SANTA CRUZ LUMBER COMPANY v. BANK OF AMERICA NATIONAL TRUST AND SAVINGS ASSOCIATION (1984)

Bank of America (Bank) appeals from a judgment determining the priority of various liens against a real property development, wherein the original seller of the land subordinated its purchase money deed of trust to the construction lender's deed of trust.   Between the sale and construction loan, various mechanics' liens attached to the property.   The resulting circuity of priorities was resolved adversely to the Bank's position in an action by a material supplier to foreclose its mechanic's lien.   We affirm the trial court's determination of priorities.

Western Real Estate Exchange, Inc. (Western) originally sold the land to Whittenburg Construction, Inc. (Whittenburg) and took back and recorded a purchase money deed of trust in October 1978.   During 1979, Santa Cruz Lumber Company (Santa Cruz), Granite Construction Company (Granite Construction), Granite Rock Company (Granite Rock) and The Furnace Room all supplied materials to Whittenburg, which was constructing condominiums on the property.   On December 27, 1979, the Bank made a construction loan to Whittenburg, secured by a deed of trust on the subject property.   Pursuant to a subordination agreement between Western and Whittenburg, Western's deed of trust was subordinated to the Bank's.   However, Whittenburg used half the loan proceeds to pay for materials used on projects not covered by this construction loan.

When Whittenburg failed to pay its suppliers, Santa Cruz filed an action in superior court to foreclose on its mechanic's lien.   It named as defendants Whittenburg, the Bank, Western, Granite Construction, Granite Rock and The Furnace Room.   At approximately the same time, Granite Construction filed a similar action in municipal court, naming the same parties.   Granite Rock and The Furnace Room also filed similar actions in municipal court, but did not name the Bank as a defendant.

Thereafter, pursuant to rule 208 et seq., California Rules of Court, all parties appeared at a pretrial conference in the superior court action, wherein the following order (in part) was made:  “[1] All issues between the parties relative to the amounts and priorities of the encumbrances of the various parties against the subject property are at issue in this proceeding notwithstanding a lack of formal consolidation of pending municipal court actions relative to some of the mechanic's liens.  [¶][2] Each mechanic's lien claimant shall provide photocopies of documents relied upon in asserting each said lien to [counsel for Bank] forthwith.  [¶][3] Counsel for Western Real Estate Exchange, Inc., Bank of America and Whittenburg shall advise counsel for the mechanic's lien claimants no later than 5:00 p.m. on February 17, 1982, whether or not there is an issue as to the amount or enforceability of each such lien and what each such issue is.  [¶][4] Trial briefs, if any there be, shall be delivered to the offices of opposing counsel no later than February 18, 1982.”

The order was approved as to form by all parties;  none objected to the content.

At trial, counsel for Granite Construction, Granite Rock, The Furnace Room, Santa Cruz and Western stipulated to the amounts of their liens.   Entered into evidence was a letter from Granite Construction's attorney to the Bank's attorney sent the week before trial.   It stated:  “This will confirm our conversation this afternoon in regard to the above-referenced matters.   On behalf of your clients, Bank of America and Continental Auxiliary Company, you are not contesting the amounts or enforceability of any of the liens of the mechanic's lien claimants.   Accordingly, you have further agreed that none of these mechanic's lien claimants need produce any witnesses at the trial in this matter.  [¶] Pursuant to your request, I have advised [counsel for Santa Cruz] and [counsel for Granite Rock and The Furnace Room], of the above.”   Copies of this letter were sent to all counsel.   No objections were made regarding the court's authority to determine the priorities of all claims, notwithstanding the lack of formal consolidation of the municipal court actions with the superior court action.

The principal issue at trial was the priority of the liens.   The parties agreed that, but for the subordination clause, Western would have first priority because it recorded first, the mechanic's lien claimants second priority by virtue of Civil Code section 3134 which provides that a mechanic's lien attaches at the time the work begins, and the Bank third, because it recorded after the mechanic's lien claimants had provided materials.   However, the subordination clause created a “circuity of priorities.”   The mechanic's lien claimants were junior to Western, which, because of the subordination agreement, was junior to the Bank.   The Bank, because its deed of trust was recorded after the mechanic's lien claimants had commenced work, was junior to the claimants.

The trial court stated succinctly the dilemma of establishing the priorities.  “Somebody's going to get an advantage over the other two that they didn't bargain for, and there doesn't seem to be any way to—any way to do it where that doesn't happen.”   The court then determined that under the particular facts of this case, the most equitable solution was to give first priority to the mechanic's lien claimants in equal priority, second to the Bank, but only to the amount of its loan actually expended on this specific project, third to Western and fourth to the remainder of the Bank's loan.

As treatise authors in this state have observed, California courts have not formulated a rule by which the kind of circuity present in this case can be broken.  (See, e.g., 2 Miller and Starr, Current Law of California Real Estate (Revised 1977) § 11:175, pp. 246–247;  2 Bowman, Ogden's Rev. Cal. Real Property Law (1975) § 17:36, p. 919.)   Rather, the courts have considered the expectations, knowledge and intention of the parties to arrive at an equitable solution that best represents the benefits of each of their bargains.   (Community Lumber Co. v. Chute (1932) 215 Cal. 268, 272–273, 10 P.2d 57;  Pike v. Tuttle (1971) 18 Cal.App.3d 746, 753, 96 Cal.Rptr. 403;  W.P. Fuller & Co. v. McClure (1920) 48 Cal.App. 185, 197, 191 P. 1027.)

The trial court here took the same approach in apportioning the liens.   It noted that the Bank, when it made the construction loan, knew work had already begun on the project, so “it was really in the best position to protect itself” against mechanics' liens which it knew, absent the effect of the subordination agreement, would unquestionably have priority over its deed of trust.

The court also noted that when a holder of a deed of trust to a parcel of property agrees to subordinate his deed to that of a construction lender, he does so with the understanding that the construction loan will be used to improve the property;  the subordinator will benefit by the subordination agreement because the property will increase in value by the amount of the improvements placed on it.   Western, therefore, expected that all the Bank's loan to Whittenburg would go to improvement of the property described in the deed of trust, thereby enhancing its value by at least the amount of the loan.   In fact, half of the loan proceeds were used by Wittenburg to pay debts to Santa Cruz Lumber which Whittenburg had incurred on projects not covered by this loan.   Consequently, reasoned the court, Western should be subordinate only to the amount of the Bank's loan that was actually used to improve the property.   Western should not be penalized because the Bank failed to supervise Whittenburg's use of the loan.

Also implicit in the court's decision is the fact that Western, the seller, is an experienced and sophisticated real estate developer which has frequently subordinated deeds of trust to those of construction lenders.   Its president, who handled the negotiations of the sale of the property to Whittenberg, lived approximately one and one-half miles from the property during the 1979 construction and “presumed” he was aware the construction was going on at that time.   Therefore, he was on notice at the time Western entered into the subordination agreement of the possibility mechanics' liens had attached to the property.   This knowledge put Western in a position to protect itself against these liens by obtaining consideration for the subordination, seeking indemnification from Whittenburg against the liens, or the like.

 California has a long history of protecting the claims of laborers and materialmen, and the courts have liberally construed the laws insuring that protection.  (Connolly Development Inc. v. Superior Court (1976) 17 Cal.3d 803, 826–827, 132 Cal.Rptr. 477, 553 P.2d 637.)   The courts have also taken a protective attitude toward subordinating sellers because of their vulnerable position.   They have imposed on lenders the obligation of an implied agreement that the lender's priority extends only to the loan amount properly expended for construction purposes.  (Gluskin v. Atlantic Savings & Loan Assn. (1973) 32 Cal.App.3d 307, 314, 108 Cal.Rptr. 318;  Middlebrook-Anderson Co. v. Southwest Sav. & Loan Assn. (1971) 18 Cal.App.3d 1023, 1031–1033, 96 Cal.Rptr. 338.)   The circumstances are subject to such variations that no hard and fast rule can be developed.   Consequently, the trial court has discretion within its equitable powers to set the order of payment.   (Community Lumber Co. v. Chute, supra, 215 Cal. 268, 10 P.2d 57;  Pike v. Tuttle, supra, 18 Cal.App.3d 746, 96 Cal.Rptr. 403.)  “The exercise of the trial court's discretion will be disturbed only for clear abuse [citations];  and if there is any basis upon which its action can be sustained, and it appears that no injustice will result therefrom, [it] should be upheld [citation].”  (Denham v. Superior Court (1970) 2 Cal.3d 557, 564, 86 Cal.Rptr. 65, 468 P.2d 193;  Smith v. Smith (1969) 1 Cal.App.3d 952, 958, 82 Cal.Rptr. 282.)   We find no abuse of discretion by the trial court in assigning the priorities as it did under the particular facts of this case.

We now consider the consolidation issue.   The three municipal court mechanic's lien claimants concede there was never a formal consolidation of their actions with Santa Cruz Lumber's superior court action, nor was the Bank ever named as a defendant in the Granite Rock or The Furnace Room actions.   The latter complaints are not in the record before us.

As outlined earlier, all parties participated in the pretrial conference and approved the form of the resulting order consolidating the actions.   The Bank requested and received debt memorialization from the municipal court claimants following the pretrial conference.

On the first day of trial (February 22, 1982) the Bank stipulated to the amounts of all the mechanics' liens.   It did not then object to the binding nature of the pretrial consolidation stipulation.   The court made rulings on February 22 regarding the priority of the liens.   Trial was then continued to July 15 to determine an issue of attorneys' fees.   Not until the July 15 continuation did the Bank object to the inclusion of the municipal court claims in the superior court action.   The trial court denied the Bank's subsequent motion for new trial, ruling the Bank stipulated during the pretrial conference to consolidate and resolve all outstanding issues in the cases.

 There can be little dispute that these cases provide a textbook example of cases ripe for consolidation.   Each party claims its right to a certain parcel of property is superior to the rights of all other parties to the same property.   The determination of rights is based on common questions of fact.   To have one court at one time determine the priority of these rights is the best method of promoting justice and preventing inconsistent rulings.   It is also the most economical and efficient use not only of the court's time, but also of the attorneys', the parties', and the witnesses'.

Given that consolidation of these cases is appropriate in theory, we conclude that failure to consolidate “by the rules” was not prejudicial to the Bank.   Under California Constitution, article VI, section 13:  “No judgment shall be set aside ․ for any error as to any matter of procedure, unless, after an examination of the entire cause, including the evidence, the court shall be of the opinion that the error complained of has resulted in a miscarriage of justice.”

 By virtue of their participation in the pre-trial conference and their acquiesence in the pre-trial order, we agree with the trial that (1) the parties agreed to have all their claims of priority determined at the same trial and (2) they intended to have the superior court make this determination.   This is further supported by the letter from Granite Construction to the Bank, and also by references made at trial to lengthy telephone conversations several days before trial between counsel for the Bank and counsel for the other parties, wherein the Bank agreed to the amount and entitlement of Granite Rock and The Furnace Room's claims and their entitlement thereto, and that the principal issue at trial to be the priority of claims.   The court was justified, despite a lack of formal consolidation proceedings, in establishing the priority and the amount of each party's claim at the same trial.

 The Bank contends the court's judgment giving all mechanics' lien first priority resulted in substantial injury to it because rather than being junior only to the Santa Cruz Lumber lien of $84,000, it became, by virtue of improper consolidation, junior to an additional $28,000 (the combined claims of Granite Rock, Granite Construction and The Furnace Room).   This injury, it contends, citing article VI, section 13, supra, and Code of Civil Procedure section 475, is sufficiently substantial to constitute a miscarriage of justice.

The Bank was named a party in the superior court action.   It participated in all proceedings without objection, having advised the court it was permissible to resolve all claims at once in this fashion.   It did not raise the consolidation issue until after the court rendered its decision.  “It is a well-established rule in this state that when knowledge of irregularity is known in time to apply to the court to remedy or correct it, a party may not sit by in silence and keep the point in reserve, taking a chance on a favorable [judgment], and after a hostile one, then, for the first time, be heard to complain.  [Citations.]”  (Markaway v. Keesling (1963) 211 Cal.App.2d 607, 611, 27 Cal.Rptr. 583.)

The judgment is affirmed.

HANING, Associate Justice.

LOW, P.J., and KING, J., concur.