As anyone who follows legal matters in Nevada can attest, the fate of the partially completed Fontainebleau project is one of the most visible symbols of the economic downturn across the nation and Nevada’s construction “boom” gone “bust.” Built at a cost of $2.8 billion, the Fontainebleau employed hundreds of contractors, subcontractors and materialmen and the building was (approximately) 70% complete before funds ran dry and the project was shuttered.
In June 2009, the Fontainebleau filed for bankruptcy protection and a struggle among the property’s various creditors ensued, which continues to this day. In late 2009, financier Carl Icahn (through his entity, Icahn Nevada Gaming Acquisition, LLC) purchased the property out of bankruptcy with a successful bid of $156 million. With the Icahn purchase, the bankruptcy estate (i.e., the debtor) realized approximately $100 million for disbursement to the project’s creditors.
Thus began a struggle between the bank that had provided financing for (and held a deed of trust against) the project and the contractors, subcontractors and materialmen who built the project and later recorded mechanic’s liens against it when they were not paid as agreed.
In 2007, when construction began, Bank of America (as representative of a group of committed lenders) had provided a $1.85 billion loan for the project. In 2009, Wilmington Trust FSB succeeded Bank of America as representative of the lenders and then took the position that it now occupied the identical first priority position on the title to the property that Bank of America had held, despite the fact that none of the lien claimants had approved this arrangement.
Not surprisingly, the contractors, subcontractors and materialmen took the contrary position, claiming that because their work was performed on the project in the years between Bank of America’s construction loan and Wilmington Trust’s succession, their mechanic’s liens enjoyed priority over Wilmington Trust’s later-recorded interest.
The question of priority, which would ultimately determine who was to claim the $100 million realized from the Icahn purchase, was recently submitted to the Nevada Supreme Court for decision, at the request of the United States Bankruptcy Court for the Southern District of Florida.
In In Re: Fontainebleau Las Vegas Holdings, LLC, 128 Nev. Adv. Op. 53 (10/25/12), the Nevada Supreme Court addressed the issue of whether a successor in interest to a lender in first position on a property is permitted to “step into the shoes” in title of the prior lender (i.e., place its newly recorded interest in front of the mechanic’s liens of contractors, subcontractors and materialmen who performed work at the property prior to the new interest.) This legally-sanctioned re-shuffling of title to a property is known as “equitable subordination.” Under equitable subordination, for reasons of “fairness,” one party is permitted to place the interests of other lienholders on a property behind (and in a position inferior to) its own, newer interest.
In its opinion, the Court stated that, while equitable subordination certainly applied in the context of mortgages where various lenders are “jockeying for position” as to the title of a parcel of property, mechanic’s lien claims were to be treated differently. The Court further explained that requests for relief not grounded in statute (i.e., equitable relief) cannot take precedence over statutes which address the same subject. Thus, because mechanic’s liens are creatures of statute and do not constitute equitable relief, they cannot be displaced by requests for equitable subrogation. For this reason, the Court concluded that Wilmington Trust was not permitted to supplant the interests of the lien claimants on the project as a simple matter of equitable relief. With this request for equitable subordination brushed aside, the proceeds of the Icahn sale will now be apportioned and distributed among the lien claimants.
Interestingly, however, the Court did conclude that a lien claimant’s written waiver of the subordination issue (i.e., a knowing and voluntary relinquishment of a known right) would have been given legal effect if the statutory scheme for lien waivers had been followed. Put differently, the Court found it unfair to hold lien claimants to the letter of subordination agreements that they had never signed or approved. However, the Court had no difficulty reaching the opposite conclusion where the signature and/or approval from the lien claimants had been obtained.