In the wake of the collapse of the real estate market, banks across the country have seen a significant increase in cases brought by developers and individual buyers alike seeking to avoid their loan obligations on their failed real estate investments. Many of these claims rely on the argument that the appraisal on which the loan was approved over-valued the property, and that the lender knew or should have known the appraisal was inflated and breached a duty to advise the borrower of that fact. North Carolina’s courts routinely have rejected these claims, relying on long standing authority that the mere existence of a debtor-creditor relationship does not make the lender the borrower’s fiduciary and that, absent a fiduciary relationship, a lender is only obligated to perform those duties expressly provided for in the loan documents, which generally contain no obligation to advise the borrower about the appraisal.
A recent decision from the North Carolina Business Court illustrates the risks a lender faces when it assumes a role in a transaction beyond that of a traditional creditor. In WNC Holdings, LLC et al. v. Alliance Bank & Trust, et al., the Business Court denied a lender’s motion to dismiss a developer’s breach of fiduciary duty claim because the lender allegedly acted as a “financial and development advisor” to the developer by completing “financial feasibility pro forma statements” on behalf of the developer; reviewing property development agreements and making suggested changes; and performing inspections of the property and development.
After concluding a breach of fiduciary duty claim was sufficiently supported by the allegations, the Business Court also allowed to stand the developer’s claims of negligence, fraud by misrepresentation, fraud by concealment, constructive fraud, breach of the covenant of good faith and fair dealing, unfair and deceptive trade practices, and punitive damages. Those claims were based on allegations that the lender, as a fiduciary of the borrower, had an obligation to but failed to tell the developer that the initial appraisal of the property was defective, and allegations that the lender misled the borrower into believing the property needed to be reappraised because of the economic downturn rather than because of defects in the first appraisal. It should be noted the Court allowed these claims despite the fact the appraisal at issue stated it was conducted solely for the lender’s benefit and a number of earlier decisions in which the courts have held that lenders generally have no legal duty to disclose information about appraisals to a borrower. It appears the Business Court’s basis for distinguishing those earlier opinions is its conclusion that the lender had a fiduciary relationship with the borrower, which created duties to the borrower exceeding those specified in the loan documents.
While the lender may have another opportunity to seek dismissal of the case before trial after discovery has been completed, this decision amply illustrates the risk a lender faces when it deviates - to any degree - from the traditional debtor-creditor relationship. Providing investment advice, encouraging a borrower to proceed with an investment, or taking on a borrower’s traditional role of assessing the feasibility of an investment for himself exposes a lender to the very real risk that the loan documents can no longer be relied upon as the sole measure of the lender’s duties to its borrower. Lenders evaluating land sales or construction loans are cautioned to use the results of their due diligence efforts solely for their own benefit and not for purposes of encouraging or assisting a borrower in making its decision to proceed with a transaction.