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From Usury Claims to Severability Provisions

Dispatches from the Trenches
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This issue of Dispatches from the Trenches discusses: (1) claims made against finance lessors, including usury and unconsionability claims; (2) when a lessee can be sued in a lessor's home jurisdiction; and (3) non-substitution clauses, severability provisions and ratification.

Cooper v. Lyon Financial Services, 65 SW 3d 197, Court of Appeals of Texas (January 10, 2002)

Although the Court did not always use the best rationale, it reached the proper conclusions and this provides a nice example of a UCC "Finance Lease" in action. A physician named Bruce Cooper ("Cooper") went to a seminar about a laser manufactured for use in cosmetic surgery. Shortly after the seminar, a sales person from the manufacturer contacted Cooper and talked him into acquiring the laser.

Cooper decided to lease the laser from a third party financer named Lyon Financial Services ("Lyon") pursuant to a lease with a fair market value purchase option. Cooper did not train properly for the use of the laser and, after several unsuccessful trials, decided that he wanted to return the laser. He also stopped paying rent to Lyon under the lease. Lyon repossessed the laser and, after proper legal notice, sold it pursuant to a commercially reasonable sale. Lyson then sued Cooper for breach of the lease, seeking the amount still owed under the lease and attorneys' fees. Cooper responded with several claims, including fraud, misrepresentation, failure of consideration, failure to mitigate damages, usury, violations of the state's deceptive trade practices act, breach of express and implied warranties, unconsionability and revocation of acceptance. These claims were based upon alleged misrepresentations made by the sales person as well as certain provisions in Lyon's lease form.

When all the dust settled, Lyon was awarded damages owed under the lease as well as attorney's fees. Cooper received nothing. The Court began by properly noting this lease to be a special kind of true lease known as a "finance lease" under Article 2A of the Uniform Commercial Code (the "UCC") since: (1) Lyon did not select, manufacture or supply the laser; (2) Lyon acquired the laser in connection with the lease; and (3) Cooper's approval of the contract between Lyon and the manufacturer of the laser was a condition precedent to the effectiveness of the lease. The Court dismissed Cooper's claim that he revoked acceptance of the laser since Cooper failed to revoke acceptance in accordance with the UCC requirements relating to finance leases. Unfortunately, the Court failed to mention other important statutory protections that the UCC finance lease provisions grant to finance lessors--such as the automatic hell and highwater clause.

Cooper's usury claim was also dismissed. At the time, the term "usury" was defined under Texas law as "interest in excess of the amount allowed by law." The term "interest" was defined as "the compensation allowed by law for the use or forbearance or detention of money." Cooper claimed that charges for property tax and damage insurance constituted charges for the use of money and that when those amounts were added to other "interest" charged under the lease, the total interest exceeded the amount allowed under state law. The Court dismissed the claim by noting that: (1) the charges for property tax and damage insurance were for those purposes only and not for the use of the money; and that (2) once those charges were removed from the computation of total "interest", there was no usury violation. The Court should have also based its holding on the fact that the underlying transaction was a lease and that charges were for the use of the equipment and not for the use of money. As such, there is not any principal or interest and usury laws were inapplicable.

The Court also dismissed the unconsionability claim that Cooper brought under the state's deceptive trade practices act, noting that Cooper was sufficiently sophisticated and that Lyon did not take advantage of Cooper's lack of knowledge in such a manner "that the resulting unfairness was glaringly noticeable, flagrant, complete and unmitigated." However, the Court improperly analyzed Cooper's claim that lease was unconsionable on its face. That portion of the unconsionability claim was based on a prior case called Tri-Continental Leasing Corp. v. Law Office of Richard W. Burns which held that: (1) a copy machine was so defective that it failed to perform its intended function; and (2) in effect, the provisions in the lease agreement were unconsionable since they disclaimed all warranties and stated that the lessor made no representations. 710 S.W.2d 604 (Tex. App. 1995). Rather than attacking the holding in Tri-Continental, the Court distinguished Cooper's case from Tri-Continental by noting that: (1) Lyon's lease disclaimed certain warranties but did not specifically state that Lyon made no representation; and (2) the laser functioned properly. As a result, lease disclaimers commonly used throughout the industry may still be subject to unconsionability claims in Texas.

Austin & Austin Enterprises, Inc. v. Equinox Capital Corporation, 2002 WL 59036 (Tex. App.-Hous (14 Dist.))

This is a good case for lessors who finance transactions in other states and who would like to know how courts analyze whether the lessee can be sued in the lessor's home state. It also serves as a reminder not to confuse choice-of-law clauses with choice-of-forum provisions.

Austin Enterprises ("Austin") was a North Carolina business that acquired equipment from a North Carolina supplier to be used in Austin's North Carolina restaurant. That purchase of the equipment was accomplished via a lease with Regency, a Texas Corporation, who later assigned its interest to Equinox Capital Corporation ("Lessor"). The lease contained a provision that stated that "the payment of all Rent Payments and other Amounts that are due under this Lease and the performance of all other obligations under this Lease are performable in Harris County, Texas." When Austin failed to perform under the lease, Lessor brought suit in Texas.

The Court first noted that the lease language amounted to a choice-of-law provision rather than a choice-of-forum provision and that Austin did not contractually agree to be sued in Texas. The Court then analyzed whether it could assert jurisdiction against Austin, paying particular attention to whether such an assertion would be consistent with due process guarantees embodied in the United States and Texas Constitutions. According to the Court, the due process requirement is driven by the idea that a person has a "liberty interest in not being subject to the binding judgments of a forum state with which the nonresident has established no meaningful contacts, ties or relations." The Court provides a concise summary of several cases analyzing the amount of contacts that would justify a Texas court in exercising jurisdiction and held that Austin did not have sufficient contacts. In particular, the court noted that: (1) Austin did not actively seek out the Texas company to transact business and was only introduced to the Texas company by the North Carolina supplier of the equipment, (2) the documents were executed by Austin in North Carolina, (3) Austin's payment of the deposit was made in North Carolina, and (4) the only telephone calls which Austin made to Texas were mere follow-ups or inquiries regarding the status of progress of the transaction and did not involve negotiations relating to the terms of the lease.

The Court continued by noting that, even if it did believe that the foregoing contacts were sufficient, it would not assert jurisdiction because to do so would "offend traditional notions of fair play and substantial justice." The unfairness and injustice would result from the fact that: (1) it would be very burdensome for Austin, a North Carolina business that runs a local restaurant and has never transacted business in Texas, to defend a suit in Texas; and (2) Lessor would eventually have to go to North Carolina anyway in order to repossess the equipment.

Frankenmuth Mutual Ins. Co. v. Escambia County, Florida, 289 F. 3d 723 (11th Cir. 2002), April 24, 2002.

Frakenmuth Mutual Insurance Co., the lessor as successor in interest ("Lessor"), leased computer equipment to Escambia County, Florida ("Lessee"). The lease contained two provisions that are commonly used in leases to state entities. First, the lease contained a non-appropriation clause which provided that the agreement would terminate in any given year if the legislative body or funding authority failed to appropriate the funds necessary to make the lease payments. This type of clause is designed in ensure that the lease is not considered "debt" for state law purposes. Second, the lease provided that in the event the county refused to appropriate the requisite funds, it would not rent any substitute equipment for the balance of the specific period (a "non-substitution clause").

Lessee subsequently decided that the computer equipment was outdated and informed Lessor that it was rejecting the lease, arguing that it was void and unenforceable for two reasons. First, the non-substitution clause was unconstitutional and, because it could not be severed from the lease, the entire lease was therefore invalid. Second, the county comptroller did not have the authority to enter into the agreement on behalf of Lessee without Lessee’s approval. Lessor brought an action seeking a declaration that the lease was valid and enforceable and prohibiting Lessee from breaching the agreement.

The Court agreed that the non-substitution clause was unconstitutional but held that the clause could be severed from the remainder of the contract and that Lessor could therefore enforce the lease without the non-substitution clause. The Court based its holding on the fact that the lease contained a severability provision and the fact that the non-substitution clause did not go to the essence of the contract.

The Court also disagreed with Lessee's contention that the county comptroller's lack of authority rendered the lease invalid, holding that Lessee ratified the agreement. Following the Florida Supreme Court’s three-part test to determine whether a county has ratified an agreement, the court found that (1) Lessee had the authority to enter into the agreement; (2) Lessee had informally or implicitly adopted the lease agreement through public meetings in the same manner in which an agreement would have been initially approved; and (3) Lessee was aware of the material terms of the lease as evidenced by its approval of the costs budgeted for the equipment and knowledge of the acquisition of a new computer system to be integrated into Lessee’s system.


Article appeared in the May, 2003 issue of the Monitor.
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