Last month I discussed how a mistake in a Contract can
destroy it. This month I present Part Two.
On December 15, 2008, David Duckworth borrowed $1.1 million
from the State Bank of Toulon. The bank’s loan officer prepared loan docs.
The Note was dated and signed December 15, 2008, but the
Security Agreement was dated two days earlier – December 13, 2008. The Note
referenced the Security Agreement. But the Security Agreement had a critical
mistake. It stated that it secured a Note dated December 13, 2008. Not December
15, 2008.
There was no Note dated December 13, 2008.
David Duckworth filed a Chapter 7 bankruptcy petition, and
the Trustee defended the Bank’s position that the mistaken date did not defeat
the Bank’s secured position. The bankruptcy court issued two decisions in favor
of the Bank, essentially validating the Bank’s collateral position.
The Trustee appealed both decisions to the US District
Court, where the appeals were assigned to different judges. Both district
judges affirmed, and the Trustee again appealed.
The Trustee’s basic argument was that extrinsic testimony
(we call this “parol evidence”) should not used to correct the mistake in the
Security Agreement. And that the Bank’s error should not be overlooked.
The Bank claimed an enforceable security interest, and even
if there was a mistake it was readily apparent to anyone who had reviewed the
papers. And, that it was a minor error. Also, that there was no question but
that the Bank had loaned Duckworth $1.1 million, Duckworth had signed a Note
and Security Agreement, Duckworth had defaulted and filed bankruptcy, and the
Bank needed to seize its collateral under its Security Agreement.
The US Court of Appeals reviewed the Security Agreement and
concluded that the Security Agreement could not secure the December 15 Note.
The Court then further concluded that although the parol evidence rule could
have fixed the mistake as between the Bank and Duckworth, the same legal theory
could not be used against the bankruptcy trustee to correct the error.
The Appellate Court reasoned that bankruptcy trustees are in
the unique position of maximizing the recovery of unsecured creditors. To
assist in the job, trustees exercise a “strong-arm power,” which allows them to
avoid secured interests that a subsequent creditor could have avoided.
Further, bankruptcy trustees
may “. . . void security interests because of defects that need not have
misled, or even have been capable of misleading, anyone.”
And so the US Appellate Court determined that the mistaken
identification of the debt to be secured cannot be corrected against the US
bankruptcy trustee by using outside-the-contract testimony or evidence. The
judgments of both US District Courts were reversed. The Trustee wins as the
debt is converted from secured to unsecured; the Bank loses its collateral.
See In Re: David L. Duckworth; State Bank of Toulon v.
Charles E. Covey, Trustee; No. 1:13-cv-01258-JBM and 1:13-cv-01087-JES; US
Court of Appeals, 7th Circuit; November 21, 2014.
Lessons learned:
1. Proofread
your Leases, Contracts, correspondence, emails, texts, listings, buyer and
tenant rep agreements, brokerage contracts, commission agreements, everything.
Read it all closely. Then wait at least one hour before you read it again.
2. Catch a
mistake somewhere, even a minor one? Fix it now via an Amendment. If the
previous doc was recorded (think Deed, Memo of Lease, Deed of Trust, etc.),
then be sure the Amendment is also recorded.
3. Practice
Point: On the really important stuff, enlist the help of a buddy to proofread
too.
Reprinted with the permission of North Texas Commercial Association of REALTORS®, Inc.
