Buyer (and Lender) Beware! Court Rules Bank May Have Acted as Financial Advisor and Wrongfully Refused to Fund All Phases of Condominium Project

On behalf of Macdonald Fernandez LLP on Wednesday, January 5, 2011.

In Errico vs. Pacific Capital Bank, N.A., ___ F.Supp.2d ___, 2010 Westlaw 4699394 (N.D. Cal.), William and Loretta Errico allege that in 2005 they applied for three loans to finance development a single parcel of real property they had owned for about 25 years. The loan was obtained through Niraj Maharaj, a vice president of Pacific Capital Bank, with whom the Errico's had previously done business. The bank orally agreed to finance at least 75% of the appraised value of the project.Subsequently, Maharaj advised the Errico's that, due to a declining market, they should construct the project in phases, which would result in delayed financing. The Errico's agreed that the financing would be staggered in three separate loans for three phases: (1) construction of 140 condominium units; (2) construction of a commercial plaza; and (3) construction of off-site improvements (typically roads and utility trenches). Simultaneously, the bank assured the Errico's that it would provide the promised minimum financing for the entire project. However, as of approximately August, 2007, the bank secretly determined not to fund the condominium phase.After the other two phases were funded, the bank advised the Errico's that the condominium construction costs should be reduced and that the units should be initially leased as apartments, and the Errico's agreed. Thereafter, the bank approved certain expenditures for the condominium phase, additional appraisals were obtained and additional information was provided to the bank. The prevailing economic crisis intervened, and in July, 2009, the bank informed the Errico's that it would not fund the condominium project.The bank moved to dismiss the complaint, and the court ruled that the allegations of fraud and promissory estoppel were sufficient to state a cause of action. Specifically, the court ruled that the allegations could support findings that the bank orally promised to finance the entire project, and that the bank acted as financial adviser to the Errico's, who reasonably relied upon the promise.The ruling that the bank might have acted as a financial adviser may be subject to criticism because no fiduciary relationship arises in a loan transaction absent special circumstances. Perlas v. GMAC Mortgage, LLC, 187 Cal.App.4th 429, 436 (2010). Whether the facts of this case give rise to a fiduciary duty is likely to be an issue at trial and possibly on appeal. In any case, this case is a reminder to both borrowers and lenders against going too far on a handshake.By Reno F.R. Fernandez III