Scott E. Mollen

UCC Article 9 Foreclosure of Co-Op Shares—Court Denied Plaintiff's Motion to Annul a Sale Provision Which Required Payment of Unpaid Maintenance Arrears and Assessments Incurred Before the Sale and While a Prior Shareholder Contested the Auction— Generally, No Special Exception to Normal Rules for “Hasty” UCC Foreclosure—UCC Provisions May Be Amended by Contract—Rescission Available if Unascertainable Complications Impact Marketability of Title—Terms Were Commercially Reasonable—UCC Foreclosure Auctions Are Fraught With Risks

This decision involves the “auction of the shares and proprietary lease” (lease) “associated with a unit in a cooperative corporation pursuant to UCC article 9” (Article 9). The plaintiff, “the winning bidder's assignee,” sought “to annul the provision of the terms of sale and memorandum of sale [sale terms] that requires him to pay the prior shareholder-tenant's [shareholder] unpaid maintenance arrears and assessments up to the date of the sale, as well as the maintenance and assessments that accrued while the…shareholder-tenant contested the auction in court.” The closing had taken place and $87,000 had been placed in escrow pending the court's determination.

The defendants, the legal title trustee and loan servicer (defendants), cross moved for an order denying the plaintiff's motion and granting them a declaration directing the plaintiff “to pay the outstanding maintenance, and dismissing the complaint.” Since the parties had moved for “the ultimate relief sought in the complaint,” the court treated the subject motion and cross-motion as motions for summary judgment.

The court denied the plaintiff's motion and granted the defendant's cross motion.

In 2008, the shareholder had pledged the co-op shares and lease as collateral for a mortgage. In 2015, following the shareholder's default on the mortgage, the lender “sought to recover the debt through a private auction pursuant to article 9 of the [UCC].”

The sale terms specified that “the winning bidder would be responsible for any maintenance arrears.” They stated, inter alia, that the successful bidder would pay “all outstanding maintenance arrears, impositions by the co-op corporation, including but not limited to fees, late charges, assessments, as…required to satisfy all sums due…the co-op corporation at auction through and including the time of the closing on the transfer of the stock and lease.” The successful bidder was also required to pay “any flip tax, other transfer fees, including attorney's fees, or other fees legally imposed by the co-op corporation against the debtor or secured party, as transferor, in connection with the transfer of the stock and lease.” The auctioneer had “read the [sale terms] aloud before the bidding commenced, but he did not state the amount of maintenance arrears that had accrued.” The winning bidder had assigned the bid to the plaintiff.

The shareholder had obtained a stay of the sale, and the sale remained stayed until August 2016, when the shareholder's complaint was dismissed. The plaintiff then requested that the closing take place. At that time, the plaintiff was provided with an “explanation of arrears,” which indicated that approximately $65,000 was due for maintenance arrears and assessments with respect to the subject apartments. After the parties disagreed as to who would pay the maintenance arrears, the plaintiff commenced the subject action.

The plaintiff argued that Article 9 sets forth “the mandatory order in which the proceeds of a sale pursuant thereto must be distributed. He contends that, according to the UCC, the secured party must apply the proceeds of the sale to any maintenance or other charges that may have accrued to the cooperative corporation, and is only then entitled to take whatever is left over.” The plaintiff claimed that the sale terms “violate both the UCC as well as the loan documents, and may be modified on that basis.” The plaintiff argued that “although some terms of the UCC may be modified by agreement, this particular provision is mandatory.”

The plaintiff argued in the alternative, that “the alteration purporting to allow banks to pass on an undisclosed, and ultimately quite large, sum of maintenance arrears is invalid because it is not commercially reasonable.” The plaintiff claimed that there is “a different set of rules” applicable “to contracts entered into at auctions such as the one at issue…, since they occur under hasty, sometimes chaotic, conditions during which there is no opportunity to negotiate or investigate all of the relevant facts.” The plaintiff asserted that “these altered rules of contract interpretation render certain vague or indefinite terms invalid” and that “the term must be removed from the agreement because it is unconscionable.”

The defendants countered that the plaintiff is bound by the sale terms “as recited by the auctioneer before bidding commenced,” the “provisions of the UCC can be, and were, amended by contract,” “banks frequently pass the cost of maintenance arrears onto the winning bidder, and that industry custom of doing so shows that it is commercially reasonable.” They also argued that “auctions of this nature are inherently risky, entailing the possibility that the debtor owes the building money, or that the debtor may commence litigation to thwart the sale” and “those are the risks that plaintiff knowingly took when he placed his bid.”

The court explained:

[A] sale of land in the haste and confusion of an auction room is not governed by the strict rules applicable to formal contracts made with deliberation after ample opportunity to investigate and inquire.… However, rescission is the relief usually available to a bidder who has won an auction for real property that is subject to complications that are both significant enough to affect the marketability of title and unascertainable considering the haste of the auction….

Here, the plaintiff did not ask for rescission and had not claimed that the payment of the “maintenance arrears is so burdensome that it has utterly destroyed any financial interest he has in the property.” Rather, the plaintiff sought to avoid the obligation “to pay maintenance arrears, so as to increase his profit margin.” The court explained that “[t]he fact that with the benefit of hindsight, a party believes that it had agreed to an unfavorable contractual term, does not provide courts with authority to rewrite the terms of a contract or to extricate parties from poor bargains.”

The plaintiff had not cited any authority that specifically authorized the court to eliminate the maintenance obligation under the subject circumstances. Moreover, even if UCC Article 9 was applicable, plaintiff did not show that “a departure from the statute would entitle him to the only relief he seeks: modification.”

Pursuant to UCC 9-615 (a), “[a] secured party shall apply or pay over for application the cash proceeds of a disposition under Section 9-610 in the following order to: (1) the reasonable expenses of retaking, holding, preparing for disposition,…, and disposing, and, to the extent provided for by agreement and not prohibited by law, reasonable attorney's fees and legal expenses incurred by the secured party; (1-a) in the case of a cooperative organization security interest, the holder thereof in the amount secured thereby; (2) the satisfaction of obligations secured by the security interest or agricultural lien under which the disposition is made”.… UCC 9-102 (74) defines “security agreement” as “an agreement that creates or provides for a security interest.” It then clarifies that “[a] cooperative record that provides that the owner of a cooperative interest has an obligation to pay amounts to the cooperative organization incident to ownership of that cooperative interest and which states that the cooperative organization has a direct remedy against that cooperative interest if such amounts are not paid is a security agreement creating a cooperative organization security interest.”

The co-op's bylaws and the lease terms provide that the cooperative has “a security interest against the shares in the event that a shareholder defaults on his or her maintenance obligations.” “[T]he UCC's default position is that maintenance arrears, if any, which constitute a secured debt pursuant to the terms of the…lease and bylaws of a cooperative corporation, are to be paid from the proceeds of the sale directly after the expenses are paid.” Without citing legal authority, the plaintiff argued that such “statutory default position is mandatory.” “UCC 1-302 permits provisions of the Code to be 'varied by agreement,' except that '[t]he obligations of good faith, diligence, reasonableness and care prescribed [thereby] may not be disclaimed by agreement.' The parties, by agreement, may determine the standards by which the performance of those obligations is to be measured if those standards are not manifestly unreasonable.”

The UCC provides that “[w]ith respect to secured transactions, '[a]fter default, a secured party may sell, lease,…or otherwise dispose of…the collateral in its present condition or following any commercially reasonable preparation….'” However, the UCC also provides that “[e]very aspect of a disposition of collateral, including the method, manner, time, place, and other terms, must be commercially reasonable.”

An affidavit from the auctioneer stated that “in his 'professional experience,' [sale terms] 'typically contain provisions that obligate a successful bidder to pay all amount[s] due to the co-op corporation prior to closing.'” The plaintiff submitted affidavits in opposition and asserted that his lawyer advised him that “the law requires secured lenders to pay maintenance arrears from the proceeds of sale, and that [this practice] has indeed been [his] experience in closing on other properties [he has] purchased from UCC [article] 9 sales whose terms of sale contained similar terms.”

The court opined that, at best, the plaintiff's submissions create “a question of fact as to whether it is standard in the industry to require the winning bidder to pay maintenance arrears.” However, the plaintiff's affidavits failed to explain why “the deviation from the industry norm rises to the level of being commercially unreasonable.” If the sale terms had been ambiguous, they could then rely on “industry custom to interpret the writing.” Here, since the sale terms “place the requirement to pay maintenance arrears on the bidder, they cannot be explained or supplanted by a contradictory usage of trade.” Thus, the terms could not be invalidated based on a contradictory usage of trade.

The court then rejected the unconscionability argument. “Although the auction was fast-paced and did not allow for the possibility of negotiation of the [sale terms], the papers before this court indicate that this is standard practice in the industry.” The court noted that since the plaintiff is “a sophisticated party with substantial knowledge of the conduct of auctions such as the one at issue,” the plaintiff would not “have been surprised by the lack of knowledge as to many facts about the property going into the auction, he would have expected it.”

Here, the sale terms were read aloud prior to the auction, and that the specified winning bidder would be responsible for the maintenance arrears. There was no evidence that the bidder “was somehow pressured to bid on the property” and the bidder “was free to walk away from the auction at any time, or to bid on a property that did not include such a term.”

The court further held that the sale terms were not unconscionable from a substantive prospective. These kinds of auctions are “fraught with risk. A bidder will not know the full extent of any problems with the property until he or she takes possession. While sales under such circumstances can be invalidated where hidden, unknowable problems with the property are so great that they render title unmarketable…, plaintiff has not alleged that that [is] the case here.” Furthermore, the plaintiff had not alleged that he could not make a profit because of the obligation to pay the maintenance arrears. An appraisal of the property indicated that its value is significantly higher than the purchase price.

The court stated that it could “imagine a…situation in which the unascertainable amount of maintenance arrears is so high in comparison to what the property may be sold for that it results in an unjust windfall to both the bank and the cooperative, here, the 'fair market value' of the property '[as] determined by [an] appraisal was not so low that it was substantively unconscionable.'”

Finally, the court stated that as to “the maintenance that accrued during the attempt by the…shareholder…to stay the sale,…although plaintiff was not joined” in that action, “defendants took all available steps to expedite the process of having the complaint dismissed.” Moreover, the plaintiff could have moved “to intervene had he believed that defendants were not taking the necessary steps with respect to the property” and he had “not established that a delay was caused solely as a result of defendants' conduct.”

Stavinsky v. Prof-2013-S3 Legal Title Trust by U.S. Bank N.A., Sup. Ct., N.Y. Co., Index No. 653162/2017, decided May 10, 2018, Freed, J.

Landlord-Tenant—Landlord Violated Admin. Code §27-2005(d) by Harassing Tenant With Baseless Summary Proceedings Calculated to Cause Tenant to Vacate the Apartment—Tenant Awarded $2,000 Civil Penalty

A petitioner (tenant) commenced a holdover proceeding, alleging that the tenant had refused to sign a lease renewal. The tenant moved to file an answer with a counterclaim and for summary judgment. The counterclaim alleged that the landlord had “engaged in harassment in violation of section 27-2005(d) of the New York City Administrative Code” (Code). The court had scheduled a trial on the counterclaims.

The landlord failed to appear on the return date and the court conducted an inquest. The court found that the tenant had signed the renewal lease and had sent it to the landlord before the proceeding had been commenced.

Section 27-2005(d) of the Code provides that “[t]he owner of a dwelling shall not harass any tenants or persons lawfully entitled to occupancy of such dwelling.” “Section 27-2004 of the Code defines harassment as 'any act or omission by or on behalf of an owner that causes or is intended to cause any person lawfully entitled to occupancy of a dwelling unit to vacate such dwelling unit or to surrender or waive any rights in relation to such occupancy' and includes 'commencing repeated baseless or frivolous court proceedings against any person lawfully entitled to occupancy of such dwelling unit.'” Upon a finding of harassment, courts are authorized to “impose a civil penalty in an amount not less than two thousand dollars and not more than ten thousand dollars.”

The tenant alleged that the landlord had subjected the tenant to three baseless summary proceedings and had introduced documentary evidence which supported her claim.

The court found that the landlord had violated the Code “by commencing baseless proceedings calculated to cause respondent to vacate the subject apartment.” The court ordered that the landlord cease any further violation of the Code and imposed a civil penalty in the amount of two thousand ($2,000.00) dollars and that the landlord notify HPD of the violation.

Hua Hong Industrial v. Diaz, Civ. Ct., Queens Co., Index No. 66795/17, decided May 14, 18, Nembhard, J.

Scott E. Mollen is a partner at Herrick, Feinstein.