A recent appeal to the Fourth Circuit may shed light on whether Virginia borrowers can assert federal mortgage servicing requirements as a defense to foreclosure when the mortgage instrument pre-dates the federal requirement. In Stansbury v. Federal National Mortgage Association, borrower Hollie Stansbury argues that a 2011 consent order between her mortgage servicer and the Office of the Comptroller of Currency was incorporated into the mortgage contract as a condition precedent to foreclosure. The lender has contested this claim in part by arguing that because the 2006 deed of trust predates the consent order, the parties to the mortgage could not have intended to incorporate the consent order’s requirements as a limitation to foreclosure. A decision on these competing arguments may bring clarity to the effect of a 2016 decision by the Virginia Supreme Court addressing the potential for incorporation arguments similar to Stansbury’s.

In Parrish v. Federal National Mortgage Association, the Virginia Supreme Court held that the trial court lacked jurisdiction to hear a post-foreclosure eviction action where the borrower raised a bona fide dispute as to the validity of the foreclosure. The borrowers in Parrish alleged that their deed of trust incorporated federal loss mitigation rules as a condition precedent to foreclosure and asserted that the loan servicer violated those regulations. Without addressing the merits of these allegations, the Supreme Court found that they were sufficient to raise a bona fide question as to the lender’s title to the foreclosed property.

After Parrish, some borrowers have argued that federal servicing standards are incorporated as a condition precedent to foreclosure through provisions in many deeds of trust stating that the parties’ rights are subject to federal law. In Stansbury, the U.S. District Court rejected the borrower’s claim that a 2011 consent order was so incorporated. In its August 31, 2017, ruling, the District Court held that the deed of trust’s governing law provision applied only to laws in existence at the time of the contract and did not incorporate a future consent order. The borrower has appealed the case to the Fourth Circuit.

The Stansbury appeal places the issue of retroactive incorporation before the Fourth Circuit. In her brief, Stansbury argues that the governing law provision must be applied to the law in existence at the time of foreclosure. In contrast, the lender’s brief argues that the provision applies only to the laws contemplated by the parties at the time they entered the mortgage contract. Because a substantial number of foreclosures involve deeds of trust executed prior to Dodd-Frank and other significant regulatory changes, lenders and servicers may be expected to keep a close watch on the outcome.