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Issue  156  Article  262
Published:  7/1/2008

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COA Decides Consideration Issue
Chris Burti, Vice President and Legal Counsel

Branch Banking and Trust Company, v. Morrison, COA08-12, filed on June 17, 2008

This appeal arises from a summary judgment order in favor of Branch Banking and Trust Company (“BB& T”) entered by the Hoke County Superior Court. Judge Tyson penned the opinion of the Court of Appeals affirming the judgment of the trial court.

BB& T filed a complaint 2007 that alleged that the defendants and others individuals had defaulted on certain loan guaranty agreements.  After responsive pleadings had been filed in the action, BB& T moved for summary judgment. Among other issues raised by the defendants, they also filed a motion to dismiss alleging that the guaranty agreements were void due to lack of consideration. The trial court ruled against the defendants and determined “that there is no genuine issue as to any material fact and that [BB& T] is entitled to judgment in its favor as a matter of law.”

As the Court of Appeals noted in its opinion, the defendants argued that the trial court improperly granted BB&T's motion for summary judgment because; “there were genuine issues of material fact as to whether the [p]romissory [n]ote constituted a pre-existing debt and whether the [g]uarant[y] [agreements] were want [sic] of consideration.”  The court analyzed the existing case law in the issue and disposed of this notion by observing that:

“It is well-settled law in this State that in order for a contract to be enforceable it must be supported by consideration. A mere promise, without more, is unenforceable.” Investment Properties v. Norburn, 281 N.C. 191, 195, 188 S.E.2d 342, 345 (1972) (citation omitted). “It is unnecessary that the consideration be full or adequate. Any legal consideration will be sufficient to support the guaranty.” Gillespie v. DeWitt, 53 N.C. App. 252, 259, 280 S.E.2d 736, 742 (citing Cowan v. Roberts, 134 N.C. 415, 46 S.E. 979 (1904)), cert. denied, 304 N.C. 390, 285 S.E.2d 832 (1981).

“When the guaranty contract is shown to have been executed as a part of a transaction which created the guaranteed debt, it is not essential to recovery on the guaranty that the guaranty shall have been supported by consideration other than the principal debt. The extension of credit by the obligee under the guaranty contract supplies consideration for both the principal debt and the guaranty. . . . When the guaranty is independent of the transaction in which the principal debt was created, it should be supported by consideration which is independent of the principal debt.
Id. at 260, 280 S.E.2d at 742 (citing 38 Am. Jur. 2d Guaranty §§ 44, 45 (1968)).”

“Although the guaranty promise may have been made at a time subsequent to the creation of the principal obligation, the guaranty promise is founded upon a consideration if the promise was given as the result of previous arrangement, the principal obligation having been induced by or created on the faith of the guaranty.

38 Am. Jur. 2d Guaranty § 43 (1999) (citation omitted) (emphasis supplied).”

The Court in reviewing the controlling law with respect to review of a contested Summary Judgment Order and the record on appeal in this case, determined that it was clear that the guaranty agreements were executed as a part of the transaction creating the debt guaranteed by the defendants, that there were, in fact, no material factual issues in dispute and ruled that the trial court correctly granted BB&T's motion for summary judgment.

The issue of adequacy of consideration is also frequently raised in the context of analyzing the validity of a hypothecation of real estate owned by one party in a deed of trust securing the loan of another party.  Since the validity and enforceability of such a deed of trust can be called into question, this issue should be of concern to attorneys certifying title in such transactions. This concern warrants a fuller discussion of the cases touching on the adequacy of consideration in the most significant areas of concern with respect to hypothecated property.

In the opinion In the Matter of the Foreclosure of the deed of trust of Enderle, 110 N.C. App. 773, (1993) the Court of Appeals  stated: “A ‘“mortgage to secure the debt of a third person, the mortgagor being subject to no obligation, is clearly valid.”’ Grant S. Nelson & Dale A. Whitman, Real Estate Finance Law § 2.1 (2d ed. 1985) (citation omitted); 9 George W. Thompson, Commentaries on The Modern Law of Real Property § 4776 (John S. Grimes ed. 1958) (mortgage valid without personal liability on part of mortgagor); 59 C.J.S. Mortgages § 90 (1949) (benefit to third party can constitute consideration for mortgage and ‘[h]ence, the debt may be the debt of another and the consideration . . . may consist [of] a loan to a third person’ (footnotes omitted)); 55 Am. Jur. 2d Mortgages § 146 (1971) (‘[m]ortgages may be executed to secure the obligations of third persons’ and ‘[a]n undertaking . . . to be personally responsible for the payment of the debt of the third person is not essential to the validity’ (footnotes omitted)).”

Thus, standing alone, hypothecations are generally deemed to be valid in North Carolina as being supported by adequate consideration in the making of the loan itself. The problems that can arise in this regard and where the general rule will not apply will be in hypothecation transactions involving fiduciary relationships between the parties which can subsequently present serious traps for the unwary. Hypothecation in a transaction where the borrower is in a fiduciary relationship with the owner of property that is proposed to be encumbered by the deed of trust securing the debt will usually give rise to a presumption that the transaction is improper if the hypothecation is being done to secure the fiduciary’s personal obligation and for which the principal will receive no recognizable benefit. This will appear most commonly in the context of transactions involving corporations, trusts, powers of attorney and, while not strictly fiduciary, property of older relatives arguably having diminished capacity.

An officer of a corporation is a fiduciary with respect to the property of the corporation and is not authorized to  engage in self dealing with respect to such property without the consent of all of the corporation’s shareholders and, arguably, its creditors. Where we see the question give rise to most serious concern is in situations where a closely held corporation is executing a deed of trust encumbering corporate property for a personal obligation of one, but not all, of the shareholders. Any self dealing in this respect creates a presumption of impropriety and this is codified in N.C.G.S. Section 47-18.3(a) where the presumption of regularity in the execution of conveyance by the appropriate corporate officer is reversed. The statute provides “…such an instrument shall be as valid with respect to the rights of innocent third parties as if executed pursuant to authorization from the board of directors, unless the instrument reveals on its face a potential breach of fiduciary obligation.” This statutory provision is merely a codification of the existing common law and one has to be cognizant of these issues when dealing with closely held corporations. Because these transactions have been held to be ultra vires when contested by other shareholders or creditors of the corporation it is crucial to ensure that they are being done pursuant to proper authority. It is also important to distinguish the reverse situation where the property owned by individual shareholders is hypothecated for the debts of the corporation. In these situations the loan is clearly proper under the doctrines discussed above and will constitute adequate consideration supporting the hypothecation.

Obviously, the trustee holding title to property in trust for another is a fiduciary and encumbering the trust corpus to secure a personal obligation of the trustee will be held to be self dealing by the trustee. Traditional doctrine holds that the consequences of a trustee’s self dealing in a loan context a deed of trust will lead to invalidation of the lender’s Deed of Trust when properly challenged. The decision in Moretz Jr. v. Miller Jr., 126 N.C. App. 514, 486 S.E.2d 85 (1997) is one of the few North Carolina opinions that discusses this issue and it is significant to note that the self-dealing in this case was deemed by the court to be known by the lender by virtue of the character of the loan.

This caution should not be construed as suggesting that all self dealing by a trustee is prohibited in North Carolina. N.C.G.S. Section 36C‑6‑603(a) provides that while “a trust is revocable, rights of the beneficiaries are subject to the control of, and the duties of the trustee are owed exclusively to, the settlor.” In such trusts where the trustee is the settlor, “the trustee's actions are presumed to be taken at the direction of the settlor.” Thus is it is clear that the settlor/trustee of a revocable trust is permitted to engage in self dealing and special documentation is not required in this respect. This should be considered perfectly logical. As the settlor retains the power to revoke and amend it would be needless to require ritualistic formalities to undertake matters involving the settlor’s trust property while holding those powers. There is also adequate statutory authority in the North Carolina Uniform Trust Code for the trustee to hypothecate the trust corpus for the benefit of the trust beneficiary. Unless the trust instrument specifically limits the trustee’s authority, N.C.G.S. Section 36C‑8‑816 expressly grants the following powers.

(18)     Make loans out of trust property, including loans to a beneficiary on terms and conditions the trustee considers to be fair and reasonable under the circumstances, and acquire a lien on future distributions for repayment of those loans;

(19)     Pledge trust property to guarantee loans made by others to any beneficiary;

(19a)   Guarantee loans made by others to any beneficiary;

(19b)   Pledge trust property to guarantee loans made by others to any proprietorship, partnership, limited liability company, business trust, corporation, venture, agricultural operation, or other form of business or enterprise in which the trust or any beneficiary has an ownership interest.

(19c)   Guarantee loans made by others to a proprietorship, partnership, limited liability company, business trust, corporation, venture, agricultural operation, or other form of business or enterprise in which the trust or any beneficiary has an ownership interest.

Powers of attorney are less likely to be as much of an issue as they previously were as a result of the North Carolina Supreme Court opinion in Whitford v. Gaskill, 345 N.C. 475, 480 S.E.2d 690, 692 (1997). In that decision our Supreme Court confirmed the North Carolina Court of Appeals’ determination that "an attorney-in-fact acting pursuant to a broad general power of attorney lacks the authority to make a gift of the principal's real property unless that power is expressly conferred . . . ." In its rationale, the Court noted that jurisdictions considering the issue has almost universally held so and further observed that the majority rule is predicated on the premise that "an attorney-in-fact is presumed to act in the best interests of the principal" and because the power to make a gift of the principal's property is potentially adverse to the principal, "such power will not be lightly inferred from broad grants of power contained in a general power of attorney." Much like making a gift of the principal’s property, hypothecating that property to secure the agent’s personal loan will facially breach the fiduciary duty and under these principles it is clear that a deed of trust may be set aside as set out in Estate of Graham v. Morrison, 168 N.C. App. 63, 73, 607 S.E.2d 295, 302 (2005) if there is insufficient benefit to the principal. This is, obviously, a question of the adequacy of consideration for the hypothecation.

As we alluded to above, a family member dealing with elderly relatives may not necessarily entail a fiduciary relationship. None the less, when courts are asked to set aside a transaction due to allegations of coercion or undue influence they will first analyze the situation to determine if there is relationship of special trust and confidence between the parties that invokes quasi-fiduciary responsibilities. The standards of conduct are higher when such a relationship is found. When property of an elderly person allegedly suffering from diminished capacity is hypothecated for the debt of the person in whom the trust is reposed, it will be most likely challenged at a point where the owner is unable to testify as to the facts. Thus, it is incumbent on closing attorneys to satisfy themselves that there is adequate consideration as well as legal capacity if and when the issues of this type of transaction come to light before closing.

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