Facts: A seller sold vacant residential lots to a developer to construct residential subdivisions, carrying back a note and trust deed on the lots. The developer later entered into a construction loan agreement (CLA) with a lender to fund the construction of improvements on the property. As a condition of funding, the carryback seller agreed to subordinate their security interest to that of the lender’s under the CLA. Immediately after, the developer and lender entered into a side agreement inconsistent with the terms of the CLA. The side agreement allowed the developer to avoid investing personal funds into the project, obligating them to begin paying interest on the loan immediately, and required the project to be constructed in phases, increasing the cost and time needed to complete the project. The seller was not notified of the side agreement. The developer later defaulted on the construction loan.
Claim: The lender sought to judicially foreclose on the property, claiming their lien retained the priority position over the carryback seller’s since the subordination agreement placed the seller’s interest in a secondary position to the lender’s.
Counter claim: The seller claimed the subordination agreement was invalid since the unconsented to side agreement placed the seller’s lien at greater risk.
Holding: A California court of appeals held the subordination agreement was invalid since the side agreement made without the seller’s knowledge made significant material changes to the CLA terms, substantially impairing the seller’s security. [Citizens Business Bank v. Gevorgian (2013) _CA4th_]