Middlebrook-Anderson Co. v. Southwest Savings and Loan Association

Middlebrook-Anderson Company (Middlebrook) (plaintiff) sold property in California to developers, who paid the purchase price partially by a purchase-money deed of trust. The parties intended that the deed of trust be second in priority to a construction loan that the buyers would later obtain. Rather than sign a formal subordination agreement, Middlebrook and the developers agreed that the construction-loan agreement would be recorded before the deed of trust. The buyers obtained a construction loan from Southwest Savings and Loan Association (Southwest) (defendant), based on representations that any funds loaned would be used only for construction on the property. Southwest deposited money into a construction-loan account and permitted the buyers to use $300,000 for nonconstruction purposes. After the funds were depleted, the buyers stopped work on the property. The escrow agent, Western Escrow Company (defendant), gave Middlebrook notice of default and later began foreclosure proceedings. Before foreclosure was complete, Middlebrook sued Southwest and Western Escrow on various grounds, including Southwest’s failure to limit the use of loan funds to construction. Middlebrook requested that the priority of Middlebrook’s deed of trust be restored. Southwest and Western Escrow argued that Middlebrook’s deed of trust was a second lien that was never subordinated pursuant to a subordination agreement, and therefore, there was no priority to be restored. The trial court dismissed the case for failure to state a claim. Middlebrook appealed.