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District Court of Appeal, Second District, Division 4, California.

RHEEM MANUFACTURING COMPANY, a corporation, Plaintiff and Appellant, v. UNITED STATES of America et al., Defendants.

United States of America, Consolidated Rock Products Co., Keb Construction and Fixture Company, Inc., S. H. Bacon Materials Co., Inc., Argo Electric Supply Co., Robert Don Wolf, dba Steelflex Co., and F. D. Taylor, Respondents. Robert Don WOLF, dba Steelflex Company, Plaintiff and Respondent, v. DIVIDEND INVESTMENT CORPORATION, a corporation et al., Defendants.

Rheem Manufacturing Company, a corporation, Appellant. KEB CONSTRUCTION AND FIXTURE COMPANY, Inc., Plaintiff and Respondent, v. CALIFORNIA INDUSTRIAL TRACTS, INC., et al., Defendants.

Rheem Manufacturing Company, a corporation, Appellant. S. H. BACON MATERIALS CO., Inc., a California corporation, Plaintiff, v. Walter A. NICKELS et al., Defendants.

S. H. BACON MATERIALS CO., Inc., a California Corporation, Plaintiff, Robert Don Wolf, dba Steelflex Co., etc., Defendant, Respondents, v. RHEEM MANUFACTURING COMPANY (sued under the fictitious name of Black Co., a corporation), Defendant, Appellant.*

Civ. 25058.

Decided: December 19, 1961

O'Melveny & Myers, William W. Alsup, William W. Vaughn, and Stanley R. Fimberg, Los Angeles, for appellant Rheem Mfg. Co. Francis C. Whelan, U. S. Atty., and Robert H. Wyshak, Asst. U. S. Atty., Chief, Tax Division, Los Angeles, for respondent United States, as claimant under Walter A. Nickels. Watkins, Lund & Peck and Ira M. Price, II, Los Angeles, for respondent Consolidated Rock Products Co. Milton L. Most, Los Angeles, for respondent F. D. Taylor Co. Sherman, Weissman & Meyers and Lauren M. Handley, Los Angeles, for respondent Argo Electric Supply. Lauren M. Handley, Los Angeles, for respondent S. H. Bacon Material Co., Inc. Marshall Gumbiner, Hollywood, for respondent Keb Const. Co. Chapman, Frazer & Lindley and Daniel W. Chapman, Los Angeles, for respondent Robert Don Wolf dba Steelflex. James H. Camplin, Los Angeles, for amicus curiae Pacific Mut. Life Ins. Co.

Plaintiff, defendant and cross defendant Rheem Manufacturing Company appeals from that portion of the judgment entered in the above-entitled consolidated actions which (1) provides that certain of the plaintiffs, defendants and cross defendants have valid and subsisting liens upon the land and improvements which are the subject matter of these actions, (2) orders the real property to be sold, with the proceeds of the sale to be applied to the satisfaction of the liens, or (3) as to one of the liens, orders that Consolidated Rock Products Co. may recover judgment from Rheem in an amount specified, and (4) provides that certain plaintiffs, defendants and cross defendants may recover their costs.

The case came on regularly for nonjury trial and upon the conclusion thereof the court made its findings of fact which may be summarized as follows: prior to December 7, 1956, Rheem owned a piece of industrial property in the city of Vernon, County of Los Angeles, California; on or about that date it entered into a written contract with one Ben Waxman, acting as attorney in fact, whereby Waxman agreed to purchase from Rheem the real property in question for a total price of $1,075,000, $50,000 to be paid in cash and the remainder in installments; the intended purchaser did not then exist, but was to be a corporation formed by a real estate operator named Meyer Friedman. In this connection the court found ‘The sale of said property was basically on credit with a very thin equity and entered into with the expectation and belief that the real property described would be improved and rehabilitated.’; thereafter Waxman assigned all of his interest in the contract to defendant California Industrial Tracts, Inc. (hereinafter termed ‘California’), to whom Rheem subsequently deeded and transferred the real property.

On December 27, 1956, California executed a promissory note in favor of Rheem for the unpaid purchase price plus interest and, to secure payment thereof, executed as trustor a deed of trust covering the property, with Title Insurance and Trust Company as trustee and Rheem as beneficiary. This deed of trust was recorded on December 31, 1956. Subsequently, California assigned and transferred its interests in the property to defendant Dividend Investment Corporation (referred to hereinafter as ‘Dividend’). The court found that ‘After December 31, 1956, at the instance and request of Rheem and either California, Dividend or their lessees, certain improvements were made on said real property. The several parties in these consolidated cases who claim an interest in said real property by reason of mechanics' liens were among those who supplied materials or performed labor in connection with the construction of such improvements. Those parties contracted to supply such materials or perform such labor with either California, Dividend, their lessees or others obligated by contract to construct such improvements. In no instance was Rheem directly a party to any such contract.’

No work or improvement was commenced on the property nor materials furnished or labor performed in connection therewith until after December 31, 1956, the date on which the deed of trust in favor of Rheem was recorded. Thereafter and prior to October 8, 1957, California and Dividend defaulted under the terms of the deed of trust by failing to pay certain interest and taxes and by permitting mechanics' liens and other encumbrances to be asserted against the property. Upon learning of these defaults Rheem promptly on October 8, 1957, filed a notice of default and demand for sale, which was recorded October 14, 1957.

At the same time, in accordance with an assignment of rents clause contained in the deed of trust as additional security, Rheem elected to collect all rents due and so notified the lessees of the property on October 21, 1957.

On February 11, 1958, the real property was sold at a public trustee's sale. Rheem was the purchaser and took title by a trustee's deed dated February 11, 1958. The trustee's sale was for $1,084,401.18, an amount equal to the unpaid principal secured by the deed of trust, the interest due and unpaid thereon to the date of the trustee's sale and the expenses of sale as charged by the trustee, less all amounts collected by Rheem pursuant to the assignment of rents clause in the deed of trust.

The trial court found that ‘Rheem is estopped to assert the priority of the lien on said real property arising from said deed of trust as against otherwise perfected mechanics' lien securing amounts due for work done or materials supplied prior to October 14, 1957, by reason of * * *’ certain facts which it found. The first of these facts dealt with the installment provisions of the written contract between Rheem and Waxman which contained the following proviso: “provided, however, that if the Purchaser or its assignee and any lessee of any portion of the property sold hereunder shall not have expended an aggregate of $50,000 in improving or rehabilitating the property sold hereunder subject to the Deed of Trust provided for herein below, prior to May 15, 1957, which said expenditures shall be evidenced by invoices or vouchers submitted on demand to Seller, that portion of the installment of principal otherwise payable at the end of one year from the closing date which is equal to the amount by which said expenditures are less than $50,000, shall be due and payable on May 15, 1957. * * *”

The court found the additional facts by which Rheem was estopped to be that when California took title to the property Rheem knew California intended to institute a program of improvement to and rehabilitation of said real property and to lease portions of it to others for industrial uses. Furthermore, Rheem ‘wanted said real property to be improved by California because the down payment on the purchase price to be paid by California was small in comparison to the amount unpaid and secured by said deed of trust and Rheem wished to have the property enhanced in value in order that Rheem's security for the payment of the balance of the purchase price would be increased. Rheem so advised Waxman and representatives of California during negotiations leading to said contract. However, Rheem did not share in any of the profits derived from improvements made to said real property.’

As additional facts, the court found that prior to entering into the contract Rheem had negotiated with one prospective purchaser, which negotiations were terminated by Rheem because of the inability of such purchaser to make improvements. Furthermore, after December 31, 1956, improvements were made by California or Dividend, or their lessees, and on May 10, 1957, Friedman, California and Dividend reported to Rheem by letter the various improvements which had been completed or were in process which aggregated a total of $156,000. Rheem asked Friedman for proof of these expenditures after which Rheem concluded that at least $50,000 had been expended in improving the property.

The court found that ‘The above facts require the conclusion that Rheem, with the intent of causing an enhancement in the value of said real property in order that its security interest therein for payment of the unpaid purchase price by California be increased, actively promoted, fostered, encouraged, required and insisted on improvement to said real property after December 31, 1956.’

The court further found that ‘By reason of the facts set forth * * * Rheem waived the priority of the lien on said real property arising from said deed of trust as against otherwise perfected mechanics' liens securing amounts due for work done or materials supplied prior to October 14, 1957.’; and further that by reason of the facts heretofore set forth ‘Rheem was, from December 31, 1956, to October 14, 1957, an owner of or person having an estate in said real property within the meaning of Section 1183.1(b) of the California Code of Civil Procedure. Rheem did not post or file a notice of non-responsibility as required by that section.’

In its findings the court further found that Rheem was not in any sense or for any purpose a partner with either Waxman, California or Dividend whether in connection with the construction of improvements on the property or otherwise, and that it did not share in any profits derived from the property after December 27, 1956; that its interest in the property was to ‘preserve and enhance its value as security for the unpaid portion of the purchase price owned [sic] by California.’ The court found that Rheem acted in ‘perfect good faith’ throughout the above referred to transaction and that it was not dilatory in exercising its rights in any respect and was not guilty of laches; that Rheem did not itself breach the contract of sale in any way. It further found that the assignments of rents clause in the deed of trust was merely additional security for payment of the sums secured by the deed of trust and represented only the conveyance for security purposes of an interest in real property and that such assignment did not itself alter the relationship of secured creditor and debtor as between Rheem and California, nor did it make Rheem an owner of or person having an estate in the real property within the meaning of section 1183.1(b) of the Code of Civil Procedure.

The trial judge thereupon made specific findings with respect to certain liens and found them to be valid and enforcible, and prior to the lien of the deed of trust in favor of Rheem. Certain other asserted liens were found not to be valid and subsisting liens, but these and other portions of the judgment are not being attacked on appeal.

It has been the law in California since 1854 that a recorded deed of trust has priority over subsequent mechanics' liens and a trustee's sale or property covered by the deed of trust extinguishes all such liens. This principle has been repeatedly asserted. (Powers v. Soule-Martin Lumber Co., 209 Cal. 557, 561, 289 P. 809; Smith v. Anglo-California Trust Co., 205 Cal. 496, 500, 271 P. 898; Hollywood Lumber Co. v. Love, 155 Cal. 270, 274, 100 P. 698; Williams v. Santa Clara Mining Association, 66 Cal. 193, 201, 5 P. 85; Rose v. Munie, 4 Cal. 173, 174–175; Barr Lumber Co. v. Shaffer, 108 Cal.App.2d 14, 23, 238 P.2d 99; San Pedro Lumber Co. v. Wilson, 4 Cal.App.2d 41, 42, 40 P.2d 605; Hayward Lumber & Investment Co. v. Naslund, 125 Cal.App. 34, 41, 13 P.2d 775; E. K. Wood Lumber Co. v. Mulholland, 118 Cal.App. 475, 477, 5 P.2d 669; American Bldg. Material Service Co. v. Wallin, 116 Cal.App. 527, 530, 2 P.2d 1007; Brush v. E. R. Bohan & Co., 102 Cal.App. 457, 459, 283 P. 126; Beard v. Lancaster Midway Oil Co., 72 Cal.App. 148, 150, 236 P. 970; W. P. Fuller & Co. v. McClure, 48 Cal.App. 185, 191–192, 191 P. 1027; Valley Lumber Co. v. Wright, 2 Cal.App. 288, 290, 291, 84 P. 58.)

Civil Code, section 2898 establishes that a purchase money deed of trust has priority over all other liens created against the purchaser, subject to the operation of the recording laws. Civil Code, section 2897 provides, with respect to the priority of liens, that all other things being equal, different liens upon the same property have priority according to the time of their creation, with certain exceptions not pertinent here.

In their consolidated reply brief respondents rely upon what they feel to be the unusual provisions of the agreement of sale of the property to remove the case from the operation of the basic rules with respect to the priority of liens and to sustain the trial court's findings that Rheem is estopped from asserting the priority of the lien of its deed of trust. To support their position respondents cite the case of City Lumber Co. v. Brown, 46 Cal.App. 603, 189 P. 830. However, the feature which clearly distinguishes the two cases is that in the City Lumber case the court found that the beneficiary under the deed of trust was a joint venturer with the owner and was to share in profits derived from improvements to be made on the land. It was because of this fact that the court found that the deed of trust was not prior in right to the mechanics' liens.

In contrast, in the instant case, the trial court has expressly found that Rheem was not a partner of the owner of the property and was not to share in any profits from the land or improvements. On the contrary, the trial court found that Rheem at all times acted solely to preserve and enhance its security interest which it had a right to do.

Respondents refer to Fickling v. Jackman, 203 Cal. 657, 664, 265 P. 810, to the effect that mechanics lien claimants should prevail where there is ‘any unfair advantage.’ In this case the property owner entered into an agreement with a general contractor for the construction of a bungalow court on his property. The owner gave the contractor a deed of trust on the property to secure payment of a portion of the construction contract price. The contractor recorded the deed of trust and thereafter constructed the bungalows. He failed to pay for some of the labor and materials, resulting in mechanics' liens being filed. The Supreme Court found that the deed of trust in favor of the contractor was an encumbrance prior in right to the mechanics' liens. It is to be noted that in the last mentioned case the beneficiary under the deed of trust (the contractor) did more than merely ‘encourage’ or ‘insist’ on improvements (as the trial court in the instant case found that Rheem did), but in fact was required himself to make the improvements and to pay for them. The court found the deed of trust to be superior to the mechanics liens, having been recorded prior to the commencement of the work, even though such liens secured payment for labor and materials supplied for the very improvements the trust deed beneficiary was obliged to pay for and to construct.

Similarly, in San Francisco Lumber Co. v. Yates, 54 Cal.App. 109, 204 P. 423, Mrs. Yates agreed to sell certain property to one Berry, at the same time agreeing to erect a building on the property. She deeded the property to Berry who in turn gave her a deed of trust to secure payment of the purchase price. Mrs. Yates then transferred her interest in the deed of trust to one Bridge and it was recorded. She then entered into a contract with her husband, a builder, to construct a building on the property. Plaintiffs were materialmen and filed liens. They argued that their liens were superior to the deed of trust. The court declared (pp. 111–112, 204 P. at page 424):

‘* * * Their position is, in brief, that Mrs. Yates was the real owner of the property; that the trust deed was in effect of her own execution; that through her husband, acting as her agent and contractor, she herself created the mechanic's and materialmen's liens, which should take precedence over any interest she may have in the property; that the interest of Mrs. Yates, as owner, whatever it may be, was subject to the liens, regardless of the claims of Bridge as assignee.

‘We are not impressed with the argument advanced in support of the respondent's position. In the first place, Mrs. Yates was not the owner of the lot after the execution, delivery, and recordation of the deed to the Berrys. In the next place, even if she had been, she had the right to create, by the deed of trust, a preferred lien on the property to raise money for the purpose of erecting the building, which takes precedence of subsequent mechanics' lien claims * * *.’ (Emphasis added.)

Thus, in both the Fickling and Yates cases the courts held that a recorded deed of trust took precedence over subsequent mechanics' liens even though the beneficiary under the trust deed was himself bound to erect improvements on the property and accordingly pay material and labor claims which might arise in connection with their construction. The only solace which the respondents and in either of these cases is certain language to the effect that the court might have come to a different conclusion had there been ‘a showing of bad faith or of fraud on the part of the parties to the transaction’ (Fickling v. Jackman, supra, 203 Cal. 657, 665, 265 P. 810, 814), or had there been set forth in the findings facts from which corrupt motives on the part of any of the contracting parties could reasonably be inferred (San Francisco Lumber Co. v. Yates, supra, 54 Cal.App. 109, 112, 204 P. 423).

The findings in the case at hand, supported by substantial evidence, expressly negate the existence of bad faith, fraud or corrupt motives on the part of Rheem or that it was an undisclosed principal. Rheem was not an owner or person having or claiming any estate in the property within the meaning of section 1183.1(b) of the Code of Civil Procedure. The taking of an assignment of rents as additional security for the balance of the purchase price of the property did not have the effect of changing the basic relationship of the parties. This relationship was made public through the recordation of the deed to the purchaser and the taking back of a trust deed by Rheem. There was nothing in the conduct of Rheem which could constitute an abandonment or waiver of its legal right to foreclose its prior lien under the deed of trust or to estop it from asserting such right.

The statutory and case law in this state on the priority of liens being clearly applicable to the facts in this case, there is no need to resort to the case law of other states.

The judgment is reversed insofar as (1) it declares that certain holders of mechanics' liens, and the defendant United States of America as to its claimed tax lien, have valid and subsisting liens upon the land and improvements which are the subject matter of these actions; (2) the judgment orders such property to be sold to satisfy such liens; and (3) the judgment orders that such mechanics liens claimants may recover their costs. In all other respects the judgment is affirmed. The cause is remanded to the trial court with directions to enter judgment in accordance with the views herein expressed, the appellant to recover its costs of this appeal.

BURKE, Presiding Justice.