Munson Hardisty, LLC v. Legacy Pointe Apartments, LLC

• Citation: 359 F.Supp.3d 546
• Decision Date: 04 January 2019
• Docket Number: No.: 3:15-cv-547-TAV-DCP,: 3:15-cv-547-TAV-DCP
• Parties: MUNSON HARDISTY, LLC, Plaintiff, v. LEGACY POINTE APARTMENTS, LLC, Defendant.
• Court: U.S. District Court — Eastern District of Tennessee

359 F.Supp.3d 546

MUNSON HARDISTY, LLC, Plaintiff,

v.LEGACY POINTE APARTMENTS, LLC, Defendant.

No.: 3:15-cv-547-TAV-DCP

United States District Court, E.D. Tennessee.

Filed January 4, 2019

Matthew A. Grossman, Frantz, McConnell & Seymour, LLP, Knoxville, TN, Ali M.M. Mojdehi, Pro Hac Vice, Janet Dean Gertz, Pro Hac Vice, Barnes & Thornburg LLP, San Diego, CA, for Plaintiff.

John A. Lucas, Wesley Edward Shipe, Howard & Howard, PC, Knoxville, TN, Gary E. Scalabrini, Pro Hac Vice, Gibbs Giden Locher Turner Senet & Wittbrodt LLP, Michael I. Wayne, Pro Hac Vice, Law Offices of Michael I. Wayne, APC, Los Angeles, CA, for

MEMORANDUM OPINION

Thomas A. Varlan, CHIEF UNITED STATES DISTRICT JUDGE

This civil action is before the Court on defendant's Motion for Judgment on the Pleadings [Doc. 109]. Defendant filed this motion on April 3, 2018, and plaintiff responded on April 25, 2018 [Doc. 111]. Defendant replied on May 1, 2018 [Doc. 113]. For the reasons set forth below, the Court will DENY defendant's motion.

I. Procedural and Factual Background

A. Summary of Allegations in Plaintiff's Complaint

This civil action arises out of the construction of Legacy Pointe Apartments ("the Project"), an apartment complex in Knox County, Tennessee [Doc. 86 p. 2]. Defendant is a Tennessee limited liability company formed to construct the Project [Id. ]. Plaintiff was one of four partners who undertook this business venture and served as general contractor on the Project, while defendant held title to the Project's real property and entered into financing covenants with the U.S. Department of Housing and Urban Development ("HUD") and HUD lenders [Id. ]. The Project was financed through a loan offered and insured by HUD and underwritten by Wells Fargo ("Lender") pursuant to the HUD § 221(d)(4) program authorized by the National Housing Act [Id. p. 5]. 12 U.S.C. § 1715l(d)(3) and (d)(4) (2011). Under section 221(d)(4), defendant and each investor in defendant were bound to certain financing requirements, one of which provided that defendant and its investors could not enter into private secondary financing for the Project or receive any distributions during the term of the construction financing [Id. ].

1. The Construction Contract

On September 13, 2007, the parties entered into a cost-plus construction contract for the Project ("the Construction Contract"), which provided that plaintiff would be paid the actual cost of the Project's construction and would additionally receive an equity interest in the Project in lieu of a monetary fee [Id. ]. Specifically, plaintiff received a ten-percent ownership interest in defendant, which is referred to in the contract as "BSPRA," a HUD acronym for Builder's and Sponsor's Profit and Risk Allowance [Id. ].

The Construction Contract required plaintiff to furnish defendant with payment and performance bonds ("Payment and Performance Bonds") issued by the Great American Insurance Company ("GAIC") to assure completion of the work as specified in the Drawing and Specifications of the Project [Id. ]. Any changes to the Drawing and Specifications had to be approved in writing by Lender and the HUD Commissioner, and defendant had a duty to initiate and approve change orders in good faith for all work it requested of plaintiff outside of the scope of the Drawings and Specifications [Id. at 7]. On September 4, 2007, the parties, GAIC, and others entered into an Indemnity Agreement related to the Payment and Performance Bonds and on September 13, 2007, the same day that the parties entered into the Construction Contract, plaintiff obtained the Payment and Performance Bonds from GAIC in the amount of $18,047,049 [Id. ].

Also on September 13, 2007, the HUD loan closed, and construction on the Project commenced [Id. at 6]. Defendant executed a Mortgagor's Certificate, which provided "upon completion of the Project there will not be outstanding any unpaid obligations contracted in connection with the purchase of the property, construction of the Project or the mortgage transaction except that such obligations may be approved by [HUD] as to term, form, and amount" [Id. ].

Plaintiff alleges that, during the course of construction, defendant unilaterally modified the Drawings and Specifications for the Project in violation of the parties' previous agreement and that these changes created significant extra work for plaintiff that was outside the scope of the Construction Contract [Id. at 7]. Plaintiff also alleges that defendant did not submit these changes for approval to HUD and Lender and did not submit change orders [Id. ]. Plaintiff alleges that, because of these changes, it performed work in excess of the contract amount by approximately $2,120,537.85 and that this amount remained outstanding to subcontractors, vendors, and suppliers (the "Claims for Extra Work") [Id. ].

Under the Construction Contract defendant was obligated to pay plaintiff for all amounts incurred in connection with the Project, and plaintiff in turn was to pay subcontractors for any work performed [Id. at 7–8]. Prior to the closing of permanent financing for the project, on January 11, 2009, an outside certified public accountant reviewed financial statements in connection with defendant's final cost certification to HUD [Id. at 8]. The auditor advised defendant that the extra amounts expended by defendant above and beyond the Construction Contract "are reconciled to the balance sheet and could represent a distribution and will have to wait for surplus cash later" [Id. ]. Plaintiff alleges that defendant did not inform plaintiff of the auditor's red flag and was in fact told by defendant that it should not discuss cost certification with the auditor [Id. ].

Later that month, plaintiff alleges, defendant promised to pay the outstanding Claims for Extra Work, totaling $2,120,537.85, to the respective subcontractors, vendors, and suppliers directly if plaintiff waived its right to receive payment for all amounts owed under the Construction Contract. Plaintiff was told that defendant intended to borrow funds from defendant's manager and majority member, Harold Moore, to pay the Claims for Extra Work directly, and thereby discharge plaintiff's liability for payment both to the subcontractors and on the Project's Payment and Performance Bonds [Id. ]. Plaintiff alleges that it relied on this representation and waived its right to receive the payment ("the 2009 Agreement"). This agreement was allegedly memorialized in February 2009, when defendant promised plaintiff and represented to HUD and the Lender in writing that the funds defendant borrowed from its manager and majority member would be used to pay the Claims for Extra Work and defendant would repay this loan with its surplus cash [Id. ].

Plaintiff alleges that at this time, unbeknown to plaintiff, defendant took the funds it borrowed from its managing member and fraudulently transferred them to a shill entity, State Insulation, LLC ("Defendant Affiliate") for no consideration [Id. at 2]. Defendant Affiliate then took assignment of the subcontractor claims but did not discharge those claims as promised to plaintiff [Id. ]. Instead, plaintiff alleges that defendant and Defendant Affiliate colluded in asserting the subcontractor claims Defendant Affiliate had obtained by assignment against the Payment Bond.

2. Permanent Financing

On July 31, 2009, the Project auditor submitted a development cost audit for the Project to defendant. The audit represented that defendant owed plaintiff $3,585,516 as "Construction Payable," which represented the BSPRA and the Claims for Extra Work [Id. at 9]. Plaintiff states that it did not demand this payment because the BSPRA amount had been contributed as "sweat equity" in order to receive a 10 percent membership interest in defendant, and plaintiff was relying on the 2009 Agreement for defendant to directly pay the subcontractors the Claims for Extra Work and thereby discharge plaintiff's liability [Id. ].

In 2010, defendant secured a thirty-year loan offered and insured by HUD pursuant to HUD's § 221(d)(4) program [Id. at 3]. To secure this loan, defendant had to make certain representations to HUD and Lender, including that all claims resulting from the construction of the Project had been paid [Id. ]. Defendant did so, making representations that all claims had been paid, excepting approximately $500,000, which defendant represented would be paid through escrow within forty-five days, and that there were no outstanding debts to subcontractors, vendors, and suppliers [Id. at 7]. Plaintiff alleges that defendant made this statement knowing that it was false, that those debts had in fact been improperly assigned to Defendant Affiliate, and that Defendant Affiliate was preparing to make a fraudulent claim against the Payment Bond on behalf of those amounts [Id. ]. Plaintiff protested defendant's representation to HUD and the Lender and refused to join defendant's statement [Id. ].

3. Suit Against GAIC

On October 23, 2009, Defendant Affiliate filed a complaint against GAIC, the insurer of the Payment Bond, in the Chancery Court for Knox County, Tennessee, making a claim against the Payment Bond plaintiff had provided for the Project [Id. ]. Defendant Affiliate asserted that plaintiff had failed to pay the Claims for Extra Work and asked for $2,120,537.85 in addition to costs, prejudgment interest, and attorneys' fees (the "Bond Claim Action") [Id. at 11]. Plaintiff alleges that defendant knew of this suit but did not disclose its existence to HUD or the Lender [Id. ]. On September 30, 2011, GAIC filed an interpleader complaint ("Interpleader Action") in the Chancery Court for Knox County, Tennessee pursuant to a settlement agreement it reached with Defendant Affiliate and defendant, and sought to deposit to the court $750,000 of funds it held as security for the Payment Bond [Id. ]. On December 20, 2011, defendant and Defendant Affiliate filed an answer to GAIC's complaint and...