filed: July 22, 1988.
JOHN M. ADAMS, JR., JACQUELINE ADAMS, DENNIS R. ABSHER, ROBERT J. ABSHER, HARVEY L. ALPERN, BARBARA ALPERN, PAMELA M. ANTHONY, CHARLES M. ARONSON, JOY ARONSON, ART BAER, RAYMOND L. BILLE, KARLA M. BILLE, MILTON M. BIRNBAUM, DAVID BLACK, JAMES E. BLUM, DOROTHY BLUM, JOHN M. BOLLINGER, BEVERLY BOLLINGER, N. FRED BRANNOCK, JOHN E. BRITTAIN, III, CAROL A. BRITTAIN, HERBERT BRONSTEN, MIRIAM BRONSTEN, JON BURKEY, CYNTHIA A. BURKEY, ESEQUIEL CAMPOS, ELVA M. CAMPOS, RICHARD CASTER, NANCY CASTER, DAVID CEE CATES, LYN CATES, DAVID H. CAUBLE, DARLOS CAUBLE, MILTON J. CHASIN, JOHN A. COLLINS, LEE COLLINS, CAROLE J. CONTI, CHRISTOPHER CROWE, LINDA CROWE, PETER C. CULLEN, DAVID L. CUNNINGHAM, BERNEICE P. CUNNINGHAM, DONALD W. DAYMON, LUCILLE DAYMON, RENE DEL RE, DAYCEL B. DEL RE, JOSEPH M. DE MARCO, LOUIS DEMORALES, KATHE G. DEMORALES, E. MICHAEL DE SANTIS, WILLIAM A. DIAL, JOY A. DIAL, LARRY W. DREHS, CYNTHIA A. DREHS, DAVID A. DRUMMOND, SYLVIA DRUMMOND, ALAIN F. DU PUIS, YARY DU PUIS, WILLIAM D. EDWARDS, JOHN R. ELERDING, S. LINDA ANDRIEUX ELERDING, GERD H. ERNST, THEODORA ERNST, JOHN J. FITCH, SANDRA K. FITCH, THOMAS M. FONTANA, SUSAN LEWIS FONTANA, RICHARD E. FORINGER, WARREN H. FOX, ROBERTA H. FOX, WILLIAM FRANCIS, LEO L. FRISCHMAN, CHANA F. FRISCHMAN, SUZANNE FURST, HOWARD FURST, EDWARD F. GILL, SYLVELYN D. GILL, MARCEL GOLDFARB, RUTH GOLDFARB, LISA GOLDMAN, HOWARD GOLDMAN, IRVIN GOODMAN, FOROTHY GOODMAN, RICHARD H. GREY, SALLIE V. GREY, RICHARD R. GREY, CATHERINE L. GREY, KARL G. GROTHUES, MECHTILD GROTHUES, RANDALL W. HALLIDAY, CHARLES T. HARRIS, CAROLYN L. HARRIS, JOHN R. HARTMAN, BARBARA HARTMAN, JOHN T.; HEDGEPETH, JR., MARY W. HEDGEPETH, HANNS HEDERER, ANGELIKA HEDERER, ORVILLE G. HIEPLER, FLORENCE L. HIEPLER, WILLIAM C. HOLMES, BONNIE HOLMES, RICHARD HUETTER, MARIA LUISE HEUTTER, CAROL A. IMLE, JOHN F. IMLE, JR., CHARLES W. JACKMAN, YVONNE I. JACKMAN, RAND L. JACKSON, MARTHA JACKSON, DAONALD D. JEFFRIES, VIRGINIA JEFFRIES, CARLOS JIMENEZ, MARICAREM JIMENEZ, INDERJIT KAUR, JAMES L. KEATING, KATHY K. KEATING, ROGER L. KEECH, GEORGE T. KEEN, JR., SALLY J. KEEN, D. FREDERICK KNUDSEN, CHRISTINE KNUDSEN, EDYTH C. KOCH, MARTIN L. KOVE, VIVIENNE E. KOVE, RICHARD J. KUHN, ARLENE KUHN, JEAN B. LA FOND, JULIE E. LA FOND, NICOL R. LALY, DAVID E. LANG, GRACE LANG, MITCHELL C. LATTER, ELIAS LAZARIDES, CATHERINE LAZARDIES, CHUN B. LEE, JOHN W. LEGGAT, III, NANCY JANE LEGGAT, VICTOR LOBL, HARRY A. LOUIE, DELORES C. LOUIE, ALEXANDER C. MACDONALD, DOROTHE MACDONALD, JOHN ERICK MACK, JR., DAGMAR MACK, JAMES E. MARTIN, JOHN MASIUS, DONALD S. MAYES, JOSEPHINE E. MAYES, JOSEPH MCDANIEL, MARY MCDANIEL, DAVID E. MILLER, TONI R. MILLER, LEE MILLER MICHAEL J. MOSS, ROMAIN OLIVER NELSEN, RICHARD A. NEUMEYER, LEONARD M. OKUN, TED L. OLSEN, ELISE E. OLSEN, DHIRU G. PATEL, JYOTI D. PATEL, RAMESH R. PATEL, RONALD J. PATTERSON, CYNTHIA PATTON, LEOARND PEARLMAN, CINDY PEARLMAN, RONALD PEARLMAN, LAURIE PEARLMAN, THOMAS POWELL, ANTHONY E. ROMERO, ANDREW RUDD, VIRGINIA A. RUDD, JAMES K. RUXIN, HOWARD SADOWSKY, JUDITY SADOWSKY, VIKRAM SHAH, JYOTI SHAH, FREDERICK C. SHALLER, KIMBERLY W. SHALLER, HOWARD SHAPRIO, JOAN A. SHAPIRO, STEVEN M. SHAW, MARCELLA J. SHAW, BERNARD SHEARER, BEVERLY SHEARER, GEORGE M. SHERAN, ARTHUR MICHAEL SOLENDER, ELSIE SOLENDER, STEPHEN LAWWRENCE SOLENDER, BENJHAMIN S. SONG, JENNIFER SONG, JOSEPH STALL, PHYLLIS L. STALL, TERENCE T. STAY, JACK STRAUSS, JEFF STRONG, MICHAEL R. SULLIVAN, ELYSE E. SULLIVAN, JOHN E. SWAN, LINDA G. SWAN, STEPHEN R. TARGAN, JANNE TARGAN, HAROLD A. THOMPSON, JAY THOMPSON, SHIRLETA RICHARDS-THOMPSON, STEVEN TISHERMAN, ARLEEN TISHERMAN, KALYANASUNDARAM VENKATARAMAN, LORAN G. VENKATARAMAN, TROY VERRETT, CHARLENE VERRETT, DONALD VOLZ, KAY A. VOLZ, WILLIAM H. WALSH, YUI L. WANG, RONAD E. WILLIAMS, KATHRYN M. WILLIAMS, WANDA WILSON, JOSEPH L, WILSON, HARBHAJAN SINGH KHALSA YOGIJI, AND BVW INVESTMENTS, APPELLANTS
MADISON REALTY & DEVELOPMENT, INC., A CORPORATION; CONSOLIDATED MORTGAGE COMPANY, A CORPORATION; AMERICAN FUNDING LIMITED, A PARTNERSHIP; FIRST AMERICAN SERVICES, INC., A CORPORATION; JOHN PETER GALANIS AND CHANDRA GALANIS; JAY BOTCHMAN; TRI-COUNTY SAVINGS AND LOAN ASSOCIATION, A STATE CHARTERED SAVINGS AND LOAN ASSOCIATION; COMMUNITY FEDERAL SAVINGS AND LOAN ASSOCIATION, A FEDERAL SAVINGS AND LOAN ASSOCIATION; FIRST NORTHERN COOPERATIVE BANK, A STATE CHARTERED MUTUAL SAVINGS BANK; EMPIRE OF AMERICA FEDERAL SAVINGS BANK, A FEDERALLY CHARTERED SAVINGS BANK; EMPIRE OF AMERICA FEDERAL SAVINGS BANK DELAND FLORIDA, A FEDERALLY CHARTERED SAVINGS BANK; BARCLAYS/AMERICAN BUSINESSCREDIT, INC., A CORPORATION; PUBLIC LOQAN COMPANY, INC., A CORPORATION; MORRIS COFMAN; MXC HOLDINGS, LTD., A CORPORATION; ARTHUR MASON; LEFF & MASON, A PARTNERSHIP; AND FRIEDMAN & SHAFTAN, P.C. A PROFESSIONAL CORPORATION, FEDERAL SAVINGS AND LOAN INSURANCE CORPORATION, AS RECEIVER FOR TRI-COUNTY SAVINGS AND LOAN ASSOCIATION
Appeal from the United States District Court for the District of New Jersey, D.C. Civil No. 87-1279.
Gibbons, Chief Judge, Greenberg and Weis, Circuit Judges.
The district court entered summary judgments in favor of the purported indorsee of promissory notes and certified a controlling question of law pursuant to 28 U.S.C. § 1292(b). The issue presented on this appeal is whether a good faith purchaser is a holder in due course of promissory notes containing indorsements on separate sheets of paper loosely inserted within each note. We answer in the negative and will vacate the judgments.
The saga of this litigation is extensive and quite complicated. However, the question certified to us is narrow, and the essential facts are easily summarized.
Plaintiffs executed promissory notes in payment for investments in Madison Partnerships, a series of tax shelters formed to acquire and operate residential real estate properties. Each of the promissory notes were made payable to one of three originator banks: Tri-County Savings & Loan Association of New Jersey, Community Federal Savings & Loan Association of Connecticut, and First Northern Cooperative Bank of New Hampshire. After a series of transfers, the notes came into the possession of defendant Empire of America Federal Savings Bank.
Charging fraud in connection with the investment scheme, plaintiffs filed suit against numerous defendants who allegedly participated in the wrongdoing. Also named as a defendant was Empire, from whom plaintiffs sought rescission of the notes now in the bank's possession. The discrete issue before us is the legal effect of purported indorsements not physically attached to the notes.
Empire purchased the thirty-five promissory notes challenged in this appeal for $19.5 million dollars in March 1985 as part of a bulk acquisition of negotiable Instruments. According to the bank's affidavits, the practice of acquiring notes through this "secondary market" is an established commercial banking practice. It allows smaller lenders to preserve liquidity and diversify risks, while permitting larger institutions to buy notes at discounted prices.
In November 1984, Consolidated Mortgage Company sold to Empire for $6.1 million a package of 116 notes executed by investors in conjunction with the Madison Partnership venture. In early 1985, Putnam Funding Company offered Empire a similar batch of notes which included the 35 instruments executed by plaintiffs. This collection consisted of 267 notes tendered at a purchase price of $19.5 million dollars.
On March 4, 1985 an Empire representative conducted a four-hour random review of 52 of the 267 loan files associated with the proposed Putnam transaction. He examined the supporting file material, including loan applications, credit reports, disbursal sheets, and current income tax 1040 forms. The documents indicated that the makers of the notes had substantial means, with individual net worths generally in excess of $500,000 and adjusted annual gross incomes usually greater than $100,000. None of the notes was found to be delinquent or beyond maturity.
Empire's representative could not recall whether he had inspected the notes. He did report, however, that he was satisfied with the financial condition of both borrowers and servicer and would recommend the purchase. On the following day, Empire's management loan committee approved the transaction and wired a transfer of $19.54 million dollars to Putnam.
On March 20, 1985 an examiner from the Federal Home Loan Bank Board met with Empire's internal auditors to inquire whether the bank had any contact with certain persons then under investigation for conduct unrelated to these purchases. The examiner's list included some of the individuals who had negotiated the sale of the Consolidated and Putnam notes to Empire. The district judge found that the examiner's report, shown to Empire personnel, did not contain specific allegations of fraud and had no apparent connection to the notes under discussion.
Plaintiffs allege that both Consolidated and Putnam participated in the asserted fraud. No evidence of record, however, demonstrates that Empire played any role in the original investment proposals.
On March 28, 1985 Empire's Board of Directors ratified the purchase. Twelve days later, the original notes were sent to Empire.
The promissory notes are each two-page, fold-over documents. The front page names the originator bank and sets forth the repayment schedule. The reverse side contains printed agreement conditions and signature lines. Inserted loosely within the fold, lacking any physical attachment to the note, are two sheets of paper containing purported indorsements, the last of which is the transfer from Putnam to Empire.*fn1 Each note contains a provision directing that its terms be interpreted under the law of the state in which the originator bank is located -- New Hampshire, Connecticut, and New Jersey, respectively.
The district court acknowledged that the use of a separate, unattached sheet of paper to carry the indorsements failed to comply with Uniform Commercial Code section 3-202(2), which reads: "An indorsement must be written by or on behalf of the holder and on the instrument or on a paper so firmly affixed thereto as to become a part thereof." Conn. Gen. Stat. Ann. § 42a-3-202(2) (West l987); N.H. Rev. Stat. Ann. § 382-A:3-202(2) (1961); N.J. Stat. Ann. § 12A:3-202(2) (West 1962).
The court commented that the object of this statutory provision was "to protect subsequent purchasers from the risk that the present holder or a previous holder has negotiated the instrument to someone outside the apparent chain of title through a separate document." In view of this purpose, the court reasoned, even if the indorsee had been exposed to some risks, "that is no reason to absolve the ...
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