Opinion
No. CV00 037 25 15
May 7, 2003
MEMORANDUM OF DECISION
This action arises out of the defendant's, First Union National Bank, conduct in imposing late charges and default interest on the plaintiffs, Henry Velenchik and Fairfield Heating and Plumbing Supply Company, and selling their premises after the plaintiffs had defaulted on three loans. By complaint the plaintiff alleges that the defendant acted unconscionably and in bad faith by enforcing the security agreements, when it should have known that the loans were adequately secured. The plaintiff also brought a claim asserting that the defendant's actions violated the Connecticut Unfair Trade Practices Act.
The defendant denies the substantive allegations and asserts several special defenses, including contributory negligence; express and/or implied consent; waiver and failure to mitigate. By way of counterclaim, the defendant claims attorneys fees pursuant to the terms of the loan agreements. Evidence through witness testimony and exhibits was received by this court on February 6 and February 11, 2003. The plaintiffs filed their Post Trial Proposed Findings of Fact and Memorandum of Law on March 31, 2003, the day on which the court also received the Defendant's Post Trial Memorandum of Law. The plaintiffs' Reply Memorandum was received April 8, 2003; the defendant's on April 11, 2003.
Facts
Prior to trial, the parties entered into a Stipulation of Facts in January 2003, which the court will recite:
1) The plaintiff, Henry Velenchik, (hereinafter "Velenchik") is the sole stockholder of the plaintiff, Fairfield Plumbing and Heating Supply Company (hereinafter "Fairfield").
2) For years Fairfield had a line of credit with local banks. The three loans at issue originated with what was The Union Trust Company, which through a series of acquisitions became First Union National Bank (hereinafter "Bank"). The three loans came to be held by the Bank.
3) In about 1998 Fairfield explored several potential sales or mergers with other plumbing supply companies.
4) The Bank was aware of these efforts but did not consent to any transfer of its collateral without payments of its loans.
5) One agreement with Bender Plumbing Supply resulted in a transfer of the operation of the plaintiffs' business to Bender Supply Company in 1998 for a period of several months. In November 1998, the plaintiffs and Bender Plumbing Supply terminated their agreement and Bender Plumbing Supply surrendered its occupancy of the plaintiffs' place of business.
6) The three loans (two to Velenchik and one to Fairfield and guaranteed by Velenchik) were secured by mortgages on Velenchik's commercial real estate. They all matured with an aggregate principal of $1,571,035.00 on April 1, 1999.
7) In February 1999, the defendant had Velenchik's real property appraised. Subject to certain limiting conditions, the appraiser found the value as of March 9, 1999 to be $2,100,000.00.
8) In April 1999, Velenchik listed the real property for sale with a broker asking $2,500,000.00.
9) On or about June 3, 1999, the Bank forwarded a "forbearance agreement" which would have extended the maturity of the three loans to August 1, 1999.
10) Velenchik objected to the imposition of $63,749.00 in late charges computed as four (4%) percent of the balloon balances, and refused to execute the agreement.
11) When Velenchik rejected the forbearance agreement, he notified the bank he was selling his property for $2,300,000.00 and requested the bank to take no action to enforce its security interests pending completion of that sale.
12) The bank rejected his request and brought the garnishment action on June 14, 1999.
13) At the commencement of its suit, pursuant to its security agreements and assignment of rent, the bank garnished Fairfield's bank account, exercised its right to collect Fairfield's accounts receivable, and notified Velenchik's tenants to pay rent thereafter coming due to the bank. The suit bears docket number CV99-03641595 in this court.
14) The sale of real estate closed November 2, 1999. At that time Velenchik paid the Bank the principal and interest it demanded. Velenchik also paid the late charges as well as a default rate of interest (4% above the rate specified in the note) from April 1, 1999 to the closing November 2, 1999.
After hearing the testimony of witnesses and reviewing the exhibits admitted into evidence, the court finds the following additional facts. The plaintiffs borrowed the sum of $2,052,892.30 from the defendant in the form of three notes, all of which required payment in full on the date of maturity which was April 1, 1999. The plaintiff did not make the balloon payment on April 1, 1999. On April 6, 1999, the defendant added a late charge equal to 4% of the principal balance of the loans, or $63,564.01. As to the late charges, Fairfield's note states:
The notes were first owned by Union Trust Company. After a series of mergers the notes subsequently came to be owned and held by the defendant prior to the collection of the three loans.
The Lender may collect a "late charge" equal to four percent (4%) of any installment of interest or principal, or any taxes, assessments and insurance paid by the lender which is not paid or reimbursed by the Borrower within five days (5) of the due date thereof to cover the extra expense involved in handling such delinquent payment.
Velenchik's notes state:
. . . The Borrower agrees to pay to the lender a late charge equal to four percent (4%) of any payment due the Lender which is not received within five (5) days after the same is due . . .p. 5.
As to the default rate of interest, the loans have similar provisions:
It is agreed that in the case of an Event of Default or after maturity, this note shall bear interest at the annual rate (the "Default Rate") of seven percent (7%) per annum above the Index Rate as the same shall be in effect from and after such default until paid in full. The Default Rate shall be adjusted whenever a change in the Index Rate occurs so that the Default Rate shall remain at all times seven percent (7%) per annum above the Index Rate. Any adjustments in the Default Rate shall be effective simultaneously with a change in the Index Rate. (p. 5, Velenchik $900,000.00 note, March 24, 1994).
For several years, Valenchik's business had difficulty competing in the plumbing supply market. Sometime in 1997 or 1998 a major distributor terminated its relationship with Fairfield Plumbing because the plaintiff was unable to purchase sufficient product. In response, Valenchik had attempted to obtain a partner or to merge his business with another. The defendant was aware that the plaintiff's efforts in this regard. Specifically, the plaintiff attempted a merger with Bender Plumbing in 1998, which was unsuccessful. Negotiations with Danbury Plumbing had also failed.
As the maturity date approached the defendant communicated with the plaintiff concerning the debt and how it was going to be resolved. The bank was concerned about Fairfield Plumbing's declining inventory and failed attempts to merge with another business. Moreover, an appraisal estimated the value of the property to be $2,100,000.00, of which the bank would realize approximately 75% if the property was foreclosed. Accordingly, the bank considered the collateral on the loans to be insufficient. To protect its interests, the bank insisted on a forbearance agreement. On or about June 3, 1999, the defendant forwarded a forbearance agreement to the plaintiff, which would have extended the date of maturity of the notes to August 1, 1999. The plaintiff, however, disagreed with its terms. Specifically, Velenchik was opposed to the late charges and the "doubling up" of monthly payments; he did not execute the agreement.
On June 14, 1999, the defendant filed a garnishment action which was served by a sheriff at Mr. Velenchik's abode. Pursuant to the terms of the 1997 agreements, the bank seized the plaintiffs' bank accounts, accounts receivables and rental income, and auctioned the inventory of Fairfield Plumbing. On June 23, 1999, the plaintiff and Plimpton Hills, Inc. entered into a Purchase and Sale Agreement for the sale of Velenchik's Fairfield Plumbing property for the amount of $2,300,000.00. The closing on the property occurred on November 2, 1999, at which time the defendant received payment in full, including the contested late charges.
Discussion
The primary issue here is whether the defendant was entitled to both default interest, as well as a 4% late charge, on the entire loan balance following the plaintiff's default on April 1, 1999. The notes controlling this matter are contracts. Appliances, Inc. v. Yost, 186 Conn. 673, 677, 443 A.2d 486 (1982). "It is settled law that a contract provision which imposes a penalty for a breach of the contract is contrary to public policy and is invalid, but a contractual provision which fixes liquidated damages for a breach of the contract is enforceable if it satisfies certain conditions." Norwalk Door Closer Co. v. Eagle Lock Screw Co., 153 Conn. 681, 686, 220 A.2d 263 (1966). These conditions are as follows:
(1) The damage which was to be expected as a result of a breach of the contract was uncertain in amount or difficult to prove; (2) there was an intent on the part of the parties to liquidate damages in advance; and (3) the amount stipulated was reasonable in the sense that it was not greatly disproportionate to the amount of the damage which, as the parties looked forward, seemed to be the presumable loss which would be sustained by the contractee in the event of a breach of the contract.
Berger v. Shanahan, 142 Conn. 726, 732, 118 A.2d 311 (1955).
The plaintiff cites to Federal Deposit Ins. Corp. v. Napert-Boyer Part., 40 Conn. App. 434, 671 A.2d 1303 (1996), as authority that a late charge is illegal if applied after the date of maturity. In Federal Deposit Ins. Corp. v. Napert-Boyer Part., the defendant defaulted on loans held by the initial lender. The notes provided for late fees in the event the payment was not made on an installment. Following default on an installment payment, the initial lender, CBT, accelerated the loans which became due in full; and continued to impose late fees. When CBT became insolvent, the FDIC was appointed its receiver. In an action to recover on the loans, the trial court rendered judgment in favor of FDIC; the defendant appealed, claiming, inter alia, that the late charges after default constituted a penalty. The Appellate Court agreed, stating that "the trial court should not have assessed late fees against them after the notes were accelerated."
The defendant attempts to distinguish this case stating that here the loans were not accelerated. Moreover, the defendant argues that the payments on which the plaintiff defaulted were installment "balloon" payments to which the late charges applied under the terms of the note. The court is not persuaded that the issue in Federal Deposit Ins. Corp. v. Napert-Boyer Part, or the case cited therein, Federal Deposit Insurance Corp. v. M.F.P. Realty Associates, 870 F. Sup. 451 (1994), rests with whether or not the loan was "accelerated," so much as whether the loan was "due and payable"; thus, triggering the default interest provision.
Here, it is undisputed that the full balance of the loans was due and payable on April 1, 1999; hence, the loans matured on that date. When payment was not made within the requisite time period, a default rate of interest was applied pursuant to the loan agreements. The Court in Napert-Boyer reasoned: "[i]f the late charges are allowed to continue after demand for payment in full upon default, it would, in effect, become a penalty since the plaintiff is being compensated for the default by the higher interest rate." Citing: Annot., 63 A.L.R.3d 50 (1975). Id. at 444. The Appellate Court emphasized its adherence to this principle in Berkeley Federal Bank and Trust, FSB v. Ogalin, 48 Conn. App. 205, 708 A.2d 620 (1998), where it ruled, sua sponte, that late charges were inappropriate after the loan was accelerated and became due, because it would amount to a penalty where default interest is also charged.
The defendant rebuts this argument citing Metlife Capital Financial Corporation v. Washington Avenue Associates L.P., 159 N.J. 484 (1999), which also involved the imposition of a late charge and default interest when the defendant defaulted on loan payments. The New Jersey Supreme Court found that a 5% late fee and the default interest of an additional three percent were reasonable in a commercial context involving "sophisticated parties." While not specifically addressed, it can be inferred that the Court approved the co-existence of default interest and late charges. Nonetheless, the court agrees with the plaintiff that the law in Connecticut has not evolved similarly. The Appellate Court in Federal Deposit Ins. Corp. v. Napert-Boyer Part, supra at 443-44, specifically held that the default interest compensated the plaintiff for the default and that charging a concomitant late charge would therefore be a penalty.
Moreover, the court considers the late charge in this matter unreasonable under Norwalk Door Closer Co. v. Eagle Lock Screw Co. supra. While 4% of a monthly installment payment may reflect costs incurred by the defendant as a consequence of a late payment, 4% of the balloon payment is exorbitant. The defendant called Martin Murphy, the loan workout officer at First Union National Bank in charge of the Velenchik loan, to testify. He stated that Mr. Velenchik had not been late on any of his monthly payments of approximately four thousand dollars. If any payments had been late the charge would have been $160.00. The late charge imposed by the bank on Mr. Velenchik's final "installment" payment was $63,749.00. While Mr. Murphy testified that Mr. Velenchik's loans were transferred to his loan workout department, and there were expenses entailed in running that department, the loan was transferred months before the default. In addition, loans in default on monthly payments would also sometimes be transferred to his department. Specific costs attributable to each loan were not determined by his department. Based on this testimony the court does not find any reasonable relationship between the $63,749.00 late charge and the damages suffered by the bank as a result of the plaintiff's default. Also, the bank was being compensated for the extra expenses by the increased rate of default interest. Accordingly, the court finds the late fee a penalty and unenforceable under Norwalk Door Closer Co. v. Eagle Lock Screw Co.
The plaintiffs assert a number of other claims, only some of which were examined in their briefs. Their claim concerning the defendant's failure to act in good faith stems primarily from the imposition of the late charges, which this court addressed above. The court does not find that the defendant was under any duty to negotiate a forbearance agreement with the plaintiff given the terms of the loan agreements. Accordingly, the plaintiffs have not met their burden of showing that the defendant breached a covenant of good faith and fair dealing. Elm Street Builders, Inc. v. Enterprise Part Condominium Association, Inc., 63 Conn. App. 657, 668, 778 A.2d (2001).
The third count of the plaintiff's complaint asserts a claim under Connecticut's Unfair Trade Practices Act. Connecticut General Statute § 42-110a et seq. provides a private cause of action to "any person who has suffered an ascertainable loss of money or property, real or personal, as a result of the use or employment of a prohibited method, act or practice." "[I]n determining whether a practice violates CUTPA we have adopted the criteria set out in the cigarette rule by the federal trade commission for determining when a practice is unfair: (1) [W]hether the practice, without necessarily having been previously considered unlawful, offends public policy as it has been established by statutes, the common law, or otherwise — in other words, it is within at least the penumbra of some common law, statutory, or other established concept of unfairness; (2) whether it is immoral, unethical, oppressive, or unscrupulous; (3) whether it causes substantial injury to consumers, [competitors or other business persons] . . . All three criteria do not need to be satisfied to support a finding of [a violation of CUTPA]." (Internal quotation marks omitted.) Macomber v. Travelers Property Casualty Corp., 261 Conn. 620, 644, 804 A.2d 180 (2002).
"It is well settled that whether a defendant's acts constitute . . . deceptive or unfair trade practices under CUTPA, is a question of fact for the trier . . ." (Internal quotation marks omitted.) Tanpiengco v. Tasto, 72 Conn. App. 817, 819, 806 A.2d 1080 (2002). The facts of this case do not support a finding that the defendant's actions rose to a level of a CUTPA violation. The court has found that the late charge was a penalty and unenforceable. Nonetheless, the imposition of the late charges was based on the bank's interpretation of the contract, which this court determined was erroneous. Both parties signed the agreements and were represented by counsel; the plaintiff was a knowledgeable and experienced business person. The plaintiff states, correctly, that a breach of contract can constitute a CUTPA violation. Nonetheless, the majority of Superior Courts have held that a breach of contract does not violate CUTPA unless there are substantial aggravating circumstances. CT Page 6049 Digicom, Inc. v. AR Robinson Printing, No. CV00-00736295, 2002 Ct. Sup. 14150 (Nov. 5, 2002). The actions of the defendant's, while incorrect, did not rise to the level of "immoral, unethical, oppressive, or unscrupulous." Nor, were there substantial aggravating circumstances sufficient to invoke CUTPA. The parties merely disagree as to the applicability of the late charge; the plaintiffs have not proven their CUTPA claim.
The final issue submitted by the plaintiff was whether or not the bank was entitled to enforce its security interest. The plaintiff defaulted on the payment of the balance of his loans which were due on April 1, 1999. Thereafter the bank exercised its rights under the security agreements. This was not unreasonable, particularly in light of the plaintiff's previous failed attempts to secure a merger or sale of his business in a timely manner. In fact, the sale of the business did not come to fruition until November 1999.
As to the defendant's counterclaim, this court will not award attorneys fees to the defendant where the plaintiffs have prevailed on their claim that the late charges constituted a penalty, and were, therefore, unenforceable. To do otherwise would stifle a party's ability to employ the judicial system to resolve legitimate disputes.
Damages
As stated above, the court finds in favor of the plaintiff on Count I. Pursuant to that claim the plaintiff seeks recovery for humiliation, embarrassment, emotional distress and financial loss.
Listening and observing the plaintiff on the stand, the court is convinced that Mr. Velenchik suffered emotional distress as a result of the exorbitant late fee imposed by the bank. Based on the above, the court awards the following damages:
$63,052.00 late fee
$15,000.00 emotional distress
$78,052.00 total, plus statutory interest from the date of judgment.
It is so ordered.
By The Court,
Wolven, Judge