Ashmore v. Herbie Morewitz, Inc.

Present: All the Justices

MILDRED H. ASHMORE
OPINION BY JUSTICE A. CHRISTIAN COMPTON
v. Record No. 952137 September 13, 1996

HERBIE MOREWITZ, INC., ET AL.

HERBIE MOREWITZ, INC., ET AL.

v. Record No. 952155

MILDRED H. ASHMORE

FROM THE CIRCUIT COURT OF THE CITY OF NEWPORT NEWS
Robert W. Curran, Judge

In this creditors' rights controversy arising from a real

estate sales transaction, the principal issues are whether fraud

has been established in connection with the execution of a

subordination agreement and, if so, whether application of the

third party beneficiary statute, Code § 55-22, affects the

priority of liens. A subsidiary issue deals with the nature of

the fraud.

In April 1994, plaintiff Mildred H. Ashmore filed a bill of

complaint against defendants Herbie Morewitz, Inc., Herbert

Morewitz, II, Statewide, Inc., Raymond H. Suttle, Jr., Trustee,

and Richard M. Macaluso, Trustee. The plaintiff alleged she is a

widow over 70 years of age living alone at the Newport News home

formerly owned jointly with her late husband. Plaintiff asserted

she had been living on a fixed income "barely adequate to meet

her needs" and, in 1992, decided to convert the subject property

into an income producing asset. The plaintiff alleged she

decided to find a purchaser for the property who would buy it "on

seller financed terms which would provide her with a stream of
income from note payments secured by a purchase money deed of

trust on the Property and at the same time allow her to remain in

the Property at a reasonable monthly rental for a period of

time."

Plaintiff further alleged that, based on prior contact with

defendant Herbert Morewitz, II, "she believed him to be an astute

and experienced real estate investor who regularly bought and

sold properties as part of his business." Plaintiff also alleged

that, responding to her request, Morewitz came to her home to

discuss the matter. He presented her with a real estate purchase

contract setting forth terms of a proposed sale of the property

to defendant Herbie Morewitz, Inc., "a corporation solely owned

and controlled by Morewitz."
The plaintiff alleged that, in accord with the contract, she

executed and delivered a deed of bargain and sale dated in

November 1992 conveying the property to Herbie Morewitz, Inc.

(hereinafter, the corporation). At the same time, the

corporation made and delivered a purchase money promissory note

in the sum of $82,000 payable to the plaintiff's order. This

note was secured by a first lien purchase money deed of trust

made by the corporation conveying the property in trust to

defendant Suttle and another as trustees to secure payment of the

note. The deed and deed of trust were duly recorded.

The plaintiff further alleged that Morewitz "assured" her

that she would always have a first lien deed of trust on the

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property as security for payment of the note. She also alleged

that Morewitz never asked her to subordinate the deed of trust to

a later deed of trust on the property.

The plaintiff further alleged that she "happened to be in

Morewitz's office" on March 24, 1993 when he said "he had `sold

the paper' related to the Property and needed for her to sign a

document connected with that activity." She asserted Morewitz

presented her with a single sheet of paper bearing a line for her

signature and containing two blank acknowledgement forms. She

alleged Morewitz did not tell her that the sheet, which she

signed, was actually the last page of a three-page document.
The plaintiff alleged she later learned, when the

corporation became delinquent in the payment of the note, that

the document was an agreement in which she consented to the

subordination of the lien of the purchase money deed of trust to

the lien of another deed of trust on the property from the

corporation to defendant Macaluso, Trustee, securing a note made

by the corporation in the principal sum of $52,500 payable to

defendant Statewide, Inc. Both the subordination agreement and

the other deed of trust had been recorded.

The plaintiff alleged the subordination agreement was void

due to fraud of Morewitz and the corporation. She further

alleged that Statewide was a third party beneficiary of the

purported agreement and, as such, takes its interest in the

property subject to any defenses which she may have against the

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corporation. She asserted that Statewide's rights under the

purported agreement can rise no higher than the rights of the

corporation under such instrument.

In the prayer to the bill of complaint, the plaintiff asked

that the subordination agreement be declared void and that she be

declared the holder of the first lien deed of trust on the

property.

In a responsive pleading, Morewitz, "individually and as

President & Agent of Herbie Morewitz, Inc.," denied the

allegations of fraud. He affirmatively asserted that he advised

the plaintiff "to seek counsel if she did not understand the

subordination agreement" and that trustee Suttle "verified" with

the plaintiff "that she had, in fact, signed [the] agreement and

understood its content." Morewitz asked the court to dismiss the

bill of complaint, issue an order allowing him access to the

property to facilitate its sale, and order the plaintiff to

vacate the property.
The trial court considered testimonial and documentary

evidence in an ore tenus hearing in January 1995. Subsequently,

in an October 1995 final decree, the court ruled that the

plaintiff's signature to the subordination agreement was obtained

by the fraud of Morewitz acting on behalf of the corporation,

that the fraud made the agreement voidable, that no evidence was

produced to establish any knowledge of the fraud by Statewide,

and that the plaintiff's request to be declared holder of a first

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lien deed of trust on the property was denied.

We awarded separate appeals to the plaintiff, on one hand,

and to the corporation and Morewitz, on the other, consolidating

them for argument. The plaintiff contends the trial court

erroneously determined that even though her execution of the

subordination agreement was induced by the fraudulent

misrepresentations of Morewitz, this rendered the agreement

voidable rather than void. The plaintiff also contends the trial

court erroneously found that the rights of Statewide under the

agreement were not affected by Morewitz's fraud and that

Statewide did not take its interest in the property subject to

the defense of fraud which plaintiff had against the corporation.
In the cross appeal, the corporation and Morewitz contend

the trial court erred in finding that fraud had been proved by

clear and convincing evidence.

The record on appeal does not include a verbatim transcript

of the testimony at trial, only a Rule 5:11(c) written statement

of facts in lieu of a transcript. Many of the relevant facts

were disputed but, applying settled appellate principles, we

accord the judgment of the trial court, including the court's

findings of fact that are supported by credible evidence, a

presumption of correctness. Thus, we shall recite such facts as

found by the chancellor.

First, we shall address the issue of law raised in the cross

appeal, that is, whether the plaintiff proved fraud by the

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requisite clear and convincing evidence.

The parties' evidence essentially supported the allegations

made in their pleadings. The plaintiff established that "on

several occasions" after the closing of the sale of the property

to the corporation, Morewitz told her "that he might want to

borrow against the Property, or `sell the paper,' but assured her

that her position would not be changed." In a letter dated March

18, 1993, Morewitz wrote plaintiff confirming "our conversation

in regards to your possible need to occupy the house beyond [a]

one year term," stating he was "agreeable" to extending her

occupancy "to whatever date you're comfortable with." In a

second paragraph, Morewitz wrote: "Also, from time to time, I

borrow against properties that I own to expand my investment

enterprise. I may borrow against [the subject property] but

please know this will not change your position at all." Morewitz

later testified this statement "was in reference to her continued

occupancy of the property and to verify that she would continue

to receive monthly payments."
Thereafter, in March 1993, Morewitz "sought a loan" for the

corporation from Statewide, which advised him that "such a loan"

would be made if he "could give Statewide a first lien deed of

trust on the Property as security for the loan." According to

the statement of facts, Morewitz then took a subordination

agreement, prepared by Statewide's attorney, to the plaintiff,

telling her "that the instrument was just a routine document

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which would enable him to `sell the paper' related to the

Property." The plaintiff, who was "unsophisticated in such

matters," relied on Morewitz and executed the subordination

agreement. She testified that the pages of the document "were

not attached to each other and she signed the signature page

without reading the document." During cross-examination, the

plaintiff, when asked, "Did you read the document at all before

signing it?" replied, "I read it, but not carefully."
Trustee Suttle, who testified Morewitz had written him a

memo suggesting he call the plaintiff "to ensure that she

understood the agreement," stated that when the document was

presented for his signature, he telephoned the plaintiff and

explained to her "that the effect of this subordination agreement

was that she would now be in a second lien position, not first."

Disputing this testimony, the plaintiff testified she never

spoke to Suttle about "subordinating her deed of trust to another

deed of trust." The chancellor found the telephone call took

place but that the plaintiff "failed to understand the legal

effect of the document because of the fraudulent

misrepresentations which Morewitz had previously made to her."

The plaintiff also established that she later found in her

files the draft of an unsigned subordination agreement like the

document she signed. The unsigned document, however, contained

"an extra sentence" stating, "Notice: The original agreement

between Herbie Morewitz, Inc. and Mildred H. Ashmore is not

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diminished or affected by this document." The plaintiff did not

know how or when the document came into her possession, stating

"it may have come from Mr. Morewitz's office." The plaintiff

admitted she did not rely on the extra sentence when she signed

the agreement.

Morewitz testified that the extra sentence appeared to be on

a "working" or "rough draft" copy of the agreement, and that he

did not recall making any alteration to the copy prepared by

Statewide's attorney. According to the statement of facts,

Morewitz "did not absolutely deny" making the alteration,

"because he could not recall this sentence at all."
A party seeking to establish fraud must prove by clear and

convincing evidence a false representation, of a material fact,

made intentionally and knowingly, with the intent to mislead,

reliance by the party misled, and resulting damage to such party.

Thompson v. Bacon, 245 Va. 107, 111, 425 S.E.2d 512, 514 (1993).

Clear and convincing evidence is that degree of proof which will

produce in the mind of the trier of facts a firm belief or

conviction concerning the allegations sought to be established.
Fred C. Walker Agency, Inc. v. Lucas, 215 Va. 535, 540-41, 211

S.E.2d 88, 92 (1975). Viewing the facts, as we must, in the

light most favorable to the plaintiff who prevailed below on this

issue, we hold that the plaintiff's proof burden has been carried

on the fraud question.

There was credible, clear and convincing evidence to support

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the trial court's finding that Morewitz, intentionally and

knowingly with the intent to mislead, falsely represented

material facts to the plaintiff, that is, her first lien

"position" would not be changed if he "sold the paper" and the

subordination agreement "was just a routine document" enabling

him to "sell the paper." Further, such evidence supports the

court's implicit findings that plaintiff relied on the false

representation and was relegated to a second lien position to her

detriment as the result of executing the subordination agreement.

Thus, we hold there is no merit in the cross appeal.
Turning next to the plaintiff's contention that the nature

of the fraud made the agreement void, and not voidable, we hold

the trial court correctly ruled the agreement was voidable.

When a promisor knows what is being signed but the

promisor's consent is induced by fraud, mutual consent is present

and a contract is formed, which, because of the fraud, is

voidable. In other words, "the act of the defrauded person is

operative though voidable." 12 Williston on Contracts § 1488, at

332 (3d ed. 1970).

On the other hand, if the fraud operates at the inception of

the agreement so that the promisor actually does not know what is

being signed, or does not intend to enter into a contract at all,

mutual assent is lacking and the act of the promisor is void; the

purported agreement may be disregarded without the necessity of

rescission. Id. See Elam v. Ford, 145 Va. 536, 545, 134 S.E.

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670, 672 (1926).

In the present case, the trial court found that the

plaintiff knew she was signing a subordination agreement, but

that she would not have so acted without Morewitz's

misrepresentations regarding its legal effect on her position of

priority. The court thus found, obviously with the foregoing

principles in mind, "that this is the case where the act of the

defrauded person is operative though voidable." There is

credible evidence to support such finding.
Finally, we address the plaintiff's alternative argument

that, even if the trial court correctly ruled the agreement is

voidable, the court nonetheless erred in refusing to apply Code

§ 55-22 and to rule Statewide took its interest in the property

subject to the defense of fraud that she had against the

corporation. We agree with the plaintiff.

Code § 55-22, the third-party beneficiary statute, provides:
"An immediate estate or interest in or the benefit of a
condition respecting any estate may be taken by a
person under an instrument, although he be not a party
thereto; and if a covenant or promise be made for the
benefit, in whole or in part, of a person with whom it
is not made, or with whom it is made jointly with
others, such person, whether named in the instrument or
not, may maintain in his own name any action thereon
which he might maintain in case it had been made with
him only and the consideration had moved from him to
the party making such covenant or promise. In such
action the covenantor or promisor shall be permitted to
make all defenses he may have, not only against the
covenantee or promisee, but against such beneficiary as
well."

This statute enables a third party to take an interest under an

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instrument, although not a party to it, if the promise is made

for the third party's benefit and the evidence shows that the

contracting parties clearly and definitely intended to confer a

benefit upon such third party. Kelley v. Griffin, 252 Va. 26,

29, 471 S.E.2d 475, 477 (1996).

In the present case, the evidence is clear that the

subordination agreement between the plaintiff and the corporation

is intended to confer a benefit upon Statewide, a nonparty.

Under that agreement, Suttle as trustee and plaintiff as

beneficiary of the November 1992 deed of trust agreed that the

lien of that deed of trust shall be subordinated to and in favor

of the other deed of trust, dated in March 1993, securing the

debt to Statewide, which actually is named in the body of the

subordination agreement. Thus, under Code § 55-22 Statewide

could enforce the subordination agreement against the plaintiff.
But the last sentence of Code § 55-22 further provides that

the plaintiff, as covenantor or promisor of the instrument, shall

be permitted to make all defenses she may have against Statewide,

the third-party beneficiary. In other words, the third-party

beneficiary's rights under the instrument, according to the

statute, can rise no higher than the rights of the corporation,

the covenantee or promisee under the instrument. Thus, we hold

that Statewide took its interests under the subordination

agreement subject to the plaintiff's right to rescind the

agreement because of Morewitz's fraud, even though Statewide had

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no knowledge of the fraud.

Accordingly, we will affirm so much of the final decree

which finds that the plaintiff's signature on the subordination

agreement was obtained by the fraud of Herbert Morewitz, II,

acting on behalf of Herbie Morewitz, Inc., and which finds that

the fraud made the agreement voidable. Parenthetically, we find

no merit in a contention made by the corporation and Morewitz

that the form of this portion of the decree is erroneous.
We will reverse the remainder of the final decree. We will

enter final judgment here setting aside the subordination

agreement and declaring the plaintiff to be the holder of a first

lien deed of trust on the subject property.

Record No. 952137 - Affirmed in part,
reversed in part, and
final judgment.

Record No. 952155 - Affirmed.

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