On August 20, 2014, the North Carolina Supreme Court issued an opinion clarifying the enforceability of waivers and releases of claims and defenses granted by borrowers and guarantors in forbearance agreements. RL REGI N.C., LLC v. Lighthouse Cove, LLC, No. 427PA13, 2014 WL 4087899 (N.C. Aug. 20, 2014).  With little prior guidance from that state’s highest court on pre-litigation negotiations between lenders and borrowers, the holding will be welcome news to lenders in North Carolina and illustrates the value of a properly documented forbearance agreement.

Court Upholds Enforceability of Release of Guarantor’s Claims Contained in Forbearance Agreement

In Lighthouse Cove, Regions Bank provided over $4 million in financing for the acquisition and development of approximately 57 acres of real property. The loan was secured by the real property and the personal guaranties of the borrowers’ individual business partners and their spouses. Three years after the initial funding of the loan and execution of the guaranties, the borrowers defaulted on the loan, and the parties entered into a forbearance agreement. The forbearance provided that the lender would forgo exercising its remedies under the loan documents for a defined time period in exchange for certain agreements from borrowers and guarantors, including a “Waiver of Claims” section, whereby the borrowers and guarantors specifically waived and released any claims that the lender failed to act in good faith or conduct itself in a reasonable manner, and generally released the lender from “any and all claims, defenses and causes of action” that occurred prior to the date of the forbearance agreement. The loan was later purchased by RL REGI North Carolina, LLC.

After the expiration of the forbearance period, the borrowers again defaulted on the loan, and the lender filed a lawsuit against the borrowers and guarantors seeking recovery of the outstanding indebtedness under the loan. Connie S. Yow, one of the guarantors, asserted as an affirmative defense to collection that her guaranty was obtained in violation of the Equal Credit Opportunity Act (“ECOA”), a set of federal guidelines prohibiting lenders from requiring a spousal guaranty without first finding that the applicant spouse is not independently creditworthy. The trial court found that the guaranty violated the ECOA and denied recovery. The N.C. Court of Appeals affirmed the trial court, finding that the waiver of claims contained in the forbearance agreement could not waive the defense that the guaranty was obtained in violation of the ECOA.

The North Carolina Supreme Court reversed the Court of Appeals, finding that the trial court improperly allowed the guarantor to assert a defense that she waived under the forbearance agreement, thus depriving the lender of its rights under the forbearance agreement. Specifically, the Court held that parties are free to waive various rights, including those arising under statutes. Although the guarantor did not specifically waive the ECOA defense in the forbearance agreement, the Court found the “comprehensive language contained in the agreement” and “overall expansive language of the waiver” to be sufficient to include any potential claim or defense. Ultimately, the Court stated that “a waiver of potential defenses to the guaranty, including a potential defense for a violation of the ECOA, was a part of defendant’s decision to accept the benefits of the forbearance agreement.”

Conclusion

The Lighthouse Cove decision sends a very clear signal from North Carolina’s highest court that waivers and releases contained in forbearance agreements, modifications, and other loan documents will be enforced by North Carolina courts. Lenders should be diligent in properly documenting forbearance agreements, modifications, extensions and other restructuring documents to include adequate waiver and release language to protect themselves from affirmative liability and limit defenses to collection based on prior acts. The decision is also a reminder to lenders to strategically evaluate the use of forbearance agreements and modifications as opportunities to obtain lender protections and reduce risk throughout the life of a loan.