Over the last year Mr. Alster was retained by the owner of a small business who, perhaps out of desperation, borrowed close to $1 million from a “hard money lender”; as a condition of the loan our borrower/client had to put up his real property, which he eventually made his residence, as collateral for the loan. In addition to agreeing to pay very high interest rate, the loan provided for fees, penalties and a 10% higher “default interest rate” should the borrower default on his payment or other loan obligations. As what so often happens with these types of loans, our client made timely payments for three (3) years and then, when the loan “ballooned” three (3) years later, i.e., became payable in full, our client defaulted on his obligation to pay off the loan in full.
In addition to demanding full payment at the default interest rate from the date of default (which was 10% higher than the already very high approximately 18% original loan rate), the lender demanded payment of significant fees and penalties, several of which either could not be comprehended or were completely missing from the loan documents themselves signed by our client. These charges amounted somewhere from $100,000 - $200,000 more than what would have been the payoff balance at the original rate of interest provided for in the loan documents. When the client retained us, he had a good faith and capable buyer who was willing and able to purchase his property at a price which would have enabled our client to pay off his loan in full at the original rate of interest and walk away from the closing with more than $300,000.00.
All fees, charges and/or penalties demanded by lenders beyond the original rate of interest must reasonably relate to the actual costs incurred by the lender.
After being hotly litigated in the Superior Court of New Jersey, Chancery Division for approximately four to six months, the case settled with our client agreeing to pay all of the reasonable late charges, out-of-pocket costs incurred by the lender, and only a small percentage of the penalties and other fees/charges that the lender was originally demanding, several of which were never fully explained by the lender.
Of significance for all borrowers facing a similar predicament is New Jersey law which requires that all fees, charges and/or penalties demanded by lenders above the original rate of interest reasonably relate to the actual costs incurred by the lender as a result of the borrowers’ default. Another significant factor probably was that even though the purpose of the loan was to fund our client’s business, the loan could at least arguably still be considered a consumer transaction under New Jersey’s Consumer Fraud Act. This issue was never ruled on by the Chancery Judge assigned to this case being that the case settled before trial and before any Summary Judgment Motions were filed by either side.
Use of the offer of compromise
On the procedural side, the most important factor that enabled our office to procure a reasonable and early settlement with this recalcitrant hard money lender, was likely our use of an “Offer of Compromise”. The Offer of Compromise, which is probably rarely used as a tool by litigants defending against unfair and/or outrageous demands by hard money lenders in foreclosure and other legal actions, allows the defendant/borrower to make a reasonable settlement offer (hereinafter “the Offer”) to the plaintiff/lender by filing the Offer with the Court. Then if the lender eventually procures a final judgment against the borrower for less than 120% of the amount of the Offer, the lender is obligated to pay for the reasonable attorney’s fees incurred by the borrower from 30 days after the Offers file with the Court through the conclusion of the case. These fees can be very significant in this sort of litigation and put real pressure on the lender to be reasonable in its demands. Obviously, the sooner the Offer is filed, the more pressure it puts on the lender to settle on reasonable terms, especially in light of the earlier law described above.
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