A New York trial court denied a lender’s motion for summary judgment in its action to foreclose a mortgage securing a note despite the fact that the defendant borrower, a corporate entity allegedly formed for the purpose of executing the mortgage and note, defaulted on the final balloon payment of the loan. 206 Jericho Realty LLC v. 7318 18th Avenue, Inc., No. 11979/11, 2012 N.Y. Misc. LEXIS 3094 (Sup. Ct. Kings Co. 2012). The court held that an issue of fact existed regarding whether the defaulted loan, which had a true interest rate above the maximum interest rate generally allowable for loans made to non-corporate entities under New York law, was usurious. Because evidence existed that the loan functioned as a de facto personal loan to the corporation’s president for the alleged purpose of discharging certain personal debt obligations — and not in furtherance of the corporate entity’s business interests — the court held that the loan may be deemed usurious under New York law even though the listed borrower was a corporate entity and, accordingly, the defendants’ affirmative defense of usury could not be summarily denied.

Background

In August 1966, Choi Ling Thom (“Thom”) and her husband acquired title as tenants by the entirety to a commercial property located in Brooklyn, New York. After her husband’s death, in 1996, Thom conveyed the commercial property to her two sons, but expressly reserved a life estate for herself. In the summer of 2009, Thom allegedly sought a personal loan to pay certain family-related debts and other obligations. In July 2009, Thom signed a commitment letter with 206 Jericho Realty LLC (“206 Jericho Realty”) for a $285,393 loan. According to the commitment letter, the loan would include a “cash out” of $230,000, closing costs of $16,000, an interest reserve of $15,990, and an origination fee of $23,403. The commitment letter identified Thom as an individual borrower; however, the loan commitment stated that it was “transferable and assignable to a corporate entity of the borrower’s choosing.”

After the commitment letter was signed, 206 Jericho Realty’s sole shareholder allegedly required Thom to form a new corporate entity as a precondition for 206 Jericho Realty to make the agreed-upon loan. Accordingly, in August 2009, Thom allegedly arranged for the formation of a company called 7318 18th Avenue, Inc. (“7318 Inc.”) for this specific purpose.

On October 5, 2009, Thom’s sons conveyed the commercial property to 7318 Inc., which then executed a mortgage in favor of 206 Jericho Realty on that property. The mortgage secured a balloon note from 206 Jericho Realty to 7318 Inc. for $285,394 — the approximate value of the loan in the commitment letter with Thom. Thom signed both the mortgage and note in her capacity as president of 7138 Inc.

The note had a stated interest rate of 13 percent and required 7138 Inc. to make monthly payments of $3,091 until the note’s maturity date on October 4, 2010, when the balance of the principal and interest would become payable in full. The note further provided that the “[undersigned] forever waives presentment, demand, protest, notice of protest and notice of dishonor of the within note; and the undersigned and [sic] guarantees the payment of said notice [sic] unconditionally.”

The Plaintiffs’ Action

Action On May 26, 2011, 206 Jericho Realty commenced an action against 7318 Inc., Thom, and several John Does, to foreclose upon the mortgage after 7318 Inc. had allegedly defaulted on the note when it failed to make the final balloon payment on the maturity date. On July 15, 2011, the defendants filed a verified answer asserting several affirmative defenses, including lack of personal jurisdiction, statute of frauds, failure to state a cause of action, that 206 Jericho Realty had failed to meet certain mortgage requirements and statutory requirements prior to accelerating the loan, and that the loan was usurious.

206 Jericho Realty subsequently moved, in part, to strike the defendants’ answer and for summary judgment. 206 Jericho Realty argued that summary judgment was appropriate because it had produced evidence that the terms of the mortgage and note, and the defendants’ failure to pay all outstanding debts by the maturity date, were undisputed.

The Court’s Decision

The court first held that 206 Jericho Realty had established its prima facie right to judgment as a matter of law in a foreclosure action because it submitted the mortgage, the unpaid note, and affidavit evidence of 206 Jericho Realty’s sole shareholder’s personal knowledge of the default. The court further acknowledged that the defendants did not dispute 206 Jericho Realty’s allegations that the defendants failed to make the final balloon payment by the maturity date. Because 206 Jericho Realty had established a prima facie right to summary judgment, the burden shifted to the defendants to establish an issue of fact regarding their affirmative defenses.

Focusing exclusively on the defendants’ affirmative defense that the loan was usurious, the court held that there was a question of fact regarding whether the loan’s interest rate was usurious under the circumstances. Under New York usury statutes, the maximum rate of interest on a note generally is 16 percent. N.Y. Gen. Oblig. Law § 5-501; N.Y. Banking Law § 14-a. Although the note had a stated interest rate of 13 percent, the court found that when including the loan’s origination fee, the interest rate exceeded that statutory maximum.

In response, 206 Jericho Realty argued that summary judgment was appropriate because 7318 Inc., as a corporation, was not entitled to avail itself to the protections available only to individuals under New York’s usury laws. The court held, however, that while a corporate borrower generally cannot benefit from New York’s usury laws, if the loan was made to an individual guarantor to discharge personal obligations — and not “to further a corporate or personal enterprise” — the individual guarantor may assert a usury defense. Under New York law, where usury is established, the remedy may be recovery of any excess loan payments and potentially a declaration that the loan is void and unenforceable.

Although the note stated on its face that 206 Jericho Realty made the loan to a corporation, 7318 Inc., the court found that an issue of fact existed as to whether the loan was “in reality” a personal loan to Thom and not a loan to 7318 Inc. to further a corporate interest. In reaching its conclusion, the court relied on the affidavit evidence of Thom, which included testimony that (i) she specifically sought a personal loan from 206 Jericho Realty to pay family debts and other obligations, (ii) the original loan commitment was made to Thom prior to the formation of 7318 Inc., (iii) 206 Jericho Realty required Thom to form a corporate entity to receive the loan, and (iv) Thom formed 7318 Inc. after that request. Because the defendants presented sufficient evidence demonstrating that the purpose of the loan may not have been to further a corporate interest, the court found that a finder of fact could determine that the loan was usurious because its true interest rate exceeded 16 percent.

Conclusion

The court’s decision to deny summary judgment in an otherwise straightforward foreclosure action demonstrates the challenges that lenders at times face when attempting to enforce the plain terms of their agreements. Although the note provided that the loan was made to a corporation, the court allowed for the possibility that it was personal. In addition, although the note had a stated interest rate below the New York statutory maximum, the court’s decision turned on its determinations that the true interest rate was higher than the note’s stated interest rate and, therefore, potentially usurious.