from the June, 2001 issue of The Title Insurance Law Newsletter
A Colorado title agent sued defunct Island Mortgage's loan funder on a loan for which Island gave the agent an NSF check. The lawsuit was dismissed because the agent did not get good funds under the Colorado law. The case is apparently the first in which a good funds law passed at the behest of title people has been used as a sword against the industry.
Guardian Title Agency closed a $206,050 loan for Island Mortgage Network on property in Broomfield, Colorado owned by Steven Sheck. Island sent Guardian an ordinary check drawn by National Settlement Services Corp. National Settlement stopped payment on the check. Island filed bankruptcy a short time later.
Matrix Capital Bank had purchased loans from Island in the past. The Sheck loan was assigned by Island to Matrix. When the check bounced, Guardian sued Matrix for unjust enrichment, to get the note back (replevin), to reform the deed of trust to put Guardian as the lienholder, and other claims.
Guardian alleged that, about two weeks before the Sheck closing, Matrix officers went to see Island because it had refused to turn over promissory notes on loans bought by Matrix. Matrix apparently did not like what it learned. It reported Island to the New York State Banking Commission and the FBI. Island wired $2 million back to Matrix, then folded. Guardian alleged that the money returned to Matrix may have included the purchase price for the Sheck loan.
Matrix asked the court to dismiss Guardian's complaint because the title agent had failed to get good funds as required by Colorado law. The Colorado law was passed in 1987 in response to the failure of Reliance Equities, which also left title companies and consumers holding bad checks.
However, the Colorado law apparently contains a fatal flaw in that it regulates closers, not lenders. The court analyzed the issue this way:
Title insurance agencies that engage in closing and settlement services are governed by C.R.S. § 38-35-125. This statute, known as the "Good Funds" law, provides that: "No person or entity that provides closing and settlement services for a real estate transaction shall disburse funds as a part of such services until those funds have been received and are ... available for immediate withdrawal." C.R.S. § 38-35-125(2). Funds are available for immediate withdrawal if transferred by wire transfer, certified check, cashier's check, teller's check, or any other instrument defined by federal regulation. See C.R.S. § 38-35-125(1)(c).
Failure to comply with the Good Funds statute is a deceptive trade practice. See C.R.S. § 38-35-125(5). The Colorado Consumer Protection Act not only lists the violation of C.R.S. § 38-35-125 as a deceptive trade practice, but allows enforcement "by a private cause of action." C.R.S. § 6-1-105(v); D. Minzer and J. Kezer, Good Funds Law and New Title Insurance Regulations, 18 Colo. Law. 233, 235 (1989). In addition, failure to comply with the Good Funds statute violates Colorado Insurance Regulation 3-5-1, which provides that "[t]he disbursement of funds prior to the actual delivery of 'GOOD FUNDS' to the closing and settlement services agent" is defined as an "unlawful inducement." See also C.R.S. § 10-11-108.
The face of the Complaint in this case reveals that Plaintiff failed to obtain good funds in the Scheck transaction. This is because the check that Plaintiff accepted from Island at the Closing was not "available for immediate withdrawal" as required by the Good Funds statute. At the April 11, 2001, hearing Plaintiff admitted that it did not require "good funds" at the time of the Closing.
The Good Funds law was developed as a solution to "the need to insure that the title company or other party responsible for real estate closings has 'good funds' in hand before closing real estate transactions." Minzer & Kezer, supra at 233. In the event that the responsible party does not have good funds in hand before closing, the statute helps resolve the situation "without causing undue expense, burden or delay to the consumer or any of the affected industries" by placing the burden of obtaining good funds, and the concomitant risks associated with a failure to obtain good funds, on the responsible party. Id. at 236.
With this unsettling preamble, the court examined Guardian's complaint against Matrix.
First, the court agreed with Matrix that Guardian could not sue on breach of contract or unjust enrichment, because Guardian made the loan transaction illegal by violating the good funds law.
The "bargain" (real estate transaction), was clearly not illegal per se. Had the parties complied with all applicable statutes, no illegality would have occurred. However, by failing to require "good funds" in violation of C.R.S. § 38-35-125 and C.R.S. § 10-11-108, I find that Plaintiff injected an "illegal purpose" into the situation and the "bargain" became illegal. Plaintiff's claims for breach of contract and unjust enrichment are therefore barred.
Second, the court rejected the claim that Matrix had to give the note back to Guardian. A person may not sue for the equitable help of replevin and reformation if he does not have clean hands. Guardian's hands were dirty:
The undisputed facts and [Guardian's] admission demonstrate that [Guardian] did, in fact, violate Colorado statutes by failing to require good funds at the Closing. As a result, I find that [Guardian] did not have clean hands and is barred from obtaining equitable relief.
Finally, Guardian could not sue Matrix for misrepresentation, because it was at fault:
I find that [Guardian] did not "justifiably rely" on any statements of [Matrix] because Colorado law required [Guardian] to protect itself (and other parties to the closing) from the risk of dishonored loan proceeds checks by obtaining good funds.
Therefore, even if Matrix did not pay for the Sheck loan that was funded by Guardian, it does not have to.
The Colorado law is misguided in its focus on regulating what funds settlement agents may receive, rather than what lenders are required to deliver. It is a good candidate for repeal. Settlement agents have had no reported success in taking control of loans they have funded, even when the investor does not have the sword of a good funds law with which to attack. See Greenwald v. Chase Manhattan Mortgage Corp., 241 F.23d 76 (1st Cir. 2001), reported in the May, 2001 issue of this Newsletter.
Other states may be vulnerable to the Guardian Title challenge. For example, some have adopted versions of the NAIC Model Title Insurance Act which includes good funds regulation of the title industry, not lenders. By contrast, the Wisconsin good funds law, for whose crusade this editor was enlisted, makes the lender liable to the settlement agent if it fails to deliver good funds. 708.10, Wis.Stats. The Wisconsin law is administered by the Department of Financial Institutions, not the insurance commissioner. The law thus burdens the lender, and relieves the settlement agent and consumer.
Guardian Title Agency, LLC v. Matrix Capital Bank, ___ F.Supp.2d ___, 2001 WL 477376 (D.Colo.).
© Copyright 2001 J. Bushnell Nielsen. All rights reserved. Photocopying or reproducing of this article in any form in whole or in part is strictly prohibited without the publishers consent.
