United Bank, N.A. Division of The Park National Ba v. Lancaster Pollard Mortgage Company et al

OCR transcription for search; preserved printed pages are authoritative

The court incorporates by reference in this paragraph and adopts as the findings and orders
of this court the document set forth below.

[S| RUSS KENDIG

Russ Kendig
United States Bankruptcy Judge

UNITED STATES BANKRUPTCY COURT
NORTHERN DISTRICT OF OHIO

EASTERN DIVISION
In re: )
) CHAPTER
BUCYRUS COMMUNITY )
HOSPITALS, INC. ) CASE NO. 10-61078
)
Debtor. ) ADV. NO. 10-6088
)
) | JUDGE RUSS KENDIG
UNITED BANK, N.A., )
)
Plaintiff, )
)
v. )
)
LANCASTER POLLARD MORTGAGE _ )
COMPANY, et al., ) MEMORANDUM OF OPINION
) (NOT FOR PUBLICATION)
Defendants. )

On March 8, 2011, Lancaster Pollard Mortgage Company (“Lancaster”) filed a motion to
file first amended affirmative defenses, counterclaims, crossclaims and third-party complaint
(“motion for leave”). On March 18, 2011, United Bank, N.A. (“United”) filed a memorandum in
opposition, and, on March 29, 2011, Lancaster replied. On April 6, 2011, the court entered an
order stating that if neither party requested a hearing by April 18, 2011, the court would take the
matter under advisement without further notice or hearing. No request for a hearing was filed,
and the matter is now before the court.

AUTHENTICATED
U.S. GOVERNMENT
INFORMATION

GPO

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United’s motion to dismiss Lancaster’s counterclaims, filed on December 28, 2010, is
also pending before the court. For reasons discussed below, the court’s resolution of the motion
for leave is dependant on the court’s resolution of United’s motion to dismiss. Therefore,
United’s motion to dismiss is also before the court.

The court has jurisdiction over this matter pursuant to 28 U.S.C. § 1334(b) and the
general order of reference entered in this district on July 16, 1984. This is a core proceeding
under 28 U.S.C. § 157(b)(2)(A), (H), (K) and (O).

This opinion is not intended for publication or citation. The availability of this opinion, in
electronic or printed form, is not the result of a direct submission by the court.

BACKGROUND

This adversary proceeding involves a priority contest between United and Lancaster in
debtor’s accounts receivable. On June 18, 2010, in debtor’s main case, this court entered an order
(1) authorizing debtor to obtain postpetition financing; (II) granting certain security interests and
(III) granting adequate protection. The order provided that the first $524,000 borrowed from the
postpetition lender would be placed in an escrow account pending the determination of the
parties’ priority in accounts receivable. (DIP Order at 4-5). The parties both assert that they are

entitled to the escrow.

On August 31, 2010, United filed its first amended complaint. The complaint sets forth
the following.

1. On August 25, 2003, debtor executed a promissory note in the amount of $500,000 in
favor of United (“the Revolver Note”). (Complaint at § 9).

2. On June 14, 2004, United filed a financing statement with the Ohio Secretary of State.
The statement lists its collateral as “[a]ll Inventory, Chattel Paper, Accounts, Equipment
and General Intangibles; whether any of the foregoing is owned now or acquired later; all
accessions, additions, replacements, and substitutions relating to any of the foregoing; all
records of any kind relating to the foregoing; all proceeds relating to any of the foregoing
(including insurance, general intangibles and other accounts proceeds).” (Complaint at {{

10-11 ).

3. On May 29, 2007, in connection with a renewal of the Revolver Note, debtor executed
a security agreement, which granted United a security interest in “[a]ll Accounts
Receivables” among other collateral. (Complaint at 12 ).

4. On February 26, 2008, debtor executed a promissory note in favor of United in the

principal amount of $250,000 (the “Term Note”). On the same day, debtor executed a
security agreement granting United a security interest in all of debtor’s “Chattel Paper and

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Accounts.” (Complaint at J 13-14 ).

5. On June 30, 2008, in connection with a further renewal of the Revolver Note, debtor
granted United a security interest in all of debtor’s “Inventory, Chattel Paper, Accounts,
Equipment and General Intangibles.” (Complaint at { 15 ).

6. On May 5, 2009, United filed a continuation of its June 14, 2004 financing statement.
(Complaint at § 16 ).

7. As of the filing of the complaint, debtor owes United a total of approximately
$506,218.13. (Complaint at | 28 ).

Count I of United’s complaint argues that United’s lien is valid, and Count II argues that
United’s lien is first in priority. United alleges that because its June 14, 2004 financing statement
was filed before any other financing statement, United has a first priority interest in its collateral.
(Complaint at J 4 32-38).

On November 24, 2010, Lancaster filed its answer, counterclaim and third party
complaint, which sets forth the following.

1. On July 21, 2005, debtor executed a mortgage note in favor of Lancaster in the original
principal amount of $25,945,000. On the same day, debtor signed an open-end mortgage
in favor of Lancaster. Also on the same day, debtor signed a security agreement granting
Lancaster a security interest in substantially all of debtor’s assets relating to the operation
of Bucyrus Community Hospital, including accounts receivable. (Counterclaim at {| J
8-10).

2. On July 22, 2005, Lancaster filed financing statements with the Crawford Country
Recorder’s Office and the Ohio Secretary of State for the purpose of perfecting its interest
in debtor’s accounts receivable. (Counterclaim at ¥ 13).

3. On July 21, 2005, debtor obtained an opinion letter from the law firm of Franz Ward,
LLP (“Franz Ward”), which allegedly represents that Lancaster was entitled to first
priority. (Counterclaim at § 18-21).

4. Sometime shortly after the closing on July 21, 2005, Lancaster advanced approximately
$3,200,000 to United for the purpose of paying off all loans owed by debtor to United.
(Counterclaim at { 26).

5. At no time did United file a termination statement with regard to its June 14, 2004
financing statement. (Counterclaim at § 31).

Lancaster’s eight-count counterclaim argues that United had an obligation to terminate

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the June 14, 2004 financing statement but failed to do so. As such, Lancaster claims to be entitled
to first priority in debtor’s accounts receivable and damages under various legal theories.
Lancaster’s complaint alleges the following: Count I alleges that Lancaster’s lien is valid; Count
II alleges that Lancaster’s lien is first in priority; Count III alleges that United’s security interest
is “unperfected or void ab initio;” Count IV alleges that United’s lien should be equitably
subrogated to Lancaster’s lien; Count V alleges that United committed tortious interference with
an existing contract; Count VI alleges that United’s lien should be avoided as a fraudulent
transfer; Count VII alleges unjust enrichment against United; Count VIII alleges that United
breached an implied covenant of good faith and fair dealing; Count IX alleges that Bucyrus and
Franz Ward made intentional or negligent misrepresentations; Count X alleges that Bucyrus and
Franz Ward were negligent and Count XI alleges that Franz Ward was professionally negligent.

On December 28, 2010, United filed a motion to dismiss Lancaster’s counterclaims
against United. The motion to dismiss argues that Counts V, VI, VIL, and VIII should be
dismissed for lack of subject matter jurisdiction, that Count VI should be dismissed for lack of
standing, that Count III is barred by the applicable statute of limitations and that Counts IT, III,
IV, VII and VIII fail to state claims. (Motion to Dismiss at 2). On February 11, 2011, Lancaster
filed a memorandum in opposition, and, on February 25, 2011, United replied.

Less than two weeks after United’s reply, Lancaster filed its motion for leave. Lancaster’s
proposed amended affirmative defenses, counterclaims, crossclaims and third party complaint
(“amended counterclaim”) is attached to the motion. The amended counterclaim explains the
purpose of the United financing in connection with the June 14, 2004 financing statement.
According to the amended counterclaim, the United loans were used to begin hospital renovation
and to pay architectural fees prior to obtaining more permanent construction financing from
Lancaster. (Amended Counterclaim at { 28). The amended counterclaim also points out passages
in debtor’s mortgages with United which allegedly require United to terminate its financing
statement upon payment of the underlying notes. (Amended Counterclaim at {J 33-37).

The amended counterclaim also contains additional counts. Amended Count II alleges
that Untied’s June 14, 2004 financing statement is unauthorized, amended Count IV adds a claim
for equitable subordination, amended Count VI alleges that Lancaster has an equitable lien and
amended Count X alleges that Lancaster is entitled to damages from United pursuant to Ohio
Revised Code § 1309.625. Unlike the original counterclaim, the amended counterclaim does not
contain a count alleging fraudulent transfer.

United’s response to the motion for leave spans twenty pages. The first eight-and-one-
half pages are devoted to the facts of the case. United then argues that Lancaster’s motion does
not adequately describe the proposed amendments. (Response at 9-11). The remainder of the
response argues that the amendment would be futile because the amended counterclaim would
not survive a motion to dismiss. Lancaster’s reply is also nearly twenty pages long. It argues that
the motion for leave gives sufficient notice of the proposed amendments because the proposed
amendments are attached to the motion for leave as an exhibit. (Reply at 5—6). The reply also

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argues that Lancaster’s proposed amendments are not futile. (Reply at 7-19).
LAW AND ANALYSIS

Federal Rule of Civil Procedure 15(a)(2), made applicable to this proceeding by Federal
Rule of Bankruptcy Procedure 7015, states that “a party may amend its pleading only with the
opposing party’s consent or the court’s leave. The court should freely give leave when justice so
requires.” The Rule 15(a)(2) standard is lenient by design to encourage the resolution of claims
on the merits. Foman v. Davis, 371 U.S. 178, 181-82 (1962). Leave should be freely given in the
absence of a compelling reason “such as undue delay, bad faith or dilatory motive on the part of
the movant, repeated failure to cure deficiencies by amendments previously allowed, undue
prejudice to the opposing party by virtue of allowance of the amendment, futility of amendment,

etc.” Id. at 182.

United makes two arguments in its objection to the motion for leave. First, United argues
that Lancaster has failed to give sufficient notice of its intended amendments. (Objection at
9-10). This argument is meritless because Lancaster has attached its proposed amendments to the
motion for leave. The case cited by United is not to the contrary because, in that case, the movant
did not file a copy of the amended complaint, file a proper motion or indicate what the proposed
amendments would be. Roskam Baking Co., Inc. v. Lanham Machine Co., 288 F.3d 895, 906
(6th Cir. 2002).

Second, United argues that the proposed amendment would be futile. (Objection at
11-20). When determining whether a motion for leave should be denied as futile, the court must
determine whether the counterclaim, as amended, would survive a motion to dismiss. Konkol v.
Diebold, Inc., 590 F.3d 391, 404 (6th Cir. 2009). As such, the court must rule on Lancaster’s
motion to dismiss in order to rule on the motion for leave. The court now considers whether each
count of the amended counterclaim would survive a motion to dismiss.

A. Count II of the Amended Counterclaim

Count II of the amended counterclaim alleges that United’s June 14, 2004 financing
statement became unauthorized as of July 21, 2005 and, therefore, United’s liens are unperfected.
Count II of the amended counterclaim is similar to Count III of the original counterclaim which
alleges that “United’s Security Interest is Unperfected or Void Ab Initio.” United argues that
amended Count II fails to state a claim and is thus futile.

Federal Rule of Civil Procedure 12(b)(6), made applicable to this proceeding by Federal
Rule of Bankruptcy Procedure 7012, allows a party to seek dismissal if the opposing party’s
pleadings fail to state a claim on which relief can be granted. To avoid dismissal, a claim must be
facially plausible. Ashcroft v. Iqbal, 129 S.Ct 1937, 1949 (2009) (citing Bell Atlantic v.
Twombly, 500 U.S. 544, 570 (2007)). To survive a 12(b)(6) motion, the factual allegations in a
complaint “must be enough to raise a right to relief above a speculative level.” Twombly, 550

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USS. at 570.

The Court finds that amended Count II fails to state a claim because a financing statement
which was authorized at the time of filing cannot later become unauthorized. Ohio Revised Code
§ 1309.509 states in relevant part:

(A) A person may file an initial financing statement, amendment that adds
collateral covered by a financing statement, or amendment that adds a debtor
to a financing statement only if:

(1) The debtor authorizes the filing in an authenticated record or
pursuant to division (B) or (C) of this section...

(B) By authenticating or becoming bound as debtor by a security agreement, a
debtor or new debtor authorizes the filing of an initial financing statement

(emphasis added). It is obvious from the text of section 1309.509 that the requirement of
authorization is limited to the filing of the initial financing statement or a subsequent

amendment. To hold otherwise—that is, to allow parties to nullify creditors’ priority by
retroactively wishing financing statements unauthorized—would create havoc with the secured

lending system. In this case, the debtor signed security agreements. Thus, under section
1309.509(B) the financing statement was authorized when filed.

No case law was cited by either party as to the existence of such a cause of action on any
similar set of facts.

Accordingly, the motion for leave is denied with regard to Count IT of the amended
counterclaim, and Count III of the original counterclaim is dismissed.

B. Count IV of the Amended Counterclaim

Count IV of the amended counterclaim alleges that United’s liens should be equitably
subordinated to Lancaster’s liens. A claim for equitable subordination did not appear in the
original counterclaim. United argues that amended Count IV fails to state a claim.

Pursuant to 11 U.S.C. § 510(c), the court has the authority to equitably subordinate a
creditor’s lien. Section 510(c) provides:

(c) Notwithstanding subsections (a) and (b) of this section, after notice and a
hearing, the court may—

(1) under principles of equitable subordination, subordinate for

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purposes of distribution all or part of an allowed claim to all or part of
another allowed claim or all or part of an allowed interest to all or part
of another allowed interest; or

(2) order that any lien securing such a subordinated claim be
transferred to the estate.

To establish a basis for equitable subordination, a party must prove three elements to the
preponderance of the evidence: (1) “[t]he claimant must have engaged in some type of
inequitable conduct”; (2) “[t]he misconduct must have resulted in injury to the creditors of the
bankrupt or conferred an unfair advantage on the claimant” and (3) “[e]quitable subordination of
the claim must not be inconsistent with the provisions of the Bankruptcy Act.” In re Baker &
Getty Fin. Servs., Inc., 974 F.2d 712, 717-18 (6th Cir. 1992). In the case of non-insiders, the
court may only order equitable subordination if the inequitable conduct is egregious and proven
with particularity. Id. at 718.

The court concludes that Count IV of the amended counterclaim is not futile. In the
amended counterclaim, Lancaster states that the United loans were made in contemplation of
more permanent construction financing from Lancaster, that all debts owing to United were paid
off with the proceeds of loans from Lancaster and that United’s mortgages contained provisions
requiring United to terminate its financing statement upon payment of the associated loans. The
court finds that these allegations form a basis for Lancaster’s claim for equitable subordination
that is at least plausible.

In its objection to the motion for leave, United disagrees with Lancaster’s characterization
of the facts. However, under the applicable legal standard, the court’s review is restricted to the
face of the amended counterclaim and its attachments. United’s arguments are better suited for a
motion for summary judgment.

Accordingly, Lancaster’s motion for leave is granted with regard to amended Claim IV.
C. Count V of the Amended Counterclaim

Count V of the amended Counterclaim alleges that Lancaster should be equitably
subrogated to United’s lien position. Count V of the amended counterclaim is similar to Count
IV of the original counterclaim.

The doctrine of equitable subrogation exists to prevent fraud and mistakes. Dept. of
Taxation v. Jones, 399 N.E.2d 1215, 1217-18 (Ohio 1980). Where applicable, it allows a junior
lien holder to step into the shoes of senior lien holder and collect the proceeds from a sale of
collateral. Id. at 1216-17. Equitable subrogation is an exceptional remedy. “In order to entitle
one to subrogation, his equity must be strong and his case clear.” Id. at 1218.

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The legal standard for imposition of equitable subrogation is similar to the legal standard
for equitable subordination. Both doctrines result in a reversal of lien priorities, both doctrines
exist to prevent fraud or mistake and both doctrines require a strong evidentiary showing.
Therefore, for the reasons stated above, the court finds that amended Claim V is not futile.

United argues that the doctrine of equitable subrogation extends only to real estate and
does not apply to personal property. United’s argument overlooks Ohio Revised Code §
1301.103,' which provides that unless specifically displaced by a section of UCC, equitable
remedies remain available. Furthermore, the Sixth Circuit Court of Appeals has rejected the
argument that the UCC precludes courts from granting equitable liens, which suggests that
equitable remedies affecting lien validity and priority remain available generally. Gen. Ins. Co. of
Am. v. Lowery, 570 F.2d 120, 122 (6th Cir. 1978).

United cites a recent, unpublished Ohio Court of Appeals decision for the proposition that
“when the UCC’s provisions clearly apply to an alleged claim, the statutory provisions displace,

and thus exclude, all common law claims.” Peters Family Farm, Inc. v. The Sav. Bank, 2011 WL
497476, *3 (Ohio Ct. App. Jan. 28, 2011). But that case is easily distinguishable. In that case, the
issue was not the availability of equitable remedies, but whether the loss allocation provisions of
the UCC with regard to negotiable instruments supplant common law causes of action, such as
negligence. Id. at *2-*3. The Sixth Circuit’s decision in Lowery is much more on point.

Accordingly, the court grants Lancaster’s motion for leave with regard to amended Count
V.

D. Count III of the Amended Counterclaim

Count III of the amended counterclaim alleges that Lancaster has a first priority lien.
Amended Count III is similar to Count II in the original counterclaim. The court has found that
amended Counts IV and V state a claim. If Lancaster prevails on amended Count IV or V,
Lancaster will have first priority lien. Therefore, Count III states a claim as well.

Accordingly, the motion for leave is granted with regard to Count II.

E. Count VI of the Amended Counterclaim

Count VI of the amended counterclaim alleges that Lancaster has an equitable lien in
debtor’s assets. A claim for equitable lien did not appear in the original counterclaim.

A court may impose an equitable lien in situations where parties intended, but failed, to

1Section 1301.103(B), which was amended on March 30, 2011, is substantially the same
as Ohio Revised Code § 1301.03, which was repealed on the same day. Therefore, it does not
matter which of these code sections applies to this adversary proceeding.

8

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create a valid lien. See Landskroner v. Landskroner, 797 N.E.2d 1002, 1014 (Ohio App. 2003).
Here, although the parties dispute priority, the parties do not seriously dispute that Lancaster has
a valid lien. Therefore, Count VI is moot and the requested relief is not available.

Accordingly, the motion for leave with regard to amended Claim VI is denied.
F. Counts VII, VIII, IX, and X of the Amended Counterclaim

Count VII of the amended counterclaim, which is similar to Count V of the original
counterclaim, alleges tortious interference with a contract against United. Count VIII of the
amended counterclaim, which is similar to Count VII of the original counterclaim, alleges unjust
enrichment against United. Count IX of the amended counterclaim, which is similar to Count
VIII of the original counterclaim, alleges violations of an implied covenant of good faith and fair
dealing against United. Count X of the amended counterclaim alleges damages against United
pursuant to Ohio Revised Code § 1309.625. No similar claim appears in the original
counterclaim.

These counts seek only money damages from a non-debtor party. As such, United argues
that they do not effect the estate and therefore fall outside of the court’s subject matter
jurisdiction. The court agrees with United.

The court’s subject matter jurisdiction over a case involving non-debtors is determined
solely by 28 U.S.C. § 1334. Emp’t Sec. Comm’n v. Wolverine Radio Co. (In re Wolverine Radio
Co.), 930 F.2d 1132, 1140 (6th Cir. 1991). Section 1334 lists four types of matters over which
the court has jurisdiction: (1) cases under title 11; (2) proceedings arising under title 11; (3)
proceedings arising in a case under title 11 and (4) proceedings related to a case under title 11.
The first matter, “cases under title 11," refers to the filing of the bankruptcy petition. Id. at 1141.
The remaining three types of matters operate conjunctively to define the outer limit of bankruptcy
jurisdiction. “Therefore, for purposes of determining section 1334(b) jurisdiction, it is necessary
only to determine whether a matter is at least ‘related to’ the bankruptcy.” Id.

The Sixth Circuit has adopted the following test to determine whether a matter is “related
to” the bankruptcy:

The usual articulation of the test for determining whether a civil proceeding is
related to bankruptcy is whether the outcome of that proceeding could
conceivably have any effect on the estate being administered in bankruptcy.
Thus, the proceeding need not necessarily be against the debtor or against the
debtor's property. An action is related to bankruptcy if the outcome could alter
the debtor's rights, liabilities, options, or freedom of action (either positively
or negatively) and which in any way impacts upon the handling and
administration of the bankrupt estate.

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Id. at 1142 (quoting In re Pacor, Inc., 743 F.2d 984, 994 (3d Cir. 1984)) (emphasis in original).

In this case, Lancaster’s amended counterclaim does not suggest any way in which these
counts could conceivably have an effect on the estate. The court notes that certain language in
amended Counts VII, VIII, LX, and X suggests that damages should be paid out of the escrow
created by the court’s June 18, 2010 order. However, the escrow was created as a carve-out for
compensating the first priority lien holder for the value of its lien, not for paying damage awards.

Accordingly, leave to amend is denied with regard to amended Counts VII, VIII, TX, and
X, and Lancaster’s claims for tortious interference with an existing contract, unjust enrichment,
and implied covenant of good faith and fair dealing are dismissed without prejudice for lack of
subject matter jurisdiction.

G. Counts I, XI, XII and XIII of the Amended Counterclaim

No objection was filed regarding Counts I, XI, XII or XIII of the amended counterclaim.
Accordingly, leave to file amended Counts I, XI, XII and XIII is granted.

An order accompanies this opinion.
# # #
Service List:

Polly J Harris
41 S High St
Columbus, OH 43215

Bonnie Yvette Hochman Rothell
1850 M Street, NW

Suite 400

Washington, DC 20036

Deanna M. Remmes
Krooth & Altman LLP
1850 M Street

Suite 400

Washington, DC 20036

Matthew R. Rechner
McDonald Hopkins, LLC

600 Superior Ave., East, Suite 2100
Cleveland, OH 44114

10

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Paul W Linehan

McDonald Hopkins LLC
600 Superior Ave E

Suite 2100

Cleveland, OH 44114-2653

George S. Coakley

Reminger & Reminger Co., L.P.A.
101 Prospect Ave. West

1400 Midland Bldg.

Cleveland, OH 44115

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