United States: First American Title Ins. Co. v Spanish Inn, Inc.

(Developer Liable to Title Insurer Pursuant to Enforceable Grant of Discretion to Title Insurer in Indemnity Agreement)

In First American Title Ins. Co. v. Spanish Inn, Inc., 239 Cal. App. 4th 598 (July 16, 2015), the California Court of Appeal affirmed the trial court’s grant of summary adjudication to a title insurer seeking indemnity for legal expenses incurred in defending against mechanic’s liens from the developers.

Defendants Spanish Inn, Inc. (“Spanish Inn”), Hormoz Ramy, and Nejat Kohan owned (or had an interest in) the Spanish Inn Hotel in Palm Springs, CA. Spanish Inn borrowed $6 million from Nara Bank to renovate and rehabilitate the property. Nara Bank secured this loan by recording a construction deed of trust, and required Spanish Inn obtain a lender’s title insurance policy to protect against loss from mechanic’s liens. First American Title Insurance Company (“First American”) issued this policy, but, in doing so, also required the defendants “agree to indemnify it if any mechanic’s liens were recorded against the property due to the contractor’s or the owners’ failure to pay for work furnished to the project.” First American and the defendants entered into a written indemnity agreement (“Indemnification Agreement”) to this effect.

The project required modifications, entailing an increase in budget and timeline expansion. Nara Bank lent Spanish Inn an additional $1.3 million, requiring Ramy and Kohan contribute $300,000. When Spanish Inn did not complete the project by the deadline, Nara Bank declared the loan to be in default. Both Kohan (who acted as the project’s contractor) and a subcontractor recorded mechanic’s liens against the property, for $800,000 and $85,000 respectively.

Nara Bank assigned its deed of trust to Pacifica L 39 LLC (“Pacifica”), who then later purchased the property at a non-judicial foreclosure sale. The parties do not dispute that Pacifica is an insured under the title insurance policy.

Both Kohan and the subcontractor filed lawsuits to foreclose on their mechanic’s liens, which Pacifica tendered to First American. First American accepted, and retained counsel to defend the actions and seek indemnification from the defendants. Counsel made a written demand under the Indemnification Agreement to the defendants, which was declined. First American then brought this suit for indemnification, breach of contract, and specific performance. First American moved for summary adjudication on the first two claims, seeking damages of $250,876.53 (comprised of $207,119.58 in costs and attorney’s fees; the $20,950 settlement payment to the subcontractor; and 10 percent interest). Defendants opposed the motion, arguing (1) that Nara Bank essentially created the mechanic’s liens, bringing them within Exclusion 3(a) (excluding from coverage “liens . . . created, suffered, assumed or agreed to by the insured claimant”) of the title insurance policy; and (2) there was a triable issue of fact as to the amount of damages. The trial court granted First American’s motion, finding that the defendants’ submission of the declaration of Kohan regarding the exclusion did not introduce facts sufficient to create a triable issue as to the exclusion, and that the defendants failed to meet their burden with respect to the claimed damages. The trial court also granted First American’s motion to dismiss the remaining cause of action, entering judgment for First American.

Defendants appeal, arguing there are triable issues of fact as to (1) whether the claim fell within Exclusion 3(a), and (2) the reasonableness of the claimed damages.

The Court of Appeal noted that, on appeal, the Court performs its own independent review of the papers and applies the same standard in determining whether the motion was properly granted. The Court also reviews, de novo, the trial court’s interpretation of the Indemnity Agreement, applying the rules that govern contract interpretation.

The Court stated the standard for determining a contractual indemnity action where the underlying liability is settled without trial: the indemnitee must prove (1) the liability is covered under the contract, (2) the liability existed, and (3) the extent thereof. The parties did not contest that the liability was covered under the contract.

The Court concluded that liability existed, but reached that decision by different analysis than did the trial court:

The Indemnity Agreement expressly gave First American the right to conclusively determine coverage under the title policy: “5.6 Determination of Coverage. Any determination of coverage by First American shall be conclusive evidence that the matter is within the Title Policy coverage as to the Mechanic Liens for purposes of this Agreement.” First American determined that the tendered claims were covered by the title policy. Therefore, regardless of whether Exclusion 3(a) would otherwise have excluded coverage for Kohan’s lien, or whether defendants’ factual defenses would otherwise have precluded coverage for Thompson’s lien, First American was expressly authorized to—and did—find that the tendered claims were “within the Title Policy.” Thus, First American established that “liability existed.” [Citation]

The Court rejected the defendants’ argument that such unfettered discretion is not enforceable due to the implied covenant of good faith and fair dealing. The Court reasoned that, where the express purpose of the contract is to grant such discretion, and there is adequate consideration, then it is within the parties’ reasonable expectations and, as such, not a violation of the implied covenant. The Court also pointed to federal decisions reaching a similar conclusion. The Court then rejected the defendants’ implied assertion that such a grant of discretion would cause the Indemnity Agreement to “fail for lack of mutuality and consideration.” The Indemnity Agreement expressly provided that there was adequate consideration – in the Agreement, defendants expressly recognized that First American was undertaking a risk greater than normal, and they desired to enter into the contract. The Court also refused to agree with defendants that First American’s determination of coverage precluded a finding of good faith.

The Court then turned to the extent of liability. First American submitted evidence to establish its claim for damages. While defendants argued the amount was not reasonable, they failed to submit evidence to respond to First American’s evidence. The Court found that First American’s evidence established the extent of liability, rejecting defendants’ attempt to recast its attack on liability as an attack on damages.

“Because First American established through undisputed evidence that it was entitled to indemnity under the Indemnity Agreement, we conclude the trial court did not err by granting First American’s motion for summary adjudication.”

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