyond the control of the
debtors." [Citations Omitted.]
Pursuant to this statutory scheme, there is only "one form of action" for the
recovery of any debt or the enforcement of any right secured by a mortgage or deed of
trust. That action is foreclosure, which may be either judicial or nonjudicial...
In a nonjudicial foreclosure, also known as a "trustee's
sale," the trustee exercises the power of sale given by the deed of trust. [Citations
Omitted.] Nonjudicial foreclosure is less expensive and more quickly concluded than
judicial foreclosure, since there is no oversight by a court, "[n]either appraisal
nor judicial determination of fair value is required," and the debtor has no postsale
right of redemption. [Citation Omitted.] However, the creditor may not seek a deficiency
judgment. [Citation Omitted.] Thus, the antideficiency statutes in part "serve to
prevent creditors in private sales from buying in at deflated prices and realizing double
recoveries by holding debtors for large deficiencies." [Citation Omitted.]
The price at a foreclosure sale is not deemed the equivalent of the
property's fair market value. As the United States Supreme Court recently observed,
"An appraiser's reconstruction of 'fair market value' could show what similar
property would be worth if it did not have to be sold within the time and manner
strictures of state-prescribed foreclosure. But property that must be sold within those
strictures is simply worth less. No one would pay as much to own such property as he would
pay to own real estate that could be sold at leisure and pursuant to normal marketing
techniques." (BFP v. Resolution Trust Corp. (1994) 511 U.S. [128 L.Ed.2d 566, 565,
114 S.Ct. 1757, 1762], italics in original.) However, it is settled that "Where there
is no irregularity in a nonjudicial foreclosure sale and the purchaser is a bona fide
purchaser for value, a great disparity between the sales price and the value of the
property is not a sufficient ground for setting aside the sale." [Citation Omitted.]
A bid at a trustee's sale is deemed by statute to be an irrevocable
offer by that bidder to purchase the property for that amount. (@ 2924h, subd. (a).)
However, "[i]t is the general rule that courts have power to vacate a foreclosure
sale where ... the sale ... is tainted by fraud ...."...
The antideficiency statutes have been broadly interpreted to protect
the debtor. It is settled, however, and defendants here concede, that the antideficiency
statutes do not preclude an action against a borrower for fraud in the inducement of a
loan. [Citations Omitted.] There are several reasons for this exception. First, "[a]
suit for fraud obviously does not involve an attempt to recover on a debt or note. As
such, it stands separate and apart from any action which the antideficiency legislation
seeks to preclude." [Citations Omitted.] "Furthermore, the antideficiency laws
were not intended to immunize wrongdoers from the consequences of their fraudulent acts.
Finally, assuming that the court applies a proper measure of damages, fraud suits do not
frustrate the antideficiency policies because there should be no double recovery for the
beneficiary."[Citation Omitted.]
3. Full Credit Bid Rule
At a nonjudicial foreclosure sale, if the lender chooses to bid, it
does so in the capacity of a purchaser. [Citation Omitted.] The only distinction between
the lender and any other bidder is that the lender is not required to pay cash, but is
entitled to make a credit bid up to the amount of the outstanding indebtedness. [Citation
Omitted.] The purpose of this entitlement is to avoid the inefficiency of requiring the
lender to tender cash which would only be immediately returned to it. (Cornelison v.
Kornbluth, supra, 15 Cal.3d at p. 607.) A "full credit bid" is a bid "in an
amount equal to the unpaid principal and interest of the mortgage debt, together with the
costs, fees and other expenses of the foreclosure." [Citation Omitted.] If the full
credit bid is successful, i.e., results in the acquisition of the property, the lender
pays the full outstanding balance of the debt and costs of foreclosure to itself and takes
title to the security property, releasing the borrower from further obligations under the
defaulted note. [Citation Omitted.]
Under the "full credit bid rule," when a lender makes such a
bid, it is precluded for purposes of collecting its debt from later claiming that the
property was actually worth less than the bid. [Citations Omitted.] Thus, the lender is
not entitled to insurance proceeds payable for prepurchase damage to the property,
prepurchase net rent proceeds, or damages for waste, because the lender's only interest in
the property, the repayment of its debt, has been satisfied, and any further payment would
result in a double recovery. (See Cornelison v. Kornbluth, supra, 15 Cal.3d at pp.
606-607.)
4. Fraud Claims
"THE NECESSARY ELEMENTS OF FRAUD ARE: (1) misrepresentation (false
representation, concealment, or nondisclosure); (2) knowledge of falsity (scienter); (3)
intent to defraud (i.e., to induce reliance); (4) justifiable reliance; and (5) resulting
damage." [Citations Omitted.] n4 Only the last
two elements are at issue in this case.
Reliance exists when the misrepresentation or nondisclosure was an
immediate cause of the plaintiff's conduct which altered his or her legal relations, and
when without such misrepresentation or nondisclosure he or she would not, in all
reasonable probability, have entered into the contract or other transaction. [Citations
Omitted.] "Except in the rare case where the undisputed facts leave no room for a
reasonable difference of opinion, the question of whether a plaintiff's reliance is
reasonable is a question of fact." [Citations Omitted.]
"Negligence on the part of the plaintiff in failing to discover
the falsity of a statement is no defense when the misrepresentation was intentional rather
than negligent..."
In addition, unless the plaintiff merely seeks to rescind the contract,
it must suffer actual monetary loss to recover on a fraud claim... The
"out-of-pocket" measure of damages "is directed to restoring the plaintiff
to the financial position enjoyed by him prior to the fraudulent transaction, and thus
awards the difference in actual value at the time of the transaction between what the
plaintiff gave and what he received. The 'benefit-of-the-bargain' measure, on the other
hand, is concerned with satisfying the expectancy interest of the defrauded plaintiff by
putting him in the position he would have enjoyed if the false representation relied upon
had been true; it awards the difference in value between what the plaintiff actually
received and what he was fraudulently led to believe he would receive." [Citations
Omitted.]
In fraud cases involving the "purchase, sale or exchange of
property," the Legislature has expressly provided that the "out-of-pocket"
rather than the "benefit-of-the-bargain" measure of damages should apply. (@
3343, subds. (a), (b)(1).) This section does not apply, however, when a victim is
defrauded by its fiduciaries...
Punitive damages are recoverable in those fraud actions involving
intentional, but not negligent, misrepresentations...
B. Cases Applying the Full Credit Bid Rule
The issue we confront here is whether a lender's acquisition of
security property by full credit bid at a nonjudicial foreclosure sale bars the lender
from maintaining a fraud action to recover damages from third parties who fraudulently
induced the lender to make the loans. Cornelison v. Kornbluth, supra, 15 Cal.3d 590, was
this court's first and last discussion of the effect of a full credit bid in a nonjudicial
foreclosure sale. In Cornelison, the plaintiff sold a single-family dwelling, taking back
a promissory note secured by a first deed of trust on the property. [Citation Omitted.]
The property was subsequently reconveyed, and ultimately condemned as unfit for human
habitation. The original purchasers defaulted on the note, and plaintiff caused the
property to be sold at a trustee's sale. (Ibid. ) She purchased the property at the sale
by making a full credit bid. [Citation Omitted.]
Plaintiff then sued one of the subsequent purchasers in part for
waste... "Waste" includes acts of commission and omission, such as a failure to
generally maintain and repair the property. {Citation Omitted.}
We first concluded that a lender's claim for bad faith waste was not
precluded by the antideficiency statutes. (Cornelison v. Kornbluth, supra, 15 Cal.3d at p.
605.) However, we "further concluded that even assuming that defendant is liable on
such basis, nevertheless plaintiff cannot recover since she purchased the subject property
at the trustee's sale by making a full credit bid..."
In response to plaintiff's "complain[t] that it is difficult to
calculate precisely the amount of damages recoverable for waste so as to determine the
proper amount which the beneficiary or mortgagee should bid at the foreclosure sale,"
WE STATED: "Suffice it to say that no complicated calculations are necessary. The
beneficiary or mortgagee need only enter a credit bid in an amount equal to what he
assesses the fair market value of the property to be in its condition at the time of the
foreclosure sale. If that amount is below the full amount of the outstanding indebtedness
and he is successful in acquiring the property at the foreclosure sale, he may then
recover any provable damages for waste." (Cornelison v. Kornbluth, supra, 15 Cal.3d
at p. 608.)
Since Cornelison, the Courts of Appeal have approached the effect of a
full credit bid on a lender's fraud claim in various ways with irreconcilable results. Two
Court of Appeal decisions directly address the issue at hand, and, as noted earlier,
conflict with the Court of Appeal's opinion in this case. (Western Fed. Savings & Loan
Assn. v. Sawyer, supra, 10 Cal.App.4th 1615; GN Mortgage Corp. v. Fidelity Nat. Title Ins.
Co., supra, 21 Cal.App.4th 1802; see also Evans v. California Trailer Court, Inc. (1994)
28 Cal.App.4th 540, 556 [33 Cal.Rptr.2d 646], ["Both fraud and conversion claims are
subject to the full credit bid rule ...."].)
In Western Fed. Savings & Loan Assn. v. Sawyer, supra, 10
Cal.App.4th 1615, defendant Sandra Sawyer, a lawyer involved in real estate transactions,
opened an escrow to sell a parcel of residential property she owned to the Smiths. (Id. at
p. 1617.) According to the escrow instructions and loan documents, the Smiths were to pay
$ 115,000 for the property and make a cash downpayment of $ 23,000. The loan application
indicated the Smiths intended to occupy the property. Sawyer represented, and a presale
appraisal indicated, that the property was a duplex. (Ibid.)
The Smiths' loan application was referred to Western through a mortgage
broker. The bank reviewed the presale appraisal and agreed to fund the loan request for $
92,000. [Citation Omitted.]
The loan went into default, and Western purchased the property at a
nonjudicial foreclosure sale after making a full credit bid. [Citation Omitted.]
Thereafter, the bank incurred additional expenses to maintain and renovate the residence
in order to resell it on the open market. [Citation Omitted.] Following foreclosure, the
bank discovered the property was not a bona fide duplex. By this time the bank was also
aware that the Smiths never occupied the property, and may not have made the $ 23,000 cash
downpayment required by the escrow and loan agreements. The bank eventually sold the
property for $ 96,500.
A jury found that Sawyer was part of a conspiracy to fraudulently
induce the bank to make the loan to the Smiths. [Citation Omitted.] The Court of Appeal
reversed, holding that the bank's full credit bid barred its causes of action for fraud
and misrepresentation. [Citation Omitted.] Relying on Cornelison, the court concluded that
the bank's acquisition of the security property with a full credit bid at a nonjudicial
foreclosure sale extinguished the bank's lien on that property. Accordingly, the bank's
security for the debt was not impaired, and the bank had suffered no damage; hence it had
no viable cause of action for fraud or misrepresentation. [Citation Omitted.] Thus,
Western impliedly concluded that the measure of damages for a fraudulent representation to
a lender is the impairment of its security...
In GN Mortgage Corp. v. Fidelity Nat. Title Ins. Co., supra, 21
Cal.App.4th 1802, 1803, the Court of Appeal similarly held that a full credit bid at a
nonjudicial foreclosure sale extinguished all claims of a lender against the third party
participants in a tortious conspiracy to defraud the lender. In GN Mortgage, the lender
was fraudulently induced into making a $ 449,600 loan for the fictitious purchase of
property at an inflated price after receiving forged loan documents under the name of an
individual who had not agreed to, and was unaware his name was being used in, the
transaction. After default, the lender purchased the property by making a full credit bid
at a nonjudicial foreclosure sale and, after selling the property at an approximately $
200,000 loss, sued the various nonborrowers for fraud, conversion, negligence, and breach
of contract. Summary judgment was entered on behalf of Fidelity, the escrow agent for the
transaction, and American Equities Financial Corp. [Citation Omitted.]
On appeal, the plaintiff first contended that the full credit bid rule
was inapplicable where claims are asserted not against the purchaser but against third
parties. [Citation Omitted.] According to the plaintiff, "where the purchaser is not
involved, the purposes of the antideficiency statute, and the full credit bid rule
stemming from it, are not implicated." [Citation Omitted.] The Court of Appeal
rejected this argument, concluding that the full credit bid rule applied to claims against
third parties, and stating that the "rule is concerned with damages and proximate
causation. It is independent of the antideficiency statute."
Second, plaintiff contended that the full credit bid rule was
inapplicable because, under the circumstances of the case, its damages were measured by
the out-of-pocket rule, not the extent of the impairment of its security. [Citation
Omitted.] The court described this argument as "sophistical." It stated,
"because a foreclosure sale is designed to establish the value of the property sold,
plaintiff's full credit bid set the value of the property at an amount sufficient to
satisfy the indebtedness and all accrued expenses. Therefore, defendants' tortious conduct
did not cause any damage. Any losses suffered thereafter resulted either from a severe
market downturn or from defendants' exercise of business judgment." [Citation
Omitted.]
As noted above, the Court of Appeal here expressly disagreed with
Western Federal and GN Mortgage, and held that a lender's full credit bid at a nonjudicial
foreclosure sale did not bar its subsequent fraud claim against third parties who
fraudulently induced the lender to make the loan. The court reasoned that a "full
credit bid does not establish the value of the property for all purposes, but only for the
purpose of foreclosure proceedings against a borrower," and hence had no application
to claims against third party tortfeasors. It concluded that "[t]he central error of
Western Federal, supra, and GN Mortgage, supra, is the failure to appreciate that because
the full credit bid rule was conceived only to further the debtor protection purposes of
the antideficiency statutes, it has no application in actions against parties not sued as
debtors. The statement in GN Mortgage that the rule is simply 'concerned with damages and
proximate causation' and 'is independent of the antideficiency statute' [citation] is
wrong. It is inconceivable the Supreme Court anticipated the rule it announced in
Cornelison would be used to insulate third party tortfeasors from liability for fraudulent
conduct, as was done below."
The court also found that Western Federal and GN Mortgage erred in
concluding that the measure of damages for fraud is the impairment of the security.
Rather, the court concluded that damages for fraud by a fiduciary (which it concluded
defendants were) are measured by sections 3333 and 1709, and in particular, the
"benefit-of-the-bargain," not the "out-of-pocket," rule.
C. Effect of Alliance's Full Credit Bids on Fraud Claims
We now consider whether Alliance's full credit bids as a matter of law
bar its fraud claims against North American and Ticor. We conclude that they do not.
Accepting as true the allegations of the complaint, as we must, defendants "joined
with others in a conspiracy to perpetrate a deliberate fraud which could conceivably have
caused injury even to a lender who had exercised reasonable care in the conduct of its
business affairs." [Citation Omitted.]
Defendants essentially argue that as a result of its full credit bids,
Alliance could demonstrate neither justifiable reliance nor actual damages. We consider
these arguments in turn.
As with any purchaser at a foreclosure sale, by making a successful
full credit bid or bid in any amount, the lender is making a generally irrevocable offer
to purchase the property for that amount. (@ 2924h, subd. (a).) The lender, perhaps more
than a third party purchaser with fewer resources with which to gain insight into the
property's value, generally bears the burden and risk of making an informed bid.
It does not follow, however, that being intentionally and materially
misled by its own fiduciaries or agents as to the value of the property prior to even
making the loan is within the realm of that risk. [Citation Omitted.] Most lenders, such
as Alliance in this case, are corporate entities, and rely on their agents to provide them
material information. Here, Alliance did obtain appraisals, and attempted to make informed
loan decisions. It alleges, however, that its appraiser, Rothwell, in conspiracy with
defendants, fraudulently misrepresented the nature of the properties and the existence and
qualifications of the buyers, and that it did not discover the fraud until after it
acquired title to the properties. The full credit bid rule was not intended to immunize
wrongdoers from the consequences of their fraudulent acts.
We conclude therefore that in order to establish reliance, Alliance
need only demonstrate that its full credit bids were a proximate result of defendants'
fraud, and that in the absence of such fraud it would not, in all reasonable probability,
have made the bids. [Citation Omitted.] As for the question of whether this reliance was
justifiable, a generally fact-based inquiry, we reiterate that "Negligence on the
part of the plaintiff in failing to discover the falsity of a statement is no defense when
the misrepresentation was intentional rather than negligent..."
Thus, to the extent Alliance's full credit bids were proximately caused
by defendants' fraudulent misrepresentations, and this reliance without independent or
additional inquiry was either appropriate given the context of the relationship or was not
otherwise manifestly unreasonable, Alliance's bids cannot be deemed an admission of the
properties' value. [Citation Omitted.] Hence, the full credit bid rule would not apply.
In the alternative, to the extent Alliance's full credit bids were not
proximately caused by defendants' fraudulent misrepresentations, or its reliance without
independent or additional inquiry was either inappropriate given the context of the
relationship or was otherwise manifestly unreasonable, the full credit bid rule applies,
and Alliance's bid would then constitute an irrevocable offer to purchase the property for
that amount. (@ 2924h, subd. (a).) Hence, under these circumstances, Alliance would not be
entitled to recover the difference between its bid, which by definition is "an amount
equal to the unpaid principal and interest of the mortgage debt, together with the costs,
fees and other expenses of the foreclosure," and the actual value of the property.
[Citation Omitted.] It would, however, still be able to recover any other damages flowing
from the defendants' fraud. Because such a factual evaluation cannot be made on the
pleadings alone, the trial court erred in entering judgment on the pleadings.
We note that in its brief in this court, "Alliance does not claim
that it was induced to make full credit bids, but rather that it was fraudulently induced
to make loans." Obviously, as we have stated above, to the extent Alliance claims
that its decision to acquire the properties was independent of defendants'
misrepresentations, there is no causal connection between the defendants' fraudulent
misrepresentations and Alliance's damages resulting from the full credit bids. [Citations
Omitted.] It appears, however, that Alliance sought to establish such a connection in the
trial court by seeking to introduce evidence that "It is the custom and practice in
the [lending] industry to make full credit bids without knowledge of the property's actual
value, because only after the mortgagor obtains title and access to the property does it
obtain the means to value the property." Moreover, at oral argument Alliance
clarified that it simply meant by this statement that there were no additional or
subsequent statements by defendants on which it was relying, not that there was no causal
connection between the misrepresentations and the full credit bids. We therefore are
reluctant to deny Alliance the opportunity to present such evidence based on this single
representation.
* * *
We next consider defendants' argument that Alliance has failed to
allege actual damages. This argument is dependent on defendants' assumption that the
measure of damages for fraudulent inducement of a loan is the impairment of the lender's
security or the balance of the outstanding indebtedness. Not so. Alliance does not allege
here that defendants impaired its security or caused the value of the properties to
decrease after the loans were made. Rather, it alleges that defendants' intentional
misrepresentations regarding the properties' characteristics and values induced it to make
loans that far exceeded the properties' actual worth at the time the loans were made, and
that as a result of these misrepresentations Alliance purchased the properties. In other
words, defendants did not damage or impair Alliance's security interest; rather they
deceived Alliance at the outset as to what that security was. This is a wholly different
claim from that which we considered in Cornelison...
The damages for such fraud are measured not by the outstanding
indebtedness, but by either Alliance's out-of-pocket and consequential damages under
section 3343 or under section 3333, depending on whether defendants stand in a fiduciary
relationship to Alliance... The question before us is whether Alliance stated a fraud
claim that survives a motion for judgment on the pleadings. Alliance alleges at least
out-of-pocket damages when it alleges that it paid more for the properties than they were
worth, and incurred certain consequential damages. [Citation Omitted.] Accordingly, its
full credit bids do not establish as a matter of law that it sustained no actual damages.
* * *
Conclusion
We conclude that Alliance's full credit bids do not as a matter of law
bar its fraud claims against defendants. Accordingly, the entry of judgment on the
pleadings was improper. [Citation Omitted.] The judgment of the Court of Appeal is
affirmed, with directions to remand the matter to the trial court for further proceedings
in accordance with this opinion.
Mosk, J., Kennard, J., Baxter, J., and George, J., concurred.
CONCUR BY: WERDEGAR, J.
CONCUR:
I concur in the judgment. Judgment on the pleadings was improperly
granted, because Alliance's full credit bids do not preclude it from seeking damages from
nonborrower third parties for fraudulently inducing Alliance to lend money to others. I
write separately to discuss what I believe to be an unwarranted limitation, in the
majority opinion, on the damages Alliance may recover if its bids were not made in
justifiable reliance on defendant's misrepresentations. In my view, Alliance can establish
a cause of action for fraud by showing it justifiably relied on defendants'
misrepresentations in making the loans, regardless of whether it was also justified in
later making full credit bids for the security properties. In such an action it may
recover, at least, the amounts it is actually out of pocket as a result of making the
loans.
In pleading its cause of action for intentional misrepresentation,
Alliance alleged it "made the loans applied for" in justifiable reliance on, and
as a proximate result of, defendants' false representations. Alliance alleged several
categories of damage suffered as a consequence of having made the loans: the receipt of
security interests worth far less than the represented value; the failure of the
borrowers, whose qualifications were misrepresented, to repay the loans; consequential
costs and expenses of foreclosing on and reselling the security properties; and punitive
damages attributable to defendants' fraudulent, willful and malicious conduct in inducing
the loans. Accepting as true the allegations of the complaint, Alliance suffered
cognizable injury when it was fraudulently induced to make the loans. It put out
considerable sums, which it has not fully recovered either through repayment or
foreclosure. Even if limited to the "out-of-pocket" measure of damages under
Civil Code section 3343, subdivision (a) (see maj. opn., ante, at pp. 1239-1241), Alliance
suffered compensable damages as a result of loans induced by defendants' fraudulent
misrepresentations. It is also, therefore, potentially entitled to punitive damages for
defendants' intentional misrepresentations. (Civ. Code, @ 3294, subd. (b)(3).)
Alliance, of course, did repurchase the properties with full credit
bids. This decision, if shown to be unreasonable, may affect the extent of Alliance's
recoverable damages. Like any injured party, Alliance may not recover damages caused by
its own unreasonable behavior rather than by the defendants' tortious acts. Stated another
way, Alliance was obligated to take reasonable care to mitigate its damages. {Citation
Omitted.} If the proof at trial shows that Alliance acted unreasonably in purchasing the
security properties by full credit bid without reinspecting or reappraising them, and that
its unreasonable failure to take such protective measures enhanced its damages, Alliance
should not recover any such increased damages.
The majority goes beyond this undisputed principle to hold Alliance may
not recover its full out-of-pocket damages if its decision to make full credit bids was
manifestly unreasonable, regardless of whether making such bids actually increased
Alliance's damages. {Citation Omitted.} It is this portion of the majority opinion with
which I disagree.
A simple hypothetical illustrates the difference between the majority's
position and my own. Suppose nonborrower defendant fraudulently induces plaintiff to lend
$ 400,000, on security falsely represented to be worth at least that amount but actually
worth only $ 250,000, to a nonexistent or otherwise unqualified borrower. The borrower
defaults without repaying any of the loan. Without conducting further inspections or
appraisals, and without discovering the fraud, plaintiff purchases the security property
at the trustee's sale with a full credit bid for the outstanding debt, $ 400,000
(ignoring, for simplicity's sake, outstanding interest and the costs of foreclosure).
Shortly thereafter plaintiff resells the property for a fair market price of $ 250,000.
In plaintiff's action against the defrauding third party, the trier of
fact determines plaintiff justifiably relied on defendant's misrepresentations in making
the loan, but that it was manifestly unreasonable of plaintiff to make a full credit bid
at the trustee's sale without reinspecting or reappraising the property. I believe
plaintiff, under these circumstances, would be entitled to recover at least its
out-of-pocket losses: the amount loaned ($ 400,000) minus the amount recovered from resale
of the property ($ 250,000), or $ 150,000. While plaintiff, by hypothesis, acted
unreasonably in making a full credit bid, it did not thereby increase its damages. That
is, even if plaintiff had acquired the property for a credit bid of less than $ 400,000,
it could not have resold the property for more than the fair market price of $ 250,000,
and its out-of-pocket damages would still have been $ 150,000. Since the amount of the
credit bid did not affect the amount of plaintiff's out-of-pocket losses, plaintiff's
recoverable damages should not be reduced even if its bid was an unreasonable one.
Under the majority's holding, however, plaintiff, by making the bid,
would be barred from claiming the property was worth less than $ 400,000. Under this rule
plaintiff would have no recoverable out-of pocket damages, since it expended $ 400,000 in
loan funds and acquired a property deemed to be worth $ 400,000. Plaintiff could not, the
majority explains, "recover the difference between its bid ... and the actual value
of the property." (Maj. opn., ante, at p. 1247.) Since that increment--the difference
between plaintiff's $ 400,000 bid and the $ 250,000 value of the property--is all of
plaintiff's hypothetical out-of-pocket losses, plaintiff's recovery would be zero. This
result would obtain even though plaintiff would have suffered the same losses had it
underbid; recovery would be denied, that is, even though all of plaintiff's damages were
proximately caused by the fraud.
There may be circumstances in which entry of a full credit bid does
increase the plaintiff's losses. Even in such a case, however, I believe the majority
misstates the extent of allowable recovery. Consider a variation of the above
hypothetical. Suppose the evidence at trial establishes that on the date of the trustee's
sale the fair market value of the property was $ 300,000 and that the trustee could have
sold it for that price had plaintiff not entered a full credit bid of $ 400,000. Suppose
further that, because of market changes after the trustee's sale, plaintiff is able to
resell the property for only $ 250,000.
Plaintiff, as in the original hypothetical, is out of pocket $ 150,000,
but under these circumstances only $ 100,000 of the loss would have been proximately
caused by reliance on defendant's fraud. Had plaintiff not unreasonably preempted the
bidding, the trustee could have sold the property for $ 300,000, and plaintiff's losses
would have been only $ 100,000. Plaintiff's recovery would therefore be limited to $
100,000, the additional $ 50,000 being the proximate result of plaintiff's own manifestly
unreasonable action.
Under the majority's rule, however, plaintiff would, as in the original
hypothetical, recover no out-of-pocket damages, since it expended $ 400,000 in loan funds
and received a property deemed, by virtue of its bid, to be worth $ 400,000. Thus the
majority would deny plaintiff recovery of even the $ 100,000 that was proximately caused
by its reliance, in making the loan, on defendant's fraudulent misrepresentations.
I agree with the majority that the full credit bid rule, properly
understood, precludes the lender, "for purposes of collecting its debt, from later
claiming the property was actually worth less than the bid." (Maj. opn., ante, at p.
1238, italics added.) I also agree the full credit bid rule was not intended, and should
not be applied, "to immunize wrongdoers from the consequences of their fraudulent
acts." (Id. at p. 1246.) Here, however, Alliance's action for fraud against these
nonborrower third parties is not an attempt to collect its debt, and application of the
full credit bid rule in fact would protect defendants from the consequences of their
allegedly fraudulent acts. I would therefore hold the rule, properly understood, simply
does not apply. To the extent Alliance acted unreasonably and to its own detriment in
bidding as it did, it will be precluded from recovering any damages attributable to its
actions under the ordinary rule barring recovery of losses not proximately caused by the
fraud.
Lucas, C. J., concurred.