With access to conventional loan sources tight these days, many private money lenders are having their best months or years ever. Of course, with making more loans comes increased risk. This article will explore the types of litigation that are keeping private money lenders up at night and how to minimize their risk.

Elder Abuse Claims

When someone thinks of elder abuse in the lending context, it’s usually in the context of a bad lender making a loan to an elderly borrower who lacks capacity to know what they are even agreeing to. Most lenders and, in particular, CMA members, do a great job of weeding out those potential borrowers. However, in the current lending landscape, “elder abuse” means something totally different, much harder to identify and far more dangerous.

Our firm is currently seeing a wave of a different kind of elder abuse litigation. Instead of claims limited to capacity issues, the current trend involves business purpose loans to anyone over the age of 65, where the loan was allegedly for a “wrongful use.” More specifically, the lawsuits allege that California’s Welfare & Institutions Code § 15610.30 defines “financial abuse” as when a lender (in our context) “takes” or “retains” real property of an elder (anyone over 65) for a “wrongful use”, which is further defined as when the lender knew or should have known that taking or retaining the real property is likely to harm the elder. As you can imagine, it would be very easy for a crafty attorney to argue that the high fees and interest on private money loans was not in the elder’s best interest and therefore, harmed the elder.

In one recent case (not handled by our firm), the elder was awarded damages in excess of $600,000 AND had two loans voided without any obligation to repay the funds the borrower received! In addition, the case is headed to a second phase to determine whether punitive and treble (triple) damages are warranted. While the allegations in that case appear particularly egregious, borrowers’ attorneys argue that the same concept applies anytime the over-65 borrower is harmed by the terms of the loan. (See Brown v. Abayachi, et.al., Alameda Superior Court Case # RG20079500.)1

Practice Pointer – While lenders cannot simply refuse to lend to anyone over 65, they can look at those loans more closely before approving or buying the loan. In addition, keep an eye out for a pre-lawsuit demand. At least one attorney, Sil Vossler, generally sends a demand before filing suit. If you receive a letter from him, we recommend immediately involving counsel to discuss your response options.

Usury Litigation (In Re Moon)

Note – this issue only applies to California loans where the interest rate is over 10% and the usury exemption used at origination involved a licensed real estate broker.

California loans secured by real property that contain an interest rate over 10% are considered usurious unless one of the many exemptions apply. One of the most common exemptions is when the loan is negotiated or arranged by a licensed real estate broker. In that event, the interest rate can exceed 10%. In 2023, the Bankruptcy Appellate Panel out of the 9th Circuit (“BAP”) dealt lenders using the “broker exemption” a blow when it held that, in order to maintain the broker exemption following a forbearance, the forbearance itself must be negotiated and arranged by the licensed broker who originated the loan itself AND that loan was in connection with a sale, lease or other transaction (e.g., a purchase money loan). As a result, the BAP’s decision in In Re Moon arguably restricts the use of the broker usury exemption to any forbearances! This leaves lenders with few options – (1) if it was a purchase money loan, use the original broker to negotiate the forbearance; (2) refuse to do a forbearance, i.e., foreclose; (3) lower the interest rate to below 10% as part of the forbearance; or (4) risk exposure for not following the BAP’s opinion.

The lender in the Moon case appealed the matter to the 9th Circuit. Industry groups rallied behind the lender (who was just trying to help the borrower avoid foreclosure). To that end, our office filed an amicus brief on behalf of the CMA and NPLA. Unfortunately, the 9th Circuit affirmed the BAP ruling (in an unpublished decision), agreeing with its holdings that: (1) the settlement agreement was a forbearance for purposes of the usury laws, (2) it was not subject to an exception under 1916.1 (as this was not a credit sale and no broker was involved in the forbearance), (3) it did not matter that the interest rate was lowered since it was still above 10%, and (4) the lender was nonetheless entitled to post-judgment interest on the principal.

Although the 9th Circuit’s decision is unpublished and, therefore, not citable in court, the BAP and underlying bankruptcy court decision are still citable. More importantly, the “bell has been rung” on this issue and, as a result, we are seeing lots of litigation from borrowers arguing that any type of forbearance on a loan with an interest rate over 10% is usurious.

Practice Pointer – Consult with counsel before entering into any type of forbearance, modification or extension where the interest rate is over 10%.

Finally, please note that our office, in conjunction with the CMA, drafted a legislative solution that would allow lenders to help defaulted borrowers via a forbearance, without the fear of reprisal for allegedly violating the usury statutes. Please tell your representatives to vote for SB 1146 (so that you can help your borrowers). Please also contribute to CMA’s PAC, which helps its lobbyists advance bills such as SB 1146.

My Business Purpose Loan Is Actually A Consumer Loan!

This is a very popular lawsuit these days. The common scenario usually looks something like this: a private money lender makes (or investor buys) a non-owner-occupied loan with a signed certification that the loan was for a legitimate business purpose. After the loan matures or the borrowers otherwise default, they file suit claiming that their business purpose loan was actually a consumer loan. Naturally, the lender points to the borrowers’ representations in the loan documents. In response the borrowers claim that their “broker made them do it” and that everyone knew all along that this was a consumer loan.

While the borrowers’ business purpose statement is helpful, it unfortunately does not end the discussion. Courts often look at a variety of factors to determine whether the loan was, in fact, for a legitimate business purpose. If it was not, the lender may have violated a series of state and federal laws that apply to the origination and servicing of consumer loans. Of course, it hardly seems fair that the lender would be liable for relying on borrowers’ representations. For this reason, we often file cross-complaints against the borrowers for loan origination fraud.

Practice Pointer – Be sure to document the business purpose and remember that, while borrowers are your friends at loan origination when they need the money, they quickly turn on lenders when they go into default.

Affirmative Litigation

In addition to defensive litigation, we are also seeing an increase in lender-initiated actions. Specifically, with some LLCs walking away from unprofitable projects, we are seeing an uptick in demands and lawsuits to enforce personal guarantees. Often, enforcing the guaranty is enough to re-engage the borrower and get the loan paid off.

Likewise, we are having more frequent discussions with lenders about appointing a receiver to collect rents. Most private money loans have Assignment of Rents language, allowing them to put a receiver in place to collect rents. Whether moving to appoint a receiver makes sense is generally an economic decision; but, when it makes sense, the ability to start collecting rents is a great way for lenders to offset their losses while the loan is in default.

We are also seeing a significant increase in fraud-related matters on several fronts, including appraisal, broker and borrower fraud. We are not sure if there has been an actual increase in fraud or whether the fraud is just being exposed more as a result of an increase in defaults. Either way, fraud claims are definitely on the upswing.

Lastly, title claims! While title claims are a regular part of private money lending, we have definitely seen an increase in claims and (questionable) denials. If you believe the title company wrongfully denied your claim, we recommend immediately consulting counsel. In addition, if the title company accepts your claim, it is usually prudent to have counsel oversee title appointed counsel to make sure they are protecting you.

Conclusion

There are lots of ways for lenders to get sued, especially in California. These are just a few of the current trends we are seeing. If you are seeing other types of litigation, please let us know as we are always curious to find out what the new theories are being bounced around the courts. In addition, if you end up losing a case that could impact the private lending space, please reach out to our office or the CMA for a potential amicus brief on appeal.

Disclaimer: The above information is intended for information purposes alone and is not intended as legal advice. Please consult with counsel before taking any steps in reliance on any of the information contained herein.

Endnotes

1 Please note that this decision is not final and is likely to be appealed.