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August 24, 2016

Best Practices: Having a Second Set of Eyes Review Your Loan Documents is Always A Good Idea

by Lyndsay E. Rowland

Nowadays we live in a fast-paced world where everyone wants everything done yesterday. There is no exception for lenders and their clients who want their loans closed as quickly as possible. In today’s world, we also have access to a whole host of products to assist us with meeting those tight deadlines. For lenders, there is software used to generate standard loan documents internally, which programs can be both a blessing in efficiency as well as a means to keeping costs for these loan transactions down. Unfortunately, those same efficient programs can lead sometimes lead to complications if a loan goes into default.

For example, a Lender made a loan to John Doe & Friends, Inc., with a personal guaranty by John Doe. All of the loan documents were prepared internally and the loan was secured by a mortgage on John Doe’s home. The mortgage was recorded and the loan was paid back according to the loan terms for approximately four years. John Doe & Friends, Inc. stops paying the loan back and the case is referred to foreclosure counsel to file a lawsuit and foreclose on the Mortgage. A mortgage foreclosure action is subsequently filed. In response, John Doe points out that the mortgage he gave on his property actually refers to John Doe & Friends, Inc. as the grantor and therefore the Mortgage is not enforceable (See Mango v. Pierce-Coombs, 370 N.J. Super. 239, 256. App. Div. 2004).

The resulting litigation continues for over four years based on that and several other issues. The take-away for lenders is that one typographical error in a document can lead to litigation on whether an ambiguity exists in a contract. This is significant because if there is no ambiguity in the contract then the Court, i.e. the Judge, can make a determination as to the interpretation of the contract as a matter of law (See Mango v. Pierce-Coombs, 370 N.J. Super. 239, 256 App. Div. 2004). Even if you have a jury trial request in your case, the Judge can still make the determination regarding the contractual interpretation.

However, if the Court finds that the error in the document rises to the level of an ambiguity (See Cooper River Plaza East v. Briad Group, 359 N.J. Super. 518, 528 App. Div. 2003), meaning that there are two reasonable interpretations as to what the term or phase means within your contract, then that issue has to go to the fact finder for a determination (See Michaels v. Brookchester, Inc., 26 N.J. 379, 382. 1958). The fact finder can be the Judge; however, if you have a jury trial then the fact finder is the jury. Most loan documents waive a jury trial, but if a jury trial is not waived, that may be exactly where the case is headed, which only increases the time and expense to litigate the case.

While each state addresses the treatment of contractual ambiguities differently through case law and/or statute, most states will construe an ambiguity against the party that drafted the contract (See Benjamin Moore & Co. v. Aetna Cas & Sur. Co., 179 N.J. 87, 95. 2004). In most cases, the lender is the party that drafted the loan documents. This rule of interpreting the contract against the drafter is even more favored where the drafter was the party with more power in the transaction. Usually the lender is always the party with more power because loans are generally made on a “take it or leave it basis” with little room for the borrower to negotiate. That means that the fact finder can look to the interpretation that favors the borrower in a litigation involving an ambiguity in loan documents. If the ambiguity involves a term such as the interest rate, then this could mean a lower recovery for a lender. Further, an ambiguity can also result in the Court allowing outside evidence from different sources to determine what the parties meant rather than just looking within the four corners of the loan document, again causing an increase in litigation expenses and uncertainty in outcome.

The results of a typographical error in a document can mean a delay of years and tens of thousands of dollars in litigation expenses to resolve what the intent of the parties was in making the contract. If you are a lender preparing documents internally, it is always a good idea to have a second pair of eyes double check those documents to make sure there are no typographical errors that could cause an issue if the loan goes into default. We all believe every loan will be paid back, but unfortunately Lenders have to be prepared to defend and enforce those loan documents in court if they are not.

For more information regarding a second set of eyes and loan document review, contact Lyndsay at lrowland@starfieldsmith.com or 267.470.1154.