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Leasing and the Law: Case Law Offers Important Lessons for Leasing Companies

Dispatches from the Trenches

This issue of Dispatches from the Trenches examines some intriguing court cases to ask: (1) Can a contract disclaim the facts that form the basis of another party's fraudulent inducement claim? (2) What happens to lenders that repossess the wrong collateral?

Can disclaimers built into a contract nullify subsequent claims of fraud?

Northwest Bank & Trust v. First Illinois National Bank; 354 F.3d 721 (8th Cir. 2003)

Northwest Bank & Trust entered into a loan participation agreement with First Illinois National Bank (FINB) to help finance the purchase of equipment for a subsidiary of one of FINB's most important customers, Whitehall Funding, Inc.  Before entering the agreement, Northwest requested and received Whitehall's prior three years of audited financial statements along with a loan presentation package prepared by FINB.  The agreement itself contained a strongly-worded, unambiguous disclaimer, acknowledging that Northwest had "made an independent investigation of the loan," had "satisfied itself with respect to [Whitehall's] credit standing," was "not relying upon [FINB's] judgment," and that FINB had "made no warranty of any kind, express or implied, in connection with the loan."

After Whitehall defaulted on the loan, Northwest sued FINB in federal court under Iowa state law alleging a variety of claims.  One of those claims was that FINB committed fraud by providing false and misleading information in an attempt to infuse one of its most important customers with more cash.  The district court held that since Northwest - a sophisticated lending institution - had expressly disclaimed any reliance upon FINB's judgment, it was barred from asserting that it was fraudulently induced into the agreement.  However, on appeal the 8th Circuit reversed the district court's holding regarding the fraudulent inducement claim, finding that by definition fraudulent inducement precedes the formation of a contract and that disclaimers in the contract were therefore irrelevant.  Notwithstanding the sophistication of the parties, the 8th Circuit held that fraudulent inducement could be the basis for an action despite limiting provisions or disclaimers contained in the agreement.

Wells Fargo Bank Northwest v. TACA International Airlines; 247 F. Supp. 2d 352 (S.D.N.Y. 2002)

Lease management provider, C-S Aviation Services (the "Lessor's Negotiator") negotiated and managed the lease of five aircraft between TACA International Airlines ("Lessee") and Wells Fargo Bank Northwest ("Lessor"). The lease agreements contained a standard "hell or high-water" provision and a typical disclaimer of representation and warranties.  After the agreements were executed, TACA discovered that the actual cost to operate the aircraft exceeded the estimates provided by the Lessor's Negotiator during negotiations. The parties tried to resolve the dispute by "working together" to find another airline to assume the obligations of Lessee.  When attempts to find a substitute lessee failed, TACA stopped using the aircraft and ceased its monthly payments under the lease agreements.

Wells Fargo sued for the rent due under the leases. TACA in turn claimed to have been fraudulently induced to enter the Leases, filed a counterclaim, and brought a third-party action against the C-S Aviation for damages incurred as a result of the fraud. According to TACA, the false estimates and representations made by C-S Aviation had a large impact on the profitability of the aircraft and were therefore critical to its decision to enter the leases.  TACA further asserted that its counterclaims should operate as both defenses and set-offs against its rent obligations.

As usual, Lessor sought to win the battle by relying on its trusty "hell or high-water" provision, arguing that the provision required rent be paid regardless of any defenses or set-offs and that it was unambiguous and not contradicted by other provisions within the Leases.  TACA argued that the fact that it was fraudulently induced to enter the lease rendered the "hell or high-water" provision inapplicable - quite simply that the lease was never a binding and enforceable obligation.

This time, the court, applying New York law, held that: "[i]t is well-established, however, that a party to a contract cannot rely on oral representations where a contract specifically disavows the incorporation of non-written representations [and that when a] party to a contract specifically disclaims reliance upon a representation in a contract, that party cannot... ...assert that it was fraudulently induced into signing the contract by the very representation it has disclaimed."  The court noted that the disclaimer provision in the lease was sufficiently broad and specific such that no explicit mention of "maintenance costs" was required for it to effectively operate with respect to representations about maintenance.

When repossessing leased equipment, make sure you get the right stuff.

Gateway Bank & Trust v. Timms; 577 S.E.2d 15 (Ga. App. 2003)

Phillip Hatfield financed the purchase of a Nolan flatbed trailer with Gateway Bank & Trust.  When Hatfield defaulted, the bank seized a trailer from an auction lot that it believed to be the trailer he had financed.  Although placed on the lot by Hatfield, other evidence seemed to show that the trailer seized from the lot by the bank was actually a different one belonging to Hatfield's mother, Linda Timms.  When Timms contacted Gateway to notify them of the mistake, the bank's vice-president was allegedly rude and referred her to the bank's attorneys.  Had Gateway only given the trailer back to Timms, it might have avoided the punitive or other damages outlined below.

In response to Gateway's refusal to address its mistake, Timms filed suit, claiming that Gateway had wrongfully repossessed her trailer.  A jury not only forced the bank to return the trailer to Timms, but also required it to pay her compensatory damages for the fair rental value of the trailer for the time it was in the bank's possession.  Timms was also awarded punitive damages and attorney's fees.  The Georgia Court of Appeals affirmed, reasoning that the award was justified by Gateway's "entire want of care" and failure to attempt to identify the trailer's rightful owner before and after seizing it.

Article appeared in the May, 2005 issue of the Monitor.
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