Monthly Archives: May 2012

Developing Law on Commercial Mortgage-Backed Securities Loans

By Jennifer A. Lifschitz, Esq.
jlifschitz@pashmanstein.com

Beware of providing a personal guaranty for a seemingly non-recourse commercial mortgage-backed securities (“CMBS”) loan.  A recent opinion by the Court of Appeals of Michigan could potentially have a significant negative effect on guarantors of non-recourse CMBS loans if adopted by other jurisdictions.  The general intent behind CMBS loans is to limit recourse on the loan to the actual property securing the loan, while seeking recourse on the loan from guarantors only after specific and egregious “bad acts” of a borrower. In Wells Fargo Bank, NA v. Cherryland Mall Limited Partnership, the court concluded that a mortgage unambiguously required a borrower to remain solvent in order to maintain its single purpose entity (“SPE”) status. Lenders often require borrowers to maintain SPE status to protect the lender’s collateral from other potential creditors of the borrower. Having admittedly become insolvent due to its failure to make payments on the loan, the borrower violated the SPE requirements of the loan, and Wells Fargo sought repayment on the loan from the guarantor.  This is an issue that should be watched closely in and out of Michigan. As the law continues to develop on this matter, guarantors should be aware of the implications of guaranteeing a seemingly non-recourse CMBS loan and ensure that the terms of any non recourse carve-out guarantees securing such a loan are properly negotiated to protect their interests.

In October 2002, Cherryland obtained an $8.7 million non-recourse CMBS loan using property as collateral. David Schostak, a principal of Cherryland, acted as guarantor of the loan.  Wells Fargo eventually purchased the loan. In 2009, Cherryland failed to make a mortgage payment and Wells Fargo eventually commenced a foreclosure action and was the successful bidder.  There was a deficiency of about $2.1 million.  Wells Fargo filed litigation against Cherryland to enforce the loan documents and added Schostak as a defendant as the guarantor of the loan.  Wells Fargo filed a motion which sought judgment against Schostak as guarantor for the entire loan deficiency based on the fact that Cherryland’s insolvency was a failure to maintain its SPE status.  These actions seemed contrary to the intent of the CMBS loan which was to limit recourse on the loan to the property, absent extenuating “bad acts.”

The court’s willingness to allow a lender to enforce the insolvency requirement of the SPE provisions of a loan and seek repayment from a guarantor for the borrower’s “bad acts” is a troubling development for guarantors of CMBS loans.  In the current economic climate, it is not uncommon for borrowers to miss payments on a loan and be deemed insolvent. Lenders can too easily point to the “bad acts” of the borrower in failing to maintain SPE status and seek repayment from the guarantor for the balance of the loan.

In response to this troubling decision, the Michigan legislature passed the “Nonrecourse Mortgage Loan Act” (the “Act”) on March 29, 2012.  The Act prevents a post closing solvency covenant to be used as the basis for any claim or action against a borrower or any guarantor on a nonrecourse loan and thus invalidates the Cherryland decision discussed above. This is an issue to watch closely and to be aware of before undertaking to act as a guarantor in a CMBS loan.

Federal Appeals Court: Company May Fire HR Director Conducting Investigation; Harassment/Discrimination Policies Not a Defense Where Alleged Harasser is High-Ranking Supervisor

By Andrew M. Moskowitz, Esq.
amoskowitz@pashmanstein.com

Martha Townsend was an office manager and receptionist.  She alleged that, over a near two-year period, Hugh Benjamin, a vice-president, shareholder and husband of shareholder Michelle Benjamin, had sexually harassed her.  On March 17, 2005, Ms. Townsend reported the sexual harassment to the company’s HR Director, Ms. Grey-Allen.  Five days later, the company fired Ms. Grey-Allen, allegedly because she had discussed Ms. Townsend’s allegations with an outside party.  A day after Ms. Grey-Allen’s termination, Ms. Townsend resigned.

In Townsend v. Benjamin Enterprises (2d Cir. May 9, 2012), the Second Circuit Court of Appeals—which covers federal district courts in New York, Connecticut and Vermont—  addressed the above scenario..  The Court held that the HR Director’s initiation of an internal investigation did not constitute participation “in an investigation, proceeding, or hearing” as defined by Title VII of the Civil Rights Act of 1964.  The Court therefore affirmed the dismissal of the HR Director’s claim.

The Towensend Court also addressed when an employer may claim the Faragher/Ellerth affirmative defense.  This defense permits an employer who has not fired, suspended, or demoted an employee to assert as a defense its implementation of appropriate HR policies and the employee’s failure to avail herself of these policies.  The Towensend court held that, where the supervisor holds a sufficiently high position in the organization, the Faragher/Ellerth defense is not available.The Towensend Court noted that Title VII prohibits an employer from retaliating against an individual who has opposed an unlawful practice or who has participated in any manner “in an investigation, proceeding, or hearing.”  The HR Director, Ms. Grey-Allen, had not alleged that she had opposed an unlawful practice.  Instead, she argued that, by conducting an investigation into Ms. Townsend’s allegations of sexual harassment, she had “participated” in an investigation.

Although the U.S. Equal Employment Opportunity Commission (EEOC) had submitted a brief in support of Ms. Townsend’s position, the Towensend Court nevertheless held that participating in an employer’s internal investigation conducted apart from a formal charge with the EEOC was not an “investigation” as defined by Title VII.

The Towensend Court also addressed whether the Faragher/Ellerth affirmative defense remained available when, by virtue of his high position in the organization, Hugh Benjamin, the alleged harasser, functioned as the employer’s “proxy” or “alter ego.”  The Court held that, under such a scenario, this defense was unavailable.  The Court held that the jury did not err in holding that, as the company’s only corporate vice president, second-in-command and shareholder, Mr. Benjamin served as the employer’s proxy or alter ego.

Therefore, under the holding in Towensend, an employee who conducts an internal HR investigation of a claim that is not the subject of a formal charge with the EEOC does not possess a valid retaliation claim under Title VII.  Moreover, pursuant to Towensend, where a supervisor with a sufficiently high position in a company is the alleged harasser, an employer may not claim as a defense that it exercised reasonable care to prevent and correct sexual harassment and that the employee unreasonably failed to take advantage of any preventive or corrective opportunities provided by the employer.

Prenuptial Agreement Basics

By Tadd Yearing, Esq.
tyearing@pashmanstein.com

Previously in this blog, we have touched upon the use of a prenuptial agreement to shelter business interests and alternative legal mechanisms to achieve the same, or similar, results (i.e. shareholder agreements and trusts). However, prenuptial agreements, or colloquially “prenups,” may be appropriate even when there is not a business interest to protect. For people entering into a second or third marriage, and who as the primary breadwinner earn significant income, they may wish to limit their exposure to lengthy, and costly, litigation over alimony. In other instances, the prenup may specifically insulate one spouse from substantial debt either brought into the marriage by the other or anticipated to be incurred by the other sometime during the marriage. In any event, parties should have a basic understanding of how a prenup functions to better understand how it may, or may not, be a worthwhile investment.

Initiating the discussion of a prenup with your fiance’ will force you to confront some potentially difficult questions. This can no doubt chill the heat of a romance. However, parties avoid this discussion to their own detriment and true love should be able to survive the reasonable concerns that a prenup is intended to address. Much of the negative reputation comes from a lack of basic knowledge regarding the intent and mechanics of the process. As with many things, knowledge is power and can allow the parties to broach the subject of a prenup as rational adults.

Obviously the purpose of a prenup is to fix and establish the rights of each spouse as to the division of property and/or support upon death or divorce. In New Jersey, the standards of such agreements and their enforcement are governed by statute (N.J.S.A. 37:2-38). To be valid, a prenuptial agreement must be in writing. As it is a contract, it must also be supported by proper consideration. That is, there must be a bargained for exchange of the terms. It must be entered into voluntarily, without coercion, and the parties must represent their competence to enter into such agreements. Importantly, the statute provides that the parties must each make a full and fair disclosure of assets, liabilities and income. Finally, it is critical that the parties consult with independent legal counsel, or else waive their right to do so in writing. Once these requirements are met, it is difficult to set aside the agreement, whether in part or in its entirety, though it is possible per the statute. (See N.J.S.A. 37:2-38 (a) – (c)).

The results of prenuptial agreements when put into effect can be far reaching. But people are marrying later in life after having already established careers and accumulated sometimes significant asset portfolios.  Since it is good planning, and with a desire to limit costs of divorce, there is no reason that prenuptial agreements should become more commonplace and lose some of the negative connotations that it invokes.

Don’t Forget About State Estate or Inheritance Tax

By Joseph Goldman, Esq.
jgoldman@pashmanstein.com

As most of you already know, the federal estate tax exemption in 2012 is $5,120,000, an all time high.  The exemption is currently scheduled to return to $1 million (and the tax rate scheduled to increase to 55% from 35%) on January 1, 2013 if no new legislation is enacted.

In a previous blog, I urged taxpayers to take advantage of this unique opportunity by making gifts prior to year end. Gifting can be especially effective when the asset gifted is a limited partnership interest or a membership interest in an LLC which allow taxpayers to take advantage of recognized discounts for lack of marketability and lack of control. Also, if the gift is made to a Grantor Retained Annuity Trust or Qualified Personal Residence Trust, it allows a taxpayer to take into account the value of the retained interest, thereby reducing the amount of the gift.

Strategies designed to reduce a taxpayer’s estate can often result in estate tax savings even when a taxpayer’s estate is under the federal estate tax exemption.  This is because many states have “decoupled” their own estate tax rules from the federal estate tax.  In New Jersey, the estate tax exemption is currently only $675,000.  In New York, it is currently $1 million.  Although a married taxpayer is generally able to defer the estate tax on account of the marital deduction, an unmarried individual or a surviving spouse who dies in 2012 with a taxable estate of $5,120,000 could pay a state estate tax in New Jersey or New York that exceeds $400,000. Additionally, New Jersey imposes an inheritance tax on transfers to someone other than a surviving spouse or lineal descendant, even if no New Jersey estate tax is due.

As a further inconvenience, New York requires a federal estate tax return to be prepared in order to calculate the New York estate tax return even if no federal return is required.  New Jersey requires a 2001 federal estate tax return in order to calculate the New Jersey estate tax using the “706” method (as an alternative to the simplified method).

Additionally, although under current law “portability” allows a surviving spouse to benefit from a predeceased spouse’s unused estate tax exclusion, neither New Jersey nor New York permit “portability” for state estate tax purposes.

So what can you do to reduce your state estate tax liability?  You could move to another state, one that doesn’t have an estate tax, like Florida.  But you have to be careful to sever your ties to New Jersey or New York or they can claim that you’re still “domiciled” here and subject to estate tax.  And if you continue to own real estate or other tangible property in New Jersey or New York you will be subject to estate tax on that property even if you don’t live here anymore.

Perhaps a better way to avoid or at least minimize state estate tax brings us back to gifting.  Neither New Jersey nor New York currently impose a gift tax.  In these states, you can even make a “death-bed” gift and drastically reduce your New Jersey or New York estate tax.  New Jersey does have a look-back period for inheritance tax purposes, but it doesn’t affect a gift to a spouse or lineal descendant.

New Jersey and New York residents should be conscious of state estate tax consequences and not just federal estate tax consequences when considering their estate plans.  The gifting strategies touted for 2012 for federal estate tax purposes can also result in significant state estate (and inheritance) tax savings.

January 1, 2013 will be here before you know it.  So get to gifting now!

Grandparent Custody and Visitation Rights

By Tadd Yearing, Esq.
tyearing@pashmanstein.com

We often field calls from grandparents who have been denied access to their grandchildren, and who feel that they are unfairly being left out of their grandchildren’s lives.  This sadly arises commonly when the grandparent’s own child, the mother or father of the child has died, and for various reasons the remaining parent has chosen not to permit continued contact with the grandchildren. In some situations, both parents are alive and well and have had a falling out with one or both sets of grandparents where once there was a relationship. This can no doubt be difficult for the grandparents, especially those also grieving the loss of their own child. Where the mother and father are divorced and the grandparent’s child dies, the legal bond creating the “family” as such is not even present, and there is oftentimes acrimony between grandparents and their former in-law arising out of the divorce.

What about the rights of grandparents to see their grandchildren? What about the right of fit parents to raise their children as they deem appropriate?  The right of a grandparent to petition for visitation is codified under N.J.S.A. 9:2-7.1. The statute sets forth eight factors for courts to consider in assessing applications for grandparents to have access to the grandchildren. The procedure by which courts are to apply the above statute was detailed in the seminal case of Moriarty v. Bradt, 177 N.J. 84 (2003). In that case, our Supreme Court noted that, though parental autonomy is a fundamental right deeply embedded in the American culture, in certain instances, pursuant to the state’s parens patriae power, that right can, and will, be encroached upon. Id. at 101, 114-115. The polestar, however, is harm to the child should visitation be denied. It is not, as many often confuse it, alleged harm to the grandparent at having been denied access to the grandchildren. This is a critical distinction fundamental to any application for grandparent visitation.

In Moriarty, the court took special note of the trial court’s findings relating to the relationship of the grandparents with the child. The court highlighted specifically the fact that the relationship between the grandparents and the children was extensive and significant. Moreover, the maintenance of this relationship was found to be critically important given the mother’s recent death. Contact with the grandparents was found to provide a link to the children’s mother and that branch of their family. Id. at 119. Significant as well was the attention by the court to expert testimony from a psychologist who found that the visitation plan proffered would effectively allow alienation of the mother’s family by the father. The therapist went on to point out that given the father’s overt hostility toward the grandparents, successful alienation of the children would result in psychological harm to them. Id. at 121-122.

Moriarty made clear the fact that any successful application for grandparent visitation rests on the ability to articulate specific harms to the children. Moreover, these harms need to be able to be proven through the evidence presented at the hearing. Subsequent cases have reinforced and further delineated just what kind of showing must be made, as the ability to articulate an identifiable harm to the child is paramount to justify interference with a parent’s fundamental due process rights.  See Rente v. Rente, 390 N.J. Super. 487 (App. Div. 2007); Mizrahi v. Canon, 375 N.J. Super. 221, 234 (App. Div. 2005) (noting that, “Conclusory, generic items … are not a sufficient basis to warrant such an intrusion into a parent’s decision making.”).

In practical terms, a grandparent who has been the caretaker of a child or who has stood in locus parentiat some point prior to being denied visitation with the child is in the best position to establish the kind of bond that, if removed, could cause harm to that child. Unfortunately, most grandparents do not fit this mold. And while there is no doubt that they love and care for their grandchildren, these less involved relationships are not generally of a quality satisfying the burden to trump a parent’s presumptive right to raise their child as they see fit, including to whom the children have access.

Purchasing Distressed Assets

By Scott R. Lippert, Esq.
slippert@pashmanstein.com

Those of us who remember the 1987 stock market crash and its subsequent and long-lasting effect on an over-heated real estate market are starting to see some of the same signs of recovery that we began to see in the early 90’s.  One of those signs is the emergence of the entrepreneurial men and women who are willing to risk private capital to purchase distressed assets and turn them around.  In the commercial real estate arena, this frequently means purchasing the loans affecting over-leveraged properties at a substantial discount from the institutional lenders who would rather not engage in the workout/foreclosure/bankruptcy process that must occur in order to displace the defaulting ownership and acquire title.  It can be a difficult process, but a necessary one, creating an opportunity for substantial profits.

It goes without saying that there are risks accompanying those potential rewards, chief among them evaluating the purchase price.  To mitigate those risks, all of the due diligence that is standard to any acquisition must be performed, while having to work around an ownership that may be hostile to your presence.  In deciding how much to pay to acquire the loan, the careful purchaser will factor in the time and expense of ultimately obtaining title, whether by judicial process or by voluntary agreement of the debtor.

One of the ways to obtain title quickly is by having the debtor deliver a deed in lieu of foreclosure.  However, the New Jersey Division of Taxation has placed an obstacle in the way of completing such a transaction.

The Bulk Sales Act applies to transfers of interests in real estate and the Division requires the seller to place funds in escrow to secure payout of state taxes.  Of course, where a debtor is giving a deed in lieu of foreclosure, the likelihood is that the debtor will not be able to comply with this requirement.  After all, if the debtor had cash on hand, it probably would not be in default in the first place.  The same issue would apply if a lender agrees to permit a short sale.  The escrow requirement does not apply to a sheriff’s deed, so in these circumstances, completing a foreclosure may be the only way to obtain title.

The current marketplace affords many opportunities to acquire mortgage debt at substantial discounts.  This little nuance concerning bulk sales compliance is but one of many potential bumps in the road.  Careful execution of the transaction is essential.

What’s an Advisory Board? And Does Your Business Need One?

By Louis Pashman, Esq.
lpashman@pashmanstein.com

An advisory board is a group of professional and business people who meet as a board to review the activities of a business and offer their perspective and constructive ideas.

Who should lead the board? The leader can be the business owner or another individual. The board should have about five to nine members and should represent a cross-section of people with different skills and expertise, demographics, and geographic location. In many instances, the boards also include individuals from similar businesses who operate in a different part of the country. Usually, employees should not be on the board, although at times one or more might attend a meeting to discuss a specific issue.

Once a business owner chooses the members of  the board and has personally invited those individuals to join, each member should be given a letter appointing him.  The letter should address issues such as compensation, term of service and expectations. Each member should agree to confidentiality and non-interference in the business’ relationships with its employees, customers and vendors. Since the business owner will want the members to view this position seriously, members should be compensated for their board job, even if the compensation is intended only to cover expenses.  No member should ever have to be out of pocket in order to serve.  Each member should serve a term of one to three years and the terms should be staggered.

Now that the board is assembled and members have accepted the invitation, meetings need to be carefully planned and scheduled. Meeting in-house is a good idea if the facility is appropriate.  If it is not, business owners must think through travel arrangements, food service, availability of audio-visual equipment, etc. before settling on a location.

Remember, no board member will have accepted the board position for the money, so the members should benefit from the experience as well.  It is a networking opportunity for them.  Businesses should show their appreciation by seriously considering their suggestions and advice and be sure to follow up with them. There are many other details before a board is formed and implemented. Business owners should discuss this with their professional advisors (attorney and accountant).