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Supreme Court Rules that Written Notice Is Sufficient to Rescind Under TILA

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By: Daniel A. Cozzi and Diana M. Eng

The Supreme Court of the United States recently held that a borrower can exercise its right to rescind a loan pursuant to the federal Truth in Lending Act (TILA) by providing written notice to the lender within three (3) years of the loan closing date. In doing so, the Supreme Court reversed the Court of Appeals for the Eighth Circuit’s affirmation of the District Court of Minnesota’s decision, which had held that a borrower must file a lawsuit within three (3) years of the consummation of the loan to exercise his/her rescission rights.

In Jesinoski v. Countrywide Home Loans, Inc., the United States Supreme Court considered “whether a borrower exercises this right by providing written notice to his lender, or whether he must also file a lawsuit before the 3-year period elapses.” Jesinoski v. Countrywide Home Loans, Inc., No. 13-684, 574 U.S. _____ (2015).

Under TILA, borrowers have the right to rescind certain consumer mortgage transactions up to three days after the loan closes. Specifically, TILA grants borrowers the right to rescind a loan transaction, “until midnight of the third business day following the consummation of the transaction or the delivery of the [disclosures required by the Act], whichever is later, by notifying the creditor, in accordance with regulations of the [Federal Reserve] Board, of his intention to do so.” 15 U.S.C. 1635(a). However, if the creditor fails to provide requisite TILA disclosures, a borrower may rescind the transaction up to three years from the date the loan closes. 15 U.S.C. 1635(f).

On February 23, 2007, Larry and Cheryle Jesinoski (“Petitioners” or “Jesinoskis”) refinanced their home loan and obtained a mortgage from Countrywide Home Loans, Inc. (“Respondent” or “Lender”) in the amount of $611,000. Exactly three years later, the Jesinoskis mailed a purported rescission notice to Lender. The Lender responded on March 12, 2010 and refused to acknowledge the validity of the rescission. On February 24, 2011 – one year after the Jesinoskis sent their notice of rescission, the Jesinoskis filed suit in the District Court of Minnesota, seeking rescission of the mortgage and damages.

The District Court agreed with the Lender and held that the Petitioners were barred from exercising rescission pursuant to TILA, as they had failed to file a lawsuit within three years of the consummation of the loan. Jesinoski v. Countrywide Home Loans, Inc., 2012 WL 1365751 (D. Minn. Apr. 19, 2012). The District Court found that the Petitioners’ written notice within three years was insufficient to exercise their rescission rights. The Eighth Circuit affirmed. Jesinoski v. Countrywide Home Loans, Inc., 729 F. 3d 1092 (8th Cir. 2013) (per curiam). The Eighth Circuit relied on its prior decision in Keiran v. Home Capital, Inc., 720 F. 3d 721 (8th Cir. 2013), which held that a borrower must file a lawsuit for rescission within three years of the loan’s consummation to exercise rescission rights under TILA.

The Supreme Court disagreed with the District Court and the Eighth Circuit, holding that “Section 1635(a) explains in unequivocal terms how the right to rescind is to be exercised: It provides that a borrower ‘shall have the right to rescind . . . by notifying the creditor’ . . . of his intention to do so’ (emphasis added). The language leaves no doubt that rescission is effected when the borrower notifies the creditor of his intention to rescind.” The Supreme Court further declared that the “statute does not also require him to sue within three years.”

Lender raised several additional arguments that the Supreme Court ultimately dismissed. First, Lender argued that TILA rescission only requires written notice (and not legal action) when the parties dispute the adequacy of the TILA disclosures (e.g., whether the borrower is actually entitled to the three-year rescission period rather than the three-day rescission period). The Supreme Court found that Section 1635(a) makes no distinction between disputed and undisputed rescissions. Second, Lender argued that pursuant to the common law, rescission requires that a borrower tender the proceeds received under the transaction prior to rescission. The Supreme Court also dismissed this argument, finding that TILA rescission need not follow the rules and procedures of “its closest common-law analogue.” The Supreme Court further stated, “[t]o the extent §1635(b) alters the traditional process for unwinding such a unilaterally rescinded transaction, this is simply a case in which statutory law modifies common-law practice.”

In light of this decision, lenders should be aware that a written notice provided by the borrower, within three years of the loan consummation is sufficient to exercise his/her right to rescission under TILA. However, the Supreme Court provided no guidance on when a lawsuit must be commenced after written notice of rescission is sent.

California Supreme Court Grants Petition for Review of Three Court of Appeal Cases Rejecting Glaski v. Bank of America

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By: Sridavi Ganesan

Connect: Sridavi Ganesan

The California Supreme Court recently granted petitions for review in three different cases decided by the California Courts of Appeal – Yvanova v. New Century Mortg. Corp., 331 P.3d 1275 (Cal. 2014); Keshtgar v. U.S. Bank, 334 P.3d 686 (Cal. 2014) (both decided by the Second Appellate District); and Mendoza v. JP Morgan Chase Bank, 337 P.3d 493 (Cal. 2014) (decided by the Third Appellate District). All three cases concerned homeowners who challenged pending or completed trustee’s sales on the basis that the respective assignments of deeds of trust were void. The respective plaintiffs in these cases relied upon Glaski v. Bank of America, N.A., 218 Cal. App. 4th 1079 (Ct. App. 2013) (decided by the Fifth Appellate District), which held that a borrower has standing to challenge a purportedly void assignment of deed of trust, even if the borrower was not a party to or beneficiary of the assignment. In Glaski, the plaintiff alleged that the deed of trust was assigned into a securitized trust after the trust closing date, as set forth in the trust’s pooling and servicing agreement; and that such assignment was in violation of New York trust law, under which the plaintiff alleged the trust was formed. Id., at 1084, 1087. The Glaski Court held that, based on these allegations, the assignment was void, and plaintiff had standing to challenge the assignment. Id., at 1095-1097. The Yvanova, Keshtgar and Mendoza Appellate Courts all rejected the Glaski holding on the basis that a borrower lacks standing to challenge defects in an assignment to a deed of trust when the borrower is not a party to the transaction, regardless of whether the assignment is void. The Glaski defendants subsequently petitioned the California Supreme Court to have the opinion depublished, but the petition was denied. See Glaski v. Bank of America (Supreme Court No. S213814), depublication request denied Feb. 26, 2014.

The Yvanona Appellate Court ruled on several legal theories before deciding favor of the defendant. The California Supreme Court, however, has limited the issue to whether, “[i]n an action for wrongful foreclosure on a deed of trust securing a home loan, … the borrower ha[s] standing to challenge an assignment of the note and deed of trust on the basis of defects allegedly rendering the assignment void.” Yvanova, 331 P.3d at 1275. The Supreme Court deferred further action on Keshtgar and Mendoza pending disposition of Yvanova. Keshtgar, 334 P.3d at 686; Mendoza, 337 P.3d at 493.

It appears that the Supreme Court is finally ready to reach a decision on the controversial but minority Glaski decision that has created a split between the Courts of Appeal. It will be interesting to see which way the Court will decide.

New York Adopts More Stringent Debt Collection Regulations

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By:  Diana M. Eng and Jennifer L. Neuner

The New York State Department of Financial Services recently issued new regulations requiring debt collectors to provide additional disclosures to consumers. The new regulations (see 23 NYCRR § 1) are intended to provide protections beyond what is currently required by the Fair Debt Collection Practices Act (“FDCPA”). These new debt collection regulations will become effective in March 2015, except that provisions regarding required disclosures for charged-off debt[1] and substantiation of a charged-off debt[2] will become effective in August 2015.[3]

Required Initial Disclosures

The regulations require enhanced initial disclosures when a new debt collector first contacts an alleged debtor. The newly mandated disclosures include specific notices that are not formally required by the FDCPA. Specifically, pursuant to 23 NYCRR § 1.2, the debt collector must, within 5 days of the initial communication with the consumer, provide “clear and conspicuous written notification” that 1) debt collectors are prohibited from engaging in “abusive, deceptive, and unfair debt collection efforts” under the FDCPA; and 2) a written statement that if a creditor or debt collector receives a money judgment against the consumer in court, state and federal laws may prevent certain types of income from being taken to pay the debt, including, among others, social security, public assistance, unemployment and disability benefits, pensions and veterans’ benefits.

Similarly, with respect to debts that have been charged-off, the debt collector must, within 5 days of the initial communication with the consumer, provide a “clear and conspicuous” written notification about the debt, including 1) the name of the original creditor; and 2) an itemized accounting of the charged-off debt, including the amount owed as of charge-off, total amount paid on the debt since the charge-off and the total post charge-off interest, charges and fees. 23 NYCRR § 1.2(b).

Required Disclosures Regarding Collection of So-called “Zombie Debts”

The regulations also require disclosures regarding the collection of debts for which the statute of limitations has already expired. 23 NYCRR § 1.3. Further, the debt collector must maintain reasonable procedures to determine the applicable statute of limitations of a debt and to determine whether the statute of limitations has expired. The FDCPA does not contain such requirements.

Under the New York regulation, if a debt collector “knows or has reason to know” that the statute of limitations for a debt may have expired, the debt collector must provide a “clear and conspicuous” notification to the consumer that 1) the debt collector believes that the statute of limitations may be expired; 2) suing on a debt for which the statute of limitations has expired is a violation of the FDCPA, and, if the consumer is sued, the consumer may present evidence to the court that the statute of limitations has run; 3) the consumer is not required to provide the debt collector with an admission of any kind that the debt is still owed, or to waive the statute of limitations; and 4) a partial payment of the debt, or other admission that the debt is owed, may restart the statute of limitations. 23 NYCRR § 1.3(a)-(b). Further, the regulation provides specific language that would comply with the notice requirement.

Requirements Regarding “Substantiation” of the Debt

The regulations also contain important changes regarding a debt collector’s obligations when a consumer disputes the validity of a charged-off debt. 23 NYCRR § 1.4. Currently, under the FDCPA, consumers must dispute the debt in writing and request verification of the debt within 30 days of the first collection attempt. See 15 U.S.C. § 1692g. Under the new New York regulations, consumers may request “substantiation” of the debt at any time during the collections process, and may do so orally. Once a request is received, the debt collector must provide the consumer written substantiation of a charged-off debt within 60 days of receiving the request. 23 NYCRR § 1.4(b). The debt collector must also cease collection until written substantiation has been provided to the consumer. The regulation further lists the various forms of documentation required to substantiate the debt.

In addition, the New York regulation includes a document retention requirement related to a request for substantiation of a charged-off debt under 23 NYCRR § 1.4. 23 NYCRR § 1.4(d). Specifically, debt collectors must retain evidence of the consumer’s request for substantiation and all documents provided in response to such request until the charged-off debt is discharged, sold or transferred.[4]

Requirements for Agreements to Settle a Debt

The regulations also include procedures for documenting any agreement between the consumer and the debt collector to satisfy or otherwise settle the debt. 23 NYCRR § 1.5. The FDCPA does not regulate communications from a debt collector regarding settlement. Under the new regulations, a debt collector must, within 5 business days of agreeing to a debt payment schedule or other agreement to settle the debt, provide the consumer with 1) written confirmation of the debt payment schedule or agreement, including all material terms and conditions relating to the agreement; and 2) a notice stating that if a creditor or debt collector receives a money judgment against the consumer in court, state and federal laws prevent certain types of income from being taken to satisfy the debt.[5] The debt collector is also required to provide the consumer with 1) an accounting of the debt on at least a quarterly basis while the consumer is making scheduled payments; and 2) a written confirmation of the satisfaction of the debt, along with the name of the original creditor and the account number, within 20 days of receipt of the final payment.[6] 23 NYCRR § 1.5.

Debt collection companies that operate in New York should review their current policies and take steps to comply with the new regulations in advance of the 2015 effective dates. Specifically, debt collectors should ensure that initial disclosures satisfy the new regulations, that disclosures inform consumers regarding the potential expiration of the statute of limitations and that procedures are in place to substantiate the debt upon a debtor’s request.

[1] 23 NYCRR § 1.2(b).
[2] 23 NYCRR § 1.4.
[3] 23 NYCRR § 1.7.
[4] Debt collectors who transfer a charged-off debt should consult the CFPB rules regarding mortgage servicing transfers to the extent applicable.
[5] This notice provision is identical to the statement required in the initial disclosures (23 NYCRR § 1.2) noted above.
[6] 23 NYCRR § 1.6 provides that, after mailing the initial disclosures required by Section § 1.2, a debt collector and consumer may communicate via email, if the consumer voluntarily provides an email address and consents to receiving email correspondence regarding a specific debt.

CFPB PROPOSES CHANGES TO MORTGAGE SERVICING RULES

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By: Joshua A. Huber

On November 20, 2014, the Consumer Financial Protection Bureau (the “Bureau”) proposed changes to the mortgage servicing rules under Regulation X, which implements the Real Estate Settlement Procedures Act (“RESPA”), and Regulation Z, the implementing regulation for the Truth in Lending Act (“TILA”). The Bureau has proposed, with one exception,[1] that the amendments take effect 280 days after publication of a final rule in the Federal Register.

The proposal encompasses nine broad topics,[2] the most significant of which are summarized below:

Expansion to Successors in Interest. The Bureau is proposing to apply all of the Mortgage Servicing Rules[3] to successors in interest of a borrower once a servicer confirms the successor in interest’s identity and ownership interest in the property. This aspect of the proposal would help ensure that those who inherit or receive property, such as a surviving family member, have the same protections under the Mortgage Servicing Rules as the original borrower.

Requests for Information. The Bureau is proposing amendments that would change how a servicer must respond to requests for information asking for ownership information for loans in trust for which Fannie Mae or Freddie Mac is the trustee, investor, or guarantor. As modified, mortgage servicers for loans for which Fannie Mae or Freddie Mac is the trustee, investor, or guarantor would comply with their obligations under Regulation X[4] when the servicer responds to requests for information asking only for the owner or assignee of the loan by providing only the name and contact information for Fannie Mae or Freddie Mac, as applicable, without also providing the name of the trust.

Loss Mitigation. The most sweeping aspects of the proposed rule changes are those pertaining to loss mitigation. The Bureau is proposing to:

(1) Require servicers to meet the loss mitigation requirements more than   once in the life of a loan for borrowers who become current after a delinquency;

(2) Modify the existing exception to the 120-day prohibition on foreclosure filing to allow a servicer to join the foreclosure action of a senior lienholder;

(3) Clarify that servicers have significant flexibility in setting a reasonable date by which a borrower must return documents and information to complete an application, so long as the date maximizes borrower protections and allows borrowers a reasonable period of time to return documents and information;

(4) Clarify that servicers must take affirmative steps to delay a foreclosure sale, even where the sale is conducted by a third party, including clarification that the servicer has a duty to instruct foreclosure counsel to take steps to comply with the dual-tracking prohibitions and that a servicer who has not taken, or caused counsel to take, all reasonable affirmative steps to delay the sale, is required to dismiss the foreclosure action if necessary to avoid the sale;

(5) Require that servicers who receive a complete loss mitigation application must promptly provide borrowers with written notice stating: (a) a complete application was received, (b) additional information may be requested if needed, (c) the date of completion, (d) whether a foreclosure sale was scheduled as of that date, (e) the date foreclosure protections began, (f) the borrower’s applicable appeal rights, and (g) that the servicer will complete its evaluation within 30 days;

(6) Address and clarify how servicers obtain and evaluate third party information not in the borrower’s control, including: (a) prohibiting servicers from denying modifications based upon delays in receiving such third party information; (b) requiring prompt notice to the borrower of any missing third party information within 30 days after receiving a complete application; and (c) requiring servicers to notify borrowers of their determination in writing promptly upon receipt of the third party information;

(7) Permit servicers to offer a short-term repayment plan based upon an evaluation of an incomplete application;

(8) Clarify that servicers may stop collecting documents and information from a borrower pertaining to a loss mitigation option after receiving information confirming that the borrower is ineligible for that option; and

(9) Address and clarify how loss mitigation procedures and timelines apply to a transferee servicer that receives a mortgage loan for which there is a loss mitigation application pending at the time of a servicing transfer.[5]

The proposed rules, including the proposed effective date, will be open for public comment for 90 days after its publication in the Federal Register.

These proposed rules, particularly as they pertain to loss mitigation, may present operational challenges for mortgage servicers. The revised notice requirements and additional loss mitigation obligations may result in significant increased litigation and compliance costs.

[1] The Bureau has proposed that the amendments applicable to the periodic statement requirement for certain bankrupt borrowers should take effect one year after publication.

[2] In addition to the areas addressed herein, the Proposed Rules include: (1) a definition of the word “delinquency,” (2) new requirements pertaining to force-placed insurance, (3) clarification of the “early intervention” requirements for loss mitigation, (4) guidance regarding payment crediting and application for borrowers under temporary or permanent loan modifications, and (5) changes to the definition of “small servicer.”

[3] The term “Mortgage Servicing Rules” as used herein refers to the Bureau’s January 2013 final rules pursuant to the Dodd-Frank Wall Street Reform and Consumer Protection Act, Public Law 111-203, 124 Stat. 1376 (2010), as amended in 2013 and 2014. See 78 FR 44685 (July 24, 2013), 78 FR 60381 (Oct. 1, 2013), 15 U.S.C. 1692 et seq, 78 FR 62993 (Oct. 23, 2013).

[4] 12 CFR § 1024.36(d).

[5] The proposed rule would cover the transfer of mortgages between servicers during the loss mitigation process. In a voluntary transfer, the new servicer would be required to observe the date the borrower’s loss mitigation application became complete with the prior servicer. The new servicer would be provided an additional five days to provide the acknowledgment notice. However, for an involuntary transfer, the new servicer would be provided at least 15 days to evaluate the transferred loss mitigation applications.

 

 

U.S. Regulators Approve Risk Retention Rules For Mortgage Backed Securities

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By: Daniel A. Cozzi

On October 22, 2014 The Office of the Comptroller of the Currency, Treasury; Board of Governors of the Federal Reserve System; Federal Deposit Insurance Corporation; U.S. Securities and Exchange Commission; Federal Housing Finance Agency (FHFA); and Department of Housing and Urban Development adopted rules to implement the credit risk retention requirements of the Dodd-Frank Wall Street Reform and Consumer Protection Act. The Dodd-Frank Act, enacted in 2010, requires the implementation of stricter rules governing mortgage-backed securities. The adopted rules seek to balance the importance of the securities market in providing credit to homeowners with appropriate underwriting standards, in light of the 2008 financial crisis. (“During the financial crisis, securitization transactions displayed significant vulnerabilities arising from inadequate information and incentive misalignment among various parties involved in the process.”) See Joint Final Rule to implement the requirements of section 941 of the Dodd–Frank Act.

Under Dodd-Frank, firms which issue mortgage-backed securities must retain a portion of the risk or demonstrate that the mortgages are held by borrowers with an ability to repay the debt. These risk retention requirements are meant to ensure that lenders retain some “skin in the game.” The rules require that lenders retain 5% of the risk associated with mortgages packaged as securities or comply with Consumer Financial Protection Bureau rules governing borrower debt-to-income ratios. The latter exception would require that lenders verify that a borrower can repay the debt and comply with other requirements, such as verification that the borrower’s debt payments do not exceed 43% of his or her income.

The new rules go into effect in the Fall of 2015 and will only impact the market for private securities. Securities sold to Fannie Mae and Freddie Mac are exempt from the new rules.

Ninth Circuit Holds that Putative TCPA Class Action Is Not Subject to Arbitration Clause in Shrinkwrap Contract

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By Joe Patry

The Ninth Circuit recently held that a putative class action asserting violations of the federal Telephone Consumer Protection Act (“TCPA”) was not subject to arbitration because the representative plaintiff was unaware of the purported contract containing the arbitration provision.

In Knutson v. Sirius XM Radio Inc., No.12-56120 (9th Cir. Nov. 10, 2014), the plaintiff purchased a new Toyota that came with a 90-day trial subscription to Sirius XM satellite radio. After the plaintiff received the trial subscription, he received a Welcome Kit containing a Customer Agreement, which included an arbitration clause containing a class action waiver. Although the Customer Agreement in the Welcome Kit indicated that he had three days after the activation of his subscription to determine whether to cancel the subscription or it would automatically continue, the Welcome Kit arrived long after the three-day period had expired. The plaintiff did not contact Sirius XM either to continue or terminate his subscription.

During the 90-day trial subscription, he received three unauthorized telemarketing calls from Sirius XM on his cell phone, and brought a putative class action alleging violations of the TCPA. In response to the putative class action, Sirius moved to compel arbitration. The plaintiff opposed the motion, claiming that the Customer Agreement was not binding because he received it more than a month after the three-day cancellation period expired and, as a result, there was no mutual assent to the terms of the Customer Agreement. Sirius XM contended that the Customer Agreement was binding and thus the plaintiff was required to arbitrate the dispute. The trial court dismissed the case and granted Sirius XM’s motion to compel arbitration.

On appeal, the plaintiff argued that he had not entered into a binding contract with Sirius XM because there was no mutual assent to enter into the Customer Agreement, since he was not given the opportunity to accept or reject the Customer Agreement. Sirius XM asserted that after Knutson received the Customer Agreement, he had the opportunity to both review it and to notify Sirius XM if he wished to cancel his subscription, but that he had not done so. The Ninth Circuit rejected Sirius XM’s arguments, noting courts may decline to enforce these agreements if there are legal or equitable grounds to do so. Mutual assent is a principle to any contract and a party cannot be required to arbitrate a dispute if the party had not agreed to do so as part of the contract. Here, the plaintiff never agreed to the arbitration clause because he was not given the opportunity to accept or reject the Customer Agreement. Further, the Customer Agreement was within the Welcome Kit, which the plaintiff had not opened and read. The plaintiff believed that the Sirius XM trial subscription was a complimentary service for marketing purposes, and he did not know that he was entering into a contractual relationship with Sirius XM. The Court found that a reasonable person who had purchased a Toyota would not think that they had entered into a binding contract with another company, such as Sirius XM.

The Ninth Circuit also indicated that, although a “shrinkwrap agreement” (where a consumer buys a product before getting the detailed terms of the contract) is generally enforceable and a party cannot generally avoid the terms of a contract by failing to read the contract before signing it, this does not apply when the writing does not appear to be a contract and the terms are not conspicuous. Further, a “shrinkwrap agreement” is between the customer and the service provider. Here, the plaintiff had no idea that he was entering into a contract with Sirius XM, since the terms of the Customer Agreement were contained in the Welcome Kit, which the plaintiff did not think he needed to read. Because the plaintiff was not aware that he had entered into a purportedly binding contract with Sirius XM, the arbitration clause in the Customer Agreement was unenforceable.

The Ninth Circuit heavily relied on Schnabel v. Trilegiant Corp., 697 F.3d 110 (2d Cir. 2012), a Second Circuit Court of Appeals case that interpreted California law regarding the enforceability of arbitration clauses. In Schnabel, the plaintiffs clicked on a website, which indicated they had received a “Special Award.” In small print, the website advised that the customer would receive membership information and that there was no obligation to continue to receive benefits, but the plaintiffs’ credit cards were automatically charged until they cancelled their membership. Similar to Knutson, the Schanbel plaintiffs claimed that they did not intentionally or knowingly enroll into the discount service; however, unlike Knutson, the Schnabel plaintiffs entered their information into a separate enrollment form and had to click on a “Yes” button to indicate that they had read the terms and conditions of the discount membership website, which included an arbitration provision. The Second Circuit found that the arbitration provision was unenforceable because the plaintiffs received the terms of the contract after they enrolled in the service; there was no prior commercial relationship between the parties that would have suggested that terms sent after the initial enrollment would become part of their agreement with that merchant. Further, automatically charging the plaintiff’s credit cards was too “passive” to show that the plaintiffs had understood and agreed to be bound by the terms of the arbitration provision.

The Ninth Circuit found that Knutson had done even less than the Schnabel plaintiffs to manifest intent to enter into a binding contract, as he did not affirmatively enroll into a subscription service with Sirius XM, nor did he indicate that he had read the terms of the Customer Agreement. Thus, Knutson could not assent to Sirius XM’s arbitration provision because he did not know that he was entering into a contract with Sirius XM. Accordingly, the Ninth Circuit reversed the dismissal of the case and the granting of the motion to compel arbitration.

Based on Knutson, companies selling products or services to consumers with “shrinkwrap agreements” should take steps to conspicuously disclose the terms of such agreements. Consumers should receive explicit disclosures that purchasing the product or using a trial or gift subscription for a different product or service may cause a binding contract to be formed. In addition, consumers should be made aware that the product being purchased includes provisions that will control any future disputes based on the product.

Borrowers Judicially Estopped from Asserting Claims in their Mortgagee’s Chapter 11 Bankruptcy Proceeding Due to Failure to Disclose Such Claims in Borrowers’ Own Chapter 7 Proceeding

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By:  Shane M. Biffar

On November 18, 2014, the Bankruptcy Court of the Southern District of New York issued an opinion and order finding, inter alia, that two residential mortgage borrowers are judicially estopped from bringing claims against debtor GMAC Mortgage, LLC (“GMAC”) in its chapter 11 proceeding because the factual events underlying the claims preceded the borrowers’ own chapter 7 bankruptcy case and the borrowers never disclosed the claims as assets in their bankruptcy case.  In re Residential Capital, LLC, et al., Case No. 12-12020 (MG) (Bankr. S.D.N.Y. July 24, 2014).

The claims the borrowers sought to assert in the chapter 11 proceeding were predicated on GMAC’s conversion from a corporation to a limited liability company by merger in October, 2006 (the “Conversion”).  The borrowers alleged violations of federal and Illinois state law relating to GMAC’s foreclosure on their residential mortgage loan following the Conversion.  Specifically, the borrowers alleged that GMAC foreclosed their mortgage loan without providing notice that the loan had been “transferred,” as required by the Real Estate Settlement Procedures Act (“RESPA”).  As a result of the alleged RESPA violation, the borrowers claimed that GMAC’s foreclosure of their mortgage was wrongful, causing the Borrowers considerable damages, including lost value of their home, moving expenses, living expenses, and other “personal harms.”

The Bankruptcy Court’s decision disallowed and expunged the borrowers’ claims by invoking Section 521(1) of the Bankruptcy Code and the doctrine of judicial estoppel.  Section 521(1) requires a debtor in a bankruptcy proceeding to disclose all of her actual or potential assets, including any and all known causes of action.  See 11 U.S.C. §§ 521(1); 1306.  To invoke judicial estoppel in the Second Circuit, “(1) the party against whom it is asserted must have advanced an inconsistent position in a prior proceeding, and (2) the inconsistent position must have been adopted by the court in some matter.” Peralta v. Vasquez, 467 F.3d 98, 205 (2d Cir. 2006).  Judicial estoppel does not apply where the inconsistent statement in the first proceeding was the product of a “good faith mistake or an unintentional error.” Ibok v. Siac-Sector, Inc. 2011 WL 293757, at *7 (S.D.N.Y. Feb. 2, 2011).

The Bankruptcy Court found that all of the factual allegations supporting the borrowers’ claims preceded their chapter 7 bankruptcy filing.  Specifically, the Conversion occurred in October 2006, the borrowers’ mortgage was referred to foreclosure in May 2010, GMAC foreclosed on the Loan in February 2011, and the borrowers commenced their chapter 7 proceeding in July 2011.  Further, the borrowers’ schedules of assets in their joint chapter 7 proceeding (1) failed to disclose any potential claims against GMAC, and (2) were relied upon by that court to calculate the discharge the borrowers ultimately received.  Accordingly, the borrowers’ claims were barred by the doctrine of judicial estoppel.

In reaching this decision, the Court discounted any possibility that the borrowers’ failure to list the causes of action in the chapter 7 proceeding was the product of a “good faith mistake or unintentional error.”  Indeed, the fact that the borrowers had scheduled certain potential causes of action against other parties as assets in the chapter 7 proceeding belied any possibility that the borrowers lacked knowledge of the significance of scheduling potential causes of action as assets.

The Bankruptcy Court further noted that even assuming the borrowers’ claims were not barred, the borrowers also failed to meet their burden on the merits.  Specifically, the Bankruptcy Court explained that a mortgage loan servicer that changes its name “d[oes] not violate sections 2605(b)-(c) of RESPA, which require transferor and transferee mortgage loan servicers, respectively, to notify the applicable borrower in writing of any transfer of loan servicing.”  Under RESPA, transfers between affiliates or resulting from mergers or acquisitions are not considered “transfers” requiring a RESPA notice if “there is no change in the payee, address to which payments must be delivered, account number, or amount of payment due.” See Madura v. BAC Home Loans Servicing L.P., 2013 WL 3777094, at *8-9 (M.D. Fla July 17, 2013) (citing 24 C.F.R. 3500.21(d)(1)(i)).

This decision highlights the importance of mining borrower’s prior bankruptcy filings when evaluating borrower claims that are subsequently asserted against a mortgage loan servicer.  Such filings may provide ammunition that bars a borrower’s claims.

New Jersey Bankruptcy Court Holds that Mortgage Was No Longer Enforceable and Borrower Was Entitled to a “Free House”

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By: Daniel A. Cozzi and Donna Bates

The United States Bankruptcy Court for the District of New Jersey recently held in In re Washington, No. 14-14573-TBA, 2014 WL 5714586 (Bankr. D.N.J. Nov. 5, 2014) that the mortgagee and mortgage servicer (“the Creditors”) are time-barred under New Jersey state law from enforcing either the note or the accelerated mortgage against the debtor, essentially entitling a defaulting borrower to a “free house.”[1]

The Court’s analysis focused on the issue of whether the Fair Foreclosure Act (“FFA”), N.J.S.A. § 2A:50-56.1(which governs statutes of limitations relative to foreclosure proceedings), and the Bankruptcy Code, specifically sections 11 U.S.C. §§ 502(b)(1) and 506(d) (which deal with allowable claims), operate to make the mortgage unenforceable because the creditor waited too long to institute a foreclosure after the maturity date of the loan was accelerated because the borrower defaulted.

Borrower Gordon Washington (“Debtor” or “Washington”) purchased a three-family home in Morris County, New Jersey, on February 27, 2007, paying a $130,000 deposit and obtaining a 30-year mortgage and note for $520,000 with the first payment due on April 1, 2007. In re Washington, *2. Debtor failed to make the July 1, 2007 mortgage payment, and the loan went into default and remained in default since that time. Id. On December 14, 2007, the Creditors filed a foreclosure complaint in the Superior Court of New Jersey, Chancery Division. Id. at *3. The Complaint alleged that “[p]laintiff herein, by reason of said default, elected that the whole unpaid principal sum due on the aforesaid obligation and mortgage …. shall be now due.” Id. at *5. On October 28, 2010, the Office of Foreclosure returned the foreclosure judgment package to the creditors for deficiencies, notably, failure to produce an attorney certified copy of the Note and Mortgage. Id. at *6. On July 5, 2013, the Superior Court Clerk’s Office issued an Order dismissing Creditors’ foreclosure complaint for lack of prosecution, without prejudice. Id. The foreclosure was not re-filed, and on March 12, 2014, Debtor filed a petition for Chapter 7 bankruptcy. Id. On March 18, 2014, Debtor filed an adversary complaint to determine the validity of the mortgage lien on the property. Id. at *3.

Each party moved for summary judgment in the adversary proceeding. Id. at *1. Debtor argued that the 6-year statute of limitations applicable to negotiable instruments set forth in New Jersey’s Uniform Commercial Code (“UCC”), N.J.S.A. § 12A:3-118(a), had expired and thus Defendants were out of time to sue on the mortgage note. Id. Debtor also argued that the FFA similarly had a 6-year statute of limitations, because it required that a residential mortgage foreclosure must be commenced within “[s]ix years from the date fixed for the making of the last payment or the maturity date set forth in the mortgage or the note, bond or other obligation secured by the mortgage . . .” N.J.S.A. § 2A:50-56.1(a)In contrast, the Creditors argued that they had “[t]wenty years from the date on which the debtor defaulted . . .”of to file a foreclosure action as set forth in § 2A:50-56.1(c) of the FAA, and since that time had not expired they may still foreclose on the mortgage.

The Court’s opinion focused on the narrow issue of whether “N.J.S.A. § 2A:50-56.1(a) and 11 U.S.C. §§ 502(b)(1) and 506(d) operate to make the mortgage unenforceable, to disallow the Defendants’ claim, and to void the mortgage lien so that the Defendants have no claim against the Debtor, the property or the estate.” Id. In its analysis, the Court reviewed N.J.S.A. § 2A:50-56.1, which states in relevant part the following:

An action to foreclose a residential mortgage shall not be commenced following the earliest of :

  1. Six years from the date fixed for the making of the last payment or the maturity date ….;
  2. Thirty-six years from the date of the recording of the mortgage ….
  3. Twenty years from the date on which the debtor defaulted … as to any of the obligations or covenants contained in the mortgage…

The Court reviewed N.J.S.A. § 2A:50-56.1(a) and determined that, in this case, the maturity date for the subject loan had been accelerated to either July 1, 2007 (the date of default), or December 14, 2007 (the date of the filing of the foreclosure complaint). In re Washington, *12.     Id. The mortgage had an original maturity date of the year 2037. However, the Court found that the maturity date had been accelerated to the year 2007 [2] and held that, because the maturity date was accelerated by the Creditor, the applicable statute of limitations is six years (and not the twenty years set forth in § 2A:50-56.1(c)), which statute of limitation runs from the date of the accelerated maturity date. Since the accelerated maturity date in this case was either July 1, 2007 or December 14, 2007, the foreclosure had to be commenced no later than July 1, 2013 or December 14, 2013, which it was not. In re Washington, *12.    The Court noted that even though the foreclosure complaint was originally filed on December 14, 2007, it was dismissed in 2013, was never reinstated, and neither Debtor nor Creditors took any action under the mortgage instruments or the FFA to de-accelerate the maturity date.[3] The Court held that therefore the Creditors “are time-barred under New Jersey state law from enforcing either the note or the accelerated mortgage.”

The Court went on to determine that, because the Creditors could not foreclose on Debtor’s loan, Creditors’ proof of claim in bankruptcy also was barred because the underlying lien is unenforceable. The Court relied on11 U.S.C. § 502(b)(1), which states in pertinent part that, for disputed claims, the court shall determine the amount of the claim unless, “such claim is unenforceable against the debtor and property of the debtor, under any agreement or applicable law for a reason other than because such claim is contingent or unmatured.” The court also relied on 11 U.S.C. § 506(d), which states that if the claim underlying the lien is disallowed, the lien is void. [4]

In light of this decision, lenders should evaluate their loan portfolios for mortgages which have been in default for five (5) or more years. On a case by case basis, lenders may want to ensure that a mortgage foreclosure has been filed on the property, and if one has not been filed, expedite the foreclosure filing process to avoid running afoul of the six-year statute of limitations. Lenders should also exercise caution in dismissing foreclosures without prejudice while the loan is in default. The mortgage and note may be rendered void and unenforceable if the foreclosure is not re-filed prior to the six year statute of limitations.

[1] The Court expressed its distaste for rendering a decision that retreated from the long standing admonition that “No one gets a free house.” Nevertheless, it opined that the current statutes and the facts of the case warranted summary judgment in favor of the Debtor.

[2] In determining that the maturity date had been accelerated, the Court referenced the language in an Assignment of Mortgage, effective November 12, 2007, that listed the accelerated balance as the amount due as of June 1, 2007, as well as the allegations contained in the December 14, 2007 foreclosure complaint, which stated that the Plaintiff has elected that the whole unpaid principal balance and all interest and advances made were now due. In re Washington, *8-9. It was not relevant to the Court’s decision whether the original maturity date was accelerated to the date of default or the date the foreclosure complaint was filed, because in either case, the statute of limitations had clearly expired.

[3] The Court noted that the Creditors argued at the September 30, 2014 hearing that a foreclosure complaint filed now would “relate back” to the original complaint filed on December 14, 2007. The Court did not specifically rule on this issue, but merely noted that Debtor opposed that argument.

[4] Even though this case involves a bankruptcy and denial of a proof of claim, the same New Jersey statutes and analysis would apply to determine if a creditor is precluded from foreclosing on a property because the statute of limitations has expired.

Third Circuit Affirms Dismissal of RESPA Class Action against Bank of America

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By: Louise Bowes Marencik

In Riddle v. Bank of America Corporation, et al., the United States Court of Appeals for the Third Circuit recently affirmed a lower court’s dismissal of a putative class action suit against Bank of America because the borrowers’ claims under Section 8 of the Real Estate Settlement Procedures Act (“RESPA”) were time-barred. 2014 U.S. App. LEXIS 19730 (3d. Cir. Oct. 15, 2014).

The putative class plaintiffs purchased homes in 2005 with mortgages obtained from Bank of America, and were required to obtain private mortgage insurance in connection with their loans. In 2012, the borrowers received advertisements from their legal counsel regarding possible causes of action they may have related to their private mortgage insurance. Although the borrowers had not previously investigated the reinsurance arrangement in connection with their mortgage insurance, they brought suit against Bank of America, alleging that the reinsurance arrangement between the bank and the insurer was in violation of RESPA.

The United States District Court for the Eastern District of Pennsylvania held that the plaintiffs’ claims were time-barred by RESPA’s one-year statute of limitations. The District Court also held that their claims did not meet the requirements for equitable tolling because the borrowers did not exercise reasonable diligence in investigating their claims, and the defendants did not mislead the plaintiffs.

On appeal, the Third Circuit affirmed the District Court’s decision, on the basis that the plaintiffs did “absolutely nothing” to investigate the reinsurance of their mortgage insurance during the seven-year period between when their claims arose and when they brought suit. The Court also noted that although the plaintiffs’ lack of reasonable diligence was a sufficient basis on which to deny equitable tolling, there was also inadequate evidence that the defendants misled the plaintiffs.

Third Circuit Holds that Envelope Revealing Consumer’s Account Number Violates the FDCPA

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By:      Daniel A. Cozzi and Diana M. Eng

The Third Circuit Court of Appeals recently held that an envelope revealing a consumer’s account number through a clear plastic window constitutes a violation of the Fair Debt Collection Practices Act (“FDCPA”). In doing so, the Third Circuit reversed the District Court of the Eastern District of Pennsylvania’s holding that the disclosure of a consumer’s account number is not a “benign” disclosure and thus constitutes a violation of § 1692f(8) of the FDCPA.

In Douglas v. Convergent, the Third Circuit addressed the issue of whether “the disclosure of a consumer’s account number on the face of a debt collector’s envelope violates § 1692f(8) of the Fair Debt Collection Practices Act.” Douglass v. Convergent Outsourcing, No. 13-3588, 2014 WL 4235570 (3d Cir. Aug. 28, 2014); 15 U.S.C. § 1692 et seq.

The FDCPA prohibits debt collectors from using “unfair or unconscionable means to collect or attempt to collect any debt.” 15 U.S.C. § 1692f. Further, Section 1692f(8) specifically limits the language that debt collectors may place on envelopes sent to consumers:

Using any language or symbol, other than the debt collector’s address, on any envelope when communicating with a consumer by use of the mails or by telegram, except that a debt collector may use his business name if such name does not indicate that he is in the debt collection business. (Emphasis added).

On May 16, 2011, Plaintiff/Appellant Courtney Douglass (“Plaintiff” or “Douglass”) received a debt collection letter from Convergent Outsourcing (“Convergent”) regarding the collection of a debt that Douglass allegedly owed to T-Mobile USA. The name Convergent, followed by Convergent’s account number for the alleged debt were visible on the letter, and through the clear plastic window of the envelope. In addition, the “quick response” (“QR”) code, which, when scanned, reveals the name Convergent, the account number and the monetary amount of Douglass’s alleged debt, was also visible through the envelope window.[1]

Douglass filed a lawsuit in the United Stated District Court for the Eastern District of Pennsylvania, alleging that Convergent violated the FDCPA by including a QR code and account number in a location visible through the clear plastic window of a collection letter sent to Douglass. Convergent moved for summary judgment, arguing that displaying such information in the window of the envelope was benign. The District Court granted summary judgment in favor of Defendant Convergent under a “benign language” exception. Douglass v. Convergent Outsourcing, 963 F. Supp. 2d 440 (E.D. Pa., 2013). The “benign language” exception to Section 1692f(8) is a judicially created exception to Section 1692f(8), which allows a court to forgive a technical violation of Section 1692f(8) if the violation is benign in nature. The District Court reasoned that although Convergent may have technically violated § 1692f(8), a strict interpretation of the statute would contradict Congress’ true intent.

To reach this conclusion, the District Court cited to Waldron v. Professional Medical Management, which held that a literal application of § 1692(8) “would produce absurd results.” No. 12-1863, 2013 WL 978933 (E.D. Pa., March 13, 2013). The District Court and the Waldron court relied on similar applications of the “benign language” exception to Section 1692f(8) in the Fifth Circuit, Eighth Circuit, District of Connecticut and the Central District of California.[2] Ultimately, the District Court held that “the mere presence of an account number does not show that the communication is related to a debt collection and “[i]t also could not reasonably be said to ‘humiliate, threaten, or manipulate’ the debtor.” Douglass v. Convergent Outsourcing, 963 F. Supp. 2d at 446. Further, the District Court found that “[s]ince the ‘random series of letters and numbers’ revealed through the QR code does not ‘clearly refer to a debt,’ or ‘tend to humiliate, threaten, or manipulate’” the consumer, Convergent did not violate the FDCPA. Id. at 448. Accordingly, the District Court granted summary judgment in favor of Convergent.

Douglass appealed the order granting summary judgment. On appeal, Douglass argued that an unambiguous reading of § 1692(8) explicitly bars the disclosure of account numbers. Douglass v. Convergent Outsourcing, 13-3588, 2014 WL 4235570 (3d Cir. Aug. 28, 2014). Convergent maintained that a plain reading of § 1692(8) would lead to absurd results and thus its disclosure of Douglass’ account number is allowed under a “benign language” exception. Id. at *3. In response, Douglass argued that, even if a “benign language” exception applies, the disclosure of an account number is never benign. Id.

The Third Circuit found that “the plain language of § 1692f(8) does not permit Convergent’s envelope to display an account number” but declined to evaluate whether Section 1692f(8) allows for a “benign language” exception. Instead, the Third Circuit determined that a debt collector’s account number is never benign. Id. at *4. Specifically, the Third Circuit held that “[t]he account number is a core piece of information pertaining to Douglass’s status as a debtor and Convergent’s debt collection effort. Disclosed to the public, it could be used to expose her financial predicament. Because Convergent’s disclosure implicates core privacy concerns, it cannot be deemed benign.” Id. Based on these considerations, the Third Circuit found that “Douglass’s account number is impermissible language or symbols under § 1692f(8)” in violation of the FDCPA. Id. at *6.

On September 10, 2014, Convergent filed a Petition for Rehearing En Banc or Panel Rehearing.     

In light of this decision, entities collecting consumer debt should avoid the use of account numbers and/or QR codes on envelopes or within the viewing area of clear plastic envelope windows. Revealing such information on envelopes or through clear plastic envelope windows may expose debt collectors to liability under the FDCPA.

[1] A “QR” Code is a barcode like image which can be read from a Cell Phone.

[2] Strand v. Diversified Collection Serv., Inc., 380 F.3d 316, 318–19 (8th Cir. 2008); Goswami v. Am. Collections Enter., Inc., 377 F.3d 488, 494 (5th Cir. 2004); Lindbergh v. Transworld Sys., Inc., 846 F. Supp. 175, 180 & n. 27 (D. Conn. 1994); Masuda v. Thomas Richards & Co., 759 F. Supp. 1456, 1466 (C.D. Cal. 1991).