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2/21/01

SUPREME COURT OF LOUISIANA
NO. 2000-C-0469 DIAMOND SERVICES CORPORATION versus DELORES N. BENOIT ON WRIT OF CERTIORARI TO THE COURT OF APPEAL, THIRD CIRCUIT, PARISH OF LAFAYETTE CALOGERO, Chief Justice* We granted this writ primarily to resolve a conflict among the courts of appeal over whether the maker of a collateral mortgage note is personally liable beyond the value of the mortgaged property when the collateral mortgage note is pledged to secure the debt of a third party. After reviewing the applicable law, we conclude that, within the context of the collateral mortgage package, the maker of a collateral mortgage note is not personally liable beyond the value of the mortgaged property when the collateral mortgage note is pledged to secure the debt of a third party. Accordingly, we reverse the court of appeal's holding to the contrary. FACTS AND PROCEDURAL HISTORY On May 7, 1993, William Davenport signed two hand notes to obtain lines of credit for his corporation, International Diving and Consulting, Inc. The first hand note was in favor of Morgan City Bank and Trust Company (MC Bank) for $350,000.00. The second hand note was in favor of the plaintiff, Diamond Services Corporation, in the amount of $300,000.00. Davenport signed as guarantor on both hand notes.

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Marcus, J., retired, ad hoc, sitting for Lemmon, J., recused. 1

On the same date, the defendant, Delores N. Benoit, a friend solicited by Davenport, executed documents comprising two collateral mortgage packages. The first collateral mortgage package was in favor of MC Bank, and consisted of a mortgage on Benoit's 410.92-acre tract of land in Acadia Parish, a collateral mortgage note or ne varietur note for $350,000.00, and a pledge of that collateral mortgage note to secure the $350,000.00 MC Bank hand note signed by Davenport. The second collateral mortgage package was in favor of Diamond Services.1 It consisted of a mortgage on the same 410.92-acre tract, a collateral mortgage note for $300,000.00, and a pledging document, entitled "Security Agreement (Possessory Collateral)," pledging the $300,000.00 collateral mortgage note to secure the $300,000.00 Diamond Services hand note signed by Davenport. Benoit did not sign either of the hand notes executed by International Diving and guaranteed by Davenport. Eventually, International Diving and Davenport defaulted on both hand notes. In November 1994, MC Bank recovered $192,734.00 by seizing and selling certain assets of International Diving in which MC Bank had a separate security interest. International Diving then filed for Chapter 11 Bankruptcy protection. In December 1996, MC Bank filed for executory process in Acadia Parish on its $350,000.00 collateral mortgage note, attempting to seize and sell Benoit's 410.92-acre tract. However, in May 1997, MC Bank assigned to Diamond Services all of its rights in the MC Bank hand note, the MC Bank collateral mortgage note, and its petition for executory process against Benoit filed in Acadia Parish.2 Substituted as party plaintiff, Diamond Services caused Benoit's tract to be sold, netting $116,157.28, which was

1

Diamond Services' mortgage was secondary to MC Bank's.

Diamond Services paid MC Bank $120,092.64. At the time of the assignment, the alleged balance on the MC Bank collateral mortgage note amounted to $307,639.84 in principal, $7,183.93 accrued interest, interest at the rate of 21% from 11/94 until paid, and attorney fees of 25%, subject to a credit of $192,734.00 received in 10/96. 2

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applied to the outstanding balance on the MC Bank collateral mortgage note. Thereafter, Diamond Services filed a supplemental petition against Benoit for a deficiency judgment on the MC Bank collateral mortgage note. Regarding the Diamond Services hand note, because neither International Diving nor Davenport had made any payments on that note, Diamond Services filed a separate petition against Benoit in Lafayette Parish on its own $300,000.00 collateral mortgage note. Both suits were consolidated in Acadia Parish. In her answer to the lawsuits, Benoit denied personal liability and asserted several affirmative defenses, including division, error or mistake, failure of consideration, and fraud. Benoit also filed a reconventional demand against Diamond Services, alleging that they had defrauded her in preparing the loan documents. The reconventional demand was dismissed in July 1998 when the district court sustained Diamond Services' exception of No Cause of Action to the reconventional demand. Diamond Services and Benoit both filed motions for summary judgment, with Diamond Services alleging that it was entitled to a deficiency judgment as a matter of law against Benoit as the maker of both collateral mortgage notes, and with Benoit alleging, among other things, that the maker of a collateral mortgage note is not personally liable, and that there was mutual error on the part of the parties as to the extent of her liability. The trial court in July 1999 denied Diamond Services' motion and granted Benoit's, finding that Benoit was not personally liable on either the MC Bank collateral mortgage note or the Diamond Services collateral mortgage note, because there "was mutual error on all parties, and [] the intent and understanding by all when the documents were signed was that Ms. Benoit would not be personally responsible for the debts evidenced by the collateral packages." The court of appeal affirmed in part, reversed in part, and remanded. The

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appellate court affirmed the trial court's finding that mutual error had vitiated consent with regard to the MC Bank collateral mortgage note, but it remanded the case to the trial court for a determination as to whether Diamond Services was a holder in due course of the MC Bank collateral mortgage note, in which case the defense of mutual error perhaps would not lie.3 Diamond Services Corp. v. Benoit, 99-765 (La. App. 3 Cir. 12/8/99), 757 So. 2d 23, 27. However, with regard to the Diamond Services collateral mortgage note, the court of appeal reversed the trial court's finding of mutual error, finding that Diamond Services' intentions and the terms of that note were indistinguishable, and thus any error as to Benoit's understanding of her personal liability exposure regarding that note was unilateral, not mutual. Id. Further, the court of appeal held that Benoit, as the maker of the collateral mortgage note pledged to secure the indebtedness of another, was personally liable for the debt, and that such personal liability was limited to the lesser of the face amount of the collateral mortgage note and the amount owed in connection with the hand note. Id. at 28. Finally, the appellate court reversed the trial court's judgment sustaining the exceptions against Benoit's reconventional demand alleging fraud, reinstated the reconventional demand, and remanded for further proceedings on that issue. DISCUSSION We granted Benoit's writ application to resolve a conflict among the circuits regarding whether the maker of a collateral mortgage note pledged to secure the indebtedness of a third party is personally liable on the collateral mortgage note beyond the value of the mortgaged property. Diamond Services Corp. v. Benoit, 000469 (La. 4/20/00), 759 So. 2d 768. As Amicus Curiae acknowledges,4 the issue of

3

See La. Rev. Stat. 10:3-301 et seq.

The Louisiana Bankers Association, the principal trade association for the commercial banking industry in Louisiana, filed an amicus curiae brief in support of respondent Diamond Services 4

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the personal liability of the maker of a collateral mortgage note pledged to secure a third party's hand note is an "unclear and confusing area of the law." Amicus Br., p. 7. Although there have been several conflicting court of appeal opinions, the precise legal question has not been addressed, or resolved, by this court. I. The collateral mortgage, though now recognized by statute,5 is a form of conventional mortgage that was developed by Louisiana's practicing lawyers and has long been recognized by Louisiana courts. Levy v. Ford, 41 La. Ann. 873, 6 So. 671 (La. 1889); Merchants' Mut. Ins. Co. v. Jamison, 25 La. Ann. 363 (La. 1873); Succession of Dolhande, 21 La. Ann. 3 (La. 1869). The collateral mortgage arose out of the need for a special form of mortgage to secure revolving lines of credit and multiple present and future cross-collateralized debts for which there was no provision in the Civil Code. David S. Willenzik, Future Advance Priority Rights of Louisiana Collateral Mortgages: Legislative Revisions, New Rules, and a Modern Alternative, 55 La. L. Rev. 1, 7 (1999). The collateral mortgage was designed "to create a mortgage note that can be pledged as collateral security for either a pre-existing debt, or for a debt created contemporaneously with the mortgage, or for a future debt or debts, or even for a series of debts." Max Nathan, Jr. & H. Gayle Marshall, The Collateral Mortgage, 33 La. L. Rev. 497 (1973). One advantage it holds for creditors is that liabilities are ranked from the date of the original pledge of the collateral mortgage note (assuming the mortgage has been recorded), rather than from the date of the individual, subsequent advances. Further, the creditor is able to secure multiple present and future loans and obligations on a cross-collateralized basis.

Corporation.
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La. Rev. Stat. 9:5550(1). 5

This Court discussed the fundamentals of a collateral mortgage in First Guaranty Bank v. Alford, 366 So. 2d 1299, 1302 (La. 1978), as follows: A mortgage is an accessory right which is granted to the creditor over the property of another as security for the debt. La. Civ. Code arts. 3278, 3284. Mortgages are of three types: conventional, legal and judicial. La. Civ. Code art. 3286. Within the area of conventional mortgages, three different forms of mortgages are recognized by the Louisiana statutes and jurisprudence: an "ordinary mortgage" (La. Civ. Code arts. 3278, 3290); a mortgage to secure future advances (La. Civ. Code arts. 3292, 3293); and a collateral mortgage. See Thrift Funds Canal, Inc. v. Foy, 261 La. 573, 260 So. 2d 628 (1972). Unlike the other two forms of conventional mortgages, a collateral mortgage is not a "pure" mortgage; rather, it is the result of judicial recognition that one can pledge a note secured by a mortgage and use this pledge to secure yet another debt. A collateral mortgage indirectly secures a debt via a pledge. A collateral mortgage consists of at least three documents, and takes several steps to complete. First, there is a promissory note, usually called a collateral mortgage note or a "ne varietur" note. The collateral mortgage note is secured by a mortgage, the so-called collateral mortgage. The mortgage provides the creditor with security in the enforcement of the collateral mortgage note. Up to this point, a collateral mortgage appears to be identical to both a mortgage to secure future advances and an ordinary mortgage. But a distinction arises in the collateral mortgage situation because money is not directly advanced on the note that is paraphed for identification with the act of mortgage. Rather, the collateral mortgage note and the mortgage which secures it are pledged to secure a debt. 366 So. 2d at 1302 (emphasis in original). Pledge is an accessory contract by which one debtor gives something to a creditor as security for the debt. La. Civ. Code art. 3133; Texas Bank of Beaumont v. Bozorg, 457 So. 2d 667, 671 n. 4 (La. 1984). Invariably, the thing given as security for the debt is a movable, in which case the contract is more accurately called pawn.6 La. Civ. Code arts. 3134 and 3135. A person may give a pledge not only for his own debt, but also for that of another. La. Civ. Code art. 3141. The pledge secures only

The pledge of an immovable is called antichresis. La. Civ. Code art. 3135. However, this security device is not used because of its disadvantages to creditors. See Ralph Slovenko, Of Pledge, 33 Tul. L. Rev. 59 (1958). 6

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that debt or debts contemplated in the contract between the pledgor and pledgee. Alford, 366 So. 2d at 1304 (quoting Durham v. First Guaranty Bank of Hammond, 331 So.2d 563, 565 (La. App. 1st Cir. 1976)); see also Peter S. Title, Louisiana Real Estate Transactions, Second Edition,

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