May H. SPANGLER, Cross-Complainant and Respondent, v. MEMEL-KOSSOFF VENTURES et al., Cross-Defendants and Appellants.
Appeal from a judgment in favor of the vendor of commercial real property against individual members of the partnership which purchased the property. At the time of the purchase the individual partners guaranteed payment of the purchase price in return for vendor's agreement to subordinate her vendor's lien to the liens of construction loans.
In August 1961 May H. Spangler agreed to sell a commercially-zoned lot to cross-defendant Memel-Kossoff Ventures, a partnership, for $90,000 of which $26,100 was to be paid in cash and $63,900 by a note of the purchasing partnership secured by a deed of trust on the property. The purchasing partnership planned to erect an office building on the site. During negotiations prior to the sale, purchaser sought Mrs. Spangler's agreement to subordinate the security of her vendor's lien on the property to the liens prospective construction loans by institutional lenders in amounts up to $1,000,000 at 8 per cent interest. Mrs. Spangler agreed to subordinate her purchase-money lien in return for a personal guaranty of payment of her purchase-money note by the individual partners who comprised the purchasing partnership. The necessary documents were prepared, including both the guaranty by the individual partners and the agreement by Mrs. Spangler to subordinate the security of her vendor's lien, and the sale of the property was effected in November 1961.
One year later in November 1962 Mrs. Spangler signed a second document agreeing to subordinate the security of her lien to a lien given Union Bank to secure a $408,000 loan to the purchasing partnership for construction on the property of a three-story office building. In 1965 the purchasing partnership defaulted on its obligations. In September 1966 Union Bank foreclosed its lien on the property, sold the property for less than the amount of its loan, thereby wiping out Mrs. Spangler's lien, and collected its deficiency from the individual partners. On Mrs. Spangler's cross-complaint against the individual partners who had guaranteed payment of her note, the trial court entered judgment in her favor.
The individual partners seek to reverse the judgment against them on the basis of the following argument:
(1) A judgment by the vendor against the purchasing partnership for the balance of the purchase-money note is prohibited by section 580b, Code of Civil Procedure, which reads:
‘No deficiency judgment shall lie in any event after any sale of real property for failure of the purchaser to complete his contract of sale, or under a deed of trust, or mortgage, given to the vendor to secure payment of the balance of the purchase price of real property, or under a deed of trust, or mortgage, on a dwelling for not more than four families given to a lender to secure repayment of a loan which was in fact used to pay all or part of the purchase price of such dwelling occupied, entirely or in part, by the purchaser. . . . ’
(2) A judgment is barred even though the real property has been foreclosed by a prior lienholder and not by vendor. (Brown v. Jensen, 41 Cal.2d 193, 259 P.2d 425.)
(3) A promise by partners to pay a secured partnership note for the purchase price of real property merely duplicates the liability of the partnership, and judgment on such a promise is barred by section 580b. (Riddle v. Lushing, 203 Cal.App.2d 831, 21 Cal.Rptr. 902.)
(4) A personal guaranty by an individual partner to pay a secured partnership note for the purchase price of real property also duplicates the liability of the principal obligor, and judgment on such a guaranty is likewise barred by section 580b. (Union Bank v. Dorn, 245 Cal.App.2d 157, 61 Cal.Rptr. 893.)
(5) The partners' personal guaranty of payment of the second partnership purchase-money note, therefore, is invalid under section 580b, and judgment against the individual partners on their guaranty of payment of the note must be reversed.
This argument assumes that the transaction before us comprises one indivisible whole whose essential elements have all been accounted for by means of the foregoing analysis. Were this assumption correct the cause could be decided in the same manner as Union Bank v. Dorn, 245 Cal.App.2d 157, 61 Cal.Rptr. 893; Valinda Builders, Inc. v. Bissner, 230 Cal.App.2d 106, 40 Cal.Rptr. 735, and Riddle v. Lushing, 203 Cal.App.2d 831, 21 Cal.Rptr. 902. But we do not accept the validity of an assumption which brushes to one side key elements in the dealings between vendor and partners and ignores the duality of their relationship.
Purchaser-appellants were speculative builders who planned to construct an office building on vendor's property with the use of borrowed money. The maximum amount of borrowed money could be raised for the venture if vendor would agree to relinquish her security interest in the property to lenders advancing moneys for construction. With that objective in mind purchaser asked vendor to subordinate her first lien of $63,900 against the property to prospective liens for construction in amounts up to $1,000,000—in short to relinquish her security and assume the risk that on purchaser's default she might neither collect the money owed her nor get the property back. Advisedly, vendor was unwilling to relinquish her security unless she received some substitute security—in this case a guaranty of payment by the individual partners of the purchasing partnership. The bargain was struck, and in return for the guaranty vendor agreed to subordinate her security to that of construction loans up to $1,000,000. Under this supplemental bargain each side gave up something and each side acquired something in addition to what was involved in the purchase and sale of the real property. Vendor agreed to relinquish her primary security for payment of the purchase price in return for a guaranty of payment of the note by individual partners. Purchaser agreed to give up the immunity of its individual partners from personal liability in return for the use of vendor's credit in the property to raise money for its speculative venture.
The substance of the entire transaction thus involved (1) a purchase and sale of real property, and (2) a subsidiary agreement for future subordination of the vendor's lien in return for the guaranty of payment by purchaser's individual partners. The subsidiary agreement, prospective in operation, did not affect the validity of the purchase and sale of the property itself, a factor which underscored its character as a separate executory contract of a promise given in consideration for a promise, to take effect at some future time. If a construction loan should be obtained, as actually happened, then the subsidiary contract would change from one which was executory to one which was fully executed. If no construction loan were ever obtained, as might have happened, then the subordination-guaranty agreement would remain executory, vendor's security would continue unimpaired, and the partners' guaranty would not become operative.
We view this subsidiary agreement as a form of option contract under which purchaser could bring about vendor's subordination of her security at the cost of the validation of its individual partner's guaranty. On purchaser's exercise of its option it acquired the use of vendor's security in the property as credit on which to raise money, in return for which it gave vendor the substitute security of the individual partners' guaranty. Simultaneously, vendor acquired the security of the guaranty in return for having given up the priority of her vendor's lien. We consider it immaterial that the subsidiary agreement was not drafted as a separate contract, for in construing anti-deficiency statutes we are adjured to look through the form of a transaction to reach its substance. (Freedland v. Greco, 45 Cal.2d 462, 468, 289 P.2d 463.)
While we have found no analysis of subordination agreements in terms of their status as option contracts, in both Roseleaf Corp. v. Chierighino, 59 Cal.2d 35, 27 Cal.Rptr. 873, 378 P.2d 97, and Kistler v. Vasi, 71 Cal.2d 261, 78 Cal.Rptr. 170, 455 P.2d 106, the Supreme Court recognized that subsidiary agreements connected with a sale of real property are not necessarily governed by or subject to the provisions of anti-deficiency statutes. In Roseleaf, the validity of added security of outside property given by the purchaser to vendor was upheld. In Kistler, a note given by the purchaser to the broker as part payment of the purchase price was enforced after the main security had been exhausted. In neither case did the court find collection of the deficiency foreclosed by the anti-deficiency statutes. In has been said that the purpose of anti-deficiency statutes is to prevent vendor from both reacquiring the property sold and obtaining a judgment for the balance of the purchase price, a purpose which carries the implication that the property itself should furnish sufficient security for the purchase price. (Roseleaf Corp. v. Chierighino, 59 Cal.2d 35, 42, 27 Cal.Rptr. 873, 378 P.2d 97.) But when the reason for the rule ceases, the rule itself, reasonless, no longer governs. When in an arm's length transaction vendor gives up his vendor's security in return for other bargained consideration, he no longer enjoys the protection of the property, and the anti-deficiency statues bear no relevancy to his situation. As the court said in Roseleaf: ‘Section 580b was apparently drafted in contemplation of the standard purchase money mortgage transaction, in which the vendor of real property retains an interest in the land sold to secure payment of part of the purchase price. Variations on the standard are subject to section 580b only if they come within the purpose of that section.’ (p. 41, 27 Cal.Rptr. p. 876, 378 P.2d p. 100.) At bench partners obtained a separate and new benefit (the use by the partnership of $63,900 of the vendor's credit) in return for their agreement to furnish a separate and new consideration to vendor (the guaranty of the individual partners). Essentially, what vendor did was to lend her credit ($63,900) to the purchaser. In this phase of the transaction she carries mote the aspect of a lender than of a vendor, and as against a lender the force of the anti-deficiency statute has been largely ameliorated. (Cf. Kistler v. Vasi, 71 Cal.2d 261, 263, 78 Cal.Rptr. 170, 455 P.2d 106.)
We briefly note one further point on the separateness of the subordination-guaranty agreement. When purchaser obtained construction financing from Union Bank some 12 months after the original sale it induced vendor to execute a second subordination agreement, reaffirming the original agreement to subordinate her lien to construction loans by lending institutions in amounts up to $1,000,000 at 8 per cent interest, but also providing for subordination of her lien to a loan by a private lender up to $408,000 at 10 per cent interest. Since this second subordination agreement differed from the original subordination agreement in its terms (the type of authorized lender and the allowable rate of interest) it may be construed as a new agreement entered into at a time subsequent to the original sale, a new agreement which validated the personal liability of the individual partners on their guaranty. Even if we assume the invalidity of the original waiver of immunity by the partners—which we do not—a later waiver of immunity at a time subsequent to the original purchase would unquestionably be valid. (Civ.Code, § 2953; Salter v. Ulrich, 22 Cal.2d 263, 267, 138 P.2d 7.)
The parties have much urged upon us the social policies behind the statute involved. We view the determination of social policy between debtor and creditor as primarily a matter for legislative action, but insofar as we are required to take such policy into account we have concluded that Code of Civil Procedure section 580b was not designed to immunize land developers, subdividers, real estate promoters, and speculative builders from personal liability resulting from their use of the security and credit of land vendors to finance speculative ventures for their own accounts.
The judgment is affirmed.
The majority have surgically carved a ‘* * * subsidiary agreement for future subordination, * * *’ from undisputed evidence which reflects one indivisible transaction of the sale and purchase for cash and a subordinated purchase money trust deed of real property between an owner as seller (respondent) and a partnership as buyer with individual partners as guarantors (appellants). Indeed, the trial judge in two well-considered opinions and exhaustive findings of fact and conclusions of law found only one transaction and one agreement. The trial court did not find in favor of respondent on the theory of a separate agreement for future subordination. It held that the personal guarantees of appellants which were given as an integrated part of the one transaction ‘* * * constituted * * * obligations * * *,'1 different from the partnership obligation.
Since the undisputed evidence and the facts as found by the court reflect one indivisible transaction, this case as the majority concede ‘* * * could be decided in the same manner as Union Bank v. Dorn, 254 Cal.App.2d 157, 61 Cal.Rptr. 893; Valinda Builders, Inc. v. Bissner, 230 Cal.App.2d 106, 40 Cal.Rptr. 735, and Riddle v. Lushing, 203 Cal.App.2d 831, 21 Cal.Rptr. 902,’ in which event the judgment would of course be reversed.
Since the majority deny the indivisibility of the transaction, it may be instructive to set forth the facts in some detail.
May and Ralf Spangler bought a lot improved with two-story family house in 1956 for $43,000 (the property described in the trust deeds). Ralf used the house in his advertising agency business; however, its location, 7033 Sunset Boulevard in Los Angeles, appears to have suggested a more profitable exploitation of the lot (60 by 200 feet), and in November 1960, the property was placed on the market for $100,000.
The first offer on the property was made by Mr. James Bower and Melvin Belli, Esq. for $90,000 on July 26, 1961, $50,000 to be paid in cash. The intent behind the purchase, namely the erection of an incomeproducing building on the property, was explicitly recognized in the stipulation that the balance of $40,000 was to be subordinated to a construction loan. A counteroffer made by Ralf Spangler which reduced the size of the downpayment to $26,100 for income tax purposes also contained the stipulation that the subordination of the Spangler trust deed to the construction loan would only be made if he, Spangler, would receive ‘a personal guarantee signed by Mr. bower and Mr. Belli, both guaranteeing payment.’ The counteroffer was accepted; however, for reasons not disclosed by the record, the Bower-Belli agreement fell through and the escrow was cancelled on August 24, 1961.
Sherwin and Robert Memel, and Sol and Leon Kossoff were general partners of Memel-Kossoff Ventures (appellants). Robert Memel had, during the pendency of the Bower-Belli negotiations, indicated an interest in the Spangler property to the broker involved in that transaction. Thus, Robert Memel was immediately notified of the aborted Bower-Belli escrow, appellants advised broker that, in the trial court's words, ‘the purchase money trust deed would have to be subordinated.’ Whereupon the broker told appellants that ‘* * * if there was to be subordination, the purchasers would have to personally guarantee payment of the purchase money trust deed.’ (Finding of Fact 10.1).
The record discloses that throughout the ensuing negotiations between appellants and respondents all parties thereto were clear as to the nature and purpose of their impending agreement. The trial court found:
‘13. During the period beginning on August 24, 1961, and ending on or about August 29, 1961, several discussions, relating to the terms and conditions of the proposed sale were carried on by and between cross-defendants Robert Memel and Sherwin Memel representing the buyer, Memel-Kossoff Ventures, a Partnership, and by Mr. Arnold and his superior, Hubert A. Boisvert, representing the sellers, May Spangler and her husband Ralf Spangler. Among the subjects so discussed, during said period, by and between Mr. Arnold and Mr. Boisvert, Mr. Sherwin Mermel and Mr. Robert Memel, was the requirement of Mr. Spangler that, if there was to be subordination, the buyers would have to personally guarantee the payment of the balance of the purchase price, and that this guaranty would have to be signed by each of the four general partners of the buying partnership. There was no direct communication between the buyers and the sellers during this period, or at any other time during the negotiations or consummation of the sale. During said period, Mr. Boisvert and Mr. Arnold consulted with Mr. Spangler concerning Mr. Spangler's desires with respect to the terms and conditions of the proposed sale of the property to the cross-defendants, including the required personal guaranty, but the cross-defendants were not present at any such consultations.’
An agreement between May Spangler2 and Memel-Kossoff in terms identical to that originally negotiated with Bower-Belli was entered into. During the pendency of the escrow the broker requested and received from Spangler the from of guaranty prepared by an unidentified party but at her direction which, according to Ralf Spangler's conception of the transaction, clinched the entire deal by providing May Spangler with the needed security. The text of the guaranty was as follows:
“GUARANTEE Escrow No. 380–11625
“In connection with the Deed of Trust and Note in the amount of $63,900.00 executed by the undersigned Memel-Kossoff Ventures, a Partnership, we the undersigned do specifically, jointly and severally personally guarantee payment of the above described not and deed of trust as per their terms; and we the undersigned do hereby waive all provisions of Law to the contrary and specifically agree that we and each of us will be personally liable for any deficiency amount of money which may remain unpaid in the event of foreclosure and sale thereunder. Such Trust Deed shall be personally signed by Robert A. Memel, Sherwin L. Memel, Sol Kossoff and Leon Kossoff.”
The guaranty was signed by appellants individually, as well as in the capacity of each as partner on behalf of Memel-Kossoff Ventures.
The escrow between the parties at bench was opened August 29, 1961 and closed on November 30, 1961. All documents including the above guaranty were part of the single indivisible purchase and sale and were executed in and delivered through the one escrow.3
A year later, on November 29, 1962, May Spangler executed an agreement (after consultation with her attorney of some years' standing) which subordinated her security interest in the property to that of Bank's which then loaned $408,000 to Memel-Kossoff for the construction of an office building on the property.
The indivisibility of the transaction, showing that the subordination was an implicit part of it, is reflected in the trial court's Finding No. 20: ‘With respect to both the aborted Bower-Belli transaction, and the later transaction consummated with the cross-defendants, the personal guaranty by the buyers and waiver of the anti-deficiency statutes, involved in both transactions, were not proposed, either by Messrs. Bower or Belli in connection with the first transaction, nor by any of the cross-defendants in connection with the later transaction, but they were, in each instance, first proposed and requested by Ralf M. Spangler and his representatives Mr. Boisvert and Mr. Arnold in response to the prospective purchasers' requests for subordination of the purchase money trust deed. (Each of whom, in making such requests, were acting as agents for, and for the benefit of, the cross-complainant May H. Spangler.)’
The decision of the Court of Appeals in Riddle v. Lushing, 203 Cal.App.2d 831, 21 Cal.Rptr. 902, which is of decisive importance to this case, was filed between the close of escrow and the execution of the subordination agreement on May 22, 1962.
A three-story office building was constructed on the property and Memel-Kossoff or its alter ego, MKS Investment, made regular payments on the trust deeds. Due to a variety of factors, however, the building failed as a commercial venture; payments to May Spangler ceased in August, 1965, after she had received $13,585.53 on principal and $19,215.75 interest (in addition, of course, to the bargained-for down-payment of $26,100). Bank's proceedings were commenced in the fall of 1966 and at their conclusion a deficiency of roughly $45,000 remained unsatisfied.
Section 580b of the Code of Civil Procedure provides that no deficiency judgment shall lie in any event after a sale of real property under, inter alia, a deed of trust which was given to secure payment of the balance of the purchase price of that real property.
The issue is whether by virtue of the guaranty set forth above May Spangler may recover the deficiency on the obligation of Memel-Kossoff which was concededly incurred by the latter in the purchase of the Spangler property. In other words, does the execution of a ‘separate’ guaranty by trustors of real property obligate them to pay a deficiency, notwithstanding section 580b?
In the words of Chief Justice Traynor, section 580b ‘* * * compels a purchase money mortgagee to assume the risk that the security is inadequate. The purposes of [section 580b] are to discourage land sales that are unsound because the land is overvalued and, in the event of a depression of land values, to prevent the aggravation of the downturn that would result if defaulting purchasers lost the land and were burdened with personal liability.’ (Bargioni v. Hill, 59 Cal.2d 121, 123, 28 Cal.Rptr. 321, 322, 378 P2d 593, 594; see also Brown v. Jensen, 41 Cal.2d 193, 197, 259 P.2d 425.)
I have no desire any more than does the majority to countenance a transaction which may encourage buyers of land whether they be sound, speculative, or otherwise, to take advantage of landowners. Experience, however, shows that owners of naked land who sell it to those who expect to consummate a project for its development are frequently, as was true at bench, fully cognizant of the fact that the buyer-developer will finance the project in substantial part by subordination of the lien reflected by all or part of the purchase price bargained for by the owner and frequently as was the case here the owner will participate in the buyer-developer's venture by knowingly subordinating all or a part of the purchase price of the land he sells. In such cases, owners gambling or investing in the project of the buyer, are usually assured of the ultimate payment of a price in excess of the readily obtainable market value of the property sold. The excess above market value thus anticipated is the consideration for the owner's subordination and represents the differences between what the owners could have sold the property for without subordination if it could have been so sold at all, and what is obtained in the form of increased purchase price by the agreement to subordinate.
It is only a half truth to say as the majority does that appellants by reason of the subordination of respondent's trust deed ‘* * * acquired the use of [respondent's] security in the property as credit on which to raise money.’ The findings of fact at bench expressly show that commencing with the proposed sale to Bower-Belli respondent agreed to subordinate a substantial portion of the original purchase price and thus implicitly indicate that respondent expected to participate in the commercial venture by permitting use of their property as basis for a loan. Normally and logically such subordination is made to obtain some excess over the market value of the land being sold. In other words respondent, a seller of vacant land, was as much a speculator in the project as were appellants-buyers.
The history of the entire transaction at bench, from its inception to its conclusion, shows that the Spanglers knew precisely what they were doing when they fixed and accepted a purchase price for their property, a major part of which was to be secured by a purchase money trust deed, which trust deed, they knew and expected to be subordinated or converted into a second trust deed by reason of a substantial loan the purchaser expected to obtain to build a substantial improvement on the purchased property. Whatever the commercial realities of this transaction may have been, and I express no opinion thereon, one cannot rule out the probability that the Spangler loss was due in part at least to the overvaluation of the Spangler property because a purchase money trust deed, a part of the bargain of sale, was to be subordinated to a trust deed securing a contemplated construction loan. Such a situation brings this case squarely within the spirit—and the letter—of section 580b. In other words, the validity of the legislative intent expressed in section 580b is as suggested by Chief Justice Traynor, that just such ‘land sales * * * are unsound because the land is overvalued.’
Respondents place great reliance on the argument that the guaranty was ‘separate’ (unlike Riddle v. Lushing, supra, 203 Cal.App.2d 831, 21 Cal.Rptr. 902) and that it is ‘independent’ and ‘supported by consideration.’ However, while it is true, as contended by appellants, that a partner ‘may enter into a separate obligation to perform a partnership contract,’ (Corporations Code, section 15015(b)), the obligation at bench could not, as a matter of public policy (section 580d), be separate. The reasons for this rule have been adequately expressed in Riddle v. Lushing, supra, which held that partners could not ‘guaranty’ the purchase of realty be the partnership and thereby escape the ambit of section 580b. (203 Cal.App.2d at 836, 21 Cal.Rptr. 902.) The fact that the obligation of each individual partner was separately bargained for and that separate and distinct consideration was given therefor cannot detract from the fact that those same partners bought the property and acquired title thereto as co-owners and tenants in partnership. (Corporations Code, section 15025 subd. 1.) The connection between the individual partners and the partnership is immediate, and established by statute; the individual partners were thus ‘guaranteeing’ their performance as (individual) tenants in partnership.
To permit a ‘guaranty’ of this nature to exempt a purchase money transaction from anti-deficiency legislation is to open the door to brazen evasions of section 580b. In the case at bench, it places this court's approval on conduct which the Legislature intended to proscribe by section 580b, namely a knowing sale of overvalued land.
In terms of the equities involved, May Spangler recovered as part of the regular payments an amount in excess of that invested in the property in 1956. Finally, although respondents participated in executing what is and was an illegal contract, ‘A party to an illegal contract cannot ratify it, cannot be estopped from relying on the illegality, and cannot waive his right to urge that defense.’ (City Lincoln-Mercury v. Lindsey, 52 Cal.2d 267, 274, 339 P.2d 851, 856.) The enactment of section 580b was most obviously inspired by broad considerations of public interest and welfare and, until and if it is repealed, it remains the law of this State.
I would reverse the judgment.
1. ‘3. The personal guaranties of payment of the purchase money note, executed by cross-defendants Sherwin-Memel, Robert Memel, Leon Kossoff and Sol Kossoff, and each of them, as embodied in Exhibit 6, are not invalidated by the rule in Riddle v. Lushing, for the reason that Exhibit 6, and the personal guaranties evidenced thereby, constituted separate obligations (emphasis added) from the partnership obligation evidenced by the purchase money note and trust deed. * * *.’ (See also finding 10.1, infra.)
2. Fatally ill with leukemia, Ralf had deeded his interest in the property to May on July 18, 1961, just prior to the Bower-Belli offer. However, Ralf continued until his death on November 2, 1961 to direct the negotiations here described.
3. All findings of the court specifically Nos. 11 to 22, both inclusive, show the indivisibility of the purchase and sale transaction. It is noted that the court did find in No. 23: ‘Both the Spanglers and the Memels further understood and agreed that the personal guaranty to be signed by the four (4) general partners of the buying partnership, and which was signed by them (Exhibit 6), was to be a separate and distinct obligation from the obligation evidenced by the purchase money note and trust deed, (Exhibit 5), also signed by the said general partners, both of which instruments were later delivered to the cross-complainant May H. Spangler upon the closing of the escrow.’ This has never been disputed. However, as indicated by Finding No. 20 excerpted (infra) the execution and adding of the guaranty was inspired and insisted upon by respondent and demonstrates a calculated attempt to avoid the consequences of section 580b of the Code of Civil Procedure.
FLEMING, Associate Justice.
HERNDON, J., concurs.