Article

Factual Summary:

In order to finance the development of a hotel, the developer applied for the issuance of a standby credit in favor of the bank financing the project. As security for the letter of credit, the issuer required the applicant to grant a subordinate lien mortgage on his residence. Prior to the issuance of the credit, the applicant had transferred his residence to his wife pursuant to a settlement agreement in connection with their divorce. Upon signing the documents in connection with the transaction, the applicant signed his wife's name on the mortgage without her consent.

The beneficiary made presentation under the credit and was paid. Subsequently, after the applicant filed for bankruptcy, the issuer obtained a default judgment for the amount due under the reimburse-ment agreement, including interest, attorney's fees and costs. The issuer never recovered the amount awarded in the default judgment, and brought this action to determine whether the applicant is entitled to discharge that debt under federal bankruptcy law in view of his action in forging his former wife's signature.


Legal Analysis:

The issuer contended that the debt owed by the applicant was not dischargeable because the transfer was fraudulent since the first mortgage prohibited the applicant from transferring it without his wife's consent, which he did not obtain; and because the applicant signed his wife's signature without her consent.

1. Reimbursement: Fraudulent Transfer of Collateral: The issuer argued that the applicant's transfer of his interest in the property was fraudulent because he did not obtain his wife's consent to the transfer, as required by the first mortgage on the property. The court did not agree. The court did not discuss this issue at length. It did note, however, that the issuer testified that it had never invoked such a provision in connection with other transactions. The court opined that the consent requirement was not intended to preclude a transfer pursuant to a divorce property settlement and, therefore, the transfer was not fraudulent for lack of consent.

2. Application: Unauthorized Signature: The issuer also argued that the transfer was fraudulent because the applicant signed his wife's signature without her consent. Under 11 U.S.C. - 523(a)(2)(A), a debt is not dischargeable if the debtor (the applicant) knowingly made a false statement with the intent to deceive the creditor (the issuer) and upon which the creditor relied to its detriment. The parties did not dispute that the applicant knowingly forged his wife's signature, thereby causing the issuer to believe that his wife knew of and consented to the transfer. The issuer suffered damages because it paid on the letter of credit and did not obtain reimbursement from the applicant. Therefore, the only outstanding issue was whether the issuer justifiably relied on the applicant's signature.

The court noted that justification of reliance is a "matter of the qualities and characteristics of the plaintiff, and the circumstances of the particular case, rather that the application of a community standard." In re Gallo at 759 (quoting Field v. Mans, 516 U.S. 59, 71 (1995)) (citations omitted). The court also noted that the issuer failed to follow its own procedures in connection with the transaction at issue. Specifically, it failed to search the title records in connection with the mortgaged property in order to determine the validity and value of the applicant's interest in the property. In addition, the issuer failed to produce a witness that could attest to either the applicant's signature or his wife's signature on the documents. The court found, therefore, that the issuer had no basis for believing that the applicant's wife had signed the documents, and that it assumed the risk that the property was worthless on the ground that it failed to conduct a title search.

The court further stated that it did not condone the applicant's conduct, but that under law it was compelled to find that the issuer could not have justifiably relied on the documents involved in the transaction regarding the applicant's ownership interest on the mortgaged property. Therefore, the court held that the debt owed by the applicant was discharged.

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The views expressed in this Case Summary are those of the Institute of International Banking Law and Practice and not necessarily those of ICC or the other partners in DC-PRO.