Dm Residential Fund II v. First Tennessee Bank , 813 F.3d 876 ( 2015 )

FOR PUBLICATION
UNITED STATES COURT OF APPEALS
FOR THE NINTH CIRCUIT
DM RESIDENTIAL FUND II, LLC, No. 13-56309
Plaintiff-Appellant,
D.C. No.
v. 2:12-cv-02707-
MWF-FMO
FIRST TENNESSEE BANK NATIONAL
ASSOCIATION,
Defendant-Appellee. OPINION
Appeal from the United States District Court
for the Central District of California
Michael W. Fitzgerald, District Judge, Presiding
Argued and Submitted
October 22, 2015—Pasadena, California
Filed December 30, 2015
Before: Alex Kozinski, Sandra S. Ikuta,
and John B. Owens, Circuit Judges.
Opinion by Judge Ikuta;
Dissent by Judge Kozinski
2 DM RESIDENTIAL FUND V. FIRST TENNESSEE BANK
SUMMARY*
Rescission
The panel affirmed the district court’s grant of summary
judgment in favor of First Tennessee Bank National
Association (FTB) in an action brought by DM Residential
Fund II, LLC, seeking to rescind its purchase of real property
on the basis that the seller failed to disclose a defect.
FTB initiated a nonjudicial foreclosure on residential real
property and sold the property at a foreclosure sale to DM.
The property lacked a utilities easement to provide electrical
services to the new home and also lacked a certificate of
occupancy. DM discovered the utilities easement issue
shortly after buying the property, but did not bring this
diversity action until two years later, seeking to rescind the
purchase.
The panel held that there was a genuine issue of material
fact as to whether DM could have discovered the defect prior
to the foreclosure. The panel also held nevertheless that the
district court did not err in concluding on summary judgment
that DM was not entitled to the equitable remedy of rescission
because a party seeking rescission must do so “promptly upon
discovering the facts upon discovering the facts which entitle
him to rescind.” Cal. Civ. Code § 1691. The panel also held
that there was no genuine issue of material fact that DM was
put on inquiry of wrongdoing at the time it discovered the
lack of electricity at the residence shortly after the purchase,
*
This summary constitutes no part of the opinion of the court. It has
been prepared by court staff for the convenience of the reader.
DM RESIDENTIAL FUND V. FIRST TENNESSEE BANK 3
and therefore it was deemed to know all facts that could be
discovered from a reasonable investigation. The panel further
held that DM, instead of investigating and pursuing its
claims, took actions inconsistent with unwinding the contract,
and by taking those actions and waiting two years before
suing FTB, DM affirmed the transaction and lost its right to
rescind.
The panel concluded that FTB was entitled to summary
judgment because there was no genuine issue of material fact
that DM’s two-year delay in bringing suit deprived it of the
equitable remedy of rescission under California law.
Dissenting, Judge Kozinski would hold that DM raised a
genuine issue of material fact regarding whether it was
wronged by FTB, and FTB was not entitled to prevail on its
defenses and not entitled to summary judgment. He would
certify the issue for consideration by the California Supreme
Court.
4 DM RESIDENTIAL FUND V. FIRST TENNESSEE BANK
COUNSEL
Harris L. Cohen, (argued) Harris L. Cohen, A Professional
Corporation, Encino, California; Elkanah J. Burns, Alan D.
Wilner, A Professional Corporation, Burbank, California, for
Plaintiff-Appellant.
Keith A. Attlesey (argued) and Suzanne S. Storm, Attlesey
Storm, LLP, Tustin, California, for Defendant-Appellee.
OPINION
IKUTA, Circuit Judge:
DM Residential Fund II, LLC, (DM) appeals the district
court’s grant of summary judgment in favor of First
Tennessee Bank National Association (FTB). We have
jurisdiction under 28 U.S.C. § 1291, and we affirm.
FTB initiated a nonjudicial foreclosure on residential real
property and sold the property at a foreclosure sale to DM.
The property lacked a utilities easement needed to provide
electrical service to the new home that had been constructed
on the property and also lacked a certificate of occupancy.
DM discovered the utilities easement issue shortly after
buying the property and brought this diversity action two
years later, seeking to rescind the transaction on the basis of
FTB’s failure to disclose the defect.
A jury could have reasonably concluded that DM could
not have discovered the utility easement issue prior to the
foreclosure sale based on evidence in the record that:
(1) DM’s pre-foreclosure due diligence exceeded industry
DM RESIDENTIAL FUND V. FIRST TENNESSEE BANK 5
standards; and (2) it was reasonable for DM not to seek the
certificate of occupancy for this property because
construction of the residence appeared to be completed in
2007 and the City of Whittier did not require certificates of
occupancy for residences built before 2010. Therefore, there
was a genuine issue of material fact as to whether DM could
have discovered the defect prior to the foreclosure sale, which
is the relevant inquiry under Karoutas v. HomeFed Bank,
232 Cal. App. 3d 767, 771 (1991).
Nevertheless, the district court did not err in concluding
on summary judgment that DM is not entitled to the equitable
remedy of rescission. A party seeking rescission must do so
“promptly upon discovering the facts which entitle him to
rescind.” Cal. Civ. Code § 1691.1 It is undisputed that DM
paid over $624,000 for a residence and shortly thereafter
discovered that it did not have electricity and could not obtain
it (absent the purchase of an additional easement). Under
these circumstances, a reasonable person would be put on
inquiry as to whether there had been some wrongdoing in the
sale of the residence, at which point a duty to investigate the
wrongdoing arises. See Bancroft v. Woodward, 183 Cal. 99,
108 (1920); see also Jolly v. Eli Lilly & Co., 44 Cal. 3d 1103,
1112 (1988) (granting summary judgment). FTB’s status as
a foreclosing lender does not alter this conclusion, because a
foreclosing lender has the same duties of disclosure regarding
the property as any other seller. See Karoutas, 232 Cal. App.
3d at 771. There is thus no genuine issue of material fact that
DM was put on inquiry of wrongdoing at the time it
1
Contrary to the dissent’s argument, Dis. op. at 7–8, the phrase
“promptly upon discovering the facts which entitled him to rescind” in
section 1691 of the California Civil Code remained unchanged when the
statute was amended in 1961.
6 DM RESIDENTIAL FUND V. FIRST TENNESSEE BANK
discovered the lack of electricity, and therefore is deemed to
know all facts that could be discovered from a reasonable
investigation. Fox v. Ethicon Endo-Surgery, Inc., 35 Cal. 4th
797, 808–09 (2005). FTB presented evidence that when DM
contacted Cynthia Huerta, she informed DM that FTB knew
of the material defect at the time of the foreclosure sale. As
DM presented no evidence that would allow a trier of fact to
conclude that it would not have been able to discover the
facts supporting its right to rescind at the time it discovered
the defect in the residence, there is no question of material
fact on this issue. Id.
Instead of investigating and pursuing its claims, DM took
actions inconsistent with unwinding the contract, including
encumbering the property, building improvements, and
attempting to sell it. By taking those actions and waiting two
years before suing FTB, DM affirmed the transaction, and its
“right to rescind it is gone.” Bancroft, 183 Cal. at 111; see
also Neet v. Holmes, 25 Cal. 2d 447, 458 (1944). Because
there is no genuine issue of material fact as to whether DM’s
two-year delay deprived it of the equitable remedy of
rescission, FTB is entitled to summary judgment on that
issue.2
AFFIRMED.
2
DM does not pursue its theories for recovery of damages on appeal,
and so we do not address them here.
DM RESIDENTIAL FUND V. FIRST TENNESSEE BANK 7
KOZINSKI, Circuit Judge, dissenting:
I agree with the majority that DM was entitled to go to the
jury with its claim that it couldn’t have discovered the hidden
defect prior to buying the property. Maj. at 4–5. Moreover,
as the majority correctly notes, FTB was bound to disclose
the hidden defect of which it was aware at the time of the sale
“because a foreclosing lender has the same duties of
disclosure regarding the property as any other seller.” Id. at
5 (citing Karoutas v. HomeFed Bank, 232 Cal. App. 3d 767,
771 (1991)). Nor is there any doubt that DM brought the
lawsuit well within both the three-year statute of limitations
for its fraud claims, see Cal. Civ. Proc. Code § 338(d), and
the four-year statute of limitations for its rescission claim,
see id. § 337(3). DM thus was entitled to sue FTB, unless it
relinquished those rights. The majority concludes it did, but
does so by misreading California law and ignoring key facts.
1. The majority relies on section 1691 of the California
Civil Code, which it construes as depriving DM of its claim
for rescission because it failed to investigate and notify FTB
of that claim in a timely fashion. Maj. at 5. But section 1691
only requires prompt notice after a party is “aware of his right
to rescind,” Cal. Civil Code § 1691; it imposes no duty to
investigate on the wronged party.
The majority goes astray by relying on a case from the era
of flivvers and flappers that interpreted an earlier version of
section 1691. Maj. at 5 (citing Bancroft v. Woodward,
183 Cal. 99, 108 (1920)). At that time, section 1691 required
the party seeking rescission to “use . . . reasonable diligence,”
Cal. Civil Code § 1691 (1915), but in 1961, California
lawmakers removed the “reasonable diligence” requirement.
The current version of the statute contains no diligence
8 DM RESIDENTIAL FUND V. FIRST TENNESSEE BANK
requirement and says nothing at all about the period before
the rescinding party discovers its ground for rescinding. See
Cal. Civil Code § 1691 (2015). Thus, “reasonable diligence
or promptness on the part of the party seeking rescission is no
longer a prerequisite for the remedy.” Wilke v. Coinway,
Inc., 257 Cal. App. 2d 126, 140 (1967). The majority is
applying California law that was repealed when Pat Brown
was governor.
The majority also cites Jolly v. Eli Lilly & Co., 44 Cal. 3d
1103, 1112 (1988), and Fox v. Ethicon Endo-Surgery, Inc.,
35 Cal. 4th 797, 808–09 (2005), but those are statute of
limitations cases. See Maj. at 5. The statute of limitations
hadn’t run when DM brought suit, so those cases are
irrelevant to the question presented to us.
2. Even assuming that lack of diligence could be fatal to
DM, where’s the lack of diligence here? DM bought the
property from FTB at a foreclosure sale and soon discovered
the defect. Had this been an ordinary sale, DM would have
had reason to suspect the seller was aware of the defect. A
property owner generally occupies and improves the property,
and is likely to be familiar with its physical condition. But
this was a foreclosure sale. The seller bank didn’t occupy the
property or have any other physical dealings with it; the
property was an asset on the bank’s books securing a
defaulted loan. And, as the majority recognizes, maj. at 4–5,
the defect was not one that a reasonable investigation would
have turned up; it was only when DM tried to develop the
property that it discovered the problem.
The prior owner, Huerta, would likely have known about
the defect, but she would have had no reason to disclose it to
the bank. I don’t understand why DM had a duty to track
DM RESIDENTIAL FUND V. FIRST TENNESSEE BANK 9
down Huerta and ask her whether she told the bank about the
hidden defect. Absent some evidence that such a
communication between Huerta and the bank had taken
place—of which there was none here—a reasonable buyer
wouldn’t have bothered looking for Huerta and asking her
what she’d told the bank.
But there’s an even wider gap in the majority’s reasoning:
Assuming DM did have a duty to find Huerta and interrogate
her about whether she disclosed the defect to the bank, there’s
no proof DM could have done so. We know that Huerta was
reachable on December 29, 2011, because DM’s agents
talked to her around that time. But the record shows nothing
about her whereabouts between February 4, 2010, the date of
the sale, and December 29, 2011, when she talked to DM.
Was she easily found? Was she hospitalized in a coma? Was
she in Zanzibar hunting snark? The record does not say.
The majority errs by assuming that Huerta was reachable
by DM in 2010 because she talked to its agents in December
2011. Maj. at 6. We have no evidence that this was the case,
and it is FTB’s duty, as the party moving for summary
judgment, to fill any such gaps in the record. See Anderson
v. Liberty Lobby, Inc., 477 U.S. 242, 256 (1986).
FTB ultimately leaves too much to speculation. First, it
doesn’t explain why DM would have had reason to chase
down Huerta and ask her whether she told the bank about the
hidden defect. Nothing in the relationship of defaulting
borrower and foreclosing bank naturally suggests that she
would have done so. And, second, we are left to speculate
about where Huerta was all this time and whether DM could
have gotten a hold of her. All of these are facts—facts that
10 DM RESIDENTIAL FUND V. FIRST TENNESSEE BANK
are necessary for FTB to prevail on summary judgment, and
facts that are absent from this record.
3. The majority disregards the fact that DM also sought
damages on theories of negligent and intentional
misrepresentation. Section 1691 certainly doesn’t apply to
those claims and, as noted, they aren’t barred by the statute of
limitations. The district court had no basis for concluding
that DM waived those claims because a party doesn’t waive
its right to sue for fraud just by engaging in conduct allegedly
inconsistent with an intent to sue after discovering the
misrepresentation. See Smith v. Roach, 53 Cal. App. 3d 893,
898–99 (1975). Plaintiffs in Smith rented out units in a
building they owned after finding out they relied on a
misrepresentation in purchasing it. Id. at 899. The Smith
court refused to find waiver because “a plaintiff waives his
right to seek damages for fraud only if, after he discovers the
fraud, he makes a new agreement or engagement with the
other party to the original contract” that results in an
“adjustment of the plaintiff’s rights under the original
contract.” Id. at 898–99 (internal quotation marks omitted).
Here, DM did not discover the fraud until 2012, and at no
point entered into any subsequent agreement with FTB.
* * *
DM raised a genuine issue of material fact regarding
whether it was wronged by FTB. FTB was not entitled to
prevail on its defenses, and certainly not on summary
judgment. I can’t imagine the result would be the same if this
case were decided by the California courts. At the very least,
the matter is highly debatable, and we should certify it for
consideration by the California Supreme Court. See Cal. R.
Ct. 8.548(a).