Assignee of CMBS loan unsuccessful in persuading the Sixth Circuit that it was entitled to pursue a deficiency judgment against mortgagor

The disposition of a Commercial Mortgage-Backed Securities (CMBS) loan purchaser’s attempt to secure a deficiency judgment against the mortgagor in Borman, LLC v. 18718 Borman, LLC, No. 14-1419 (6th Cir. Feb. 3, 2015) required familiarity with the structure of CMBS loans. The Sixth Circuit explained that in order to attract new sources of capital to the commercial real estate market, lenders structured CMBS loans to limit the risk that one developer’s failed project might drag an entire securitized mortgage pool into bankruptcy. CMBS loans contain two bedrock elements to limit the risks posed by bankruptcy; the first being that CMBS loans are nonrecourse (meaning the lender may foreclose but the borrower does not become personally) and the second, the covenants require the borrower to maintain single-purpose-entity status to hold the mortgaged property separate from his other properties. CMBS loans also typically contain a so-called solvency covenant, a promise that the borrower shall not … fail to remain solvent. In _Wells Fargo Bank, NA v. Cherryland Mall Ltd. P’ship (Cherryland I )_, 295 Mich.App. 99, 812 N.W.2d 799, 802 (2011) the Michigan Court of Appeals put the CMBS structure into jeopardy. In _Cherryland I_, the mortgagee sued the borrower for a deficiency arguing that the default constituted insolvency, which destroyed the borrower’s single-purpose-entity status, and therefore permitted recourse liability. The state court agreed. In response to the decision’s threat of economic disaster for the business community in Michigan the Michigan Legislature passed the Nonrecourse Mortgage Loan Act (NMLA). The NMLA applies retroactively to render solvency covenants in nonrecourse loans unenforceable, declaring them an unfair and deceptive business practice and against public policy. With that history explained the Sixth Circuit rejected all the purchaser’s arguments to enforce the deficiency. First, it found that merely because the default occurred before the NMLA’s effective date did not mean the NMLA did not apply. Per the language of the statute, as long as the loan agreement continued to exist past the effective date the NMLA applies. The Court also made short shrift of the purchaser’s constitutional challenges to the NMLA. The Contract Clause argument fails because, under the substantial impairment element, the purchaser failed to show that it relied on the solvency covenant or reasonably expected to obtain a deficiency judgment under the circumstances presented. It knew it was buying a non-recourse loan. The Court also dispatched the Due Process attack on the NMLA on the grounds that the Michigan legislature was presented with substantial evidence that CMBS financing in Michigan would collapse without the NMLA. The purchaser argued that the legislature’s concern was with the lending community not being willing to make future loans, and that the retroactive application of the NMLA does nothing to address those concerns. But the Court stated that the NMLA’s retroactive effect, which protects developers with CMBS loans on the books from contingent liabilities, rationally addresses the fear that allowing deficiency judgments against defaulting borrowers would stifle Michigan’s multi-billion-dollar commercial real estate market. Finally, the Court determined that the NMLA does not violate the Michigan Constitution’s separation-of-powers provision because the statute does not require courts to interpret loan contracts in a manner predetermined by the legislature, a conclusion already reached by a Michigan appellate court.

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