Weast v. Arnold

• Decision Date: 10 May 1984
• Docket Number: No. 62,62
• Citation: 474 A.2d 904,299 Md. 540
• Parties: , 38 UCC Rep.Serv. 913 Ruth W. WEAST v. Francis A. ARNOLD et ux. Sept. Term 1983.
• Court: Maryland Court of Appeals

Page 540

299 Md. 540

474 A.2d 904, 38 UCC Rep.Serv. 913

Ruth W. WEAST v. Francis A. ARNOLD et ux.

No. 62 Sept. Term 1983.

Court of Appeals of Maryland.

May 10, 1984.

Arthur G. House, Bethesda, for appellant.

Malcolm B. Kane, Ellicott City (Lloyd, Kane & Wieder, Ellicott City, on the brief), for appellees.

Argued before MURPHY, C.J., and SMITH, ELDRIDGE, COLE, DAVIDSON, RODOWSKY and COUCH, JJ.

RODOWSKY, Judge.

This is a suit against the makers of promissory notes which the payee pledged as collateral for a loan. The delinquent balance on that loan has been paid by the pledgor's surety who thereby acquired the notes and who now sues on them. Contrary to the trial court's conclusion we shall hold that the plaintiff enjoys holder in due course status, as transferee of the lender's rights in the notes, but only to the extent of the lender's security interest in the notes. The excess of the plaintiff's claim is subject to a breach of contract defense on which the defending makers proved entitlement to no more than nominal damages as a setoff.

On September 26, 1972 George E. Weast, Jr. (George), then the husband of the plaintiff, Ruth W. Weast (Ruth), borrowed $140,000 from State National Bank of Maryland (SNB). Ruth had "co-signed for [her] husband" in connection with this indebtedness. Although the documents evidencing this loan are not in evidence, the premise on which the parties presented the instant case was that, as between Ruth and George, George was the principal obligor and Ruth was an accommodation party. We shall call this obligation and its later modifications the "Weast debt." By November of 1973 the Weast debt was in default and an agreement was reached with SNB modifying the terms. As part of this modification the notes on which the instant suit is based were made part of SNB's security. The notes came about in the following manner.

On November 23, 1973 George sold to Francis A. Arnold (Francis), one of the defendants, and to Randall Printing Company, Inc., a District of Columbia corporation (Randall Co.), common stock in Randall Co. Consideration moving to George in this transaction included three promissory notes in the combined original principal amount of $100,000, consisting of respective face amounts of $41,364, $38,636 and $20,000. Francis and his wife, Josephine Arnold (Josephine), the other defendant herein, signed each of the notes as makers. Randall Co. also signed the $38,636 note as a maker. We shall call these three notes the "Arnold notes." Francis and Randall Co. each pledged the Randall Co. stock respectively purchased by them as security and cross-security for the payment, inter alia, of the Arnold notes. Subsequently Randall Co. failed so that neither it nor its stock are involved in the case before us.

As part of the restructuring of the Weast debt to SNB, George on November 27, 1973 executed a security agreement in favor of SNB and indorsed the Arnold notes to the order of SNB. The security agreement recited that "as collateral security for the payment of any and all indebtedness" of George the Arnold notes and the pledges of Randall Co. stock had been "deposited with" and "pledged" to SNB. SNB was "also given a lien upon the title or interest of [George] in all property and securities now in ... the custody or possession of the Bank ...." The Arnolds were notified to make payments on their notes to SNB. Further to secure SNB, George and Ruth placed a second deed of trust on their residence in favor of SNB.

George petitioned for voluntary bankruptcy on July 1, 1975 in the District of Maryland. He listed SNB as a secured creditor and stated the principal balance due SNB, without accumulated interest, to be $104,235.12. His petition referred to the second lien on the residence and the Arnold notes as SNB's security. On April 5, 1977 George received a discharge in bankruptcy. The trustee of George's bankruptcy estate reported there to be no assets and the bankruptcy judge, also on April 5, 1977, approved that report and ordered the estate closed.

Payments to SNB on the Arnold notes ceased in the summer of 1976. At the times of the defaults on those notes the principal balances due totaled $67,844.22. SNB never sued on the Arnold notes.

About December 23, 1975 George and Ruth entered into a voluntary separation, support and property settlement agreement under which George was required to assign to Ruth all of George's interest in the Arnold notes. The Weasts were divorced June 10, 1976. By a writing dated June 3, 1976 George assigned "all rights and interests" in the Arnold notes to Ruth. This assignment was made after George had been adjudicated a bankrupt but before his discharge and the closing of his bankruptcy estate. The Arnold notes were then in the possession of SNB and were not, and never have been, indorsed by George to Ruth.

The record in this case leaves us uninformed as to whether there were any credits against the Weast debt, once payment on the Arnold notes ceased, until 1979. In order to avoid foreclosure of the deed of trust held by SNB on the residence, Ruth, on June 5, 1979, agreed with SNB to sell the property and, from the proceeds, to pay all principal and accrued interest on the Weast debt. Ruth also agreed to the release of $10,000 to SNB from the principal of an escrow account, together with the interest earned thereon, all of which was applied to the Weast debt, including counsel fees to SNB's attorneys. The total paid by Ruth in 1979 in order to satisfy the Weast debt to SNB appears to have been approximately $58,400.

One aspect of the settlement between Ruth and SNB was that SNB on July 13, 1979 indorsed to the order of Ruth each of the Arnold notes. At the same time Ruth assigned to SNB "all or such part of her interest in any proceeds collected thereon to the extent of the then unpaid balance of her obligations" to SNB, pursuant to the settlement agreement.

Ruth brought the present action on December 21, 1979 against Arnold and Josephine. Ruth's position at trial was that she acquired her interest in the Arnold notes by indorsement from SNB to her. She measured her claim by the total unpaid principal balance of the Arnold notes, together with 8% per annum interest thereon, as specified in the notes. Computed to February 1, 1982, the day of trial, the claim totaled $97,615.21. The Arnolds' principal contention was that Ruth was subject to a defense based on breach by George of the agreement for sale of Randall Co. stock which gave rise to the Arnold notes. The agreement provided that George, the original pledgee, would release part of the stock from pledge as increments of the stock purchase price were paid. One of these payment levels had been reached in 1974 but SNB, George's pledgee, would not release any of the stock. Ruth's reply was that this defense was not available against her because she enjoyed the rights of a holder in due course. Ruth based that status on her being a transferee of SNB which, she said, had acquired the Arnold notes in that capacity. Another issue raised by the Arnolds was that Ruth had acquired from SNB no more than SNB's security interest in the notes.

The trial court, in a written opinion, first considered Ruth's possible entitlement to the notes as assignee of George in June of 1976. It concluded that the assignment from George to Ruth was invalid because he was then in bankruptcy. We express no views on that holding because it is not before us. Ruth has not challenged that holding in her brief, presumably because she does not desire to trace her interest via assignment from George and thereby, arguably, be subject to defenses, if any, arising out of the alleged breach of the terms of the stock sale transaction between George and Francis. In this Court Ruth stands exclusively on her position that she acquired the same rights as SNB had, and that they are those of a holder in due course.

The trial court next reasoned that Ruth had become the owner of the Arnold notes by what amounted to a sale to Ruth by SNB of the collateral following default on the Weast debt. George's bankruptcy was pointed to as the event of default. In concluding that SNB had transferred to Ruth full title to the Arnold notes, the court relied on Md.Code (1975), § 9-504(4) of the Commercial Law Article (CL). However, in the view of the circuit court, Ruth was not a holder in due course of the Arnold notes inasmuch as they were in default at the time she acquired them from SNB. Then, because Ruth was an assignee and had not presented any rebuttal to testimony suggesting that the failure of Randall Co. was attributable to the breach of the pledge agreement, it was held that there was "no choice other than to enter judgment in favor of the defendants," Francis and Josephine.

Certiorari was issued on our own motion prior to consideration of Ruth's appeal by the Court of Special Appeals. We shall reverse and remand.

(1)

SNB was a holder in due course. Under the test of § 3-302(1) it took the Arnold notes for value, in good faith and without notice that any instrument was overdue or had been dishonored, or that any person asserted a defense against or claim to the instrument. ¹ See 5 R. Anderson, Uniform Commercial Code §§ 3-302:13 to 3-302:34 (3d ed. 1984); J. White and R. Summers, Uniform Commercial Code §§ 14-1 to 14-10 (2d ed. 1980). A holder takes an instrument for value "[t]o the extent that ... he acquires a security interest in ... the instrument otherwise than by legal process," or "[w]hen he takes the instrument ... as security for an antecedent claim against any person whether or not the claim is due." Sec. 3-303(a) and (b). See Anderson, supra, §§ 3-303:12-17, § 3-201:14, and § 3-302:35; 2 Bender's Uniform Commercial Code Service, F. Hart and W. Willier, Commercial Paper Under the Uniform Commercial Code §§ 11.03- (1972, 1984 Supp.); Annot., 97 A.L.R.3d 1114, at § 11 (1980, 1983 Supp.). There is no evidence that SNB...