Mortgage Banking Update - July 26, 2012

by Ballard Spahr LLP

August Deadline for AML Compliance Approaching

The deadline is fast approaching for every non-bank residential mortgage originator—mortgage lenders and mortgage brokers—to implement an AML (anti-money laundering) program. As of August 13, 2012, the U.S. Treasury Department’s Financial Crimes Enforcement Network (FinCEN) is requiring such entities to:

  • Develop internal policies, procedures, and controls
  • Designate a compliance officer
  • Institute an ongoing employee training program
  • Employ an independent audit function to test programs

As part of the AML program, non-bank residential mortgage lenders must also implement programs to report potential money laundering, fraud, and other criminal activity to the government in the form of a SAR (suspicious activity report). The penalties for non-compliance are severe, ranging from cease-and-desist orders and civil money penalties to stiff fines and other criminal penalties.

Now is the time to assess whether your AML program will pass muster with the regulators. Use our questionnaire as a starting point to think about these issues.

Reid F. Herlihy


Appeals Court Ruling Could Invalidate Foreclosures in Georgia

A recent decision by the Georgia Court of Appeals potentially could invalidate thousands of Georgia foreclosures. Georgia has the third highest foreclosure rate in the country, behind only Nevada and Arizona.

Georgia’s foreclosure notice statute, which was amended in 2008, requires that written notice of the foreclosure sale be given to the debtor “by the secured creditor” and that the notice “shall include the name, address and telephone number of the individual or entity who shall have full authority to negotiate, amend, and modify all terms of the mortgage with the debtor.” The Georgia Court of Appeals has now added an additional requirement: when the notice of foreclosure is sent by an agent or servicer of the secured creditor, the notice must identify the secured creditor.

In Reese v. Provident Funding Associates, LLP, Case No. A12A0619, the plaintiffs alleged that the notice of foreclosure sent by Provident Funding did not comply with Georgia law. The notice identified Provident as the “lender” and stated that Provident was authorized to negotiate, amend, and modify the mortgage. However, Provident admitted that it did not hold the note evidencing the mortgage loan. After funding the loan, Provident sold and transferred the note to another company, and Provident continued to service the loan on behalf of the new note holder. In response, Provident argued that that the foreclosure notice was proper because, as the servicer of the loan, Provident could properly send notice on behalf of the secured creditor.

In a 4-3 decision, the Court of Appeals found that the notice of foreclosure contained material misrepresentations because it falsely identified Provident as the secured creditor and failed to identify the third-party note holder as the true secured creditor. As a result, the Court held that the foreclosure sale was invalid. In reaching this decision, the Court relied on a February 2012 decision from the District Court for the Northern District of Georgia, Stubbs v. Bank of America, 1:11-CV-1367-AT (N.D. Ga. Feb. 16, 2012) (applying Georgia law).

Although the requirement that a notice of foreclosure identify the “secured creditor” is not particularly burdensome, this requirement does not appear in the plain language of the statute. Accordingly, the Court’s decision likely will make thousands of foreclosures susceptible to challenge.

Moreover, the Court of Appeals’ decision may have a significant, and possibly unintended, impact on loans owed by Freddie Mac or Fannie Mae. When describing who the secured creditor was in Reese, the Court stated that the third-party purchaser of the note “was the secured creditor, i.e., owner of the loan.” By defining the secured creditor as the “owner” of the loan instead of the “holder” of the promissory note, the Court appears to deviate from a long-recognized distinction between holders and owners of promissory notes.

Georgia law, which has adopted the Uniform Commercial Code, explicitly provides that the holder of a note, i.e. the party entitled to enforce it, is not necessarily the owner of the note. This distinction is critical for a significant number of Georgia foreclosures because while loan servicers and lenders often hold the note (and therefore, are the secured creditors under the Georgia Commercial Code), entities such as Freddie Mac and Fannie Mae “own” the note. Although the Court likely did not intend this outcome – the Court never discusses or cites to the Commercial Code – the possible inconsistency between the Georgia Commercial Code and the Court’s discussion in Reese could be exploited by debtors to challenge otherwise valid foreclosures.

Given the potential impact of this decision on thousands of completed foreclosures and the clear import to future foreclosures, especially those involving loans owned by Freddie Mac or Fannie Mae, Reese is an important decision for every loan servicer doing business in Georgia. We will be closely watching this case in the event Provident appeals to the Georgia Supreme Court.

Sarah T. Reise


California’s Residential Foreclosure Overhaul Signed Into Law

On July 11, 2012, California Governor Jerry Brown signed an overhaul to California’s foreclosure laws that will take effect on January 1, 2013. The stated purpose of the new legislation is to ensure that, as part of the non-judicial foreclosure process, borrowers are considered for, and have a meaningful opportunity to obtain, available loss mitigation options. Nothing in the new legislation, however, requires a lender to modify a loan.

The major components to the new legislation include the following:

  • Lenders will be prohibited from pursuing foreclosures while a loan modification application is pending (“dual tracking”).
  • Lenders will be required to provide a borrower written notice of the new sale date and time after postponement of a foreclosure sale.
  • Borrowers will be permitted to seek injunctions against foreclosures until violations of the statute are corrected, and the statute permits the greater of treble damages or $50,000 in statutory damages if a violation of certain provisions of the statute is found to be intentional or reckless or if it resulted from willful misconduct.
  • Upon the request of a borrower that seeks a foreclosure prevention alternative, a lender must establish a single point of contact and provide the borrower with one or more direct means of communication with that single point of contact.

The new law will apply to mortgages and deeds of trust secured by residential real property not exceeding four dwelling units that is owner-occupied, and will generally only apply to lenders that conduct more than 175 foreclosure sales per year on an annual reporting period.

The legislation was backed by California’s Attorney General Kamala D. Harris, who earlier this year helped negotiate the Multistate/National Mortgage Settlement (the Settlement). Not surprisingly, the overhaul in California reflects the reforms to industry default servicing standards that were included in the Settlement, in addition to provisions from the OCC/Fed Consent Orders regarding “robo-signing” concerns and broader default servicing practices. These far-reaching requirements will also be addressed by the Consumer Financial Protection Bureau in anticipated proposed rules on mortgage servicing, as well as by other states that have vowed to extend the reforms from the Settlement and the Consent Orders to all mortgage servicers, not just those that were subject to the agreements.

Alan S. Petlak


California Extends Military Interest Rate Protection


The California Military and Veterans Code provides servicemember protections that mirror certain protections under the Federal Servicemembers Civil Relief Act. Specifically, California imposes its own 6 percent interest rate protection for servicemembers who entered into credit obligations prior to being called to active duty.

Assembly Bill 2476 amended Section 405 of the California Military and Veterans Code to extend the 6 percent interest rate protection from the current protection, which is the period of military service, to also include the year following the period of military service for any obligation or liability secured by a mortgage, trust deed, or security in the nature of a mortgage.

The amendment brings the California protection in line with the current federal protection that extends the 6 percent interest rate protection for the one year following military service for the same type of obligations. As with the federal law, for all obligations other than mortgages, the 6 percent interest rate protection only applies to the period of military service. The amendment will be effective January 1, 2013.

Emily G. Miller


CFPB To Supervise Credit Reporting Companies

The Consumer Financial Protection Bureau issued its Final Rule on July 16 defining what constitutes a “larger participant” in the consumer reporting market. Beginning on September 30, 2012, larger participants will be subject to supervisory examination by the Bureau for compliance with federal consumer financial laws.

Although the Bureau published the proposed larger participant rules for both the consumer reporting and the debt collection markets on February 17, 2012, only the consumer reporting market larger participant final rule was issued on July 16. The Bureau indicated that the final rule defining larger participants in the debt collection market will be issued later this year.

Not much changed in the Final Rule from the proposed rule. Larger participants in the consumer reporting market are still defined as participants that have more than $7 million in annual receipts resulting from applicable consumer reporting activities. We discussed this larger participant threshold in our prior alert on the proposed rule.

Changes in the Final Rule

In some of the few significant changes from the proposed rule, the Final Rule adds two additional exclusions from the definition of “consumer reporting.” First, companies are not engaged in consumer reporting where a company provides information to another company in which the information solely relates to transactions or experiences between a consumer and the company that is providing the information. For example, a bank providing deposit account balances to a mortgage lender does not constitute credit reporting. Second, companies are not engaged in consumer reporting where they authorize or approve a specific credit extension by the issuer of the card. For example, payment system activities related to processing credit card transactions are not credit reporting activities.

Larger Participant Rulemaking

Under the Dodd-Frank Wall Street Reform and Consumer Protection Act, the Bureau has authority to supervise nonbank providers (regardless of size) of residential mortgage loans and certain related services, payday loans, and private education loans. The Dodd-Frank Act also gave the Bureau supervisory authority over other nonbank providers considered to be “a larger participant of [the relevant] market.”

The Final Rule is the first rule defining nonbank larger participants in a market, and the Bureau indicated in its Notice and Request for Comment on Defining Larger Participants, about which we issued an alert, that in addition to the debt collection market, the Bureau might issue larger participant rules for additional markets for consumer financial products and services, including consumer credit and related activities, money transmitting, check cashing and related activities, prepaid cards, and debt relief services. Given that the Bureau recently conducted a field hearing on prepaid cards, we might expect that the prepaid card market will be the subject of the next larger participant rule after the final rule on the debt collection market is issued.

Preparing for Bureau Supervision

The Bureau will exercise broad discretion in deciding which larger participants to examine, looking to such factors as company size and transaction volume, the risks posed to consumers from the company’s products or services, and the extent of state consumer protection oversight.

In anticipation of Bureau examinations, companies likely to qualify as larger participants should promptly review their practices and procedures for federal law compliance with experienced counsel. The Bureau will examine the “entire [company] for compliance with all Federal consumer financial laws [and] assess enterprise-wide compliance systems and procedures.” In addition to examining their compliance with laws such as the Fair Credit Reporting Act, companies should also expect scrutiny of their practices under the new “unfair, deceptive or abusive” standard contained in Dodd-Frank. Lawyers in Ballard Spahr’s Consumer Financial Services and Mortgage Banking Groups are currently assisting many clients in preparing for their expected Bureau examinations.

Barbara S. Mishkin


District of Columbia Launches Fair Housing Enforcement Campaign

The Office of Human Rights for the District of Columbia recently announced a new advertising campaign to educate residents about anti-discrimination laws related to housing. The campaign seeks to expand awareness and educate residents about their rights under the broad anti-discrimination laws in the District.

Director of the D.C. Office of Human Rights Gustavo F. Velasquez stated that the intent is to “increase reporting of potentially discriminatory incidents.” The director observed that the largest number of discrimination complaints relate to disability, race, or source of income. He said he believes that the number of discrimination incidents is actually much higher than the number reported and his office hopes to increase the number of incidents reported and addressed.

The number of classes protected in the District is among the largest of any jurisdiction in the country. No actual or perceived discriminatory conduct may be directed at someone because of race, color, religion, national origin, sex, age, marital status, personal appearance, sexual orientation, gender identity or expression, familial status, family responsibilities, disability, matriculation, political affiliation, source of income, status as a victim of an intra-family offense, or place of residence or business. In launching the campaign, Mr. Velasquez stated that many residents do not realize that they are protected under the District of Columbia law.

Lending discrimination is one area that Mr. Velasquez highlighted as having received considerable attention, but he also noted that the Office of Human Rights is working with other organizations to analyze public data that may point to evidence of lending discrimination that still needs to be addressed.

Developers, management companies, and others involved in the sale and rental of housing in the District of Columbia should take note that the campaign is expected to encourage the filing of more discrimination claims. This would be a good time to evaluate fair housing training and policies currently in place to determine whether they are too focused on federal anti-discrimination law and fail to consider fully the classes of persons protected under the D.C. statute and similar laws in other state and local jurisdictions.

Ballard Spahr lawyers routinely assist clients with evaluating fair housing training and policies currently in place. If you have questions, please contact Michael W. Skojec at 410.528.5541 or, or Claire Ana-Perot McLamore at 410.528.5516 or

Representations and Warranties in M&A Transactions

Guest column from members of our Mergers and Acquisitions/Private Equity Group

In an era of increasing consolidation in the mortgage banking industry, mergers and acquisitions are occurring with more frequency. Regardless of deal structure, the basic transaction documents typically contain representations and warranties of the buyer and the seller to one another, which set forth the basic assurances of a party that certain facts are true and may be relied upon when entering into the transaction.

Should a representation or warranty be found not be true at a later time, the party that relied upon the misrepresentation may seek remedies that are available under the agreement. These remedies may include the right to terminate the agreement if the event is discovered prior to closing, or indemnification claims for misrepresentations discovered after closing.

Representations and warranties disclose material facts about the assets or stock that are being purchased and the liabilities that are being acquired or assumed. Representations and warranties are often qualified in whole or in part by materiality, material adverse effect, and actual or imputed knowledge standards. Representations and warranties also may be limited to a certain set of information provided to a party, for example, to the documents provided in a data room, or to the documents set forth on the disclosure schedules to the transaction agreement.

While both the buyer and seller will make representations and warranties, the seller’s representations will be more extensive and normally will cover the entire business being sold. Some sellers are successful in selling their assets “as is,” in which case the representations and warranties will be more limited. Seller representations and warranties will usually address the following substantive areas:

  • Due organization of the seller and its legal authority to consummate the transaction
  • Compliance with laws and permits
  • Good and marketable title to the seller’s assets, free and clear of liens
  • Any required third-party consents to consummate the transaction
  • The physical condition of the fixed assets and the overall adequacy of the assets to run the business
  • The liabilities of the seller
  • Accounts receivable, inventory, and other current assets
  • The accuracy of the seller’s financial statements and its financial condition
  • Tax, intellectual property, environmental, ERISA, and employment matters
  • Litigation matters
  • Material contracts
  • Real property matters
  • Broker’s fees

Common buyer representations and warranties cover the following areas:

  • Due organization of the buyer and its legal authority to consummate the transaction
  • Any required third-party consents to consummate the transaction
  • The adequacy of the buyer’s funds to complete the transaction
  • Broker’s fees

Many transactions do not close simultaneously with the execution of the transaction agreement. In cases where there is a delayed closing, the transaction agreement will typically require the buyer and the seller to “bring down” their respective  representations and warranties to the time of closing. This assures the parties that there have not been any changes in the representations and warranties during the period between entering the agreement and the closing.

It is critical that the parties carefully review and understand the representations and warranties before signing a transaction agreement. Counsel for sellers should assist the sellers in reviewing and drafting representations and warranties to ensure they accurately reflect the facts and reduce the risk of a breach. Counsel for buyers should assist the buyers in drafting remedies that provide the buyers with the greatest protection in the event of a breach of a representation or warranty.

Ballard Spahr’s Mergers and Acquisitions/Private Equity Group has extensive experience drafting and negotiating purchase agreements on behalf of its clients, who represent both buyers and sellers. For further information, please contact Karen C. McConnell at 602.798.5403 or, or Laura Anne Kowal at 215.864.8472 or

Hawaii Amends Exemptions from Mortgage Loan Originator Licensing

A recent Hawaii statutory amendment has exempted employees of mortgage servicer companies who perform loan modification activities from mortgage loan originator licensing requirements. Employees of servicers who assist consumers with residential mortgage loan modifications do not have to be licensed as mortgage loan originators. Residential mortgage loan modifications means the modification of existing residential mortgage loans (i.e. a change in interest, principal, or loan term) or processing the approval of loan assumptions. The exemption is not available to employees of servicers who otherwise originate mortgage loans. An exemption was also created for employees of nonprofit organizations who act within the scope of their employment, only provide originator services to residential mortgage loans, and whose employer has registered with the NMLS. These amendments are effective immediately.

NMLS Makes Changes to the Mortgage Call Report

The NMLS has made a variety of changes that affect the Financial Condition (FC) and Residential Mortgage Loan Activity (RMLA) Report for both Standard and Expanded filers. E-mail notifications will now be available for users who choose to subscribe to such notifications. Subscribing will provide up to four different e-mail notifications alerting the user about Standard Financial Condition and MCR filing deadlines. Also, the Lines of Credit information that is normally submitted on RMLA filings will now be on a new “RMLA General” form. This form will not be state-specific. New fields have also been added to both the FC and RMLA. Additionally, various completeness checks have been added to allow for better verification of entered data. Various other technical corrections and updates are also part of the changes. These changes take effect July 23, 2012, and may relate to the Second Quarter 2012 and subsequent Mortgage Call Report.

Matthew Saunig

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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