Lipson, Neilson, Cole, Seltzer & Garin, P.C.
The Mortgage News
A Mortgage Banking Newsletter

Editor: Howard A. Lax
hlax@lipsonneilson.com

 

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  January-June 2008
50th Edition

Welcome the Fiftieth Edition of our electronic Mortgage Banking Newsletter. The current edition of our newsletter will be posted on our web site at http://www.lipsonneilson.com/news.html.  Previous editions of our newsletter are available at our web site, at http//www.lipsonneilson.com/news/archive.html. Please send an E-mail to the Editor, Howard A. Lax , at hlax@lipsonneilson.com if you have any difficulties viewing this newsletter, if your email address changes, or if you would like to be added to our newsletter electronic mailing list. Please feel free to share our newsletter with your colleagues. We ask that any republication of our newsletter must be without charge or compensation, in its entirety, and without modification. 

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Contents
Court Decisions

Written Release of Real Estate Broker Ineffective Against Seller's Misrepresentation

It's the Attorneys Fees, Stupid

Fraudulent Transfer Laws Not Applicable to Mortgage Fraud

Eleventh Circuit Joins Five Others - Excessive Fees Not a RESPA Violation

Eleventh Circuit Approves Cost Averaging

Defrauded Consumer Wins Monetary Judgment, Loses Home

This is Why You Hire an Attorney

Fannie Mae Loses Appeal to Blame Someone Else

Courts of Appeals Sticks a Fork in FCRA 'Firm Offer of Credit' Claims

Mortgage Brokers are Not Creditors

Rescission is a Lousy Remedy

In a Race to the Courthouse the Turtle Usually Loses

Borrower SOL if Buyer at a Foreclosure Sale Will Not Provide a Redemption Price

Title Agency Not Responsible to Third Parties

Follow the Bouncing Preference

Other Litigation Worth Watching for Future Trends

Compliance

RESPA Reform is Another Four Letter Word

Michigan Joins the Licensing Parade

OFIS Changing License Application Forms

HUD is Closing the Barn Door

Dear Sir: We are Discriminating Against You

FDIC Warns Banks Not to Shaft Consumers or Local Governments

Federal Working Group on Financial Markets Proposes Changes in Laws

IRS and FASB to the Mortgage Rescue

HOPE NOW Strives to Provide More Hope Now

FTC Takes Action to Enforce Consumer Protections

Is Big Brother Listening?

HUD Plans to Implement Risk Based Pricing for FHA Loans...

...And Opens the Fraud Floodgates

Other Stuff

FinCEN Smells a Rat

If Sheila Bair Screams Out in the Forest, Does She Make a Sound?

One More Mortgage Bailout Proposal, One More Sigh

What Goes Up Must Come Down

Chutzpah, Chutzpah Everywhere


Articles

Written Release of Real Estate Broker Ineffective Against Seller's Misrepresentation In Stout v. Withrow, the seller of a home asserted that the house was in “top-notch” condition, everything was new, and there had been previous inspections of the home. The buyer also received two seller disclosures stating that everything was in working order. The buyer waived the home inspection clause and signed a hold harmless agreement with the seller's real estate broker absolving the real estate broker of liability for defects in the home. Upon moving into the home, the buyer found that the toilets and bathtub backed up, and the septic system was totally inoperable. The buyer and the individual renting a room had to move out, and the buyer defaulted in her mortgage. Eventually, the mortgage was foreclosed and the buyer lost the home.

The buyer sued the seller and the real estate broker.The evidence pointed to an intentional effort by the seller to discourage the buyer from inspecting the property. The seller's boyfriend testified that the real estate broker and the seller were friends, the broker knew that the well and septic system had problems, that the seller was withholding information about these problems (which the broker knew), and that the defendants knew the problems would have been detected by a professional investigation. The seller's boyfriend testified that the seller joked about how the seller took advantage of the buyer and that the buyer would never have purchased the home if the problems were known. The  jury awarded $53,000 in economic damages and $200,000 in damages for emotional or mental anguish. The jury apportioned fault as follows: 40% fault was assigned to defendants, 50% fault was assigned to defendant seller, and 10% fault was assigned to plaintiff. The trial court’s May 22, 2006, judgment against defendants ordered defendants to pay plaintiff $120,659.32, plus costs and interest.

The real estate broker argued on appeal that it had no liability because the buyer signed the hold harmless agreement. The Court of Appeals disagreed:

A release is valid if it is fairly and knowingly made. Brooks v Holmes, 163 Mich App 143, 145; 413 NW2d 688 (1987). In Brooks, this Court held that a release is invalid if (1) the releaser was acting under duress, (2) there was misrepresentation as to the nature of the release agreement, or (3) there was fraudulent or overreaching conduct to secure the release. Id. at 145, citing Weiser v Welch, 112 Mich 134, 136; 70 NW 438 (1897). “To warrant recision or invalidation of a contract or release, a misrepresentation must be made with the intent to mislead or deceive.” Hungerman v McCord Gasket Corp, 189 Mich App 675, 677; 473 NW2d 720 (1991). It is the third method of invalidating a release articulated in Brooks that is at issue in this case. Citing Brooks, defendants essentially argue that the release in this case was not invalid because any alleged fraudulent conduct on defendant Williams-Nakoneczny’s part related to the condition of the property and did not secure the release.

We agree that defendant Williams-Nakoneczny’s fraudulent conduct related to the condition of the property. However, her misrepresentations about the condition of the property helped to secure the release. There was evidence that plaintiff relied on defendant Williams-Nakoneczny’s fraudulent conduct regarding the condition of the property in deciding to sign the release......Therefore, the trial court properly ruled that plaintiff’s intentional misrepresentation claim against defendants was not barred by release.

The Court also rejected the argument that the merger clause in the purchase agreement barred the suit for misrepresentation. The Court found that the explicit merger clause only barred claims based on other oral and written agreements. The merger clause did not bar a claim for misrepresentation. The Court also rejected arguments that the emotional damages award was inappropriate. The Court stated:

In Phinney, this Court held that “[i]n a fraud and misrepresentation action, the tortfeasor is liable for injuries resulting from his wrongful act, whether foreseeable or not, provided that the damages are the legal and natural consequences of the wrongful act and might reasonably have been anticipated.” Id. This Court further held in Phinney that because the relationship between the parties was not strictly a business relationship, emotional distress reasonably might have been anticipated as a legal and natural consequence of the defendant’s actions. Id. at 532-533. Similarly, the relationship between plaintiff and defendant Williams-Nakoneczny was not strictly a business relationship. Plaintiff testified that she and defendant Williams-Nakoneczny became friends. Furthermore, defendant Williams-Nakoneczny was aware that plaintiff had just gone through a divorce, that she did not have a lot of money, and that she urgently wanted to purchase a home for herself and her children. Because the relationship between plaintiff and defendant Williams-Nakoneczny was not strictly a business relationship, emotional distress might have been anticipated as a legal and natural consequence of defendant Williams-Nakoneczny’s fraudulent conduct. Therefore, the trial court did not abuse its discretion in admitting evidence regarding plaintiff’s emotional injuries.

Defendants argued that Plaintiff's plan to rent a room in the home was not proved because there was no rental agreement, and that the foreclosure was caused by fiscal mismanagement, not misrepresentation. The Court of Appeals rejected arguments that the buyer's lost rental income was speculative. The Court held that the fact that plaintiff did not have a rental agreement in place at the time of closing was immaterial. Evidence regarding plaintiff’s lost rental income and foreclosure were properly admitted into evidence because such damages were the legal and natural consequence of plaintiff’s misrepresentations. Defendants also argued that pictures of the backed up toilet and bathtub were disgusting and inflamed the jury. The Court held that the pictures' probative value to back up the buyer's testimony outweighed the potential that the pictures might inflame the jury.

This is a case where a little misrepresentation resulted in a major jury award because the buyer was vulnerable to psychological injury. The fact that the seller and real estate broker may not have know about the vulnerabilities did not mitigate the damages. You take your victim as you find him or her. If you kick someone while they are down, the injuries will be greater, and your liability may mushroom. Treat everyone with respect honesty to avoid liability.

It's the Attorneys Fees, Stupid Excuse me for borrowing a modified line from James Carville's campaign to elect Bill Clinton (It's the economy, stupid). However, the shoe fits in this case. In Camacho v. Bridgeport Financial, Inc., the Federal District Court held that a debt collector violated the Fair Debt Collection Practices Act (FDCPA) by demanding that disputes and challenges to a debt must be made in writing. The Court cut the plaintiff's attorney fee request from more than $160,000 to about $77,000. The District Court ruled that $200 per hour was a reasonable hourly rate for each of the attorneys' time, and not rates in excess of $400 per hour requested by plaintiff. The Court of Appeals reversed the attorney fee award, holding that the District Court did not determine what the prevailing rate was for attorneys fees. There was no evidence to support the reduction in the hourly rate to $200.

Compare this decision to the decision in Stafford v. Select Portfolio Servicing, Inc., an unpublished Michigan decision, in which the Court found that the FDCPA claim was meritless. The defendants acquired or began servicing the loan before it went into default. Hence, they were not "debt collectors" under FDCPA. No evidence was presented to support the claim that the defendants were subject to FDCPA. The Court arbitrarily awarded defendants $5000 in legal fees (less than half of what was requested), because the complaint had absolutely no merit. The Court of Appeals found the $5000 attorney fee award to be reasonable.

Both cases involve technical aspects of FDCPA, both cases ended in summary judgment decisions (although the federal court decision was appealed), and in both cases the trial court arbitrarily cut the winning side's attorneys fees to less than half of what was requested. Yet, when the plaintiff requested a high attorneys fee, the appellate court held that arbitrarily cutting the fee was not appropriate. There was no issue for the appellate court when the relatively meager defense attorney fee request was cut in half. The moral of the story is that attorneys are more likely to win the lottery if they ask for the stars and the moon than if they make a reasonable request for fees.  

Fraudulent Transfer Laws Not Applicable to Mortgage Fraud In Alliance Bancorp v. Select Mortgage, LLC, an unpublished decision, the Michigan Court of Appeals held that transfer of stolen mortgage proceeds by individuals perpetrating a fraud on the lender are not subject to recovery under the Uniform Fraudulent Transfer Act (UFTA). The Court held that UFTA only applies to transfer of property belonging to a debtor to escape creditors. The UFTA does not apply to transfers of stolen property since stolen property is not owned by the thief. The victim's only recourse is to seek an equitable remedy, such as a constructive trust or an equitable lien, or to bring a lawsuit for conversion.

Eleventh Circuit Joins Five Others - Excessive Fees Not a RESPA Violation In Friedman v. Market Street Mortgage Corporation, the Federal Court of Appeals for the Eleventh Circuit joined five other Federal Courts of Appeals to hold that excessive fees for settlement services do not violate RESPA. In this case, plaintiffs were charged an escrow waiver fee of a quarter of one percent of the total loan amount, or $556.25. The plaintiff alleged that the lender's escrow waiver fee was excessive. In a May 26, 2004 unpublished decision, the Court of Appeals affirmed the district court's judgment because "the only allegation in the Friedmans' complaint is that Market Street rendered no services in exchange for the fee, and it is clear from the pleadings that some services were contemplated in exchange for the fee, such as monitoring the payment of taxes and insurance." Friedman v. Market Street Mortgage Corp. (Friedman I), No. 03-14370, slip op. at 3, 2004 U.S. App. LEXIS 19678 (11th Cir. 2004). The Court found no inconsistency in the district court decision or double payment when the lender also charged a $70 tax service fee.

On remand to decide whether the escrow waiver fee was excessive, the plaintiff tried to argue again that no services were rendered. The District Court recertified a class claim, but the Court of Appeals overturned the decision. The Court of Appeals had already decided that some services were provided, and the plaintiffs could not reargue the point. In examining the final point, whether excessive fees violate RESPA, the Court held that the plaintiff must "allege that no services were rendered in exchange for a settlement fee" to state at claim under Section 8(b) of RESPA. The Court stated:

The Friedman I opinion expressly declined to decide whether a settlement service provider is liable under subsection 8(b) of RESPA for charging a fee that is excessive in relation to services or goods actually rendered. We now take up that issue. As with the Second, Third, Fourth, Seventh, and Eighth Circuits, we hold that subsection 8(b) does not govern excessive fees because it is not a price control provision.FTN8

FTN8 See Santiago v. GMAC Mortgage Group, Inc., 417 F.3d 384, 387 (3d Cir. 2005); Kruse v. Wells Fargo Home Mortgage, Inc., 383 F.3d 49, 56-57 (2d Cir. 2004); Haug v. Bank of America, N.A., 317 F.3d 832, 836 (8th Cir. 2003); Krzalic v. Republic Title Co., 314 F.3d 875, 880-81 (7th Cir. 2002); Boulware v. Crossland Mortgage Corp., 291 F.3d 261, 267 (4th Cir. 2002).

The Court rejected the language in Section 14 of Regulation X and HUD's RESPA Statement of Policy 2001-1, because Congress elected not to make RESPA a cost control statute:

.....[T]here are two basic approaches that can be taken in solving the problem of settlement costs. One approach is to regulate closing costs directly, that is to provide for legal maxima on the charges which may be imposed for services incident to real estate settlements. This approach is the one taken in S. 2288. The second approach is to regulate the underlying business relationships and procedures of which the costs are a function. This is the approach employed in S. 3164 adopted by the Committee. S. Rep. No. 93-866 (1974), reprinted in 1974 U.S.C.C.A.N. 6546, 6548. Cf. Boulware v. Crossland Mortgage Corp., 291 F.3d 261, 268 (4th Cir. 2002) ("RESPA was meant to address certain practices, not enact broad price controls."). FTN9

FTN9 In addition, as Judge Posner indicates, in order to be entitled to deference, the SOP must have been accompanied by "something more formal, more deliberate, than a simple announcement," some nod to public process, even if it does not amount to formal adjudicative procedures. See Krzalic, 314 F.3d at 881. Such was not the case with the 2001 SOP: "One fine day the policy statement simply appeared in the Federal Register." Id.

This decision puts one more nail in HUD's arguments that RESPA controls prices, and leaves one more Circuit that is likely to overturn HUD's proposal to control settlement costs through limited tolerances for estimated disclosures.

Eleventh Circuit Approves Cost Averaging  In Krupa v. Countrywide Home Loans, Inc., the Court of Appeals for the Eleventh Circuit approved Countrywide's plan to pay its credit bureau only when a loan closes. Landsafe, a credit bureau affiliated with Countrywide, charged $25 for each credit report. Countrywide absorbed the cost of the report when the applicant did not receive a loan. Countrywide changed this policy to charge borrowers $35 for a credit report and pay nothing for credit reports when the applicant did not receive a loan. Landsafe received the same total fees either way. In addition, Landsafe did not receive any more business from Countrywide - it was already providing all of Countrywide's credit reports. The plaintiffs claimed that the $10 markup of credit reports was a violation of Section 8(b) of RESPA. Borrowers were paying $10 more than they should for the service. The court disagreed that this violated RESPA since Countrywide did not retain any portion of the $35 fee. All of the fee was paid to Landsafe, and Countrywide did not illegally receive any split of the fee.

HUD has fined various lenders for cost averaging. See the settlement with Central Pacific Mortgage Corp. dated October 29, 2001. HUD recently revered its position when it proposed to allow cost averaging as a means of reducing lender costs for settlement services. The Court's approval of cost averaging so long as average pricing is revenue neutral deflates HUD's posture on this issue..

Defrauded Consumer Wins Monetary Judgment, Loses Home In Missouri v. MWG Property Consultants, L.L.C., an unpublished decision, the plaintiff was unable to make mortgage payments. A trio of defendants stepped in to rescue the plaintiff from foreclosure. Plaintiff deeded the home to one of the defendants, who mortgaged the home to pay off the plaintiff's $46,000 mortgage debt. The three defendants also submitted a fraudulent invoice to the title agency and lender for home improvements to justify a payment of $52,000 from the loan proceeds to MWG Property Consultants, a front for the trio of defendants running this scheme. The defendants gave plaintiff a land contract so that the plaintiff could establish better credit and repurchase the home. The land contract was not signed until a month after the loan closed to hide the transaction from the lender. However, plaintiff was not able to find financing, and he sued to recover the home.

Plaintiff claimed that defendants violated the Michigan Consumer Protection Act and was awarded $66,350, less 10% for plaintiff's comparable negligence. Plaintiff also claimed at trial that the the deed was an equitable mortgage, but there was no such claim in the complaint. The complaint only asked to recover the $52,000 in equity that defendants pulled out of the home via the loan. Hence, he jury did not rescind the mortgage or award the property to plaintiff.

Plaintiff appealed, claiming that the deed was an equitable mortgage that should be voided to give him back his property. The Court of Appeals disagreed because plaintiff did not respond to the lender's claim to quiet title and, therefore, the lender's mortgage was ruled valid (the mortgage most was probably foreclosed). Besides, the lender was a "bona fide purchaser for value" having disbursed $111,000 in loan proceeds and not having participated in the fraud. The lender made no representation that the plaintiff would be able to repurchase the loan within a year.  Furthermore, equity would not support a decision to declare the deed to be a mortgage since there was no evidence that plaintiff acted under duress brought on by distressing financial circumstances. Although plaintiff owed property taxes on the property and on his rental properties, there was no evidence that a tax sale was imminent. Hence, the Court refused to void the mortgage.

The dissent would have allowed the plaintiff to claim that the deed was an equitable mortgage subject to rescission. If the deed that plaintiff gave to defendants was merely a mortgage, the subsequent mortgage given by the defendants would be void. The dissent argued that the court could have awarded the property to plaintiff with sufficient safeguards for the lender's security interest. That is an interesting argument, and it may work in some cases where the parties' positions were a little more unequal or the transaction a little more inequitable.

Lost in the decisions are the claims that should have been raised but were not. Plaintiff lost out by not raising the two cards available in earlier decisions - usury and TILA - to support the equity claim. The complaint failed to state a claim under TILA (defendants failed to provide disclosures for the land contract). Plaintiff also failed to claim that the difference between the value paid on transfer of the home and the land contract price ($52,000) was a usurious charge.The majority decision also fails to state that equity does not favor persons who participate in a fraud, which is what the plaintiff did. The plaintiff was simply out-frauded.

This split decision points out the inconsistency of how our laws regulate mortgage transactions. The system of laws currently in place is too unwieldy and poorly understood. The solution to prevent these circumstances is not more laws, but a consolidation and coordination of the principles and laws we have on our books now to allow better enforcement. Unfortunately, legislators think first about how to make new laws, and do not clean up the mess they already made unless unless coerced to do so.

This is Why You Hire an Attorney In Churchill v. JP King Auction Company, Inc., an unpublished opinion, the plaintiffs auctioned their home, and relied on the auctioneer to draft the purchase agreement for the buyer and plaintiff. Unfortunately, the legal description of the property was wrong, and the buyer backed out of the sale. Plaintiffs sued the auctioneer for negligence, unauthorized practice of law, etc. The plaintiffs won at the trial level, but the Court of Appeals reversed the decision, holding that a negligence claim cannot arise when the duty to draft the purchase agreement arose out of a contract (the agreement hiring the auction company). There must be a legal duty separate and distinct from the contractual obligation for a negligence action. The moral of the story is to hire a professional for the service you want. Lawyers, not auctioneers, are trained to draft documents.

Fannie Mae Loses Appeal to Blame Someone Else In Radatz v. Federal National Mortgage Association, the plaintiff sued Fannie Mae because the servicer of his loan failed to record the discharge of the loan within 90 days after prepayment. Fannie Mae objected to the certification of a class action lawsuit against it, arguing that the servicer should be held accountable for the error. Fannie Mae was no listed as assignee of the loan in the real property records. Besides, there are a ton of these class action suits against servicers already. The Court does not need one more lawsuit to duplicate the others.

Too bad, said the court. This case is against Fannie Mae as the owner of the loans. Fannie Mae is the entity responsible under law for making sure that the discharge of the mortgage is recorded timely. The Court stated:

Either FNMA is the mortgagee at payoff, or not. R.C. 5301.36 makes no provision for mortgage servicers. (Emphasis added.) As such, courts have not found issue with class action lawsuits against the mortgagees where servicers were responsible for recording the satisfaction. In Pinchot v. Charter One Bank, F.S.B., 99 Ohio St.3d 390, 2003-Ohio-4122, Charter One Bank, established as a federal savings association pursuant to the Home Owners’ Loan Act, Section 1461 et seq., Title 12, U.S. Code, “through an agent subsidiary corporation, recorded the fact of the satisfaction *** 117 days after the satisfaction.” The Second Appellate District found no issue with the same when the facts of the case included: “Pursuant to a processing agreement, Security Connections, Inc. *** was authorized by Fifth Third to process mortgage satisfactions.” Gilbert v. Fifth Third Bancorp, 2nd Dist. No. 20447, 159 Ohio App.3d 56, 2004-Ohio-5829. In each case, class actions against the mortgagee, not the “servicer,” were upheld

Other class action lawsuits brought against FNMA's servicers alleged that the servicers were mortgagees. Hence, there were no similar lawsuits against FNMA that this action could be consolidated with. FNMA tracks the payoff of all loans it owns. Hence, the Court found that the class members can be readily ascertained. The damages that would be paid for a violation of the discharge law are uniform ($250 per loan). There is no reason why these claims would be handled any easier on an individual basis than as a class claim. The moral of the story is that FNMA no longer can live by the motto that someone else is always liable. With fewer and fewer solvent Seller/Servicers in their corner, Fannie Mae is going to have to step up to the plate and take responsibility for some of the liabilities that it has always pushed back down the Seller/Servicer chain. Welcome to the real world.

Courts of Appeals Sticks a Fork in FCRA 'Firm Offer of Credit' Claims In Poehl v. Countrywide Home Loans, Inc., the Court of Appeals for the Eighth Circuit upheld the dismissal of three Fair Credit Reporting Act (FCRA) lawsuits on the pleadings. In these cases, the lenders obtained the plaintiffs' names from credit bureaus based on predetermined credit criteria. FCRA mandates that each person solicited based on the information obtained from a credit bureau must receive a meaningful credit offer, subject to limited conditions (a 'firm offer of credit'). The solicitations received by the plaintiffs offered credit, but not all of the terms were in the mailer. The plaintiffs claimed that the advertisement sent to them for a home or auto loan must include all of the terms of the credit that was available to them to be binding. The Court disagreed, holding that the lender's right to condition the credit on certain terms means that the offer need not be 'firm' or in the common meaning of that term. The plaintiffs also argued that the solicitations did not disclose various material terms of credit. The Court held that TILA, not FCRA, governs loan term disclosures. Hence, the 'firm offer of credit' that must be provided need not include all of the material credit terms. Finally, the Court stated that the offer satisfies FCRA if it is 'firm.' FCRA does not require a solicitation for credit to disclose a value, but the amount of credit must be meaningful if the amount of credit is limited.

Similarly, in Dixon v. Shamrock Financial Corporation, the Court of Appeals for the First Circuit dismissed a FCRA claim that a solicitation for credit was not 'firm' because it did not contain all of the terms of the credit. The plaintiff made the same claims as did Poehl, and these were rejected for the same reasons. In addition, the Court held that the offer was valuable to the plaintiff. Footnote 4 of the opinion states:

Even under the Seventh Circuit's "value" test from Cole, 389 F.3d at 726-27, requiring "firm offers of credit" to provide some"value" to the consumer, the mailer sent by Shamrock satisfies the requirements of the FCRA. There is value simply in the potential for improving one's credit score. See Perry v. First Nat'l Bank,459 F.3d 816, 825 (7th Cir. 2006). In addition, a reasonable interpretation of the mailer's promise to Dixon that Shamrock would "pay off [his] revolving debt and refinance [his] mortgage balance at a lower rate" is that Shamrock was offering Dixon a loan with an interest rate at least lower than what he was currently paying on his outstanding debt, and of an amount equivalent to his revolving debt balance. The opportunity to contact Shamrock to see if he was eligible for such a loan, based on other pre-existing conditions, had some value for Dixon: he might be able to save money by refinancing his loan at a lower interest rate than his current rate. See Murray v. HSBC Auto Fin., No. 05 C 4040, 2006 WL 2861954at *3 (N.D. Ill. Sept. 27, 2006).

Similar holdings are found in a Seventh Circuit decision, Cavin v. Home Loan Center, Inc., and a First Circuit case, Sullivan v. Greenwood Credit Union. In Cavin, the plaintiff argued that the firm offer of credit for an option ARM loan is not a valuable offer of credit if the advertising portion of the offer deceives the consumer into believing that the offer appears more valuable than what is offered in the "fine print." The result of this litigation is that FCRA 'firm offer of credit' claims are finished as a threat to the credit industry. The Court disagreed, holding that the offer of credit was valuable to some borrowers, even if many consumers did not understand all of the fine print, and even if most consumers would not consider the loan to be a good deal if the terms were understood. The Cole decision rested on the loan offer being insignificant, and the offer being basically a solicitation for merchandise. Cavin was offered a firm offer of an option ARM loan, and the Court of Appeals upheld the decision to dismiss the lawsuit. The scope of what is required has been thoroughly explored, and courts are dismissing claims that allege that a lender must do more than provide an offer of credit that is truthful and has some reasonable value.

Mortgage Brokers are Not Creditors In Cetto v. LaSalle Bank N.A., the mortgage broker was affiliated with the title agency. Plaintiff argued that the title premium was a "fee" that should be counted to determine whether high cost loan disclosures were required. The borrower argued that the title premium raised the "fees" above 8% of the loan amount. The borrower did not receive high cost loan disclosures and, therefore, the loan could be rescinded. Not so, said the Court of Appeals for the Fourth Circuit. Congress defined a "creditor" that must provide disclosures as the lender named in the note for that transaction. The fact that the mortgage broker may be a creditor in other transactions does not make the mortgage broker a creditor in this transaction. The Court stated:

Were we to construe § 1602(f) to make any mortgage broker a "creditor," simply because the mortgage broker on a few occasions earlier was a creditor in unrelated transactions, we would broaden significantly the duties imposed on persons participating in loan transactions, with untold and unknown  [*37]  consequences that cannot now be fully foreseen. The TILA as amended by HOEPA is a detailed and complex statute concerned with balancing the benefits of disclosure requirements with the burdens that such disclosure would impose on various parties to credit transactions. To expand the disclosure requirements to persons who are not clearly creditors would be antithetical to the clear, permissible, and authoritative interpretation given by the agency experts in this area and would introduce undefinable instability to an area in which Congress sought to introduce stability. In addition, denying Savings First the ability to rely on the Board's permissible Regulation Z would lead to widespread confusion. Mortgage brokers would be unsure of their status under lending laws and would be punished for relying on the very regulations on which they have been encouraged by Congress in the statute to rely. See, e.g., 15 U.S.C. § 1640(f); Milhollin, 444 U.S. at 566-67. Regulation Z provided the necessary "sure guidance" through the "highly technical" mortgage lending laws, see id. at 566, and Savings First relied on this recognized guidance.

Therefore, we hold that the definition of "creditor" in § 1602(f),  [*38]  based on traditional notions of statutory construction, the Federal Reserve Board's Regulation Z, and common sense, does not reach mortgage brokers in transactions in which they act only in the role of broker, even though they may have acted as a statutorily-defined "creditor" in prior unrelated transactions.

The FRB legal staff that writes Regulation Z and the Official Staff Commentary has considered making brokers subject to TILA disclosure requirements in the past, and rejected the idea. While some may think that mortgage brokers should be subject to TILA disclosure requirements, the staff believes that this could cause significant confusion that would do more harm than good for the consumer.

Rescission is a Lousy Remedy The decision in Cornerstone Mortgage, Inc. v. Ponzar proves why rescission is such a lousy remedy. The borrowers rescinded their loan because of a dispute over the terms. The trial court refused to recognize the rescission and awarded interest to the lender. The Missouri Court of Appeals reversed the trial court, holding that rescission was valid because the lender gave the wrong date in its Notice of Right to Cancel for expiration of the rescission period. The Court of Appeals also held that plaintiffs could recover attorney fees, and that interest could not be charged after rescission. However, the borrowers had to refund the net principal to the lender. Their claim that the lender should give them a new loan was rejected.

The reality of the marketplace is that nobody is going to give these borrowers a loan. The lender is entitled to get its money back and the borrowers have no hope of obeying the Court's order. How the trial court is going to enforce the order to make the borrowers tender back the loan proceeds is beyond me - you cannot get blood out of a turnip. The Court could hold the borrowers in contempt of court for disobeying the order to return the loan proceeds. The result could be that the borrowers end up in prison for failing to repay their debts - a punishment that was abolished in federal courts in 1833.

Another outstanding example of justice gone awry is the decision in Schmidt v. Household Finance Corp. In that case, the loan officers for Household Finance allegedly forged the borrower's signature on MBNA loan documents. The borrower tried to rescind the loan (he did not receive copies of any of the loan documents or disclosures), but could not since his claim was against MBNA (which was not a party to the lawsuit). Congress needs to recognize that late rescission is a burden on all parties. A better remedy would be to refund prepaid finance charges, and cap the interest rate at 2.5% over comparable treasury securities rates. However, terminating the mortgage and forcing repayment of the principal is throwing the baby out with the bath water. Nobody wins except the attorneys litigating the matter.

In a Race to the Courthouse the Turtle Usually Loses  In MERS, Inc. v. Majic Funding, L.L.C., an unpublished Michigan Court of Appeals decision, the borrower signed a mortgage to finance new windows just before refinancing the purchase money loan. Obviously, the borrower did not mention the debt to the window company when applying for a refinance loan. If the borrower had mentioned the mortgage given to Majic, the refinancing would never have closed. The window company recorded its mortgage first. The borrower defaulted and the window company mortgage was foreclosed. The foreclosure sale price was $7,040.15, significantly less than the $190,000 refinance loan. The servicer of the refinance loan had no reason to check title, and junior lienholders are not required to receive notice of a foreclosure. Hence, the foreclosure sale was not redeemed. MERS argued equitable subrogation, unjust enrichment, mutual mistake, and every other defense it could think up, to no avail. Michigan, for better or for worse, is a race-notice state without equitable subrogation to mitigate the severity of the impact of this rule.

Compare this decision to the decision in Wexford Parkhomes Condominium Association v. Katzman, also an unpublished decision, in which the defendants obtained a $100,000 first mortgage loan (assigned to Bankers Trust) and a $25,000 second mortgage loan (MERS was the mortgagee). Somehow, the MERS mortgage was recorded before the Bankers Trust mortgage. The condominium association argued that its assessments were senior to the Bankers Trust mortgage because the MERS mortgage was recorded first. Not so, said the court. The term "first mortgage of record" in the Condominium Act means the mortgage that has first priority among mortgages. Priority is established by recording order only when the mortgagees do not have notice of a prior mortgage. In this case, the MERS mortgage was written on a second mortgage form, establishing that MERS knew of the existence of a prior mortgage. Hence, the Bankers Trust mortgage was senior to the MERS mortgage that was recorded out of order.

The moral of the story is that you better get to the register of deeds first to establish priority. Otherwise, you are going to need some luck to establish the priority of your lien.

Borrower SOL if Buyer at a Foreclosure Sale Will Not Provide a Redemption Price This is the decision that we have been dreading since the Michigan registers of deeds pushed through legislation to avoid having to calculate redemption prices. The buyer at a foreclosure sale is required to file an affidavit of the amount necessary to redeem the property. There is no significant penalty for failing to do so. In Bank One NA v. Ottawa County Register of Deeds, an unpublished decision, the bank asked the buyer at the foreclosure sale for a redemption price as provided in the foreclosure statute. The buyer mistakenly said that the property could not be redeemed. The bank disputed this, the buyer did not respond. No redemption price was paid because the Bank and the register of deeds did not know what the Bank should pay. The bank sued the register of deeds and the buyer, claiming misrepresentation, but the Court rejected that claim and awarded attorneys fees to the defendants on the grounds that the Bank's lawsuit was frivolous. The Court said the Bank should have made an attempt to pay what it thought was the correct redemption amount, and then commenced its lawsuit before the redemption period expired.

I do not see the utility in the Court's decision. Even if the Bank had filed suit earlier, the Court cannot extend the redemption period absent fraud, which it found did not exist. Hence, if the Bank paid what it thought was the redemption price, and it was a penny short, the Court could not grant relief to the Bank. If the Bank paid more than the redemption price, it is not clear that the Court could require a refund. The law needs to be changed to require the buyer to file the affidavit of the redemption amount in all cases between 30 and 45 days prior to expiration of the redemption period. Failure to file the affidavit should result in an extension of the redemption period until thirty days after filing the affidavit, and loss of all interest for the extended redemption period. If the affidavit overstates the amount that should be paid, and the property is redeemed for the excessive amount, the redeemer should be entitled to three times the amount of the overcharge plus reasonable attorney fees.

Title Agency Not Responsible to Third Parties One of the bedrocks of contract law is that third parties who are not parties to a contract or who are not intended beneficiaries of a contract do not have rights under the contract. In Dietrich Family Revocable Trust v. Philip F. Greco Title Company, the title agency closed a loan for Michigan Heritage Bank, paid back taxes, and issued a title policy to the bank. Unfortunately, not all of the back taxes were paid. The trustee at the time of the closing knew of the back taxes, and failed to pay the taxes also. The back taxes were foreclosed, and the trust lost the property. The new trustee claimed that the title agency owed the trust both contractual and fiduciary duties to pay all of the back taxes. The Court disagreed:

In the present case, the only relationship between the parties was that defendant had acted as closing agent on previous transactions involving the trust, and that Dietrich, who was not the trustee at the time, asked defendant to act as closing agent in January 2002. It is undisputed, however, that the bank was defendant’s client. Although the harm (of losing property to foreclosure) was foreseeable, the injury was not certain to occur; rather, it depended on how long the taxes had been due and on whether plaintiff eventually paid them. Further, the connection between defendant’s alleged negligence and plaintiff’s loss is tenuous. Ultimately, it is the property owner’s responsibility to pay property taxes, and plaintiff knew that taxes were past due. Further, defendant’s conduct was not morally blameworthy. The policy of preventing future harm is not particularly strong in this situation, given that the payment of taxes is the property owner’s responsibility. Lastly, imposing a duty of care on a closing agent for a lender toward a property owner would be tantamount to providing the property owner with free title insurance, which the property owner could have purchased, but did not.

We find no basis for imposing a duty of care on defendant for plaintiff’s benefit in this case. Because plaintiff has failed to show a source for defendant’s alleged duty of care that is separate and distinct from defendant’s contractual obligation to the bank, the trial court properly dismissed plaintiff’s negligence and negligent misrepresentation claims. With regard to plaintiff’s breach of fiduciary duty claim, a fiduciary duty arises when the relationship between two parties is “of such character that each must repose trust and confidence in the other and must exercise a corresponding degree of fairness and good faith.” Portage Aluminum Co v Kentwood Nat’l Bank, 106 Mich App 290, 294; 307 NW2d 761 (1981); see also The Meyer & Anna Prentis Foundation, Inc v Barbara Ann Karmanos Cancer Institute, 266 Mich App 39, 43; 698 NW2d 900 (2005). When a fiduciary relationship exists, the fiduciary has a duty to act for the benefit of the principal regarding matters within the scope of the relationship. Id. Examples of fiduciary relationships are attorneys to clients, doctors to patients, trustees to beneficiaries, and guardians to wards. Portage, supra at 294.

In the present case, although Dietrich testified that there was a long-term relationship between plaintiff and defendant, there was no evidence that plaintiff confided in defendant, or that plaintiff sought or received defendant’s counsel and advice. Plaintiff can show no more than an ordinary, albeit long-term, business relationship, not a fiduciary, confidential, trust-based relationship. Accordingly, the breach of fiduciary claim was properly dismissed.

The moral of the story is that if the borrower wants title protection in a refinance transaction, the borrower has to pay for title insurance, and not rely on the bank's policy to protect the borrower.

Follow the Bouncing Preference You may remember this case from our prior newsletters. In Chase Manhattan Mortgage Corporation v. Lee (In re Shapiro), the borrower obtained a loan from Flagstar Bank. The loan was purchased by Chase, and Chase refinanced the loan. The refinance mortgage was not recorded until 77 days after closing, and the original mortgage was discharged after the new mortgage was recorded. The borrowers filed a petition for bankruptcy relief within 90 days of closing the refinance loan. The Bankruptcy Court held that the lender's mortgage was a preference that could be avoided by the Bankruptcy Trustee since it was not recorded within 10 days of closing (the new Bankruptcy Code permits the lender to record within 30 days of closing). The District Court overturned the Bankruptcy Court decision on the grounds that the new mortgage loan was a rate and term refinance that did not diminish the borrower's equity in the home. The Court of Appeals for the Sixth Circuit reinstated the Bankruptcy Court decision on the grounds that the new mortgage was not perfected in a timely manner. It did not matter that no new money was given to the borrowers, or that the old mortgage gave the world notice of Chase's interest. The Court of Appeals also refused to apply the "earmark doctrine" that allows one lender to "earmark" funds to pay off another lender. The Court of Appeals stated that (1) the earmark doctrine cannot be used when a lender is paying itself, and (2) the earmark doctrine applies to transfers of money, not transfers of liens. The Court of Appeals basically said that rules requiring the Bankruptcy Court to be "equitable" were not written into the Bankruptcy Code and, therefore, Chase was SOL. The Court of Appeals pointed out that the late recording was Chase's own doing, and that Chase could have avoided the issue by promptly recording the mortgage.

No lender anticipates that the borrower will be bankrupt within three months after closing. If the Bankruptcy Court believes that lenders must anticipate bankruptcy filings, then lenders will change the terms of their loans to avoid funding until and if the mortgage is recorded within thirty days after closing. Property owners may find that it will take months to complete a sale transaction, while buyers continue to pay interest and sellers sit on their hands waiting for the proceeds.

Other Litigation Worth Watching for Future Trends

The firm Banducci Woodard Schartzman PLLC is currently litigating several class action lawsuits (Hoving v. Transnation Title Ins. Co., No. 07-15322, United States District Court for the Eastern District of Michigan; Woodard v. Fidelity National Title Ins. Co., No. CV 06-1170, United States District Court for the District of New Mexico; and Lewis v. First American Title Ins. Co., No. 06 CV 478, United States District Court for the District of Idaho) alleging that title agencies across the country failed to provide refinance title policies at reissue rates. The Michigan case is not a RESPA lawsuit since the suit was filed 18 months after the closing (the limitations period for a Section 8 claim is one year). Even if the lawsuit would have been filed earlier, the RESPA claim would not survive since RESPA does not regulate the cost of settlement services. The Michigan case survived a motion to dismiss prior to class certification, but the Michigan Consumer Protection Act claim was dismissed based on a Section 4(a) exemption (the title company is exempt from the MCPA since the company is regulated by a state agency).

In Vanderwerp v. Charter Township of Plainfield, the homeowners established an estate plan that included a limited liability company with a trust as its sole member. The family home was deeded into the limited liability company instead of into the trust. The township found the mistake four years later, revoked the homestead property tax exemption, and assessed back taxes. The homeowners corrected the situation by deeding the property into the trust, but the township would not reverse the back assessment. The Michigan Court of Appeals agreed, holding that the mistake was voluntary and the tax code did not provide for the retroactive correction of the mistake. We wonder how many times this issue has occurred, and how many similar cases will come to light as local governments scramble to find new money to replace funds lost to a depreciating tax base.

The split decision in Hamerly v. Fifth Third Mortgage Company (In re Salupo Development Co.) is a classic case that pits the development construction lender against the home purchaser when the developer goes belly up. The home buyer's construction contract called for the developer to deliver title free and clear of all liens. The developer went bankrupt just before closing, but after the homeowner took possession. Hence, the full construction price was not paid. The bankruptcy trustee abandoned the property. The majority found for the development construction lender, and indicated in dicta that if the trustee sold the property, the homeowners would be given an opportunity to buy it. The dissent recognized that the homeowner had an interest through the construction contract that required delivery of title free and clear of the construction lender's mortgage. It is entirely unfair to deprive the homeowner of the opportunity to pay the remainder of the purchase price and receive title free and clear of the construction mortgage. The moral of the story is that the homeowner needs to take title from day one, and buy title insurance to protect the homeowner's investment.

In Stafford v. Select Portfolio Servicing, an unpublished decision, the Court dismissed the borrower's claim under the Fair Debt Collection Practices Act (FDCPA) since Select Portfolio Servicing (SPS) was not a debt collector subject to the FDCPA. A mortgage servicer is not subject to FDCPA for collection of a loan if it acquires a loan before the loan goes into default. The borrower was not in default and, therefore, the borrower had no claim against SPS or any of the prior holders and servicers of the loan. The Court awarded SPS $5000 (half of their legal fees) for defending against the claim. This decision will encourage more loan servicers to ask for attorneys fees in spurious cases. Attorneys trying to make hay while the sun shines by bringing the same regulatory claims in all borrower lawsuits are forewarned that the garbage in their complaints may end up costing their clients a fair penny to pay lenders' legal fees.

In Grass Lake Golf Club L.L.C. v. GTR Jackson Properties, L.L.C., an unpublished decision, the Court of Appeals extended the repudiation of the principal of equitable subrogation by holding that the holder of a fourth mortgagee does not gain priority over the second and third mortgagees when the holder of the fourth mortgage redeems the foreclosure sale of the first mortgage. Redemption does not revive the mortgage or assign the mortgage to the person redeeming. Redemption merely extinguishes the sheriff’s deed, and the prior title holder's interest is reinstated subject to the remaining mortgages.

In Munaco v. US, IRS improperly placed a tax lien on a home, resulting in the buyer paying the seller's back taxes without recourse against the government. Munaco bought a home and recorded his deed. Three months later, IRS filed a lien on the home for taxes owed by the sellers. When Munaco tried to flip the home four months later, he discovered the lien. IRS refused to remove its improper lien. Munaco was left with no choice but to pay the lien or lose the sale. Munaco sued IRS, but the Court ruled that it had no jurisdiction. The government claimed immunity to suit, and Munaco had not invoked the obscure, lengthy, and complicated administrative procedure needed to clear title. Munaco would have lost the sale if he had tried the administrative remedy since it can take months or even years of wrangling with IRS to clear title. The moral of the story is that sellers need to check title well before they think of selling their home. Identity theft, wrongful government liens, mortgages with improper legal descriptions, and all sorts of mischief may result in years of litigation to clear title before the home can be put on the market. There is no easy remedy for these wrongs, the homeowner pays through the nose to clear title, and no insurance policy covers the loss.

In Exxon Shipping Company v. Baker, the US Supreme Court reversed the punitive damage award of $2.5MM in a maritime case related to the Exxon Valdez disaster. The Supreme Court held that punitive damages should not exceed compensatory damages in maritime cases. It is not clear whether the Supreme Court would extend this limit to other cases, such as lending cases, where punitive damages are available. One of the studies cited by the Supreme Court found that a third of financial injury punitive damage awards were greater than three times the corresponding compensatory damages. The Court did not give any indication that it would overturn statutory damage provisions that award double or triple damages in certain cases. However, the Court might limit common law punitive damages to the amount of compensatory damages when statutory damages are not available in financial cases. Of course, the same reasoning mitigates in favor of a floor on punitive damages, since most punitive damages awarded by juries and judges fall somewhere between 50% and 100% of compensatory damages, with the mean at 0.65:1 punitive to compensatory damages. If the Supreme Court is arguing for tossing out the "outliers" awards because they are unfair, then both low punitive damage awards and the high punitive damage awards should be improper.

In Ruby & Associates v. Shore Financial Services, the Supreme Court upheld the decision of the Court of Appeals but reversed that portion of the Court of Appeals decision holding that the lis pendens was improper. The architectural firm brought an action against an employee who embezzled a large sum of money. The architectural firm filed a lis pendens on the employee's home, which was recorded after the employee transferred the home to her husband, but before the husband's mortgage from Shore Financial was recorded. The mortgage was foreclosed during the litigation. The architectural firm obtained a consent judgment against the former employee. The home was deeded to the architectural firm, but the foreclosure sale was not redeemed. The Court of Appeals ruled against the architectural firm on two grounds. First, the lis pendens was improper in a case involving a money judgment rather than an interest in property and, therefore, the judgment lien of the architectural firm was subordinate to the mortgage. Second, the deed merged the judgment with the architectural firm's title, eliminating any senior lien on the property. The architectural firm's title was lost when the the foreclosure sale was not redeemed. The latter grounds survived the appeal. No reason was given for reversing the holding regarding the lis pendens. This decision is important since it leaves open the question of whether a lis pendens is improper in a case alleging money damages.

In Kistner v. The Law Offices of Michael P. Margelefsky, LLC, the debtor sued both the attorney individually and his law firm (Michael P. Margelefsky was the sole member) for violation of the Fair Debt Collection Practices Act. The attorney maintained a collection agency adjacent to his law office. The collection letter to the plaintiff appeared to come from the law firm rather than the collection agency (both firms used the same name). The District Court dismissed the lawsuit, but the Court of Appeals for the Sixth Circuit reinstated the lawsuit since the debtor could have been confused about whether the debt collector was a law firm or not. The Court also allowed the debtor to sue the attorney individually, holding that drafting the form letter used to collect the debt and supervision of the collection company made him a debt collector. Watch how you do business in the collection field.

In Palmore v. Verona Belvedere, Inc., the plaintiff granted a mortgage to a home improvement company. Plaintiff defaulted and defendant foreclosed the mortgage. Plaintiff sued to challenge the legitimacy of the mortgage. In motions before the Court, the home improvement company revealed that it no longer owned the loan, and that the buyer of the mortgage loan should be added as a party. The parties stipulated to an extension of the foreclosure redemption period until 45 days after conclusion of the lawsuit, but the owner of the loan was never made a party, and never stipulated to the extension of the redemption period. The present owner of the property refused to provide a redemption price, and the Court allowed the case to be reinstated to permit the property to be redeemed. The Court of Appeals reversed the reinstatement of the case. First, plaintiff could have made the owner of the loan a party, but chose not to do so. The stipulated order for extension of the redemption period cannot bind a non-party. Second, the Court has no authority to extend a statutory redemption period. Third, plaintiff's motion to enforce the extended redemption period was made more than 45 days after conclusion of the lawsuit. The Court of Appeals also noted that plaintiff did not attempt to tender redemption money to preserve any right to redeem. Hence, the Court had no grounds to grant plaintiff the right to redeem the property.

In Proto-Cam, Inc. v. TransAmerica Title Insurance Company, the Court of Appeals held that transfer of title of property by a quit claim deed terminates the owner's title insurance policy. This is not a novel concept, but the issue arises in more circumstances than attorneys care to admit. In this case, the insured owner transferred title to the property by quit claim deed to a holding company, and took back a lease. Other instances where title insurance may lapse are transfers to trusts or family limited liability companies as part of an estate plan. Similarly, a lender's title insurance policy may lapse in a loan modification if the lender discharges the existing mortgage and records a new mortgage, instead of amending the existing mortgage.

In Sidun v. Wayne County Treasurer, the Michigan Supreme Court held (citing Mullane v Central Hanover Bank & Trust Co, 339 US 306, 314; 70 S Ct 652; 94 L Ed 865 (1950)) that the county treasurer must notify all owners of a property of a pending tax foreclosure action by means "reasonably calculated, under all the circumstances, to apprise interested parties of the pendency of the action and afford them an opportunity to present their objections.” In this case, the most recent deed indicated that there were two owners of a property, at two addresses. However, only one owner and one address was listed in local tax records. The treasurer mailed a notice of the tax foreclosure proceedings to the one owner listed in tax records. State law required the treasurer to search the deed for the property to discover the owner's identity and address. If the treasurer had done this correctly, the treasurer would reasonably conclude that two persons at different addresses must be notified of the tax foreclosure. Since no notice was afforded the second owner, the tax foreclosure and subsequent tax sale were overturned.

RESPA Reform is Another Four Letter Word HUD pulled off the surprise of the year when it published its proposed reform of Regulation X. After two prior tries at revising the Good Faith Estimate form and floating "packaging" as a means of encouraging some in the industry to cram down settlement service prices, HUD decided to perform major experimental surgery on an industry that is paralyzed from the chest down. HUD had high ideals and high hopes, but the structure proposed by HUD ignores reality and the laws of nature. If you have not read the proposal, you should do so and comment immediately. The comment period expired on June 12, but electronic submissions are still showing up at Regulations.gov after that date. Please become one of the more than 4100 individuals to submit your comments to HUD.

What hath HUD wrought? Is it really that bad, you ask? Consider that the proposed GFE is in color. That means that the GPO needs to print the Federal Register and the Code of Federal Regulations in color. All mortgage brokers and lenders need color printers. Just to add good measure to the insanity, HUD proposed a nice new script that title agents need to print for borrowers - with navy blue headers. HUD paid thousands of dollars to an outside firm to prepare a regulatory impact analysis that is not worth the paper it is written on. If you want to see HUD's reaction to some of the more apparent deficiencies in the proposal, listen to criticism and questions of the Congressional Small Business Committee, and Ivy Jackson's testimony before the Committee. It is really surprising how many times Ms. Jackson admits that HUD did not anticipate various issues and how may times Ms. Jackson admits that Congress did not give HUD authority to do what it wants to do. Did it ever occur to anyone at HUD that the agency is supposed to do what Congress wants, not the other way around?

HUD proposed several major changes to its regulations, including a series of new definitions that change the roles of mortgage brokers, title agents, and lenders:
HUD proposed a new GFE form that looks surprising like the proposed GFE forms that were rejected twice before. It is four pages long, and requires the mortgage broker to commit the lender to loan terms, such as interest rate, loan term, payment amount (including PMI), prepayment penalties, and escrow account terms. There is not enough room to disclose all of the closing fees in the form. The mortgage broker or lender must also provide information on taxes, insurance premiums, and association dues - none of which it has a clue about at the time of application. Since third party vendors will have to provide this information, HUD expects a charge for the GFE (but hopes the mortgage brokers and lenders will eat the charge anyway). I figure that the charge will be about the same as the fee to prepare an IRS 1040 form - about $200 per GFE on average. Of course, shopping for closing fees using the GFE is out of the question. The GFE is so complex that it will take three days for the mortgage broker or lender to prepare it. By the time the GFE is mailed out and the consumer can compare it to another GFE, the ten day fee lock period mandated in the proposed rule will be up, and the GFE will be meaningless.

Notice also that the GFE must disclose an interest rate lock date - before the borrower applies for a loan. As a result, the lender is going to hedge to allow the mortgage broker to commit. Hedge fees are about 40 basis points. Figure that only one in four GFEs results in a closed loan. That means that interest rates will rise significantly, or closing costs will increase by a point and a half. There may be a way around the problem. The lender or mortgage broker may be able to deny the GFE application (silly HUD put a denial option in the rule when the GFE application is not an application for credit). After denying the borrower a GFE, the lender may be able to take an application for credit. There is no express requirement in the proposed rule that the borrower receive a GFE before applying for credit.

HUD also revised the second page of the HUD-1 form that appears to require the closing agent to post information from the GFE on the closing statement. The YSP will be a general credit posted on the first page of the settlement statement to counterbalance the origination, discount, and mortgage broker fees. There is no room for an acknowledgment on the second page of the HUD-1. HUD is also asking for disclosure of the split of the title insurance premium between agent and underwriter, even though this is not subject to scrutiny under RESPA. HUD did not change the HUD-1A yet. This is probably because HUD could not figure out how to fit the additional information about the GFE on the HUD-1A form and keep it all on one page. If the HUD-1A goes to two pages, there is no reason to use it.

The real kicker is the proposed script that the closing agent will need to prepare, read, and explain to the borrower. Preparing the script is going to be a trip - the closing agent will peruse the loan documents to come up with all of the loan terms, and then compare these to the GFE (which one - the lender's or the mortgage broker's GFE??). Differences in the disclosed costs must be calculated and disclosed. HUD thinks that this is so easy that it prepared six sample scripts - most of which are full of typos and math errors.

HUD figures that reading and explaining the script will add 45 minutes to a closing at a cost of about $100 more. However, the closing agent cannot charge the borrower more money since HUD made the script part of the settlement statement. HUD also did not calculate the cost of the other parties cooling their heels while the script is read and explained. Two attorneys at $200 per hour, a real estate agent, and the buyer and seller. Figure that the closing is going to cost about $500 more one way or another.

Reading and explaining the script face to face with the borrowers is going to be a gas. The Closing From Hell will go something like this:
Closing Agent (reading script): THESE ARE YOUR LOAN DETAILS

The following is a summary of many important details involving the mortgage loan for 123 Main Street, Hometown, USA 00000. Let’s compare these important details with the Good Faith Estimate (GFE), loan documents, and other disclosures.

Borrower: What important details are you referring to? Are there details that are not important in these documents? Why did you pick these details? The Truth in Lending disclosure has more boxes and information. Is the Truth in Lending Disclosure important? If it is important, why don’t you talk about the TILA disclosure first?

Closing Agent responding: I do not have this information.

Closing Agent (reading script):

Loan Amount

$300,000.00

Loan Term

30 year

Loan Type

FHA Insured

Fixed Rate

Borrower: Why are there only three boxes? The TILA disclosure has four boxes. Why is this information different than the TILA disclosures? The TILA disclosures have explanations in each box. Can you give me an explanation of each of these terms?

Closing Agent responding: I do not have this information.

Fixed Interest Rate

Closing Agent (reading script): Your loan has a fixed interest rate of 6.5%.

Borrower: Why is the Annual Percentage Rate on the TILA Disclosure higher? Which rate am I paying?

Closing Agent responding: I do not have this information.

Closing Agent (reading script): A fixed interest rate means that your interest rate will not rise over the life of the loan.

Borrower: Is interest compounded? How often is it compounded? How is interest calculated? Do I pay every day interest like on my credit cards? Is the interest waived if I make my payment on time, just like a credit card? What is the free ride period for the loan? If I prepay the loan in the middle of the month, am I charged interest for the fill month?

Closing Agent responding: I do not have this information.

Payment

Closing Agent (reading script): Your loan payment for principal and interest ($1896.20) and mortgage insurance ($62.00) is $1958.20 and cannot rise.

Borrower: How much is my payment? I just looked at the payment coupon, and the payment is much higher than this. If my payment cannot rise, can I make a prepayment? Suppose that I want to pay $2000 per month instead of an odd number, can I do that?

Closing Agent responding: I do not have this information.

Closing Agent (reading script): You have an escrow account. In addition to any mortgage insurance, your initial escrow payment is $200.00 for property taxes and homeowners insurance. This amount may increase.

Borrower: When will my payments increase? I thought that you just said that my payment cannot rise? If I am paying money for taxes and insurance with my monthly payment, can you apply this money to the loan balance to reduce my interest like they do in Australia? My homeowner association also charges a fee. Will you pay that too?

Closing Agent responding: I do not have this information.

This script covers just the first few sections of the full script required in the proposed rule. If the borrower is not totally lost at this point, the borrower will throw in the towel when the closing agent gets to the table in the script. How is someone supposed to read a chart comparing GFE numbers to numbers in the HUD-1? The big lie comes at the end, when the borrower has to certify that the closing agent adequately explained the script. What happens when the borrower refuses to sign the acknowledgment because he does not understand the script, and he is still asking "How much is my payment?"

HUD wants to allow cost averaging. There are two sides to this proposal. Just like "The Force," there is a good side and a dark side. The good side lets the lender charge an average fee for certain services (e.g. credit reports) so long as the fee is revenue neutral. The dark side will permit a form of volume discounts that will have the same result as the packaging proposal that was hooted down several years ago. The proposal will allow the lender to force service providers to mark down their fees for a number of loans. The savings will not go to the consumer since the lender can charge more. The markdowns will be reversed in other transactions that are not fee sensitive.

HUD recognized that federal and state laws permit electronic transactions, but the face to face closing requirement will kill any opportunity for remote electronic transactions, and there will be no efficiency or cost savings by using electronic signatures. HUD also proposed to eliminate the Servicing Disclosure Statement and replaced it with a short half page disclosure. Considering that Congress amended RESPA in 1996 to eliminate the Servicing Disclosure Statement as a "useless disclosure," it is about time that HUD got around to this housecleaning change.

A number of factors contributed to HUD's failure to develop a reasonable program of consumer disclosures and industry regulation. These factors include:
My comment letter (which is 12 pages long and need not be reproduced here) is available for your reading enjoyment. You may also review the criticisms of every major trade organization at the following web sites: 

National Association of Realtors

American Land Title Association

American Bankers Association

National Association of Mortgage Brokers

Mortgage Bankers Association of America

Joint Letter of the National Association of Realtors, American Land Title Association, and Center for Responsible Lending

Federal Trade Commission

We can only hope that the next administration hires a few good attorneys for the HUD Office that wrote this rule, preferably attorneys who understand the impact of RESPA and how it fits into the overall regulatory scheme for residential mortgage transactions.

Michigan Joins the Licensing Parade Michigan, like most of the other states, has taken the plunge to register loan officers and require continuing education for loan officers. The mortgage banking industry, trade groups, government, and many others believe that this is a necessary step. However, the experience in other states shows us that registration and continuing education of loan officers is not a panacea that is going to stop the ills of the mortgage industry. The revised licensing act makes the following changes:

"Loan officer" means an employee of a licensed mortgage company who originates mortgage loans. The legislature defined "originate" and borrowed an IRS definition to define "employee." The legislation prohibits paying anyone who is originating loans unless they are registered under the Act.

"Control person" means someone who is making decisions on how to run a mortgage company. Unless an owner is truly silent, the owner has to register as a control person. This bill will also require some to register if they are managing a mortgage company, even if they are not an owner. A loan officer or a person in a management position who has been convicted of a felony involving fraud, embezzlement, forgery, or financial transactions or to a person previously prohibited by an order from OFIS (now OFIR) cannot register and, therefore, cannot work in these positions - ever. Any other felony conviction would prevent the person from registering for ten years.

The licensing year will be the calendar year. First and second mortgage licenses and registrations will be renewed at the same time. Six hours of continuing education credit will be required for every registered loan officer and control person.

"Mortgage Industry Advisory Board" is just what it sounds like - a board to advise OFIR of how it should behave. The Board is supposed to provide advice on:
In past years, OFIS steadfastly maintained that it would not promulgate rules because it was too hard to get the rules approved. It will be interesting to see whether OFIR will finally listen.

"MBLSLA Fund" is a fund that holds licensing fees. Under the Michigan Constitution, money collected by OFIR was supposed to be earmarked for OFIR use only - just like social security taxes, right? Millions of dollars went unspent because the legislature would not let OFIR buy a pencil without legislative approval. The slush fund was eventually high jacked by the legislature to offset the state's General Fund. This time, the legislature says it will reserve licensing fees for OFIR use. Give the legislature about three years, and see if the funds are put to good use or they are high jacked again.

The legislation is effective immediately, but the implementation date is January 1, 2009. Loan officers will have 90 days to register. Loan officer registration will require the mortgage company to run a criminal background check, fill out a form, and pay between $15 and $200 per loan officer. Each loan officer will need to complete 24 hours of live training and pass a test. The live course, if it is similar to the 24 hour course offered in Florida, should cost between $190 and $300, including books and review materials. If the loan officer has 5 years of prior employment as a loan officer (they let you have a six month hiatus), the exam can be completed by August 2009, and the 24 hours of instruction are waived. Let me give you a word of advice - do not skip the 24 hours of course work. The vast majority of loan officers do not know as much as they think they do, or they have misconceptions of the legal requirements of originating loans.

The lucky two thirds who pass the exam must complete six hours of live or Internet training each year. This should cost considerably less than the pre-licensing course. Just remember that when you select a $30 online education course to satisfy CE requirements, you are getting what you pay for.

OFIR does not have procedures in place to verify that criminal background checks are genuine. Do not wait until the last minute to start the background check. OFIR is likely to have a three month backup beginning in January to verify your criminal background check. Loan officers who obtain a clean criminal background check can continue working until the state clears its backlog.

Loan officers who change jobs or residence will need to report the change to OFIR within ten days. Given that subprime branch mangers are able to move from one company to another in a matter of a few hours, ten days is nine and a half days too long. A branch could rotate between mortgage companies every ten days and never end up reporting which company the branch is currently working for.

The legislature sees a need for five additional employees to implement the new law. We have five thousand licensees that OFIR cannot regulate now, and the legislature thinks that five additional employees is enough to regulate fifteen thousand loan officers? It would take three decades to examine all of the licensees we now have. OFIR would like to use the new national licensing system to keep track of loan officer registrants, but this would require legislative approval. OFIR also understands the need for a web based registration system for licensing exams since OFIR does not have enough people to register 15,000 test takers. OFIR is not sure who will make up exams, approve course material, etc. OFIR does not know who will give the exam or where it will be given. Time is running out to get organized and get a system in place. Lord help us, because the legislature will not.

OFIS Changing License Application Forms The Michigan Mortgage Lenders Association reports that it received the following message from the Michigan Office of Financial and Insurance Services:

Please be advised that all new state licensing will be going through the national database as of 2009, but OFIS will be using the new forms beginning in February 2008. The new forms should be approved and available on this website, www.stateregulatoryregistery.org sometime next week. This change only affects new licensees and amendments (such as ownership or officer changes).  No formal announcement will be sent to current licensees.  Please be sure to check the website for instructions on using the new forms.

The State Licensing Resource Page of the Nationwide Mortgage Licensing System that OFIS meant to refer to will eventually include Michigan and many other states (42 states have pledged to join the system before Congress forces the issue). Note that the new MU-1 Form and MU-2 Form do not comply with Michigan notary laws. Discussions with OFIR staff indicated that the implementation date for the new forms was pushed back to allow revisions to these forms to comply with Michigan laws, but these forms were adopted without change. Good luck getting a notary to sign the forms and face potential jail time.

HUD is Closing the Barn Door In addition to HUD's proposed changes to Regulation X, HUD issued two policy statements that have significant impact on affinity relationships. HUD issued its first informal advice letter in a long time to slap down marketing agreements between real estate brokers and home warranty companies. The letter, which does not describe the marketing arrangement, makes it clear that a success based marketing agreement between a settlement service provider and a referral source is presumed to be an agreement for the referral of settlement service business. A referral source faces an uphill battle to prove that success based compensation is the norm in the market place for the services rendered by the referral source. The fact that the agreement provides for the referral source to provide "numerous, varied. and sundry" marketing-related or administrative-related services to promote the home warranty product does not mean that these services are "actual, necessary and distinct" from the primary services provided by the referral source in a residential real estate transaction. HUD will look at whether there is an exclusive arrangement and whether the referral source endorses the settlement service provider in addition to looking at how the marketing fee is paid to determine whether the fee is in reality for the referral of settlement service business. In other words, HUD will look at what the "services" and "fees" are, and not rely on what the parties say. If the services are all fluff and puffing, HUD will consider the fee to be an illegal kickback for the referral of settlement service business.

This decision has significant consequences for the older forms of "preferred provider agreements" between title agencies and their referral sources. While most of these agreements do not pay a success based fee, some agreements do pay fees that are not related to the amount of services provided. In addition, many of the services that must be provided under these older agreements are either endorsements or prohibitions on making referrals to competitors. A marketing agreement should not pay for endorsement of a settlement service provider unless the endorser does not provide referrals or the endorser makes his or her living through endorsements (such as Tiger Woods). The marketing agreement can include a lockout clause that prohibits the marketer from working for a competing business. However the lockout portion of the agreement should not be compensated since this is not a tangible service. In essence, this advice letter is a warning not to try to fool Mother HUD with a long contract. HUD will look at the realities on the ground and skip reading the agreement.

Remember that this advice letter applies to independent contractors. Marketers who are bona fide employees of the settlement service provider (e.g. W-2 loan officers) may be paid any amount their employer agrees to, calculated in any manner the employer agrees to.

HUD also issued FHA Mortgagee Letter 08-14 and FHA Mortgagee letter 08-17 to back up the policy statement it issued before Halloween (discussed in our July-November, 2007 Newsletter in the story "To Broker or Not to Broker – That is Our Question"). Mortgage brokers who are not FHA approved may play only a limited role as an "adviser" in an FHA transaction, and receive only limited compensation. Mortgagee Letter 08-14 is addressed to HECM loans, and Mortgagee Letter 08-17 is addressed to "forward" mortgage loans. The only significant change from HUD's prior policy statement is the requirement that the "adviser" enter into a written agreement with the borrower for counseling services.

Dear Sir: We are Discriminating Against You The FACT Act amendment to the Fair Credit Reporting Act (FCRA) required that lenders tell borrowers when the credit terms offered to borrowers were not the best terms offered to anyone else. Three years later, the FRB and the FTC proposed rules on how to provide this disclosure. The proposed rule contains a variety of model disclosures, and methods for determining where the cutoff is to distinguish good quality consumers and those who were fished from the bottom of the barrel (and must receive the disclosure). The general rule provides that borrowers in the bottom 60% of the lender's credit scores or credit terms will receive the disclosure.

There is an exception permitting the lender to provide a general disclosure to all borrowers. I suspect that lenders will follow the exception and give the disclosure to everyone, since receiving the disclosure means that the lender discriminated against the borrower. The borrower, of course, is going to scream that discrimination is based on some illegal factor, such as race or sex, since there could not possibly be anything wrong with the borrower's credit. If everyone receives the disclosure, there is no smoking gun to show that the borrower was discriminated against. On the flip side, someone is going to cry that they did not get the "everyone" disclosure, and a class action specialist is going to sue the lender for not following the rule. Heads the attorney wins, tails the lender loses.

The new "everyone" disclosure will be provided with the credit score disclosure. Only the lender may provide this disclosure - hence the credit score disclosure provided by a mortgage broker should not include the new disclosure. However, the credit bureaus are not going to be able to distinguish which of their customers are lenders and which are mortgage brokers. The last few pages of each credit report will include both disclosures, and anyone who orders the credit report will tear off both disclosures and give them to the borrowers. The end result will be that both the lender and the mortgage broker will provide both disclosures. Oh well, what are a few more pages in a sea of paper. Your comments are due by mid-August.

FDIC Warns Banks Not to Shaft Consumers or Local Governments Many of you have experienced, first hand, the cram down of your home equity line of credit limit by your bank. TILA does not prohibit a lender from including a clause in its credit agreement that suspends a portion of the credit limit if the value of your home plummets. However, the government never expected the wholesale slashing of credit that we are now witnessing. Just because TILA does not prohibit such actions does not mean that the government sanctions these actions. The FDIC issued a warning to banks that banks should avoid imposing hardships to consumers when they cancel or suspend home equity lines of credit. The FRB intended that HELOCS would be suspended based on declines in property values only when value declined by at least 50%. If lenders are suspending credit privileges based on a belief that consumers cannot meet their obligations, banks need to demonstrate that the consumer's financial conditions have indeed changed. Lenders should not use this excuse to suspend credit privileges when they made an underwriting error or underwriting standards have changed.

Banks should examine their policies for credit limit reductions, and implement policies consistently, to avoid violating ECOA, FHA, and the FTC Act (which prohibits unfair and deceptive business practices in general). The FTC Act has only recently been used to threaten unfair bank practices. The Federal Reserve Board just published a new chapter in its Consumer Compliance Handbook (see page 315) addressing violations of the FTC Act. In general, an unfair practice is defined by the FRB as act or practice that causes or is likely to cause substantial injury to consumers, cannot be reasonably avoided by consumers, and is not outweighed by countervailing benefits to consumers or to competition. In many cases, cramming down a HELOC credit limit may meet the definition of an unfair practice.

The FDIC is also warning banks that they have an obligation to maintain homes they acquire through foreclosure, and to pay taxes on the property. A recent advisory states:

Part 364, Appendix A of the FDIC Rules and Regulations, Interagency Guidelines Establishing Standards for Safety and Soundness, requires institutions to identify problem assets and prevent deterioration in those assets. Institutions are reminded that maintaining and protecting ORE from further deterioration is critical to maximizing recovery value. Typical expenses incurred during the ORE holding period include:

Homeowner and condominium associations will be happy to hear this. Servicers do not typically pay assessments until the home is resold, even though they may have an obligation to do so under state law and deed restrictions. This wrecks havoc with the association's budget and finances. Associations will now have a little more leverage to force banks to pay up.

Federal Working Group on Financial Markets Proposes Changes in Laws Everyone is getting into the act of proposing changes to federal and state laws. The market for loans is staring to look like stone soup. The only question left is whether we will like the taste when everyone adds their leftover ideas to the pot. The President's Working Group on Financial Markets trotted out the now repudiated theory that subprime loans are to blame for all of the financial turmoil in the world. Their Policy Statement on Financial Market Developments lists these causes of the turmoil:

• a breakdown in underwriting standards for subprime mortgages;
• a significant erosion of market discipline by those involved in the securitization process, including originators, underwriters, credit rating agencies, and global investors, related in part to failures to provide or obtain adequate risk disclosures;
• flaws in credit rating agencies’ assessments of subprime residential mortgage backed securities (RMBS) and other complex structured credit products, especially collateralized debt obligations (CDOs) that held RMBS and other asset backed securities (CDOs of ABS);
• risk management weaknesses at some large U.S. and European financial institutions; and
• regulatory policies, including capital and disclosure requirements, that failed to mitigate risk management weaknesses.

Nice. Does that explain the sag in commercial property values and commercial loan defaults? What about the recent debacle in FNMA and FHLMC bond values that sunk Carlyle Capital and Thornburg, or the failure of short term securities auctions in the municipal bond market. It is the economy, stupid. Inflation adjusted wages have been sinking for years, while costs for essential goods and services (milk, eggs, bread, gasoline, natural gas, education, and medical care) have been rising at double digit rates. The fact that prices for these goods and services are "volatile" does not mean that the rapid increase in prices is not real. Can the average Joe afford the higher price of gas to go to work or the increased cost of a pizza for his family? Not really. That is why those local Starbucks are so empty these days. Joe Sixpack is now Joe Twopack, and soon to be Joe Tapwater. It hurts when I get a call to help a friend of a fellow attorney whose husband killed himself five days before the end of the mortgage redemption period.

But I digress. The Policy Statement correctly points out that we got way too complacent about underwriting and credit risk. We all had our eye on the potential for collapse of the Yen carry trade, when we should have been looking in the mirror at the over-leverage of every financial market in the US. Everyone was doing it because they thought that there was safety in numbers. Little did we realize that we were lemmings, about to run over a cliff.

Here is what the all the President's men want to do to avert another similar collapse:

Recommendations for reforming key parts of the mortgage origination process include:
• All states should implement strong nationwide licensing standards for mortgage brokers;
• Federal and state regulators should strengthen and make consistent government oversight of entities that originate and fund mortgages and otherwise interface with customers in the mortgage origination process. All states should work towards adopting the principles set forth in the guidance developed by the federal regulators for nontraditional and subprime mortgage lending and ensure that effective enforcement mechanisms are in place to deal with noncompliance with such standards; and
• The Federal Reserve should issue stronger consumer protection rules and mandate enhanced consumer protection disclosures, including disclosures that would make affordability over the life of the mortgage more transparent and that would facilitate comparison of the terms with those of alternative products. State and federal authorities should coordinate to enforce the rules evenly across all types of mortgage originators.

States are implementing nationwide licensing standards and new consumer protections. Whether the standards will be strong enough or whether they will be enforced remains to be seen. Even with the millions of dollars flowing into state licensing and enforcement, states are still outgunned by the crooks who found mortgage lending to be safer and more lucrative than selling illegal drugs. Federal regulators will only be able to do an effective job of policing lenders and mortgage brokers when the federal government offers a non-depository charter and can put such a chartered entity out of business. Disclosures mean nothing without consumer education. We need to mandate financial education in public schools, long before someone buys a home or applies for a loan. Consumers need to understand what they are looking at before they can digest the information in a loan disclosure.

The President's men also want to impose overseers above institutional investors. It worked for the Egyptians when they built the pyramids. However, civil libertarians would be reluctant to allow regulators to use of cattle prods in their examinations. This may not be a very effective idea. The President's men also want much more transparency when ratings agencies give five star ratings to financial products. The ratings passed out by S&P and Fitch remind me of grade inflation in some schools. In today's market, everyone now believes that AAA ratings were given to most securities as a "passing" grade, and that anything less was really a flunking grade. That is why BBB- rated CDO's are now traded as low as six cents on the dollar. "Investment Grade" means that you can easily lose your shirt, but they will let you keep your underwear.

IRS and FASB to the Mortgage Rescue Forget about the phantom tax effect on borrowers, and whether the borrower can find a safe parking lot to sleep in at night. Servicers work for the bond holders, and it is the impact of a loan modification on the bondholders that governs the limits of what a servicer can do. There are only two issues that really matter to bond holders. Bond holders first ask when they are going to get their money and, second, what taxes are they going to pay. The former question is still up in the air. The latter question was partially answered by an IRS guidance document that outlines permissible limits for loan modifications - from the investor's standpoint. Under the revenue ruling issued by IRS, if no more than 10% of the mortgage loans in a REMIC are more than 30 days late, the servicer can modify owner-occupied mortgage loans that are at risk of foreclosure to reduce the risk of foreclosure. Sorry investor property owners - you are SOL. Some Alt-A pools will also be out of luck, since they passed the 10% default mark a long time ago.

In addition, FASB issued a statement that eliminates the concept of a "qualified special purpose entity" which IRS depends upon to determine tax treatment of funds passed through to investors. The FASB clarifications essentially mean that modifying a few loans will not result in double taxation of the interest received from loans in the pool.

There are some caveats to the IRS position. Finding that a loan is at risk of foreclosure may be a slow and tortuous process. The servicer will need to manually underwrite the loan to determine if it is truly at risk of foreclosure. The revenue ruling states:
The factors that the program generally takes into account include the borrower’s payment history on the loan; the borrower’s payment history (as reported by a credit bureau) on the borrower’s other indebtedness; the borrower’s FICO score; the loan-to-value ratio of the loan when it was originated; changes in property values in the neighborhood where the property securing the loan is located; an estimate of the current loan-to-value ratio; whether the monthly debt service under the loan has recently changed or will soon change; and, where available, any additional data obtained from the borrower (for example, changes in employment and other income sources, family medical status, uninsured losses, adverse court judgments, inheritances, etc.). Because S’s program takes into account statistical models that were developed using extensive amounts of data involving diverse information from very many borrowers, S has found the program to be generally reliable at assessing with a high degree of accuracy whether a borrower presents an unacceptably high risk of eventual foreclosure, even when some desired information is unavailable for a particular borrower.

The revenue ruling also states that a significant jump in payment amount due to a loan reset (e.g. in an Option ARM loan) may be enough to declare a loan at risk of foreclosure even if all of the above factors are not known to the servicer. IRS anticipates that the servicer will reduce the principal balance as well as reduce the interest rate on the loan so that the loan is affordable. This revenue procedure will govern determinations of REMIC status made by IRS on or after May 16, 2008, with respect to loan modifications that are effected on or before December 31, 2010. After that date, the coach and horses turn back into a pumpkin and mice.

HOPE NOW Strives to Provide More Hope Now HOPE NOW, the voluntary coalition of mortgage loan servicers attempting to provide some measure of relief for a limited number of borrowers, revised its Guidelines for mortgage loan modifications. The revised Guidelines establish goals of faster response to consumer requests for help, greater communication with consumers, dedication to employing more options for easing consumer repayment hardships, and more attention to short sales and resolving second mortgage loan issues. One of the major problems facing borrowers who seek help - forestalling foreclosure - is not being addressed. Typically, it takes several months to review all of the potential mitigation options and work out a mortgage debt that is unique to the borrower. HOPE NOW standards only call for a 30 day delay in foreclosing the mortgage. HOPE NOW insists that homeowners can be saved under this program.

Despite the rosy picture put forth in a recent press release, CNN Money reports that the number of homeowners rescued in May, 2008 dropped 7% from the previous month, while foreclosures increased. You would think that rescuing homeowners would be a little like shooting fish in a barrel, or just like lenders originating loans in a refinance boom. I wish these servicers and their borrowers the best, and pray that the empty homes on my block are sold soon.

FTC Takes Action to Enforce Consumer Protections Two actions show that the FTC is not sleeping. In the Safe Harbor Foundation matter, the FTC found that its prior order against Bay Area Business Council for its advance fee credit scam did not do much good - the principals employed a foreclosure rescue scheme that avoided giving consumers the protections afforded by TILA. We will see if the second FTC enforcement action against the principals has any more impact than the first. In the Matter of Goal Financial, the FTC slammed a student lender for failing to implement financial privacy safeguards and disclosures as required under the GLB Act. Selling surplus  hard drives before wiping the students' credit records off the drive is a definite no-no. The Consent Order will hang like an anvil around the neck of this company for the next twenty years. Do you know where your information security plan is?

Is Big Brother Listening? Writing to HUD is the only official means of making a complaint regarding RESPA. The address for sending RESPA complaints to HUD is posted in a HUD Web Page titled “More Information About RESPA”. If you happen to know an attorney or two at HUD (Ivy Jackson is head of RESPA enforcement, for example), you can also send that person an Email message. HUD’s phone book includes all employee names, telephone numbers and email addresses. For the ordinary Joe, telephone messages and snail mail allow the public to make anonymous complaints that do not jeopardize one’s livelihood. Evidently, HUD wants to know who is calling or writing.

HUD issued a Notice that it sent a RESPA Website Complaint Questionnaire to the Office of Management and Budget for approval. The website form will become the official means of filing a RESPA complaint if approved by OMB. True to form, HUD did not publish the Questionnaire so that we could comment (or criticize) the Questionnaire format. However, it is evident that the public will lose anonymity when HUD requires the public to submit complaints through a website. Microsoft system software collects the email address of anyone who calls up a web page. Software programs exist to permit anonymous browsing. HUD may easily counter this by requiring a name and email address as a required field to submit a complaint.Requiring someone to step forward and identify themselves when they make a RESPA complaint may not be a bad thing. Only a small fraction of RESPA complaints result in HUD finding a RESPA violation.

The easy cases prosecuted by HUD are the joint ventures that are shell operations (called "shams" by HUD). HUD just snagged another one - American Land Title, LLC, which spawned ten little ALT's that HUD alleged did nothing except serve as a placekeeper for the kickbacks. The settlement agreement requires ALT to pay $35,250 to HUD. It is a lot harder to find the really juicy schemes that pay money under the table. However, HUD is running out of easy cases. Most of these shams are closing due to economic conditions or the fact that some title companies have been badly burned by state regulators.

For those of you who own your own settlement service business, this is a non-issue. For the average Joe looking to level the playing field, or to even a score, you might want to send an anonymous comment to HUD while you still can.

HUD Plans to Implement Risk Based Pricing for FHA Loans... HUD issued a Notice that it plans to implement risk based FHA premiums beginning July 1, 2008. The major change is a difference of as much as 75 basis points for the up front premium based on middle FICO score and LTV ratio. The rates provide a 25 basis point break for completing home ownership counseling. The annual premium is either 50 or 55 basis points. The obvious result is that financing higher cost homes is going to be less affordable for consumers who are borderline borrowers. One article in the LA Times points to a HUD statement that higher income borrowers are worse credit risks than low income borrowers. I am not sure whether risk based pricing is simply risk management, or it includes overtones of suitability standards. Regardless of how FHA rate variations were chosen, the effect is apparent. Income levels are not rising faster than the rate of inflation. More journalists are pointing out that government inflation and employment statistics seem less and less to be accurate reflections of what every man is feeling at the bottom of his checkbook. Risk based pricing will make it harder for borrowers to bail out of a home with a declining value, or to "move up" to a larger home with FHA financing.

...And Opens the Fraud Floodgates HUD, like all of the rest of this industry, finds itself inundated with REO properties. To help solve this problem, HUD is waiving its anti-flipping rule prohibiting FHA financing of properties that were sold within the past 90 days. This will make it really easy for HUD and other lenders to dump REO property on "investors," who will scoop up homes for a fraction of the loan amount, and resell them to unsuspecting buyers for a fat profit. The draw for investors is that they can resell the homes without waiting 90 days or making a pretense of "fixing up" the properties. HUD implemented this rule for valid reasons - the public was being scammed. The preamble to HUD's anti-flipping rule stated:

While most investors do operate in a responsible manner, the abuses uncovered that resulted in the issuance of HUD’s regulatory prohibition on property flipping were the result of actions by investors, other sellers, real estate agents, appraisers, and others with a vested interest in the sale of real estate. HUD also does not agree to case-by-case exceptions due to resource limitations. Mortgagees have always been required to show that the sales price corresponds to the market value; the problem lies with false appraised values, which are often central to the egregious abuse that the property flipping regulations are designed to prevent.

Hopefully, the public will quickly learn to thoroughly examine a "foreclosure property" before purchasing the home from an investor, and lenders will look twice or three times at appraisals before financing a property flip.

FinCEN Smells a Rat The Financial Crimes Enforcement Network (FinCEN) issued its updated report on increases in mortgage fraud referrals under the Bank Secrecy Act. Suspected fraud was detected prior to loan disbursements in 31% of the mortgage loan fraud SARs filed between April 1, 2006 and March 31, 2007. Hence, two-thirds of the rats are getting through the sewer grate.The greatest increases in Suspicious Activity Reports occurred in Illinois (75.80%), California (71.29%), Florida (53.04%), Michigan (51.50%), and Arizona (48.73%). Gee, that roughly matches the states with the greatest increases in foreclosure rates. Could there be a connection? To make matters worse, 58% of the SAR reports of mortgage fraud involved wholesale loans. Half of the SAR reports on wholesale loans identified the mortgage broker as a party to the fraud. Thirteen percent of the SARs involved appraisal fraud. This means that a good many more appraisals were influenced by prior fraudulent appraisal reports. The report also indicated that almost all flipping schemes and organized mortgage fraud schemes involved appraisal fraud. If you find a fraudulent appraisal, you better check to see how many more bad loans came before it. People rob banks because that is where the money is. The same can be said for mortgage fraud.

If Sheila Bair Screams Out in the Forest, Does She Make a Sound? Sheila Bair, the Chairperson of the FDIC, who consistently cries out for better, more reasonable disclosures (not more disclosures), testified before a Senate Committee on the current mortgage mess. Her recommendation is that loan servicers should be proactive in modifying loans where possible before each loan becomes a crisis. She stated:

The FDIC is advocating a systematic approach to loan restructuring for borrowers who cannot afford their payments after their loans reset that will create long-term, sustainable solutions that enable borrowers to stay in their homes and provide a better financial result for investors than foreclosure. A systematic approach to restructuring for these borrowers also will free up servicer resources to work with troubled borrowers who will require more individualized solutions. In addition, recent congressional action has removed a potential tax impediment for restructurings that include the forgiveness of debt. The problems in the subprime mortgage markets are only going to increase in coming months and servicers need to be much more aggressive in utilizing the tools available to them to address these issues. Servicers should take proactive measures to deal effectively with upcoming resets to minimize unnecessary foreclosures and losses to both lenders and borrowers. It is especially critical that this process is done in a systemic manner for subprime borrowers.

Ms. Bair's suggestion would mean that servicers would have to contact their borrowers to offer to do something good for them. Getting servicers to proactively modify loans to head off defaults may be slightly more difficult than getting a chain smoker or heroin addict to quit cold turkey. Keep up the public service announcements, Ms. Blair. Eventually someone will hear you.

One More Mortgage Bailout Proposal, One More Sigh The major political candidates are weighing in on their plans to fix "The Mortgage Mess." Hillary wants to freeze rates on ARM loans for five years. I told you what I thought about rate freezes in our December 2007 Newsletter. For a more concise statement, see my op-ed article in the Detroit News. Hillary's plan ignores the fact that 11.2% of  subprime loans originated in 2007 defaulted before the rate reset was close (see the story in CNNMoney). Hence, the problem is not something a rate freeze will fix. Most people default due to loss of income, whether from layoff or illness, or due to a family crisis (such as divorce). Only those who speculated in real estate and lost a bad bet, or who speculated on increasing income and lost a bad bet, are helped by a rate freeze. A rate freeze will only put the problem on the back burner for a few years and delay the inevitable foreclosure.

Barack wants to set up a fund for short sales. This plan ignores the fact that there are no qualified buyers for the homes that are under water, or the individuals who would buy these homes will have to walk away from their present home to buy the new home. Barack wants to create additional revenue bonds to refinance bad loans. There are no qualified borrowers and/or the homes do not appraise high enough to refinance the debt to utilize all of the existing state revenue bond programs. Besides, FHA is sucking up all of the middle income borrowers who qualify for refinance loans. Allowing bankruptcy judges to cram down mortgage debt will just put mortgage insurers and FHA out of business, and make 20% to 25% downpayments standard across the industry. There go your affordable housing programs.

The other end of the spectrum is not much better. Congress gave Fannie Mae and Freddie Mac authority to make more jumbo loans to save the California real estate market. Has anyone seen a spurt of lending out there? Bloomberg reports that Fannie and Freddie have made barely any new jumbo loans. $32BB of the additional lending authority was used to buy back the securities Fannie and Freddie previously sol to prevent the price of their bonds from collapsing, while less than $250MM was used to make new loans. Maybe the Deposit Insurance Fund should be invested in weak sister bank stocks to prop up the price so they do not have to close the institutions. While we are at it, maybe Congress should change the deposit insurance laws to allow the FDIC to payoff depositors in bank stock.

Congress got it right when it created the Resolution Trust Corporation in the early 1990s and the FDIC put a lot of failed savings and loan institutions out of their misery as soon as possible. The banking system survived and flourished thereafter, until it went berserk again on subprime mortgage loans, pie in the sky commercial real estate, mezzanine financing for mergers, and exotic credit derivatives. We need to do the same thing now - get people into loans they can make payments on (even if it takes them the rest of their life), close the banks that are beyond saving, and sell the assets for what they are worth. Get the banking system and the financial markets back on track so that they can lend money again at reasonable prices and with reasonable risk. Then we need to update FIRREA and go back to the drawing board to rewrite the Basel accords to make sure this does not happen again any time soon.

What Goes Up Must Come Down Newton was right. Foreclosure figures from Realty Trac show that foreclosures are up the most year over year in states with the highest increases in home prices or the least affordable homes (Arizona, California, Connecticut, Florida, Maryland, Massachusetts, Nevada, Rhode Island, and Virginia). Michigan is an interesting story. Michigan is No.10 in terms of foreclosed properties, but the number of foreclosures is down in the past year. The Wall Street Journal reported on March 25, 2008, that City of Detroit home sales were increasing, but that prices were off 54% (to an average of $22,000). Countrywide, the bellwether of REO properties, owns fewer than 500 properties in the City of Detroit. In Michigan, Countrywide's REO properties dropped to just under 1000. Perhaps Michigan is coming out of the woods, or there are simply too few loans left to foreclose.

On a national level, Orange County, CA demonstrates the problems we all face. Two years ago, we all envied Orange County. Since then, the world of residential real estate has hit a rough patch that continues to sprout potholes in some places and sink holes in other locations. The OC Register reported 5,865 defaults and 647 foreclosures in 2006, 13,786 defaults and 4,160 foreclosures in 2007, and 7,082 defaults and 2,232 foreclosures in the first three months of 2008. At this rate, we will see double the number of defaults and foreclosures in 2008 than we saw in 2007. Not surprisingly, home prices continue to plunge as more foreclosed properties come on the market. The Case-Shiller index indicates an annual rate of decline in urban area home prices of more than 15%. The report "State of the Nation's Housing 2008" written by the Joint Center for Housing Studies of Harvard University gives us little hope of a turn around in housing prices. I thought that the first chart in this report was published upside down until I realized that every category across the past three years was declining. PMI reports that home prices are likely to drop for the next two years in areas where prices increased the most. PMI lists the risk of devaluation in 381 MSA's. This reminds me of the scene from near the end the movie Titanic, where the ship is vertical and heading under water. Noah, where are you when we need you? If you want to break down the figures by zip code, the New York Federal Reserve Bank has a nifty dynamic map page that color codes zip codes and states based on subprime and Alt-A loan type, default rate, and foreclosure rate. If you want a macro look at spreading delinquencies, move through the quarterly maps of state delinquency rates for the past two years at the Wall Street Journal. Does anyone notice any similarities between the spread of delinquencies across the country and virtual projections of the spread of pandemic bird influenza? Perhaps the FRB should call the National Institutes of Health to ask what scientific plans exist to fight pandemics, and then apply similar methods to stop the spread of foreclosures. Will somebody please develop a pill to stop foreclosure?

The "well off" homeowner is a misnomer. The rich are doing better than the poor, but we are setting a low standard. Mish's Economic Global Trend Analysis blog has been following the performance of an early 2007 Washington Mutual adjustable rate mortgage loan pool, WMALT 2007-0C1. The pool consists of 80+% ALT-A ARM loans originated in 2006 that did not document the borrower's income and assets. The majority were in California and Florida, with almost half being "jumbo" loans (over $417K). The average interest rate is a little over 7% (jumbo loans have a higher interest rate than loans under $417K). The loans were made on the basis of credit score (average score is 704), which is supposed to indicate the borrower's tendency to repay debts on time. Scores above 700 are very good. The average loan to value ratio was 75%, which should give the lender some cushion in case of foreclosure (the average loss on a loan in foreclosure is 25% of the mortgage amount, so a 75% LTV loan should break even if it goes into foreclosure). You would think that these loans are very affordable, the borrowers were well off financially, and the loans were good credit risks. These were bad assumptions.
 
The pool started with over 55,000 loans and a total mortgage balance of over $13 billion. Hence, the statistics on the pool should be a good indication of the marketplace. The performance of this pool indicates that the current mortgage crisis is not just a phenomena of economically disadvantaged borrowers. The current pool statistics show that 7.39% of the properties are now bank owned, and another 9.78% are in foreclosure. Another 11% of the loans are delinquent, and probably headed for foreclosure. The pool losses are over $24 million, and rising at the rate of $1-$2 million per month.

The Californians who had their $700,000 homes foreclosed do not feel much better than the people who had their $80,000 homes foreclosed in other states. Let us compare Orange County, CA, a wealthy county with 3 million people, to Oakland County, MI with similar demographics and 1.2 million people. You could buy a good 2000 square foot home (not new) in a top Oakland County school district for about $250K to $350K in 2006. In Orange County, the price for a comparable home was twice the cost in Oakland County. Realty Trac says that on May 23, 2008, in Orange County, CA there are 4350 properties being auctioned, 5303 bank owned properties, and 8743 in some stage of pre-foreclosure. Compare that to 1607 at auction, 8354 bank owned, and 1973 in some stage of pre- foreclosure in Oakland County, MI. On a per capita basis, there are 1.62 distressed households in Oakland County, MI for each distressed household in Orange County, CA. While the press is wringing its hands about poor people in California who paid way too much for their homes, the reality is that California homeowners are in better shape than similarly situated homeowners in economically depressed regions where real estate prices did not bubble out of sight. 

Think about the costs that the average homeowner is paying to stay in that house. In May, The Land Magazine (a trade publication for Minnesota farmers) published a story about a Minnesota Farm Bureau study of food prices. The story highlighted how the price of food at a backyard barbecue rose by 16% over the past year:
The average cost of a picnic for 10 this summer is $35.42, up $5.04 from 2007.....

Item averages included:
• 1-quart of deli potato salad, up 92 cents to $5.97;
• 2-quarts premixed lemonade, up 69 cents to $2.63;
• 8 ounces of fresh broccoli florets, up 65 cents to $1.21;
• Four 8-ounce single-serve chocolate milks, up 40 cents to $1.12 each;
• One 8-count package of hot dog buns, up 35 cents to $2.05;
• One 8-count package of hamburger buns, up 33 cents to $2.11;
• One 15-ounce bag of corn chips, up 12 cents to $3.13;
• Two pounds of ground beef, up 28 cents to $5.58;
• One 16-ounce can of baked beans, up 24 cents to $1.54;
• 8 ounces of raw baby carrots, up 6 cents to 78 cents;
• 2 pounds of watermelon, down 5 cents to $1.37;
• One pound of hot dogs, down 28 cents to $2.04.

A combined group of miscellaneous items including cheese slices and condiments for the picnic (yellow mustard, ketchup, sweet relish, onion) cost $2.52, up two cents from 2007.

Then consider that June 2008 was the sixth straight month of net job losses in the US economy.  AP reports that so far this year, our economy has lost a total of 438,00 jobs, an average of 73,000 a month. A Department of Labor report highlights how the unemployment rate is not the whole story:
In June, about 1.6 million persons (not seasonally adjusted) were marginally attached to the labor force, little different from a year earlier.  These individuals wanted and were available for work and had looked for a job sometime in the prior 12 months.  They were not counted as unemployed because they had not searched for work in the 4 weeks preceding the survey.  Among the marginally attached, there were 420,000 discouraged workers in June, little changed from a year earlier.  Discouraged workers were not currently looking for work specifically because they believed no jobs were available for them.  The other 1.1 million persons marginally attached to the labor force in June had not searched for work in the 4 weeks preceding the survey for reasons such as school attendance or family responsibilities.

The waffling economy is having a broader impact than you might think. For example, there are reports that Maine residents are ordering twice as much firewood as usual, at twice the price, because the cost of home heating oil rose so much. It's not the price of a home we need to worry about, it's the economy. There is nothing stupid about it.

Chutzpah, Chutzpah Everywhere

Why Attorneys Are Not Paid by the Word The blog Trial Ad Notes brings us the Federal Court Order from Presidio Group LLC et al. v. GMAC Mortgage LLC et al., (WD Washington, Tacoma, No. 3:08-cv-05298-RBL) resulting from a motion by GMAC for a more definite statement of the complaint. The Court described the problems with attorney Webb's complaint it its Order:

The Court recognizes the tension between Rule 8(a), which requires a “short and plain statement,” and Rule 9(b), which requires the party state his claim with particularity. The issue before the Court is whether Plaintiff’s 465 page Complaint correctly balances this tension.

The Complaint does not correctly balance this tension. The title to the Complaint is eight pages. (Compl., 1-8) (Dkt. #9). It appears to list all of Plaintiff’s claims, as well as their statutory and precedential basis. In eighteen pages following the title, the Plaintiff lists the Defendants. There are six Defendants. This section consists largely of useless repetition.

Not before page 30 does the Complaint address the facts alleged. Plaintiff’s allegations continue for 87 pages — including a 37 page pit-stop to quote emails. (Compl., 39-76). The Court notes, with some irony, that in his response opposing Defendants’ motions for a more definite statement, the Plaintiff successfully states his allegations in two pages. (Pl.’s Resp., 1-3)(Dkt. #25).

On page 117, Plaintiff embarks on an odyssey through his claims for relief. While the Court understands that asserting 54 claims requires some space, the 341 pages used to do so is unreasonable.

Judge Leighton began his Order quoting Shakespeare...
“Brevity is the soul of wit.”
--William Shakespeare
Hamlet, Act 2, Scene 2, Line 90.

...and finished with a little poetry of his own:
Plaintiff has a great deal to say,
But it seems he skipped Rule 8(a),
His Complaint is too long,
Which renders it wrong,
Please re-write and re-file today.

I am surprised that the Court did not ask Mr. Webb for "just the facts, please."

If You Plan a Fraud, Plan Big The Australian press is all abuzz about a financial expert who tried to sell almost a trillion dollars of US Treasury Notes to Turkey. First, has anyone ever seen or heard of a legitimate 1934 US Treasury Note that had a face value of $500,000,000? Neither did the poor Australian fellow, since the notes were printed on an inkjet printer. The Notes also contained numerous misspelled words and grammatical errors. According to a story at News.com.au, the fellow got the bonds from a Filipino couple. The Filipino couple allegedly said a priest asked them to sell the bonds to help mountain tribes. This is actually a common scheme described by the US Treasury Department. The Treasury Department states, "The largest Federal Reserve note ever printed was $100,000 and was only used inside the banking system. For more information on this currency item, please review the FAQ at http://www.treas.gov/education/faq/currency/denominations.shtml."

The Man Doth Protest Too Much, Methinks The Court of Appeals recently upheld a judgment against a California man who bought into a tax protest theory hook, line and sinker. In US v. Heath, the defendant stopped paying taxes after attending seminars conducted by Irwin Schiff, a convicted tax evader who wrote a book while in prison titled “Federal Mafia: How it Illegally Imposes and Unlawfully Collects Income Taxes.” The book advises readers how to not pay taxes, but informs them that they run the risk of conviction if they follow the book’s advice.  Heath also took the advice of American Rights Litigators to pay his tax debt with a registered “Bill of Exchange.” The Bill of Exchange was not written against any existing payee - it called for the Treasury to pay the tax for Heath. Heath was convicted of tax evasion, but appealed on the ground that the instructions to the jury were wrong, and his sentence should be reduced due to his diminished capacity (he was 69 years old). The Court disagreed with both arguments.

The Sky is Falling Hackers seem to be more aggressive these days, perhaps because there is less honest work. The Boston Globe reports that Hannaford Bros. grocery store computers were hacked. Information concerning 4.2MM credit and debit cards was stolen, leading to 1800 fraud cases.

Into Everyone's Life a Little Water Must Fall The Detroit Free Press reports that thieves stole the plumbing from a public fountain designed by Cass Gilbert (who also designed the US Supreme Court Building). The City will pay $100,000 to replace the plumbing and pumps for the fountain. 

Gotham City needs you, Batman.


This newsletter is produced and distributed without charge by Howard A. Lax of the law firm of Lipson, Neilson, Cole, Seltzer & Garin P.C. 

Howard A. Lax is a corporate law attorney with Lipson, Neilson, Cole, Seltzer & Garin, P.C. His practice concentrates on financial institutions consumer compliance and regulatory affairs, and real property law. Mr. Lax earned his J.D., cum laude, from Wayne State University's School of Law and holds a bachelor's degree from the University of Michigan. Active in the legal community, he is a member of the State Bar of Michigan's Business Law Section and is a member of the governing council of the Michigan Real Property Law Section.

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