Taylor v. Nu Digital Marketing
Facts: A carryback seller enters into a lease-option sale with a buyer calling for the buyer to consummate the purchase within five years. The buyer makes monthly installment payments with any amount in excess of the minimum payment credited toward the purchase price of the property. The installment payments are tied to the adjustable rate mortgage (ARM) payments paid by the seller on their underlying loan. Under the terms of the contract, the seller may evict the buyer by serving a Five-Day Notice to Quit if installment payments are delinquent. When the seller’s ARM interest rate resets upward, the buyer fails to make the adjusted installment payments and the seller serves a Five-Day Notice to Quit. The buyer does not comply and the seller commences an unlawful detainer (UD) action.
Claim: The buyer seeks to maintain their possession of the property, claiming the contract is not a tenancy agreement but a contract of sale since the monthly payments are credited toward the purchase price of the property and thus, they cannot be evicted by UD action.
Counterclaim: The seller seeks to evict the buyer by UD action and recover money losses from their failure to pay, claiming the contract created a tenancy which was breached by the buyer when they failed to make their required minimum installment payments since the contract included a Five-Day Notice to Quit provision and only amounts in excess of the minimum payment are credited toward the purchase price.
Holding: A California court of appeals holds the seller may evict the buyer via the UD action and recover their money losses since, while the contract functions as both a lease agreement and a contract of sale, possession of the property is obtained through lease terms due to the inclusion of a provision allowing for a 5-day Notice to Quit. [Taylor v. Nu Digital Marketing (February 29, 2016) __CA4th__]
Editor’s note — The alternative security arrangement used in this case in lieu of a standard promissory note and trust deed is a unique hybrid of the lease-option and land sales contract. The court ultimately decides to treat the transaction as a lease since the contract for possession contains a provision to provide a notice to pay or quit. The participants’ reliance on alternative documentation, sometimes called a masked security device, is the primary source of confusion in this case. These masked security devices occasionally act as a smoke screen in an attempt to save money and avoid lender due-on enforcement. A grant deed, trust deed and promissory note are used in transactions to avoid legal and financial chaos.
The California Supreme Court needs to hear this case to clear up the confusion caused by their ruling in Petersen v. Hartell (1985). In Petersen, the court held a defaulting buyer in a land sales contract who has paid “a substantial part of the purchase price” retains an absolute right to redeem the property by paying all amounts due. Thus, the definition of equitable ownership in a land sales contract is tied to the amount of equity built up by the buyer. When interest rates rise this chaos will compound as more buyers and sellers attempting to get around lender due-on enforcement will turn to these inadequate and insecure alternative security devices. In situations where a lease-option is the preferred method to structure the transaction, the form that is used to document it needs to be clear and certain to avoid misunderstanding. [See RPI Form 163 Lease-Option Contract for Deed]