OPINION
This is a consolidated appeal involving the determination of rights of innocent third-party lenders, National Realty Finance, L.C. (“NRF”) and LaSalle National Bank (“LNB”), (collectively “Claimants”), in real estate formerly owned by Defendant, William Harris, and forfeited to Plaintiff, the United States of America. Claimants all appeal from the same judgment; specifically, in Case Nos. 99-4175 and 99-4492 involving Claimant NRF, and in Case No. 99-4269 involving Claimant LNB, Claimants appeal from the judgment entered by the district court on September 13, 1999, awarding Claimants “principal and interest on their loans to William Harris at the default rate, and to reasonable costs, late charges and attorney fees,” while denying Claimants “prepayment premiums, or ... late charges beyond those reasonably necessary to reimburse the lenders for transaction costs associated with processing late payments.” The narrow issue on appeal, which presents itself for the first time in a federal appellate court, is whether an innocent lender is entitled to prepayment premiums as provided in the loan agreement upon the real property being forfeited to the government, and later sold by the government, as a result of a criminal forfeiture proceeding against the debtor. We answer this issue in the affirmative under the facts of this case.
Accordingly, we REVERSE the district court’s judgment and REMAND the case to the district court.
BACKGROUND
Procedural History
This case involves a criminal forfeiture in which Defendant was indicted on various charges of Medicare fraud and money laundering on September 23, 1998. On January 20, 1999, the government accepted Defendant’s guilty plea wherein Defendant withdrew his previous plea of not guilty, and entered a written plea agreement to charges 1 and 101 of the indictment. On
On June 7, 1999, the district court held a hearing to consider the extent of Claimants’ asserted interests in the property. Following the hearing and submission of briefs by the parties, the court issued a Memorandum Opinion and Order finding that Claimants were entitled to “principal and interest at the default rate, and to reasonable costs, late charges and attorney fees,” but that they were not entitled to “prepayment premiums, or to late charges beyond those reasonably necessary to reimburse the lenders for transaction costs associated with processing late payments.” The district court entered a corresponding judgment and it is from this judgment that Claimants now appeal.
Facts
Defendant amassed a real estate empire consisting of several residential rental properties in Toledo, Ohio, which, according to the government, Defendant financed by defrauding the federal Medicare program. Between July of 1993, when Medicare first paid Defendant for what later were found to be fraudulent claims, and September of 1995, when the government took action against Defendant, the government claims that Defendant used over $8,000,000 of the monies which he received as a result of his fraudulent dealings with Medicare as down payments for dozens of properties worth at lest $25,000,000.
Specifically, on September 19, 1995, federal agents executed search warrants at the offices of Harris Medical Supply (“HMS”), a company that Defendant used to defraud Medicare, and at HMSI, a company that Defendant used to manage his rental properties. Within three months after the searches were executed, Defendant established a nominee corporation called Ashton Button Company, Ltd. in the Cayman Islands, and a second nominee corporation called Iguana Reef, Ltd., also in the Cayman Islands. Over the eighteen months between March of 1996, and September of 1997, Defendant wire-transferred at least $2,700,000 to the Cayman Islands and used these funds to buy real estate in the name of his two Cayman Island corporations. The government alleged that Defendant obtained the funds that he wired to the Cayman Islands from several sources, but that most of the funds came from the refinancing of Defendant’s apartment buildings.
A. Claimant NRF
As to Claimant NRF, Defendant, on behalf of HMSI, obtained loans from NRF in the amount of approximately $2,000,000; one note dated August 27, 1997, was in the amount of $1,119,999, and the second note of the same date was in the amount of
HMSI failed to make its August 1998, installment payment; in a letter dated August 20, 1998, NRF informed HMSI that it had not received its payment due August 1, 1998, on both the Fox Run and River-Bend loans, and that it had five days in which to make the payment in order to cure the default; otherwise, the failure to pay would be an event of default under the loan documents. HMSI did not cure its default and, according to NRF, the debt was accelerated on both loans.
Specifically, on August 26, 1998, NRF filed its amended complaint in foreclosure for declaratory judgment, and for appointment of a receiver against HMSI in the Court of Common Pleas of Lucas County, Ohio. On August 28, 1998, the Court of Common Pleas entered an order appointing Dennis Noneman as receiver of two apartment complexes that secured the debt owed to NRF.
In the criminal proceeding involving Defendant, on September 4, 1998, United States District Judge James G. Carr entered an order in aid of execution of seizure warrant as to Defendant’s property. The Fox Run Apartment Complex and the RiverBend Apartment Complex were among the properties involved. Defendant was indicted on September 23,1998.
On September 29, 1998, as a result of the government’s seizure of the properties, NRF filed an amended complaint in foreclosure in its Ohio suit naming the United States of America as a party defendant. The government removed NRF’s civil foreclosure action to the United States District Court for the Northern District of Ohio and, upon the government’s motion, the civil foreclosure case, together with foreclosure cases filed by other innocent third party lenders including LNB, was transferred to United States District Judge David A. Katz, who had been reassigned to handle Defendant’s criminal case.
B. Claimant LNB
As to Claimant LNB, Defendant, on behalf of HMSI, obtained four loans from Midland Loan Sendees, L.P. (for which LNB is the Assignee of all loan documents), each of which was secured by a mortgage on an apartment building and totaled approximately $15,000,000. The apartment complexes were named as the Hunt Club, the Windjammer, the Devon-shire, and the Wellington House. The loans on the Hunt Club and the Windjammer complexes cross-collateralized both the Hunt Club and the Windjammer debts. The loans on the Wellington House and the Devonshire complexes were separate.
In September and October of 1998, LNB filed four foreclosure actions in Lucas County, Ohio, Common Pleas Court against HMSI after HMSI defaulted on its loan obligations, naming the United States of America as a party defendant in each action. The Common Pleas Court entered
On October 7,1999, the government auctioned off the four apartment complexes involved in the LNB loan agreements, for a total sum of $15,080,000. The payoff figures to LNB, Trustee totaled $12,473,193.34, plus a few days of per diem interest, leaving the government with a profit of $2,606,806.66 on these properties. LNB claims that as of September of 1998, the time at which Defendant defaulted on the loans, the prepayment premiums owed to LNB totaled $2,889,314.54; however, LNB notes in its brief on appeal that because interest rates spiraled upward, the prepayment premiums were $1,300,356.91 in the Fall of 1999.
DISCUSSION
We review a district court’s findings of fact for clear error, and its conclusions of law
de novo
in this mixed issue of law and fact.
See Razavi v. Comm’r of IRS,
The government’s four main arguments as to why Claimants are not entitled to prepayment premiums are as follows: (1) because the transfer of the property to the government was involuntary, it did not trigger the prepayment premiums provision; (2) because the Claimants accelerated the loans, thereby demanding full payment in advance of the maturity date, Claimants cannot collect prepayment premiums; (3) even if Claimants were permitted to accelerate the loans and then collect prepayment premiums, Claimants could not do so here because they did not accelerate the loans until sometime after they learned of Defendant’s crimes; 1 and (4) because the risk that lenders will lose prepayment premiums due to their borrowers’ criminal conduct is a risk that is better borne by the lenders than by the victims of the crimes.
We disagree with each of the government’s arguments where the case law that has spoken to prepayment premiums in general — as well as other provisions for which an innocent lienholder has bargained — does not support the government’s position. As stated, the issue of whether an innocent lender is entitled to prepayment premiums as provided in the loan agreement upon the real property being forfeited to the government as a result of a criminal forfeiture proceeding against the debtor, is an issue of first
Although this issue is ultimately one of federal law under 21 U.S.C. § 853(n)(6)(B), both parties agree that Ohio law governs the outcome. As this Court stated in United States v. Smith,
because forfeiture proceedings implicate property rights which have traditionally been measured in terms of state law, and because section 853 contains no rule for determining the scope of property rights, it is appropriate to refer to state law in determining the nature of the property interest involved in a forfeiture proceeding.
The government accurately notes that the only case under Ohio law to speak to prepayment premiums, or prepayment consideration as the term is also known, in this regard is
LandOhio Corp. v. Northwestern Mid. Life Mortgage & Realty Investors,
LandOhio
involved a taking under eminent domain where the mortgage lienholder sought prepayment consideration as provided in the lending agreement.
Land-Ohio,
The government cites only the portion of the
LandOhio
case wherein the district court held that a prepayment premium may not be assessed against a lien-holder when the land is sold involuntarily, but fails to include the qualification of the
“Jala
rule” that “unless the parties have explicitly agreed that such a payment shall be made in the event that the mortgagor is forced to sell his property.”
Land,Ohio,
We are not persuaded otherwise by the government’s reliance on a case from the Seventh Circuit,
In re LHD Realty Corp.,
This brings us to the government’s next claim which is that “a lender may not accelerate a loan, thereby demanding full payment in advance of the maturity date, and also claim a prepayment premium.” As noted, Claimants bargained for the right to prepayment consideration, even in the event that Defendant lost ownership of the property through acceleration of the debt or foreclosure. The government argues that under
Wide Scope, Inc. v. Freedom Fed. Savs. & Loan Ass’n,
Similarly, the federal circuit courts to have addressed prepayment premiums in general have found that prepayment premiums would be allowed in the case of acceleration of the debt by the lender if the parties had expressly provided for such in the loan agreement.
See Parker Plaza West Partners v. UNUM Pension & Ins.,
Interestingly, the government relies upon
LHD Realty
in support of its first argument, but fails to mention that case in its second argument, likely because
LHD Realty
found that so long as the loan agreement provided for prepayment premiums upon acceleration of the debt by the lender, the prepayment premiums should be awarded.
See LHD Realty,
Finally, the government relies upon a policy argument that “the risk that lenders will lose prepayment premiums because their borrowers commit crimes is a risk that is better borne by the lenders than by the victims of the crimes.” This policy argument may have some superficial appeal because in this case the federal Medicare program was defrauded, and it seems that providing the prepayment monies which the lenders seek to a program that cares for the well-being of the elderly is a good policy decision. However, such a policy argument cannot prevail in the face of clear provisions in the loan documents to the contrary, and case law establishing that such provisions are not unenforceable. Further, taking a more global look at this argument, denying lenders the prepayment monies that they bargained for (sums which are substantial) may force the lenders to take other measures to insure their bargained for payments. For example, lenders may screen loan applicants more carefully and not extend credit to an individual seeking to start a small business, or the lenders may increase fees associated with the loans to make up for the possible loss of these premiums.
“The clear purpose for a prepayment penalty is to compensate the lender for the risk that market rates of interest at the time of prepayment might be lower than the rate of the loan being prepaid. Such a provision would compensate the lender for anticipated interest that would not be received if the loan were paid prematurely.”
Ridgewood,
174 B.R.. at 720-21. “Among other things, a prepayment premium insures the lender against loss of his bargain if interest rates decline.”
LHD Realty,
In summary, the government’s arguments are not supported by the analogous case law and fail to demonstrate the trend of the law in this area. Indeed, the government adamantly opposed the award of post-seizure interest, and attorney’s fees and costs as provided in the loan agreements below; however, the district court was not persuaded by the government’s claim where the circuits that have addressed the issue have held in favor of the lenders who expressly bargained for such provisions in the loan agreements.
See United States v. Real Prop. Located at 41741 Nat’l Trails Way, Daggett, Ca,
We are further guided in our conclusion based upon the fact that Claimants are bona fide purchasers for value under 21 U.S.C. § 853(n), as stipulated by the government, and that in passing § 853(n), Congress expressly carved out an exception for the rights of bona fide purchasers in the context of forfeiture proceedings. As the Third Circuit opined:
As we read the relevant history, Congress did not intend section 853(n) to serve as a vehicle by which all innocent third parties who are aggrieved by an order of criminal forfeiture can petition for judicial relief. ‘Rather, it seems to us that Congress, in enacting section 853(n)(6)(A) and (B), intended to accord standing to only two narrow classes of third parties, and intended to require all other third parties to petition the Attorney General for relief, see 21 U.S.C. § 853(i).
United States v. Lavin,
The Third Circuit found it “helpful to ascertain the source of Congress’ language” in order to better understand what individuals Congress intended to protect through the enactment of these two subsections. Specifically, the court reasoned as follows:
As far as we can tell, Congress derived both exceptions essentially from hornbook commercial law. The first exception, codified in section 853(n)(6)(A), reflects the common-law principle, embodied in the venerable maxim nemo dat qui non habet, that a buyer acquires no better title than that of the seller. See UCC § 2-403(1) (“A purchaser of goods acquires all title which his transferor had at had power to transfer.... ”). Under the relation-back doctrine, the government acquires its interest in the defendant’s forfeited property at the time of the commission of the criminal acts giving rise to the forfeiture. See 21 U.S.C. § 853(c). Thus, if a third party’s interest in the forfeited property, at the time of the criminal acts, was superior to the criminal defendant’s interest, then the interest that the government acquires when it steps into the defendant’s shoes is subordinate to that of the third party....
The second exception, codified in section 853(n)(6)(B), reflects another common-law rule (an exception to the nemo dat qui non habet principle), namely, that an “innocent purchaser for valuable consideration must be protected.” The good-faith purchaser exception developed over time in order to promote finality in commercial transactions and thus to encourage purchases and to foster commerce. It does so by protecting the title of a purchaser who acquires property for valuable consideration and who, at the time of the purchase, is without notice that the seller lacks valid and transferable title in the property.
Lavin,
After the commission of the criminal acts, title to the forfeitable property, by operation of the relation-back clause, actually belongs to the government. The property itself, however, generally remains in the criminal defendant’s physical possession until the government discovers the criminal acts and takes possession of the forfeitable property. While the forfeitable property is in the defendant’s possession, the defendant possesses only voidable title, but ordinarily, a prospective purchaser of the forfeitable property will have no notice that the defendant lacks a valid, transferable interest. Section 853(n)(6)(B) ensures that, if indeed the defendant transfers the forfeitable property for value to a purchaser who, at the time of the purchase, is without knowledge of the government’s interest in the property, the government may not later assert title superior to that of the innocent purchaser.
Id. at 186.
In other words, as found by the Third Circuit, the
bona fide
purchaser exception of § 853(n)(6)(B) includes those individuals who purchase for value forfeitable property as innocent buyers or lien-holders and that, by virtue of the relation-back doctrine, once the property is forfeited, the government steps into the shoes of the defendant acquiring only the rights of the defendant at the time of the crimi
'Having found that the district court erred in holding that Claimants were not entitled to prepayment premiums, we need not address the additional arguments raised by the parties, what the government terms “secondary arguments,” including whether the government was bound under principles of res judicata from litigating the issue of prepayment premiums as to the properties for which LNB received cognovit judgments in state court,
CONCLUSION
For the above-stated reasons, we REVERSE the district court’s judgment denying Claimants prepayment premiums as provided under the loan agreements, and REMAND the case to the district court for proceedings consistent with this opinion.
Notes
. Prior to oral argument, the government moved to withdraw its third argument, and we will therefore not consider it here.
. Claimants bargained for the right to prepayment consideration, even in the event that Defendant lost ownership of the property through acceleration of the debt or foreclosure.