Maryland Legal Alert for Financial Services

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Maryland Legal Alert - March 2021

IN THIS ISSUE:

CONSTRUCTION LENDER NOT LIABLE FOR GENERAL CONTRACTOR’S FAILURE TO PAY SUBCONTRACTOR

RESIDENTIAL FORECLOSURE RESTRICTIONS EXTENDED

CREDITOR’S COMPLIANCE WITH MILITARY LENDING ACT CHALLENGED

 

Construction Lender Not Liable for General Contractor’s Failure to Pay Subcontractor

In a recent opinion, the Court of Special Appeals of Maryland (CSA) affirmed the dismissal of a subcontractor’s negligence claim against a construction lender, holding that a lender on a construction project does not owe a general duty of care to subcontractors to ensure that the general contractor pays the subcontractors from construction loan proceeds.

In this case, the subcontractor installed flooring and carpeting in several houses constructed by the general contractor. When the general contractor failed to pay the subcontractor, the subcontractor sued the general contractor and several other defendants, including the bank that made the construction loans for several homeowners. The subcontractor alleged that the bank was negligent in failing to ensure that the general contractor properly disbursed loan proceeds to the subcontractor.

The trial court granted the bank’s motion to dismiss for failure to state a claim, finding that the subcontractor failed to allege any duty of care that the bank owed to the subcontractor. The bank argued that it did not owe a duty of care to the subcontractor based on the well-settled economic loss rule. Under this rule, when a plaintiff only alleges damages stemming from economic loss, courts require an “intimate nexus” between the parties as a condition to tort liability. There was no contractual privity between the bank and the subcontractor and the bank lacked any awareness that the subcontractor performed work on the subject properties.

The CSA noted that other courts have generally held that “a lender providing a construction loan owes no duty to an unpaid subcontractor absent the lender’s express promise or assurance of payment.” The CSA adopted the rule that there is no general duty on the homeowner’s lender to ensure that the general contractor pays the subcontractors when the lender disburses money to the general contractor, at least where there is no contractual relationship or intimate nexus between the lender and the subcontractor. The CSA stated that public policy in Maryland weighs against imposing a general duty of care on lenders and that to do so would transform the lender into an insurer of the subcontractors’ interests, which the CSA found to be “manifestly unfair.” Since the subcontractor failed to allege contractual privity or any intimate nexus between it and the bank, the CSA held that the subcontractor failed to allege a cognizable duty of care.

Notably, the CSA stated that under certain circumstances, a construction lender could be held to owe a duty of care to a subcontractor. The CSA identified several allegations that were missing from the complaint that could have salvaged the claim. According to the CSA, the plaintiff must allege “linking conduct” that shows the defendant “knew or should have known of the plaintiff’s reliance.” The CSA stressed that a plaintiff cannot simply allege a general duty of care. Instead, a plaintiff should allege that: (i) the defendant made a specific promise or representation to perform an obligation for the plaintiff’s benefit; and (ii) that the plaintiff reasonably relied on the defendant’s representation.

Practice Point: Lenders should exercise caution when communicating with subcontractors or other incidental beneficiaries of their loans to avoid conduct creating an intimate nexus that could give rise to a duty of care with respect to the incidental beneficiary.

Please contact David S. Musgrave or John H. Hykes, III with any questions concerning this topic.

Contact David S. Musgrave | 410-576-4194

Contact John H. Hykes, III | 410-576-4134

 

Residential Foreclosure Restrictions Extended

As we previously reported, Governor Lawrence Hogan, Jr. issued an executive order (December Order) on December 17, 2020, in which he directed that the Maryland Department of Labor’s Commissioner of Financial Regulation (Commissioner) reopen the notice of intent to foreclose online registry (NOI Registry) on February 1, 2021. Governor Hogan had previously ordered the closure of the NOI Registry, which effectively halted the initiation of new residential foreclosures in Maryland. In the December Order, Governor Hogan also granted the Commissioner with the authority to delay the reopening of the NOI Registry through further regulatory guidance. In January 2021, the Commissioner extended the reopening of the NOI Registry to March 1, 2021.

On February 22, 2021, the Commissioner issued guidance further extending the reopening of the NOI Registry to April 1, 2021. The Commissioner’s guidance comes on the heels of several federal authorities announcing that their own foreclosure moratoria would be extended through June 30, 2021 (Federal Housing Finance Agency (FHFA), U.S. Housing and Urban Development, and Veterans Benefits Administration).

Federal authorities have also announced additional guidance concerning certain borrowers’ eligibility for mortgage forbearance under the Coronavirus, Aid, Relief, and Economic Security Act (CARES Act). The FHFA announced that borrowers with mortgages backed by Fannie Mae and Freddie Mac that were on a forbearance as of February 28, 2021, could extend their forbearance period an additional three months (18 months total). This guidance aligns with prior announcements by other federal authorities that borrowers who had entered into a forbearance by June 30, 2020, may receive an additional six months of mortgage payment forbearance, in three-month increments (18 months total). Borrowers have until June 30, 2021, to enter into a forbearance under the CARES Act.

Please contact Bryan M. Mull with any questions concerning the foreclosure restrictions and forbearance issues.

For additional information on the impact of the coronavirus, visit our information hub for a list of up-to-date content.

Contact Bryan M. Mull | 410-576-4227

 

Creditor’s Compliance with Military Lending Act Challenged

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