Keams v. Tempe Technical Institute, Inc.
1997 WL 829972, 993 F. Supp. 714, 1997 U.S. Dist. LEXIS 21767 (1997)
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Rule of Law:
A lender does not owe a duty of care to a student borrower to investigate the quality or viability of the educational institution financed by the loan. Additionally, a debt arising from a corporate director's negligent supervision is dischargeable in bankruptcy, as it does not constitute the actual fraud required for a debt to be non-dischargeable under 11 U.S.C. § 523(a)(2)(A).
Facts:
- Carl and C. Colleen Forsberg owned and operated Tempe Technical Institute (TTI), a for-profit vocational school, from 1988 to 1990.
- Plaintiffs, a class of former students, were recruited to attend TTI with promises of practical training, guaranteed housing, and job placement assistance.
- Zions First National Bank issued federal student loans that Plaintiffs used to finance their education at TTI.
- TTI assisted Plaintiffs in completing their student loan applications for Zions but held itself out as the source of the funds, not as an agent for the bank.
- Plaintiffs allege that TTI was a 'sham' that provided an inferior education and failed to deliver on its promises.
- TTI was in financial trouble for most of its existence.
- A guaranty agency withdrew TTI's accreditation in March 1990 due to financial irregularities, and the school closed shortly thereafter.
- Following the school's closure, TTI and the Forsbergs filed for Chapter 7 bankruptcy.
Procedural Posture:
- Plaintiffs filed a class-action lawsuit in the Superior Court of Maricopa County, Arizona.
- Defendants removed the action to the United States District Court for the District of Arizona.
- Defendant Zions First National Bank filed a Motion for Summary Judgment.
- Defendant Student Loan Marketing Association (Sallie Mae) joined in Zions' Motion for Summary Judgment.
- Defendants Carl and C. Colleen Forsberg filed a separate Motion for Summary Judgment.
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Issue:
Does a lender that provides student loans for a vocational school owe a duty of care to the student borrowers to investigate the school's quality, or become liable for the school's misconduct through agency by ratification?
Opinions:
Majority - Silver, District Judge
No. A lender that provides student loans for a vocational school does not owe a duty of care to the student borrowers and is not liable for the school's misconduct. The court rejected all three of the Plaintiffs' theories of liability against the lender, Zions. First, the court found no agency relationship through ratification because TTI never purported to act on Zions' behalf; in fact, TTI represented itself as the source of the funds. Under Arizona law, ratification requires that the purported agent claim to be acting for the principal. Second, the court held that Zions did not owe Plaintiffs a duty of care, as there was no special or confidential relationship between the bank and the student borrowers. A lender generally has no duty to evaluate the wisdom of the purpose for which a borrower intends to use loan proceeds. Finally, the court declined to impute the FTC Holder Rule into the loan contracts as a matter of state law, finding no Arizona legal authority to support doing so.
Analysis:
This case significantly reinforces the legal insulation of lenders from the misconduct of third-party vendors whose products or services are financed by the loan. It clarifies that, absent a direct contractual provision like the FTC Holder Rule or a clear agency relationship, courts will not impose a gatekeeping duty on banks to vet the quality of the businesses their borrowers choose to patronize. This decision limits the avenues of recourse for consumers, particularly student borrowers, when a fraudulent school becomes insolvent, leaving the students with the loan debt but without the promised education. The ruling underscores that a bank's duty of prudent lending is owed to its shareholders, not its borrowers.
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