Borrower May Sue after Three Years to Rescind Mortgage Loan, 4th Circuit Rules
In a decision that possibly opens the door for renewed foreclosure delays, the U.S. Court of Appeals for the Fourth Circuit has held that a lawsuit seeking rescission is timely where the consumer provided notice of rescission to the subservicer within three years of closing but did not file suit until after the three-year deadline had passed.
The May 3, 2012, decision in Gilbert v. Residential Funding LLC is the first by a federal appellate court to hold that a borrower need only send notice of rescission within the three-year period to validly exercise a right to rescind.
The decision puts the Fourth Circuit in the minority. The majority of courts to consider the question—including the Third and Ninth Circuits—have held that the requirement for the borrower to file suit within the three-year period is consistent with the language of Section 1635 of the Truth in Lending Act and prior precedent, including the U.S. Supreme Court’s decision in Beach v. Ocwen Federal Bank. In its opinion, the Fourth Circuit rejected the subservicer’s reliance on Beach, observing that Beach “did not address the proper method of exercising a right to rescind or the timely exercise of that right” but only addressed whether Section 1635 was a statute of limitation that operated to extinguish the right after three years.
The borrowers in Gilbert had sent their rescission notice following the filing of a foreclosure action by the holder of their note. In doing so, they were employing a tactic that, since the mortgage foreclosure process began, borrowers have routinely used to delay a foreclosure even when the borrower has no real intention of rescinding (and perhaps even when the borrower does not know if he or she has any basis for rescinding or the ability to tender back the principal).
The Fourth Circuit distinguished “the issue of whether a borrower has exercised her right to rescind” from “the issue of whether the rescission has, in fact, been completed and the contract voided.” While acknowledging that, to complete a rescission and void the contract, the creditor must agree to rescind or the borrower must file a lawsuit, the Fourth Circuit did not directly address the question of how long after three years a borrower may wait to file suit. It held only that the borrower’s TILA claim for damages based on the subservicer’s refusal to rescind the loan was timely under TILA Section 130(e) because it was filed within one year of the date of the subservicer’s letter rejecting the rescission.
While we disagree with the Fourth Circuit’s conclusion that borrowers can bring rescission lawsuits more than three years from loan consummation, we believe that, if borrowers are allowed to do so, the one-year statute of limitations in Section 130(e) should apply.
The Fourth Circuit’s decision represents a victory for the Consumer Financial Protection Bureau, which had filed an amicus brief in Wolf v. Federal National Mortgage Association, another Fourth Circuit appeal involving the same rescission issue. In its brief, the CFPB took the position that notice within the three-year period is all that is required to validly exercise a right to rescind. The CFPB has filed amicus briefs taking the same position in the Third, Eighth, and 10th Circuits. (To read our blog posts on the CFPB’s amicus briefs, click here and here.)
The Fourth Circuit also reversed the district court’s dismissal of the borrower’s state law usury claim, although it directed the district court to consider, on remand, various North Carolina statutes that would have allowed the lender to charge any agreed rate. While affirming the district court’s dismissal of the borrowers claims under North Carolina’s unfair and deceptive trade practices law that were based on conduct of the original creditor who was not a party to the lawsuit, it reversed the dismissal of those claims against the noteholder, the subservicer, and other named defendants.
- Barbara S. Mishkin
Mortgage Insurer Settles DOJ Discrimination Suit
The U.S. Department of Justice recently announced the settlement of a Fair Housing Act lawsuit against the Mortgage Guaranty Insurance Corporation (MGIC), which the DOJ described as “the department’s first involving discrimination against women and families in mortgage insurance.”
The settlement stems from a federal court lawsuit filed in July 2011 in the Western District of Pennsylvania that followed the DOJ’s investigation of a complaint filed by a woman who claimed she was discriminated against when MGIC refused to proceed on a request to insure the mortgage loan for which she had applied. The suit alleged that the woman was on paid maternity leave when the request was submitted to MGIC, and that MGIC would not proceed on the request until she had returned to work full time.
In the complaint, the DOJ alleged that MGIC’s actions violated the Fair Housing Act because they constituted discrimination on the basis of sex and familial status “in the terms, conditions or privileges of the provision of services in connection with the sale of a dwelling” and “in making available, or in the terms or conditions of, residential real estate-related transactions.” The suit was brought pursuant to both the complainant’s election under the statute to have her claims litigated in a civil action and the U.S. Attorney General’s statutory authority to seek redress for housing discrimination that raises an issue of public importance.
The consent order requires MGIC to (1) create a $511,250 settlement fund to compensate 70 individuals identified by the DOJ as aggrieved persons who suffered discriminatory conduct related to MGIC’s actions, (2) pay an additional $35,000 to the complainant for pain and suffering she incurred as a result of aggravating a pre-existing medical condition and for vacation and leave time she forfeited in response to MGIC’s requirement that she return to work, and (3) pay a civil penalty of $38,750.
Other provisions of the consent order require MGIC to:
Follow specific underwriting policies and procedures relating to maternity and paternity leave
Implement a monitoring program that, for a minimum of one year, requires MGIC to re-underwrite any application that results in MGIC’s obtaining information concerning “present, past, or future maternity or paternity leave by an applicant or potential co-applicant” if the application was not approved based on the original underwriting
Provide fair lending training to management and employees who participate in underwriting
Provide a specified nondiscrimination notice when MGIC provides written copies of its income underwriting policies to lenders, mortgage brokers, or other parties from which it accepts insurance applications and in certain written notices and other communications it sends to applicants or others
According to the DOJ’s announcement, court approval has been sought for a preliminary settlement of a private class action, Neals v. Mortgage Guaranty Insurance Company, filed by the complainant in the Western District of Pennsylvania. Under the settlement terms, class members who receive compensation under the DOJ consent order would remain eligible for additional compensation “for extraordinary damages” above the consent order amount.
To help consumer credit providers prepare for examinations and to prevent, manage, and defend against the increasing number of fair lending challenges, Ballard Spahr has created a Fair Lending Task Force. The task force brings together regulatory attorneys who deal with fair lending law compliance, litigators who defend against claims of fair lending violations, and labor attorneys who likewise understand the statistical analyses that underlie fair lending assessments and discrimination claims.
- Barbara S. Mishkin
HUD Face-To-Face Meeting Rule Gets Expansive Reading from Virginia High Court
In a decision affecting all lenders in Virginia that issue FHA-insured home loans, the Supreme Court of Virginia has adopted an expansive reading of HUD’s requirement of face-to-face meetings prior to foreclosure.
Rejecting the lender’s argument that no face-to-face meeting was required because it did not have a “branch office” within 200 miles of the mortgagee, the justices held in Mathews v. PHH Mortgage Corporation that the term “branch office” includes not only “servicing offices,” but also “originating offices.”
For many lenders, the April 20, 2012, ruling means that every foreclosure on a Virginia FHA-insured loan could require such a face-to-face meeting. The court’s expansive reading of the term “branch office” will effectively eliminate the possibility that the 200-mile exception would ever apply.
In Mathews, the borrowers sought a declaratory judgment that foreclosure sale of their home was void because the lender had not satisfied conditions precedent to foreclosure set forth in the Deed of Trust. The borrowers had defaulted on their FHA-insured home loan, yet they asserted HUD regulations incorporated into the Deed of Trust required a face-to-face meeting between lender and borrower at least 30 days before commencement of foreclosure proceedings.
Under 24 C.F.R. Section 203.604(b), a lender is required to “have a face-to-face interview” with the borrower, “or make a reasonable effort to arrange such a meeting.” The statute creates an exception, however, that a face-to-face meeting is not required if the mortgaged property is not within 200 miles of the mortgagee, its servicer, or a branch office of either.
PHH argued that it did not have a “branch office” within 200 miles of the mortgagee based on the definition of “branch office.” It cited FAQs on HUD’s website that explain “branch offices” staffed by individuals “that deal only with loan origination … are not familiar with servicing issues and are not trained in debt collection or HUD’s Loss Mitigation Program,” and that ”therefore … the face-to-face meeting requirement … relates only to those mortgagors living within a 200-mile radius of a servicing office.”
The court disagreed with PHH, however, stating that administrative interpretations such as those on the HUD website should be given deference only when the language of the regulation is ambiguous. Concluding that the term “branch office” is unambiguous, the court held that the term includes within its scope “every type of business and service supplied by the mortgagee, including loan origination.”
The court suggested video or teleconferencing for face-to-face meetings in offices where the staff is not trained to handle it. “If an originating office within the 200-mile radius lacks staff with the appropriate training, appropriately trained staff could participate in a face-to-face meeting between the borrower and the staff of the originating office by tele- or videoconference … thereby imposing a minimal burden on the lender while furthering the loss mitigation purpose of the Regulation and its underlying statutory authority.”
- Constantinos G. Panagopoulous and Jonathan C. Lippert
EEOC Issues Guidance on Use of Criminal Background Checks
The Equal Employment Opportunity Commission has issued its long-anticipated Enforcement Guidance on employer use of arrest and conviction records in making employment decisions. The guidance, released on April 25, 2012, is grounded on the premise that any employment practice that has a disparate impact upon a Title VII protected group is unlawful unless the practice is job related and consistent with business necessity.
In issuing the guidance, the EEOC cited concerns that employers use information obtained during criminal background checks to illegally discriminate against employees and job applicants in violation of Title VII of the Civil Rights Act of 1964. Key aspects of the lengthy guidance are discussed below.
The guidance’s introduction references national data supporting a conclusion that criminal record exclusions have a disparate impact on individuals, particularly African Americans and Hispanics, on the basis of race and national origin. Unlawful disparate impact occurs when an employer enforces a policy or practice that is not job related and consistent with business necessity and that affects a protected group more than the group as a whole.
In the EEOC’s view, to survive a potential disparate impact claim an employer must show that its criminal-record policy operates to effectively link specific criminal conduct, and its dangers, with the risks inherent in the duties of a particular position. The EEOC identifies two scenarios in which it believes employers will consistently meet the “job-related and consistent with business necessity” standard:
Where the employer validates the criminal conduct screen for the position in question per the Uniform Guidelines on Employee Selection Procedures standards (if data about criminal conduct as related to subsequent work performance is available and such validation is possible)
Where the employer 1) develops a targeted screen considering at least the nature of the crime, the time elapsed since the conviction or release from incarceration, and the nature of the job, and 2) provides an opportunity for an individualized assessment for people excluded by the screen to determine whether the policy as applied is job related and consistent with business necessity
The individualized assessment may include consideration of such evidence as possible inaccuracy in the criminal record, circumstances surrounding the offense, the age at the time of conviction or release, evidence of performance of the same type of work post-conviction with no further criminal incidents, rehabilitation efforts including education and training, character references, and whether the individual is bonded.
Also discussed in the guidance is the difference between arrests and convictions. Because an arrest does not establish that criminal conduct has occurred, an adverse employment action based on an arrest alone is not job related and consistent with business necessity. An employer may, however, make an employment decision based on the conduct underlying the arrest if, after a factual investigation, the employer determines that the conduct renders the individual unfit for the position in question.
By contrast, a record of a conviction will usually serve as sufficient evidence that a person engaged in criminal conduct. The EEOC recommends as a best practice, but does not require, that employers refrain from asking about convictions on job applications and that, if and when employers make such inquiries, the inquiries be limited to convictions for which an exclusion would be job related for the position in question and consistent with business necessity.
Compliance with other federal laws or regulations is a defense to a charge of discrimination under Title VII. For example, screening out an applicant who, due to a criminal record, is unable to obtain federal security clearance for a position requiring it would not be unlawful. State and local laws or regulations, however, are preempted by Title VII if they “purport to require or permit the doing of any act which would be an unlawful employment practice” under Title VII.
Employers should review their policies and procedures to ensure compliance with the new guidance. If you have any questions on the implications for your business, please contact Patricia A. Smith at 856.873.5521 or firstname.lastname@example.org, Rebecca L. Massimini at 215.864.8223 or email@example.com, or the member of the Labor and Employment Group with whom you work.
Choosing the Proper Transaction Structure: Asset vs. Stock vs. Merger
Guest column from members of our Mergers and Acquisitions/Private Equity Group
When two companies are considering an M&A transaction, an important initial consideration is the legal structure that the transaction will take. Determining the transaction structure may be challenging as the buyer and target often have competing interests and different perspectives. The following explains some of the differences among the three most common transaction structures—asset purchases, stock purchases, and mergers.
In an asset purchase, the buyer purchases only those tangible and intangible assets—and assumes only those liabilities—that are specifically identified in the purchase agreement. Buyers often favor this structure for its flexibility. They can pick and choose the assets they wish to acquire and the liabilities they wish to assume, and leave the rest behind. Because the liabilities assumed by the buyer are specifically identified in the purchase agreement, this structure may allow a buyer to avoid contingent or unknown liabilities, although some laws (for example, environmental and tax) and certain doctrines (successor liability) may nonetheless impose liability on the buyer.
The asset purchase structure is often used when the buyer is looking to acquire a single division or business unit within a company. It can be complex and time consuming, however, due to the extra effort required to identify and transfer every important asset. While some assets, such as equipment, may easily be transferred by a bill of sale or other instrument of title, other assets, such as intellectual property or real estate, require a separate assignment or deed with different mechanics and formalities. Some assets, including many permits, are not transferable at all.
Third-party consents will often be required in order to transfer certain contracts from seller to buyer, as many contracts specifically state they are not assignable or require consent to assign. Since the process of identifying and obtaining consents may take considerable time, the parties should identify all required third-party consents at an early stage of the transaction to avoid delay at closing.
In a stock acquisition, the buyer acquires the target company’s stock from its stockholders. The target company stays exactly the same—its assets and liabilities unchanged—but with new ownership. It is critically important in a stock purchase transaction that the buyer negotiate representations and warranties concerning the target’s business, assets, and liabilities so that it has a complete and accurate understanding of the target company.
One consideration for the buyer is that it will not get 100 percent control unless all stockholders agree to sell their stock. A high number of stockholders increases the risk of hold-outs, protracted negotiations, and other complications. A buyer unable to acquire 100 percent of the stock will be left with minority stockholders who may prove difficult. To combat this risk, a buyer may condition the transaction on 100 percent participation by the stockholders, or on at least 90 percent participation and undertake a statutory “short-form merger,” a state law mechanism that allows a buyer to acquire the remaining minority interest in an expeditious manner and without a stockholder vote.
Since the target company is simply moving to a new owner, the assets of the target remain unchanged in a stock purchase, and most of the assignment and third-party consent procedures that can cause complications or delays in an asset purchase may be avoided. A stock purchase does, however, involve a “change of control,” so the buyer must identify contracts that require consent. For example, many real estate leases contain “change of control” provisions requiring landlord consent.
In a merger, two companies combine to form one legal entity, with the stockholders of the target company receiving stock of the buyer, cash, or a combination of both. The surviving entity assumes all the assets, rights, and liabilities of the extinguished entity by operation of law. Mergers are often structured as “triangular,” where the buyer uses a subsidiary (typically one that is newly formed) that will be merged into the target company (a reverse triangular merger) or into which the target company will merge (a forward triangular merger). An advantage of the triangular merger structure is that the buyer is able to shield itself from the liabilities of the target company.
A merger transaction is similar to a stock purchase in that the buyer will acquire all of the target company’s assets, rights, and liabilities (known and unknown) and will be unable to specifically identify which assets and liabilities it wishes to assume. Similarly, third-party consents are required only for those agreements requiring consent upon a “change of control.”
One key advantage of a merger is that it typically requires consent of only a majority of the target company’s stockholders (subject to any additional requirements existing in a target’s organizational documents). This makes merger a good choice (and often the only practical choice) where the target company has numerous stockholders or has stockholders opposed to the transaction. Under state laws, target company stockholders who are opposed to a transaction may have the right to dissent and exercise appraisal rights to receive “fair value” for their stock as determined by a court. Most public company acquisitions are effectuated through a merger.
Selecting the best structure to effectuate an M&A transaction is critical to the success of any acquisition. Transaction structure may be complicated, and the benefits of a structure for one party may work to the disadvantage of the other party. Therefore, both the parties and their attorneys must weigh the competing legal, tax, and business considerations and creatively construct the most mutually advantageous transaction structure.
Ballard Spahr’s Mergers and Acquisitions/Private Equity Group has extensive experience in advising clients with respect to transaction structure as well as drafting and negotiating purchase agreements on behalf of its clients, who consist of both buyers and sellers. For further information, please contact Craig Circosta at 215.864.8520 or firstname.lastname@example.org, or Amit Kakkar at 215.864.8265 or email@example.com.
Seventh Circuit Affirms Denial of Class Certification under RESPA
The Seventh U.S. Circuit Court of Appeals recently affirmed a decision of the Northern District of Illinois that denied class certification under the Real Estate Settlement Procedures Act (RESPA).
The decision in Howland v. First Am. Title Ins. Co. rejects claims by plaintiffs that First American Title Insurance Company violated RESPA by using a program that compensates a consumer’s real estate attorney for conducting a title examination to determine whether the title associated with the consumer transaction is insurable.
Under the program, First American provides the attorney with applicable title information, including a “search summary sheet” that summarizes certain essential data and identifies potential issues with title. The attorney then conducts a title examination, makes any necessary modifications to the search summary sheet, and signs and returns the sheet to First American. First American prepares a title insurance commitment based on the information provided in the returned search summary sheet.
Plaintiffs advanced several alternative arguments in an attempt to certify “all people who purchased, sold or mortgaged real property in the State of Illinois and who paid for a title insurance policy” from First American, where any part of the title insurance premium was shared with an attorney whose compensation, according to plaintiffs, constituted a kickback under RESPA.
First, plaintiffs argued that a class should be certified where attorneys made no changes to the search summary sheet before executing and returning it to First American. Plaintiffs also argued that a class should be certified where attorneys did not perform services for which a title agent may be compensated under RESPA. Finally, plaintiffs argued that where First American provided full compensation to attorneys who performed less than all of certain services RESPA designates as appropriate for compensating title agents, rather than a reduced amount, class certification was warranted.
In Howland, the appellate court said it was “aware of no federal cases considering the suitability of class action treatment for alleged kickbacks to real estate attorney title agents based on compensation for nominal or duplicative services,” and that HUD has not “pronounced, formally or informally, on the matter.”
Nevertheless, the court explained that RESPA Section 8 kickback cases “are generally not a good fit for class action treatment” because analyzing claims under RESPA “generally requires an individual analysis of each alleged kickback to compare the services performed with the payment made.”
Rejecting plaintiffs’ arguments, the court explained that the mere fact that an attorney made no changes to a search summary sheet before signing and returning it to First American does not, by itself, indicate that the attorney did no work associated with a title examination. Instead, the court found that determining the amount of work performed under such circumstances would require a case-by-case analysis, precluding class certification. The court also explained that the agency agreement between First American and a particular attorney defines the scope of services the attorney will provide, and such services may not necessarily be identical to those identified in RESPA.
In any event, the court explained that evaluating claims implicating whether and to what extent attorneys performed such services, and how they were compensated for doing so, would require an examination of individual attorneys’ services, and therefore class certification is inappropriate.
In affirming the district court’s decision, Howland further establishes “the clear trend against class actions in RESPA Section 8 cases.”
- Steven D. Burt
Trustee Lawsuits Will Likely Raise Costs for All
Mortgage-backed securities investors have recently turned their litigation sights on trustees, and this does not bode well for the mortgage industry. The gist of two new cases is that trustees allegedly do not exercise their trusts’ repurchase rights. Previously, most of the large class action investor suits have been directed at MBS issuers and underwriters.
While the outcome of the new cases may be unclear at this point, it is inevitable that there will be a domino effect on the industry.
Last month, an investor group filed a federal court class action in New York against Bank of America and U.S. Bank, alleging breaches of the MBS trustee agreements and violations of a heretofore relatively obscure federal statute known as the Trust Indenture Act (TIA). Filed in the Southern District of New York, Policemen’s Annuity and Benefit Fund of the City of Chicago v. Bank of America, NA, et al. relates to putbacks that the MBS trustees allegedly should have made to the originator and servicer of loans. While the lawsuit tracks allegations made in Retirement Board of the Policemen’s Annuity and Benefit Fund of the City of Chicago, et al. v. The Bank of New York Mellon—a similar suit against Bank of New York Mellon filed last year—it also follows on the heels of a refusal by the judge in that case, just days before, to dismiss.
The significance of these cases is twofold. First, plaintiffs argue that this means investors can sue trustees under the TIA, even if they cannot garner at least 25 percent of the voting rights in any particular trust—a requirement under many pooling and servicing agreements. At the same time, even though the TIA generally provides no different standards than a trust agreement itself, the opinion establishes an entree into federal court, where, particularly in New York (the epicenter of MBS litigation), the judges on both the trial and appellate courts are generally more hostile to the financial institutions.
Ironically, some of these disputes arise in a context where investors do not even allege a default, suffering loss only due to resales on the open market. Prodded by threats and lawsuits, trustees over the last year have already taken a more aggressive stance pursuing originators. For example, last summer, U.S. Bank sued Bank of America in New York state court alleging breaches of representations and warranties concerning the mortgages underlying Greenwich Financial’s Harborview MBS issuances.
As opposed to MBS issuers and underwriters, there are relatively few financial institutions that operate a pure MBS trustee business. This historically has been a sleepy, low-margin undertaking. It is safe to say that banks did not count on these sorts of disputes when they signed up to be trustees. Irrespective of the merits of the trustee cases, litigation expense and exposure were not priced into trust or Pooling and Servicing Agreements.
Investor groups have suffered some setbacks, most notably in Bank of America’s campaign, successful so far, to effectuate an $8.5 billion settlement with major trustees. Bank of America filed an action in New York state court, seeking court protection for such an agreement. Investors were unsuccessful at getting the case removed to federal court. And the state court judge who received the case back after remand has recently dismissed a case by one investor group attempting to usurp the trustee’s role. See Walnut Place LLC, et al. v. Countrywide Home Loans, Inc., et al., Index No. 650497/11. The parties to the settlement believe the agreement will shield the trustees, too, albeit in a manner limited to the four corners of the document. Nonetheless, this has not deterred the filing of new lawsuits alleging trustee liability, as demonstrated by the most recent New York filing. The BNY Mellon opinion is one with which all MBS attorneys will now have to contend, although it should come as no surprise to anyone familiar with MBS agreements.
The economy’s doldrums mask for now the long-term effects of the trustee lawsuits. Nonetheless, some of the shakeout is already apparent. Bank of America sold its trust business to U.S. Bank a few months ago. Financial institutions that want to remain trustees will also want more money for future issuances. While this may not lead to interest rates of 18 percent—an experience some first-time homeowners of the early ’80s may remember—it is unrealistic to assume that the cost of recent history will not ultimately be passed on to consumers.
- Gary C. Tepper
New York Extends Emergency Mortgage Servicer Regulations
New York has extended, for an additional 90 days, the mortgage servicer regulations originally promulgated pursuant to the Mortgage Lending Reform Law of 2008. The Mortgage Lending Reform Law of 2008 imposed registration requirements for certain servicers and authorized the Superintendent of Banks to issue rules and regulations. Part 419 of Title 3 of the New York Codes, Rules, and Regulations, which addressed business practices of all mortgage loan servicers—including those that are exempt from the registration requirements—has been repeatedly readopted and extended and is currently set to expire on July 11, 2012. The agency plans to adopt the emergency rule as permanent at a future date.
WV Amends Record Retention and Documentation Requirements
West Virginia has amended its Residential Mortgage Lender, Broker and Servicer Act regulations. Among other revisions, the Commissioner of Banking revised the regulations to provide additional record keeping requirements. Effective, May 1, 2012, in addition to the existing record keeping requirements, the originating lender must also keep electronic and written correspondence between the lender and the borrower, to include e-mails. The originating lender also must keep “an itemization of all fees and charges imposed on each loan and received by the lender and by any third-parties. The itemization must include the nature and amount of each fee or change and the identity of the recipient.” Similarly, licensed brokers also must keep an itemization of all fees and charges imposed on each loan and retained by the broker. Brokers must also keep the final TILA disclosure and the note.
Additionally, the Commissioner promulgated a new regulation that requires the broker and lender to “document tangible net benefit to the borrower before arranging or making any residential mortgage loan that closed within 24 months of the proposed refinancing. This duty exists even if the broker or lender did not arrange or make the existing loan that will be refinanced.”
- Emily G. Miller