Court Prevents Lender from Collecting on Insurance Proceeds After Full Credit Bid

In Najah v. Scottsdale Insurance Company, a California Appellate Court held that a lender’s full credit bid at a foreclosure sale barred it from subsequent recovery for pre-foreclosure damage to the property. In Najah, plaintiff sold a commercial property to Orange Crest Realty Corp. Orange Crest made a partial payment by borrowing approximately $10,000,000 from a third party. The loan was secured by a first deed of trust. The sellers took back a promissory note secured by a second deed of trust for an additional $2.55 million. Plaintiff subsequently purchased the first deed of trust to prevent the lender from foreclosing. Upon visiting the property, they discovered at least $500,000 in damage to the building that occupied the site. They submitted a claim to Scottsdale Insurance Company, which had issued insurance for the property. Six months later, plaintiffs foreclosed on the second deed of trust. At the foreclosure sale, they acquired the property themselves by bidding the full amount of the unpaid debt on the second promissory note, including interest fees and the costs of foreclosure. They later sued Scottsdale for failing to pay their damage claim. The case was tried before a court, which rendered a verdict in favor of Scottsdale. Plaintiffs appealed and the court of appeals affirmed.

The court of appeals held that under a full credit bid, a lender obtains a property at a foreclosure sale by bidding an amount equal to the unpaid debt. By doing so, it is later precluded from claiming that the property was worth less than its bid. According to the court, this rule serves to protect the integrity of the foreclosure process. The purpose of the auction is to resolve the question of value through the competitive bidding system.

Shannon B. Jones, Partner, sbj@sbj-law.com