F L I N T O I D
|Retroactive state law lets GOP chairman's brother off hook for $2.4 million
March 31, 2012 |
By Paul Egan
Detroit Free Press Lansing Bureau
LANSING -- Wells Fargo bank will file a court challenge to a new state law signed by Gov. Rick Snyder that overturned a $2.4-million judgment against the brother and business partner of Michigan Republican Party Chairman Bobby Schostak, the bank's attorney said Friday.
The law Snyder signed Thursday, which says a lender can recover only the real estate offered as collateral when a certain type of commercial loan goes into default, is unusual because it is retroactive, to the benefit of Schostak's brother.
It sailed through the Legislature with bipartisan support but left some unhappy lawmakers in its wake.
"It was one of the more disturbing bills that we've taken up this session," said Rep. Tom McMillin, R-Rochester Hills, who chairs the House Oversight, Reform and Ethics Committee.
The law is intended to overturn a judgment related to an unpaid loan on a Traverse City mall that was controlled by the Livonia-based real estate firm Schostak Bros. That judgment was upheld by the Michigan Court of Appeals.
The new law also could impact at least one other case recently decided on similar grounds in federal court in Michigan, though attorneys and legal scholars say the new state law may violate the U.S. Constitution.
"We fully expect to challenge the constitutionality of this law on a number of grounds," said Troy attorney James Allen of Miller Canfield, who represents Wells Fargo, the bank that says it is owed the money.
McMillin said he is disturbed that the new laws alters existing contracts and by the rush to get it approved. He said his initial concerns were elevated when he began investigating and discovered the Schostak connection and what he felt were inflated claims by backers of the bill.
"We were originally told ... the sky is falling," McMillin said. "But it didn't appear there was going to be a calamity."
The bill was supported by nearly all the big players in Michigan's commercial real estate industry, who warned of a huge blow to the market if the judgment against Schostak Bros. co-CEO David Schostak and a Schostak-controlled company, Cherryland Mall LP, was allowed to stand.
Supporters included Gary Torgow, a big Democratic Party donor and the founder and president of Sterling Group, a major real estate investment and management firm.
A Grand Traverse County judge ruled that David Schostak, who had guaranteed a commercial loan for the mall that went into foreclosure, was personally liable for the amount owed.
Michael Berger, president of Berger Realty in Southfield, said such a result was never intended or anticipated by the lender or the borrower and the ruling could put Michigan developers personally on the hook for billions of dollars more in similar nonrecourse loans.
"It very well may put many of them out of business and into bankruptcy, further crippling Michigan's economic recovery," Berger testified on behalf of the industry in front of a legislative committee.
Here's how the situation that the bill was written to address arose:
David Schostak, who, along with Bobby and Mark, is one of the three Schostak brothers referenced in the company's name, guaranteed an $8.7-million commercial loan in 2002 for Cherryland Mall, a shopping center the firm invested in and managed.
That loan was pooled and sold along with other loans in an investment known as a commercial mortgage-backed security. Wells Fargo was trustee for the pooled loans.
Cherryland Mall LP, the Schostak entity that owned the mall, stopped making full mortgage payments in August 2009, leading to foreclosure by the bank in 2010.
The loan was nonrecourse, which generally means the lender gets higher interest rates, but in a default, it can go after only the real estate collateral -- not the assets of the guarantor.
There are exceptions, typically involving what are known as "bad-boy acts" where, for example, the guarantor engages in fraud. But liability is often limited to specific, related losses, not the entire debt.
But Wells Fargo found another exception. Cherryland had to remain a "single-purpose entity," according to the language in the loan documents. To meet that requirement, it had to remain solvent, according to the language in the mortgage, Wells Fargo successfully argued.
In December, a three-judge panel of the Michigan Court of Appeals upheld the decision against Schostak, ruling the contracts had plain meaning: "Cherryland was required to remain solvent, and it failed to do so. That failure ... triggered the full recourse provision of the mortgage."
The panel, which received briefs supporting the Schostak position from Attorney General Bill Schuette, the Michigan Chamber of Commerce and others, waved off what it described as warnings of economic disaster for the business community.
"It is not the job of this court to save litigants from their bad bargains or their failure to read and understand the terms of a contract," the panel said.
Attorneys for Schostak Bros. filed an appeal with the Michigan Supreme Court while also seeking the legislative solution.
Lawrence McLaughlin, chairman of the real estate department at Detroit's Honigman law firm and a longtime Schostak Bros. attorney who worked on some of the Cherryland transactions, confirmed Thursday that he helped draft the law. McLaughlin also testified in favor of the bill at a committee hearing as counsel to an industry coalition, the Building Owners and Managers Association.
"Is Schostak's a beneficiary? Sure they are," McLaughlin said. "Did we do it for Schostak? No, we did it as an industry effort."
The Schostaks kept a low profile, and the firm's name was conspicuous in its absence on a list of 13 companies and their principals that signed a statement in support of the bill.
Bernard Financial Group President Dennis Bernard, who responded to a phone message left for David Schostak, said Schostak stayed away from the legislative effort "because of who his brother is."
Bobby Schostak, the state GOP chairman, said he never lobbied for the bill.
"I stayed away from it," he said, adding he believes his brother David intentionally took the same approach.
The legislation passed 32-5 in the Senate and 97-12 in the House. Main sponsor Sen. Arlan Meekhof, R-Olive Township, pointed to bipartisan support.
On the Democratic side, both Senate Minority Leader Gretchen Whitmer, D-East Lansing, and Sen. Tupac Hunter, D-Detroit, were listed as sponsors of Meekhof's bill. But both asked that their names be removed as sponsors shortly before voting "yes," records show.
"They took their names off the bill once they discovered the reason why it suddenly became a priority for the Republicans," said Senate Democratic spokesman Bob McCann. "They still believe that the policy of the legislation was sound."
Snyder told the Free Press on Wednesday, "I haven't seen the bill on my desk yet" and that he would study it when it arrived. He signed it the next morning, saying in a news release it "encourages continued business investment in Michigan by ensuring clarity in certain types of commercial loans."
How much vulnerability for Michigan's commercial real estate industry results from the ruling remains in dispute, since not all similar loans are in trouble and not all include terms identical to the Cherryland loan.
Deutsche Bank said in a March 12 newsletter to investors that the value of Michigan loans with similar terms is at least $1 billion. Bernard, a lender who was the broker on the Cherryland loan and testified at trial in support of the Schostak position, said there is $13 billion worth of commercial mortgage-backed securities in Michigan and the value of loans that could be impacted by the ruling is likely closer to $3 billion.
Allen, the Wells Fargo attorney, described industry estimates as "hyperbole ... unsubstantiated by the record" because of wide variation in detailed terms of such loans.
Some lawmakers who support the intent of the law oppose its retroactive sweep, which extends to contracts that have been ruled on by courts as long as the final appeal in the case hasn't been exhausted.
This bill contains a retroactive clause," state Rep. Dave Agema, R-Grandville, said in the House on March 20 explaining his "no" vote. "It should not. Good lawyers write contracts. It should not be the job of the Legislature to interpret them."
John Pattow, a law professor at the University of Michigan who specializes in commercial law, said he expects a challenge under the contract clause of the U.S. Constitution
"There are all kinds of cases out there that say you can't tell a court how to come out in a certain case and you can't rewrite contracts that are written already," Pattow said.
Contact Paul Egan: 517-372-8660 or email@example.com
More Details: Snowball effect?
Commercial developers say a Michigan Court of Appeals decision could hurt the industry by putting developers personally on the hook for loans totaling more than $1 billion. The judges said they were simply enforcing a contract based on its plain wording. So far, three Michigan cases have been similarly argued:
Wells Fargo Bank v. Cherryland Mall LP: The appeals court in December upheld a $2.4-million judgment against David Schostak of Schostak Bros. related to a shopping mall foreclosure in Traverse City.
• 51382 Gratiot Holdings v. Chesterfield Development: U.S. District Judge Robert Cleland, also in December, issued a $12.2-million judgment against John Damico in connection with a loan default for a shopping center in Chesterfield Township.
• 5417 Bay Road Holdings v. Landmark Plaza Associates: In January, attorney James Allen of Miller Canfield, who represents the creditors in all three cases, asked U.S. District Judge Thomas Ludington for a $1.9-million judgment against Jay Furman and Walter Samuels in connection with a Saginaw property that missed payments after the loss of a major tenant, Sam's Club. Allen cited the above two cases. The judge has yet to rulle.
Sun Apr 01, 2012 8:44 am
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