Today, we will continue our discussion of pre-contractual reliance-based liability. You might remember from our last class discussing the Hoffman v. Red Owl case, that liability may be appropriate if one party repeatedly baits and switches during negotiation; and the other party relies to its detriment. Today, we will see a more modern application of this idea in Dixon v. Wells Fargo Bank. Despite being a fairly recent case, Judge Young's opinion includes one of the most careful discussions of the development of promissory estoppel and the literature on pre-contractual negotiations. Before we start, let's take a moment to understand the basics of a mortgage. A mortgage or a mortgage loan is used by home buyers to purchase homes. The lender is usually a bank, credit union or other financial institution. These loans are usually secured with the security being the borrowers property. This means that if the borrower defaults or is unable to pay the loan as it comes due, the lender can start foreclosure proceedings, which ultimately can lead to a foreclosure sale where the proceeds from the sale are first used to pay off the debt, and only the remainder, if any, goes to the debtor. By the way, the homeowner is the one mortgaging the property, and so it's called the mortgagor and the bank is the mortgagee. A mortgage is a contract with a set of terms that binds both the lender and the borrower. The terms of the contract are sometimes modified. This process is known as a loan modification, sometimes as a debt restructuring. Of course, both the lender and the borrower have to agree to the modification for the modification to be effective. While people modify their loans for a number of reasons, one common reason is for a change in the borrower's ability to pay. For instance, if someone loses their job or a spouse becomes sick, a borrower might want to modify the loan terms to make sure he or she doesn't default. As you can imagine, a home purchase is often quite expensive and most people do not have enough cash on hand to pay the whole price of the home that's why they borrow money. Mortgages are therefore very common, and many of you may already have one or will have one soon. When functioning properly, mortgages are essential to the well-being of the economy in the real estate market. However, things sometimes go array during the subprime mortgage crisis which contributed to the U.S. and world recession from 2007 through 2009. A large decline in home prices caused a large number of homeowners to default and led to massive mortgage foreclosures. The effects rattled the U.S. and world economies and we're still feeling some of those effects today. The events in the Dixon case happened during this turbulent time in the U.S. economy. In June 2009, the plaintiffs, Dixons, orally agreed with the defendants, Well Fargo, to take steps to enter in to mortgage loan modification negotiations, including stopping payments on their mortgage and submitting requested financial information. The plaintiffs performed these steps but the defendants failed to enter the modification negotiations. In December 2010, plaintiffs received notice that defendant was foreclosing based on the borrower's failure to make mortgage payments. Even though the borrower failed to make the payments at the request of Wells Fargo as a precondition of going into a modification negotiation, the plaintiffs initiated suit in state court seeking, number one, an injunction prohibiting defendant from foreclosing on their home, and number two, specific performance of an oral agreement to enter into loan modifications, and number three, seeking damages. The defendant, Wells Fargo, removed the case to federal court and then moved to dismiss. How can you make an argument that promissory estoppel liability is appropriate under these alleged facts? Well, promissory estoppel, again, allows for enforcing a promise even if made without formal consideration when the promisee relies on the promise to her detriment. In this case, the promisee was the borrower who relied on the bank's promise to enter into modification negotiations if the borrowers would stop making their monthly payments. The borrower's reliance was to their detriment because the bank subsequently foreclosed on their home. The main issue in this case is whether promissory representations in preliminary negotiations give rise to pre-contractual liability when the promisee acts in reasonably foreseeable reliance upon those representations or promises to their detriment. Let's break it down to make sure we understand. The promissory representation in this case is the bank's offer to enter into a loan modifications. The negotiations are preliminary because they're not negotiating the terms of the modification. The liability in this case would be pre-contractual since we can consider the modified loan to be a new contract. The liability is for the borrower's reliance made prior to any actual loan modification. The promisee in this case, the borrowers relied on the bank's promissory representation by stopping making payments and by submitting the requested financial information. This was to their detriment because, again, the bank turned around and foreclosed on their home for failure to make payments. Thus, another way to frame this issue is simply whether promissory estoppel is available for pre-contractual promises. In this case, the court held that, yes, promissory estoppel is available for pre-contractual promises. This is true even though all the other elements of contractual liability were not made out such as sufficient definiteness. Is this case a new Red Owl? Well, in our last lesson, we learnt about the holding in Red Owl which were also allowed for pre-contractual reliance based liability. When Red Owl was decided, there was a thought that it was an application of promissory estoppel in the pre-contractual setting that might point the way toward a more general obligation of good faith in pre-contractual negotiations. That potential was not realized as Red Owl has not had a broad effect. In some ways, the Dixon case, though, shows that Red Owl is not dead yet. It can still have important implications in certain current circumstances. Also, recall Teachers Insurance by Judge Leval that we discussed in the last case and its line of preliminary agreement cases. The Teachers Insurance case adopted an intent-based test for when parties have entered into a preliminary agreement to negotiate. The key inquiry was whether the parties intended for their commitment to negotiate to be binding. Judge Young was clearly aware of the Teachers case and that line of cases. Is there a reason he did not apply them to the Dixon case itself? Well, one reason maybe that the intent-based inquiry would not generate the result of liability that Judge Young wanted. This intent-based inquiry created a strong presumption against finding binding obligations in agreements to negotiate. It might make more sense for sophisticated parties who understand what the law is and understand each other. Here, the bank has a lot more information than the plaintiff borrowers who are struggling to understand the terms of a loan. This might be one reason for why Judge Young opted for promissory estoppel in this case. This example also might be an example of crisis law. During times of war or economic or political crisis, courts might decide cases differently than they would during non-crisis times. What law is being applied in this case, state or federal? The answer is state law. Notice that while this is a federal court, most of the citations are the Massachusetts cases. Much contemporary law regarding pre-contractual liability has been developed by federal courts, by federal judges applying state law. Teachers Insurance is especially noteworthy in this regard. First, it ran against the spirit of New York state law cases decided by New York state courts which are sharply limited pre-contractual liability. And second, the broad-ranging factual inquiry into the parties intent differed from the tendency of New York courts to put greater weight on the written word. In the United States, a federal court can pose a certified question for an opinion on the question of state law to assist a state court. Not every state permits federal courts to certify questions to their state courts but Massachusetts does. In Dixon, Judge Young discussed this possibility but ultimately decided not to certify the question, whether the Dixons allegations are sufficient to state a claim for promissory estoppel to the Judicial Court, which is the highest court in Massachusetts. Though the judge leaves open the possibility for certification if Wells Fargo or the Dixons files a motion for him to do so. Whether federal courts should be more willing to certify undecided state law questions to state courts is an interesting problem. On the one hand, certification might reduce inconsistency in application of state law and give states better control over what their law is. On the other hand, it might slow the wheels of justice. Today, we examined Dixon vs. Wells Fargo. A case that held promissory representations in pre-contractual negotiations can be enough to establish reliance-based liability. It is a modern application of Red Owl which we learnt in just the last class. The case also stands for the proposition that reliance-based liability rather than the more exacting intent-based inquiry in Teachers Insurance is sometimes going to be chosen, at least during times of crisis.
