Nazemi v. Specialized Loan Servicing, LLC, No. 2:22-CV-05006-MCS-PVC, 2022 WL 17220707 (C.D. Cal. Oct. 31, 2022)

Dear constituency list members of the Insolvency Law Committee, the following is a case update analyzing a recent case of interest written by Maggie E. Schroedter of Robberson Schroedter LLP, analyzing Nazemi v. Specialized Loan Servicing, LLC, No. 2:22-CV-05006-MCS-PVC, 2022 WL 17220707 (C.D. Cal. Oct. 31, 2022).

SUMMARY

The plaintiff obtained two loans secured by his home. Plaintiff stopped making payments.  In March 2014, one lender foreclosed on a loan. The second lender wrote off its loan as a loss in 2014, but did not file a cancellation of debt Form 1099-C until early 2022. The delay resulted in the plaintiff being able to exclude as income only $750,000 of the cancelled debt, versus $2,000,000 had the lender filed for tax year 2014. The plaintiff sued the lender for negligent and intentional misrepresentation and unfair business practices under the California Unfair Competition Law (“UCL”), alleging mental and physical harm. The District Court held that the lender owed no duty to avoid causing the plaintiff emotional injury and that the plaintiff failed to state a claim under the UCL.

FACTS

The plaintiff, Patrick Nazemi, had two loans secured by his home. He stopped making payments in 2008. In March 2014, one lender foreclosed on the home. After the foreclosure sale, the second lender, Defendant Specialized Loan Servicing, LLC, wrote off the loan as a loss. It failed to file with the IRS a Form 1099-C for cancellation of debt income.

Specialized Loan Servicing ultimately filed the Form 1099-C in early 2022, reporting the discharge of $2,549,296.21 in debt with $810,443.75 in interest. As a result, the IRS attributed $1,738,853.46 of cancellation of debt income to Nazemi for the 2021 tax year. A 2021 tax law change meant that Nazemi could only exclude $750,000 of the cancelled debt. Had Specialized Loan Servicing filed the form for tax year 2014, Nazemi could have excluded $2,000,000 of the debt.

Nazemi filed a lawsuit against Specialized Loan Servicing, alleged claims for negligent and intentional misrepresentation and fraudulent or unfair business practices under the UCL. He alleged “serious physical harm in the form of exacerbation of a serious medical condition thereby accelerating cognitive decline, high levels of anxiety, sleeplessness, night sweats, depression, and stroke-like symptoms, as well as other physical ailments.”

The District Court granted Specialized Loan Servicing’s motion to dismiss without leave to amend. It held that Specialized Loan Servicing owed no duty to Nazemi, meaning his negligent and intentional interference claims could not survive. The District Court further held that Nazemi failed to state a claim under the “fraudulent,” “unfair,” or “unlawful” prongs of California Business and Professions Code section 17200.

REASONING

            Misrepresentation Claims

The court analyzed the standard for the misrepresentation claims under California law. A plaintiff alleging negligent misrepresentation must show: “(1) a misrepresentation of a past or existing material fact, (2) made without reasonable ground for believing it to be true, (3) made with the intent to induce another’s reliance on the fact misrepresented, (4) justifiable reliance on the misrepresentation, and (5) resulting damage.”  Ragland v. U.S. Bank Nat’l Ass’n (2012) 209 Cal. App. 4th 182, 196. Intentional misrepresentation requires: “(1) a misrepresentation, (2) knowledge of falsity, (3) intent to induce reliance, (4) actual and justifiable reliance, and (5) resulting damage.” The court acknowledged that even though “duty” is not specifically listed as a factor, a defendant must also owe the plaintiff a duty of care. Id., at *2, citing Randi W. v. Muroc Joint Unified Sch. Dist. (1997) 14 Cal. 4th 1066, 1076. The plaintiff must either plead that he or she actually relied on the misrepresentation, or that the law imposed a duty of care because the “misrepresentation would present a substantial, foreseeable risk of physical injury”. Randi W., 14 Cal. 4th at 1081. This exception only applies if the plaintiff alleges actual physical harm, and not just economic losses. Gawara v. U.S. Brass Corp. (1998) 63 Cal. App. 4th 1341, 1354; Friedman v. Merck & Co. (2003) 107 Cal. App. 4th 454, 477.

The court ultimately concluded Nazemi failed to state a claim for negligent or intentional misrepresentation the “’gist of his claim is for emotional injury,’ not direct physical harm resulting from the false tax filing.” Nazemi, at *3.

            Fraudulent or Unfair Business Practices

The UCL prohibits “unlawful, unfair or fraudulent business act[s] or practice[s].” Cal. Bus. & Prof. Code § 17200. “Each of these three adjectives captures a separate and distinct theory of liability.” Id., at *4.

The court first found that Nazemi failed to state a claim under the “fraudulent” prong. The court reasoned that whether or not Specialized Loan Servicing filed a “false” tax forms would be a possible issue of fraud against the IRS, not Nazemi or the public. Further, a “reasonable debtor” would expect an increase in income for a tax year in which a 1099-C event has occurred and where no 1099-C event occurred, he could not assert deceit after enjoying a “liability free- discharge of debt.”

With respect to the “unfair” prong, the court found that Nazemi did not address the applicable “unfair” pursuant to the UCL, and that his “’conclusory recitation of one of the UCL’s legal standards does not clarify’ how Defendants’ conduct satisfies the tethering or the balancing tests defining the ‘unfair’ prong.” Id., at *4.

Finally, the court concluded that Nazemi did not state a UCL claim under the “unlawful” prong because he did not adequately plead a violation of another statute or common law.

The court found that amendment would be futile, given that Specialized Loan Servicing owed no duty of care to Nazemi and no amendment could successfully allege facts to support a UCL claim under any of the three prongs. As such, it granted Specialized Loan Servicing’s motion to dismiss without leave to amend.

AUTHOR’S COMMENTARY

The holding implies that a borrower cannot state a claim against a lender for alleged physical injury resulting from the allegedly improper filing of a Form 1099-C. This opinion is sound and promotes good policy. A contrary ruling could have provided support for borrowers to allege damages for “physical harm” resulting from a lender’s ordinary course business activities to collect outstanding liabilities, including conducting foreclosure sales of properties.

These materials were written by Maggie E. Schroedter of Robberson Schroedter LLP, in San Diego, California (maggie@theRSfirm.com). Editorial contributions were provided by John Kim of Brower Law Group, APC, in Irvine, California (John@BrowerLawGroup.com).