                IN THE COURT OF APPEALS OF TENNESSEE
                            AT NASHVILLE
                                  March 12, 2013 Session

    FEDERAL NATIONAL MORTGAGE ASSOCIATION v. TN METRO
                  HOLDINGS XII LLC ET AL.

                 Appeal from the Chancery Court for Sumner County
                     No. 2011C-47    Tom E. Gray, Chancellor




                  No. M2012-01803-COA-R3-CV - Filed May 14, 2013




Federal National Mortgage Association (“FNMA”) initially brought this action for
foreclosure and damages against a borrower, TN Metro Holdings XII LLC (“TN Metro XII”)
alleging default by failure to make scheduled principal and interest payments, by improperly
allowing liens against the mortgaged property in violation of the loan agreements and by
misapplication of rents collected from leasing the mortgaged property. FNMA subsequently
filed an amended complaint seeking relief in the nature of personal liability against
Defendant Selim Zherka under the loan. The trial court granted FNMA summary judgment
and held both the borrower and “Key Principal” liable for the deficiency following a
foreclosure sale and for damages. We vacate the summary judgment, holding that (1) FNMA
failed to provide written notice and a thirty-day period to cure the alleged defaults as required
by the parties’ agreement; and (2) there are genuine issues of material fact making summary
judgment improper regarding FNMA’s claim for damages resulting from the alleged
misapplication of rents.

 Tenn. R. App. P. 3 Appeal as of Right; Judgment of the Chancery Court Vacated;
                                 Case Remanded

T HOMAS R. F RIERSON, II, J., delivered the opinion of the Court, in which C HARLES D.
S USANO, J R., P.J., and J OHN W. M CC LARTY, J., joined.

H. Buckley Cole and Bryant C. Witt, Nashville, Tennessee, for the appellants, TN Metro
Holdings XII LLC and Selim Zherka.

John F. Teitenberg, Nashville, Tennessee, for the appellee, Federal National Mortgage
Association.
                                         OPINION

                         I. Factual and Procedural Background

        On April 25, 2007, Defendant TN Metro XII, acting through its authorized managing
member and owner, Defendant Selim Zherka, executed and delivered to Sovereign Bank a
promissory note in the amount of $8,616,000 for the purpose of using the proceeds to buy
an apartment complex known as Pheasant Run Apartments in Hendersonville, Tennessee
(“the Property”). To secure payment of the note, TN Metro XII executed a deed of trust,
security agreement, and assignment of rights (the “Security Instrument”) in favor of
Sovereign Bank. The promissory note was “non-recourse,” i.e., it provided for no personal
liability on the part of the borrower, as stated in paragraph 9:

       (a) Except as otherwise provided in this Paragraph 9, Borrower [TN Metro
       XII] shall have no personal liability under this Note, the Security Instrument
       or any other Loan Document for the repayment of the Indebtedness or for the
       performance of any other obligations of Borrower under the Loan Documents,
       and Lender’s only recourse for the satisfaction of the Indebtedness and the
       performance of such obligations shall be Lender’s exercise of its rights and
       remedies with respect to the Mortgaged Property . . . .

      Paragraph 9 of the note provided for two exceptions imposing personal liability,
however, that are relevant to the issues presented herein. The first, referenced as the “Rent
Exception,” provided that

       (b) Borrower shall be personally liable to Lender for the repayment of a
       portion of the Indebtedness equal to any loss or damage suffered by Lender as
       a result of:

              (1) failure of Borrower to pay to Lender upon demand after an
              Event of Default, all Rents to which Lender is entitled under
              Section 3(a) of the Security Instrument and the amount of all
              security deposits collected by Borrower from tenants then in
              residence;
              ...
              or (5) failure to apply Rents, first, to the payment of reasonable
              operating expenses . . . and then to Debt Service Amounts . . . .

       The second relevant exception imposing personal liability for the debt, referenced as
the “Transfer Exception,” provided that “Borrower shall become personally liable to Lender

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for the repayment of all the Indebtedness upon the occurrence of any of the following Events
of Default: . . . (2) a Transfer that is an Event of Default under Section 21 of the Security
Instrument.” The Security Instrument provided that

       the grant, creation or existence of any mortgage, deed of trust, deed to secure
       debt, security interest or other lien or encumbrance (a “Lien”) on the
       Mortgaged Property (other than the lien of this Instrument) or on certain
       ownership interests in Borrower, whether voluntary, involuntary or by
       operation of law, and whether or not such Lien has priority over the lien of this
       Instrument, is a “Transfer” which constitutes an Event of Default.

        Mr. Zherka also executed a document styled “Acknowledgment and Agreement of
Key Principal to Personal Liability for Exceptions to Non-Recourse Liability,” in which he,
as Key Principal, “absolutely, unconditionally, and irrevocably agree[d] to pay to Lender, or
its assigns, on demand, all amounts for which Borrower [TN Metro XII] is personally liable
under Paragraph 9” of the note. Sovereign Bank assigned all of the loan documents to
Plaintiff FNMA on April 25, 2007, the same day they were executed.

       On March 2, 2011, FNMA filed the instant complaint for foreclosure and damages,
alleging, inter alia, that “TN Metro XII is in default for failure to pay monthly principal and
interest payments since September 2010 and for failure to provide financial information
required and requested under the terms of the Note and Rent/Security Agreement.” The
complaint further alleged that the principal amount of the note—$8,473,996.73—was then
due and owing FNMA from TN Metro XII. TN Metro XII did not deny that it had failed to
make principal and interest payments due to FNMA after September 2010. This matter was
temporarily stayed as a result of TN Metro XII filing bankruptcy on March 9, 2011. The stay
ended when the bankruptcy court dismissed the bankruptcy petition on April 21, 2011. At
a subsequent foreclosure proceeding on June 1, 2011, FNMA was the highest bidder for the
Property with a bid of $4.1 million.

        On July 28, 2011, FNMA filed an amended complaint, alleging that on June 1, 2011,
the total amount owed on the note was $9,498,221.59, including $8,464,065.00 in principal,
$421,832.00 in interest accrued, $594,177.00 in default interest, and $3,306.00 in late
charges. FNMA also alleged that TN Metro XII was liable for other expenses, including
legal fees, appraisals, inspections, and taxes totalling $168,541.00 as well as a “prepayment
premium” in the amount of $1,386,297.00 less an escrow fund amount of $53,701.00. The
amended complaint asserted that following the foreclosure auction at which FNMA bought
the Property for $4,100,000, “[a] deficiency in the amount of $6,784,519 exists as of June
1, 2011.”



                                              -3-
       FNMA further alleged in the amended complaint, for the first time, that TN Metro XII
and Mr. Zherka were personally liable for the amounts owed on the note because (1) TN
Metro XII failed to pay rents that it had collected from leasing the Property and were due to
FNMA, and because (2) TN Metro XII “improperly allowed a number of liens and/or
encumbrances against the Property.” FNMA alleged that because “[t]hese liens have not
been bonded off, released of record or otherwise remedied to [FNMA’s] satisfaction within
30 days of creation,” and because the note and Security Instrument state that “a lien is a
Transfer creating an Event of Default if the lien is not removed within thirty days,” TN Metro
XII and Mr. Zherka had incurred personal liability. TN Metro XII and Mr. Zherka answered,
denying personal liability under the terms of the note and Security Instrument.

       FNMA moved for summary judgment on December 27, 2011. TN Metro XII and Mr.
Zherka, in a supplemental response to the motion for summary judgment, argued that there
had been no default resulting from the liens against the Property because FNMA failed to
provide written notice and an opportunity to cure as required by the Security Instrument. TN
Metro XII and Mr. Zherka further asserted that genuine issues of material fact regarding
FNMA’s claims for misapplied rents collected in early 2011 made summary judgment
improper. Following a hearing on June 22, 2012, the trial court entered an order granting
summary judgment in favor of FNMA in the amount of $6,906,572.25 and holding TN Metro
XII as borrower and Mr. Zherka as guarantor jointly and severally liable in the amount of the
judgment. TN Metro XII and Mr. Zherka timely appealed.

                                    II. Issues Presented

       TN Metro XII and Mr. Zherka present the following restated issues:
       (1) Whether the trial court erred in granting summary judgment when FNMA
       failed to provide notice of the alleged default and opportunity to cure the
       default as required by contract;
       (2) Whether the trial court erred by imposing over $6.7 million in personal
       liability for immaterial breaches that did not impair FNMA’s collateral;
       (3) Whether the trial court erred in enforcing a punitive damages provision to
       impose personal liability on a generally non-recourse debt; and
       (4) Whether there are genuine issues of material fact making summary
       judgment improper on FNMA’s claim for breach of contract resulting from an
       alleged misapplication of rents.

                                 III. Standard of Review

      Our Supreme Court has recently succinctly described the applicable standard of
review of a trial court’s grant of summary judgment as follows:

                                             -4-
       A summary judgment is appropriate only when the moving party can
       demonstrate that there is no genuine issue of material fact and that it is entitled
       to judgment as a matter of law. Tenn. R. Civ. P. 56.04; Hannan v. Alltel
       Publ’g Co., 270 S.W.3d 1, 5 (Tenn. 2008). When ruling on a summary
       judgment motion, the trial court must accept the nonmoving party’s evidence
       as true and resolve any doubts concerning the existence of a genuine issue of
       material fact in favor of the nonmoving party. Shipley v. Williams, 350 S.W.3d
       527, 536 (Tenn. 2011) (quoting Martin v. Norfolk S. Ry., 271 S.W.3d 76, 84
       (Tenn. 2008)). “A grant of summary judgment is appropriate only when the
       facts and the reasonable inferences from those facts would permit a reasonable
       person to reach only one conclusion.” Giggers v. Memphis Hous. Auth., 277
       S.W.3d 359, 364 (Tenn. 2009) (citing Staples v. CBL & Assocs., Inc., 15
       S.W.3d 83, 89 (Tenn. 2000)). “The granting or denying of a motion for
       summary judgment is a matter of law, and our standard of review is de novo
       with no presumption of correctness.” Kinsler v. Berkline, LLC, 320 S.W.3d
       796, 799 (Tenn. 2010).

Dick Broad. Co. of Tenn. v. Oak Ridge FM, Inc., ___ S.W.3d ___, ___, No.
E2010–01685–SC–R11–CV, 2013 WL 175491 at *13 (Tenn. Jan. 17, 2013).

                                         IV. Analysis

                      A. Notice of Default and Opportunity to Cure

        We first address the issue of whether FNMA provided sufficient notice, as required
by the Security Instrument, to TN Metro XII and Mr. Zherka of the alleged default resulting
from the liens on the Property. In its amended complaint, FNMA alleged the existence of
several liens or encumbrances against the Property, including: (1) unpaid Sumner County
property taxes for 2010 in the amount of $54,984.57; (2) unpaid City of Hendersonville
property taxes for 2010 in the amount of $17,425.00; (3) a lien recorded by A Action Steamer
in the amount of $925.00; (4) a lien recorded by Brookemeade Hardware & Supply Co. in
the amount of $2,232.02; (5) a mechanic’s lien recorded by HD Supply, Inc. in the amount
of $5,401.01; (6) a lien recorded by American Carpet Connection in the amount of
$6,869.22; and (7) a lien recorded by ABC Flooring in the amount of $3,461.37. Claiming
that TN Metro XII and Mr. Zherka were personally liable for the entire deficiency after the
foreclosure auction and sale, FNMA relied upon a provision in the Security Instrument
stating that “the grant, creation or existence of any . . . lien or encumbrance (a “Lien”) on the
Mortgaged Property. . . is a “Transfer” which constitutes an Event of Default.” FNMA
further asserted reliance upon the provision in the note that “Borrower shall become
personally liable to Lender for the repayment of all the Indebtedness upon the occurrence of

                                               -5-
. . . a Transfer that is an Event of Default.”

       TN Metro XII and Mr. Zherka responded by arguing that the Security Instrument
agreement required FNMA to provide written notice and a thirty-day period to cure the
default and that FNMA had failed to provide the requisite notice. The controlling provision
of the Security Instrument provides as follows in relevant part:

       Notwithstanding any of the provisions contained herein to the contrary, Lender
       shall provide Borrower written notice of any Non-Monetary Default
       hereunder. As used herein, the term “Non-Monetary Default” shall mean any
       default under the terms and provisions hereof other than a default in the
       payment to the Lender of any sum or amount of money which may fall due or
       be payable from time to time under the terms hereof or the note secured
       hereby. Borrower shall have a period of thirty (30) days after Lender’s giving
       of written notice of such Non-Monetary Default within which time such Non-
       Monetary Default must be cured; . . . An Event of Default shall not be deemed
       to have occurred under this Security Instrument until the expiration of the
       applicable notice and cure period set forth above.

(Emphasis added). FNMA does not dispute that the first time it mentioned the liens on the
Property and alleged that their existence resulted in personal liability for the entire
indebtedness under the note was in its amended complaint. FNMA posited that despite its
failure to notify TN Metro XII or Mr. Zherka via correspondence or any other
communication prior to the filing of the amended complaint, the allegations contained in the
amended complaint satisfied the notice requirement. The trial court agreed with FNMA’s
position, determining in an amended order awarding summary judgment that “a Complaint
can satisfy the notice requirement.”

       The resolution of this issue requires the interpretation of a written contract. “The
interpretation of written agreements . . . is a matter of law that this Court reviews de novo on
the record according no presumption of correctness to the trial court’s conclusions of law.”
Allstate Ins. Co. v. Watson, 195 S.W.3d 609, 611 (Tenn. 2006). In interpreting a contract,
our “initial task is to determine whether the language in the contract is ambiguous.” Ray Bell
Constr. Co. v. Tenn. Dep’t of Transp., 356 S.W.3d 384, 387 (Tenn. 2011). “The central tenet
of contract construction is that the intent of the contracting parties at the time of executing
the agreement should govern. The intent of the parties is presumed to be that specifically
expressed in the body of the contract.” Planters Gin Co. v. Fed. Compass & Warehouse Co.,
78 S.W.3d 885, 890 (Tenn. 2002) (internal citation omitted). As our Supreme Court has
recently explained,



                                                 -6-
        We initially determine the parties’ intent by examining the plain and ordinary
        meaning of the written words that are “contained within the four corners of the
        contract.” The literal meaning of the contract language controls if the
        language is clear and unambiguous. However, if the terms are ambiguous in
        that they are “susceptible to more than one reasonable interpretation,” we must
        apply other established rules of construction to aid in determining the
        contracting parties’ intent. The meaning of the contract becomes a question
        of fact only if an ambiguity remains after we have applied the appropriate rules
        of construction.

Dick Broad. Co., ___ S.W.3d ___, ___, 2013 WL 175491 at *4 (internal citations omitted).

        In the case at bar, the plain language of the contractual notice provision states that the
“Lender shall provide Borrower written notice” and that the “Borrower shall have a period
of thirty (30) days after Lender’s giving of written notice” to cure the alleged default
(emphasis added). The parties’ use of the term “shall” indicates that the notice requirement
and the period to cure were intended as mandatory. Cf. Myers v. AMISUB (SFH), Inc., 382
S.W.3d 300, 308 (Tenn. 2012) (“‘When “shall” is used . . . it is ordinarily construed as being
mandatory and not discretionary.’”) (quoting Bellamy v. Cracker Barrel Old Country Store,
Inc., 302 S.W.3d 278, 281 (Tenn. 2009)). FNMA admitted, in an answer to an interrogatory
requesting it to “[s]tate when, if ever, you gave TN Metro XII notice to remove each of the
liens or encumbrances listed [in] . . . the Amended Complaint,” that its position was that
FNMA “was not required to give any notice and would have no reason to do so.”

        We conclude that FNMA failed to provide written notice as required by the Security
Instrument, and that its filing of an amended complaint alleging default and consequent
personal liability was not effective notice under the respective contract. It is clear that the
intent and purpose of the written notice requirement and the thirty-day period to cure was to
give the parties an opportunity to avoid default and litigation if possible. The amended
complaint made no mention of the thirty-day cure period that would be triggered by the
lender’s written notice. The borrower, TN Metro XII, had the right to reasonably rely on the
contractual notice provision and the assurance that it would have thirty days to cure any
alleged default resulting from a lien or encumbrance on the property. FNMA has cited no
legal authority supporting the proposition that the filing of a complaint or amended complaint
satisfies a contractual provision requiring written notice to a borrower under these
circumstances.1 Moreover, to the extent that there exists any ambiguity about the definition


        1
         The decisions cited by FNMA ostensibly in support of its position, In re Bridgestone/Firestone, Inc.
Prods. Liab. Litigation, 155 F. Supp. 2d 1069 (S.D. Ind. 2001), Moon v. Auto-Owners Ins. Co., 736 S.W.2d
                                                                                               (continued...)

                                                    -7-
or meaning of the term “written notice,” “[a]n ambiguous provision in a contract generally
will be construed against the party drafting it.” Allstate Ins. Co., 195 S.W.3d at 612. FNMA
drafted the agreements at issue in this case.

        Because FNMA failed to provide written notice as required by the Security
Instrument, there was no default resulting from the liens on the Property under the clear and
express language of the Security Instrument providing that “[a]n event of Default shall not
be deemed to have occurred under this Security Instrument until the expiration of the
applicable notice and cure period set forth above.” It follows that the trial court erred by
granting summary judgment in favor of FNMA and by holding TN Metro XII and Mr.
Zherka personally liable for the amount of the deficiency. Our conclusion that there was no
default pursuant to the Security Instrument agreement renders moot the issues of whether the
trial court erred in imposing personal liability for “immaterial breaches” and whether the
contractual provision imposing personal liability for the entire indebtedness is unenforceable
as imposing an “unconscionable penalty.”

                              B. Claim for Breach of Contract

       We next address the issue of whether there are genuine issues of material fact making
summary judgment improper on FNMA’s claim for breach of contract resulting from an
alleged misapplication of rents. FNMA alleged that TN Metro XII’s misapplication of rents
received from leasing the apartment units of the Property during March and April of 2011
resulted in TN Metro XII and Mr. Zherka incurring personal liability, not for the entire
amount of the indebtedness under the note and Security Instrument, but for the amount
allegedly misapplied, under the Rent Exception to this generally non-recourse loan. In
pertinent part, FNMA alleged in its amended complaint that

       revenues of approximately $84,047 each month were generated in March and
       April 2011, no payments were made to [FNMA] for principal or interest, and
       total expenditures for the property of approximately $33,567 were incurred.
       Thus, over 168,000 in revenues less no more than $35,000 in expenses, plus
       a bank balance of approximately $28,000 leaves over $100,000 in missing
       revenues during the bankruptcy period. The failure of TN Metro XII to pay
       [FNMA] all rents to which [FNMA] is entitled under . . . the Security
       Instrument imposes recourse liability against both TN Metro XII and Zherka
       under the Note[.]


       1
          (...continued)
92 (Tenn. 1987), and Wal-Board Supply Co. v. Daniels, 629 S.W.2d 686 (Tenn. Ct. App. 1981), involve
distinctly different factual and legal circumstances and are thus inapposite and distinguishable.

                                                -8-
In support of these allegations, FNMA filed the affidavit of Diane Cathey, an employee of
Continental Property Management, LLC, the receiver appointed by the trial court in this
action. Ms. Cathey attested that “[d]ocuments produced by TN Metro XII or its counsel
reflected rents of approximately $84,000 per month, and expenditures of less than $35,000
for March 9, 2011 through April 13, 2011.” Mr. Zherka filed his own affidavits, however,
disputing the amounts of TN Metro XII’s revenues and expenses during this time period. In
his first affidavit dated January 31, 2012, Mr. Zherka stated inter alia as follows:

               [FNMA] contends that there were significant sums of rents not
       accounted for while TN Metro XII was operating the Property based on
       documents provided to [FNMA] in connection with the bankruptcy hearing on
       April 21, 2011. [FNMA] repeatedly cites that there was $50,000 more in
       revenues than expenses between March 9, 2011 and April 13, 2011. Before
       the hearing, TN Metro XII determined that the figures provided were not
       correct. . . .
               Just as TN Metro XII chose not to rely upon the erroneous numerous
       [sic] described in Statement of Undisputed Facts No. 14, this Court should not
       rely upon them as they are erroneous.

In its statement of undisputed facts, FNMA asserted that “Documents produced by TN Metro
XII or its counsel reflected rents of approximately $84,000 per month, and expenditures of
less than $35,000 for March 9, 2011 through April 13, 2011.” TN Metro XII and Mr. Zherka
responded: “[d]enied in part; admitted in part. These figures were provided by TN Metro XII
from figures which it was provided. TN Metro XII learned that these figures were erroneous
and not reflective of the costs to operate the Property.” Finally, Mr. Zherka testified in an
affidavit filed later that “I deny that TN Metro Holdings XII or I violated the provisions of
the loan documents or the Cash Collateral Order [entered by the bankruptcy court] as alleged
by FNMA.”

        In ruling on a motion for summary judgment, “[c]ourts must view the evidence and
all reasonable inferences therefrom in the light most favorable to the non-moving party.”
Giggers v. Memphis Hous. Auth., 277 S.W.3d at 364 (Tenn. 2009). By incorporating the
applicable summary judgment standard, we hold that Mr. Zherka’s sworn statements refuting
facts claimed by FNMA create genuine issues of material fact regarding the amounts of
revenues collected and expenses incurred from the operation of the Property during March
and April of 2011. The trial court erred by granting summary judgment regarding FNMA’s
claim for damages resulting from alleged misapplication of rents.

                                      V. Conclusion

                                             -9-
       The trial court’s order granting summary judgment in favor of FNMA is vacated, and
the case is remanded for further action consistent with this opinion. Costs on appeal are
assessed to the Appellee, Federal National Mortgage Association.


                                                 _________________________________
                                                 THOMAS R. FRIERSON, II, JUDGE




                                          -10-
