A federal district court recently ruled against the CFPB in a long-standing case under the Real Estate Settlement Procedures Act (RESPA) involving a Louisville, Kentucky law firm Borders & Borders, PLC (Borders).  In the case, CFPB v. Borders & Borders, PLC (Civil Action No. 3:13-CV-01047-CRS-DW), the court granted the summary judgment motion of Borders, finding that joint ventures related to Borders satisfied the statutory conditions of the RESPA section 8(c)(4) affiliated business arrangement exemption.  The court referred to the exemption as a “safe harbor”.  The CFPB had alleged that the joint ventures did not qualify for the safe harbor because they were not bona fide providers of settlement services.

Borders is a law firm that performs residential real estate closings, and also is an agent authorized to issue title insurance policies for a number of title insurers.  In 2006, the principals of Borders established nine joint venture title agencies with the principals of real estate and mortgage brokerage companies.  In February 2011, the Department of Housing and Urban Development (HUD) notified Borders that it was investigating the firm for potential violations of the RESPA referral fee prohibitions based on the joint ventures.  (HUD was the federal agency responsible for interpreting and enforcing RESPA before such authority was transferred to the CFPB.)  Upon receipt of the notice, Borders ceased operating all of the joint ventures.

In October 2013 the CFPB filed a complaint against Borders asserting that the firm violated the RESPA referral fee prohibition through the establishment and operation of the joint ventures.  The CFPB asserted that Borders paid kickbacks to the principals of the real estate and mortgage brokerage companies that were disguised as profit distributions from the joint ventures, and that the kickbacks were for the referral of customers to Borders by the principals.

The CFPB claimed that the joint ventures were not subject to the affiliated business arrangement safe harbor under RESPA section 8(c)(4), which permits referrals and payments of ownership distributions among affiliated parties if the conditions of the safe harbor are met.  The conditions are that (1) when a person is referred to a settlement servicer provider that is a party to an affiliated business arrangement, a disclosure is made to the person being referred of the existence of the affiliated business arrangement, along with a written estimate of the charge or range of charges generally made by the provider to which the person is being referred, (2) the person is not required to use any particular provider of settlement services (subject to certain exceptions), and (3) the only thing of value that is received from the arrangement, other than payments otherwise permitted under RESPA section 8(c), is a return on the ownership interest or franchise relationship.

As noted above, the CFPB argued that the joint ventures did not qualify for the safe harbor because they were not bona fide providers of settlement services within the meaning of RESPA.  The statutory safe harbor for affiliated business arrangements contains no such condition.  The position that a joint venture must be a bona fide provider of settlement services to qualify for the safe harbor previously was asserted by HUD in statement of policy 1996-2 (the “Statement of Policy”).  HUD set forth factors that it would examine in assessing whether or not a particular joint venture is a bona fide provider of settlement services.

Although the CFPB did not expressly reference the Statement of Policy in its complaint against Borders, it addressed many of the same factors that HUD identified in the Statement of Policy.  The CFPB asserted that:

• In most instances Borders provided the initial capitalization for the joint ventures, and the capital was comprised of only enough funds to cover a joint venture’s errors and omissions insurance.
• Each joint venture had a single staff member, who was an independent contractor shared by all of the joint ventures and concurrently employed by Borders.
• Borders’ principals, employees and agents managed the affairs of the joint ventures.
• The joint ventures did not have their own office spaces, email addresses or phone numbers, and could not operate independent of Borders.
• The joint ventures did not advertise themselves to the public
• All of the business of the joint ventures was referred by Borders.
• The joint ventures did not perform substantive title work—such work was performed by Borders.

With regard to the disclosure condition of the affiliated business arrangement safe harbor, the CFPB asserted that when Borders referred a customer to a joint venture, Borders “sometimes used a disclosure form intended to notify customers of a business affiliation between the owners of the law firm and  [the joint venture].”  The CFPB also asserted that the notice did not contain the ownership interest percentages in the joint venture or include a customer acknowledgment section, which are elements of the form of notice in Appendix D to Regulation X, the regulation under RESPA.

About a month after the CFPB filed its complaint, the US Court of Appeals for the Sixth Circuit issued a decision in Carter v. Wells Bowen Realty, Inc., 736 F.3d 722 (6^th 2013).  It appears the opinion of the court presented a hurdle that the CFPB could not clear in its case against Borders.  In the Carter case, private plaintiffs asserted that certain joint ventures did not qualify for the affiliated business arrangement safe harbor based on the bona fide settlement service provider requirement that HUD set forth in the Statement of Policy.  The court determined that the defendants satisfied the three statutory conditions of the affiliated business arrangement safe harbor, and based on this determination the court ruled in favor of the defendants.  The court refused to apply what it considered a fourth condition to the safe harbor asserted by HUD—that the entity receiving referrals must be a bona fide provider of settlement services.  The court stated that “a statutory safe harbor is not very safe if a federal agency may add a new requirement to it through a policy statement.”

The court in the Borders case stated that the joint ventures each had an operating agreement, were authorized to conduct business in Kentucky, were approved by a title insurer to issue title insurance policies, were subject to audit, had a separate operating bank account, had a separate escrow bank account, maintained an errors and omission insurance policy, issued lender’s and owner’s title insurance policies, had operating expenses, generated revenue, made profit distributions, filed tax returns, issued IRS K-1 forms and were solvent.  The court also stated that each of the joint ventures were staffed by the same individual, who worked from her home office and was categorized as an independent contractor.

Citing the Carter case, the court set forth the three statutory conditions of the affiliated business arrangement safe harbor.  The court determined that the joint ventures satisfied the three conditions.  With regard to the disclosure condition, the court determined that the provision of the disclosure by Borders to its customers at the closing of a real estate transaction was sufficient, because it was the first contact that Borders had with the customers, and that the customer then decided at the closing whether to accept the referral of title insurance to one of the joint ventures.  (The court had earlier noted in its opinion that customers had 30 days from the date of closing to decide whether to purchase owner’s title insurance from the joint venture.)  With regard to the deviation of the notice from the form notice in Regulation X, the court found the content of the Borders’ notice to be sufficient to meet the statutory notice condition.

The decision of the court that the delivery of the notice at closing was sufficient is raising more than a few eyebrows in the industry.  In any event, based on the determination that the three statutory conditions of the affiliated business arrangement were satisfied, the court granted Borders’ motion for summary judgment.  The court did not impose the fourth condition asserted by the CFPB that the joint ventures had to be bona fide settlement service providers.  It interesting that the court nonetheless decided to note various aspects of the joint ventures in an apparent attempt to demonstrate their legitimacy.

The CFPB can appeal the decision to the Sixth Circuit, but if it does so the CFPB will have to face the hurdle of the Carter decision.  So the CFPB would need to assert one or more theories supporting why the Carter decision does not preclude a finding of a RESPA violation in the Borders case.