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Forensic Loan Audit Sample Report document sample
Document Sample
Forensic Audit Report
August 23, 2009
PREPARED FOR:
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
1
TABLE OF CONTENTS
Advisory Letter …………………………………………………………………………. 3
Introduction …………………………………………………………………………….. 4
Report Summary ……………………………………………………………………...… 5
Summary of Loan Terms ……………………………………………………………….. 6
Financial & Underwriting Analysis …………………………………………………….. 7
Truth in Lending Act Analysis …………………………………………………………. 8
HOEPA/AZ. Fin. Code §4970 Analysis ………………………………………………... 11
RESPA Analysis ………………………………………………………………………... 12
Predatory Indicators …………………………………………………….………………. 13
Additional Legal Claims Analysis ………………………………………….…...……… 14
Equal Credit Opportunity Act (Discrimination) …………………………………...... 14
Fraud ………………………………………………………………………………… 15
Civil Code §§ 1916.5-1916.7 ……………………………………………………….. 15
Civil Code §§ 1918-1921 …………………………………………………....…….… 16
Civil Code § 1632 ……………………………………………………………..…….. 16
Unfair/Deceptive Business Practices ……………………………………..…….…… 17
Breach of Contract …………………………………………………………………... 17
Breach of Implied Covenant of Fair Dealing ……………………………………….. 18
Breach of Fiduciary Duty ...…………………………………………………………. 18
Unjust Enrichment …………………………………………………………………… 19
Unconscionability ………………………………………………………………….... 19
Civil Conspiracy ………………………………………………………………….…. 20
Fair Debt Collection Practices Act ………………………………………………….. 20
Business & Professions Code § 10241.3 ……………………………………………. 21
Appendices
App. A: Real Estate Market Overview & Loan Modification Strategy ………………… 22
App. B: Predatory Lending Overview ………………………………………………….. 24
App. C: MERS, Securization, Legal Standing and Other Foreclosure Defenses ………. 27
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
2
August 24, 2009
Mr. & Mrs. Doe
1122 Any Street
Any Town, USA 00001
Re: Forensic Audit
Dear Borrower(s):
The loan transaction for the above-referenced property has been audited for violations of
the Truth in Lending Act [16 U.S.C. §1601] (“TILA”), Home Ownership Equity Protection Act
[12 C.F.R. 226.32 et seq.] (“HOEPA”), ARIZONA Financial Code §4970 et seq., the Real
Estate Settlement Procedures Act [12 U.S.C. §2601] (“RESPA”), and to the extent applicable,
violations of other state and federal laws discussed below.
This report was based exclusively on the documentation provided by your loan servicing
company/lender. It also required that we make reasonable assumptions respecting certain loan
terms that, if erroneous, may result in material differences between our findings and the loan’s
actual compliance with applicable regulatory requirements. While we believe that our
assumptions provide a reasonable basis for the review results, we make no representations or
warranties respecting the appropriateness of our assumptions, the completeness of the
information considered, or the accuracy of the findings.
The contents of this report are being provided with the understanding that we are not providing
legal advice, nor do we have any legal relationship with anyone other than you and only to the
extent of performing the audit. This report has been prepared for you and only you in accordance
with the terms of our agreement and for no other purpose. We do not, in providing this report,
accept or assume responsibility for any other purpose or to any other person to whom this report
is shown or into whose hands it may come unless expressly agreed by our prior consent in
writing.
Sincerely,
Jacob Adams
President
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
3
INTRODUCTION
The loan transaction for the above-referenced borrower/property has been audited for violations
of the Truth in Lending Act [16 U.S.C. §1601] (“TILA”), Home Ownership Equity Protection
Act [12 C.F.R. 226.32 et seq.] (“HOEPA”), ARIZONA Financial Code §4970 et seq., the Real
Estate Settlement Procedures Act [12 U.S.C. §2601] (“RESPA”), and to the extent applicable,
violations of other laws and/or statutes discussed below.
ORIGINAL MORTGAGE MORTGAGE SERVICER: MORTGAGE
LENDER/TABLE FUNDER: NOMINEE/BENEFICIARY:
Alliant Credit Union, ISAOA Alliant Credit Union MERS
4801 Frederica Street 11545 W. Touhy Avenue Mortgage Electronic Registration
Systems, Inc.
Owensboro, KY 42301 Chicago, IL 60666
P.O. Box 2026
Flint, MI 48051
(Unverified/Revert)
ACU
MORTGAGE BROKER: MORTGAGE TRUSTEE: SECURITIZATION:
Alliant Credit Union Mark Boose Alliant Credit Union
Jennifer R. Doe 2525 East Camelback Rd. 4801 Frederica Street
11545 W. Touhy Avenue Phoenix, AZ 85016 Owensboro, KY 42301
Chicago, IL 60666
(270) 111-1111
This analysis was performed based upon a review of the relevant documents provided as follows:
• Loan Application • Appraisal
• Underwriting and Transmittal • HUD-1
• Summary (Form 1008) • ARM Rider
• Good Faith Estimate • Deed of Trust
• Truth in Lending Disclosure Statement
Documents requested that were not provided: Notice of Right to Cancel, Promissory Note,
payment history, RESPA, and proof of eligibility for 1003. Loan was stated and no documents
were used for verification (VOE, VOI).
Payment Default Status: No mortgage statements were provided. No other information to
determine whether borrowers are currently in default.
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
4
REPORT SUMMARY
Total TILA/HOEPA/RESPA Violations: 4
Potential Discrimination & Other Claims: 4
CLAIM PASS/FAIL DETAILS
Underwriting FAIL See page 7
High Cost FAIL See page 8
APR Tolerance Test FAIL See page 8
Finance Charge Tolerance FAIL
Right of Rescission FAIL See page 8
Predatory Indicators FAIL See page 13
Civ. Code §§ 1916.5-1916.7* PROBABLE See page 15
Civ. Code §§ 1918-1921* PROBABLE See page 16
Discrimination* FAIL
Civil Code § 1632* POSSIBLE See page 16
Fraud* POSSIBLE See page 15
Other State Claims* POSSIBLE
Overall-assessed weight of violations and legal claims (Scale 1-10): 8
*(Probability of Violations Ratings: No Evidence, Possible, or Probable)
Special Note(s):
• It should also be noted that it appears that Borrower paid $371,000.00 toward the
purchase of a property that subsequently was appraised by an appraisal company that was
hired through the bank. The appraisal amount requested from bank to the seller prior to
inspection of the residence was $369,000.00. This may be considered illegal mortgage
fraud (flipping mortgages). Further research is being conducted with original seller, Ben
and Sara Harkins.
• Buyers are Serbian and there is no evidence that they were offered translation services or
documents provided in their native language. Extreme probability of RESPA violations.
• ARM Handbook not provided. No evidence stating that it was offered and denied or
otherwise waived by borrowers. Extreme probability of RESPA violations.
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
5
• Notice of Right to cancel- No copies provided at all. No evidence stating that it was
offered and denied or otherwise waived by borrowers. Extreme probability of RESPA
violations.
SUMMARY OF LOAN TERMS
The essential loan terms were found to be as follows:
• Type of Loan: ARM
• Loan Origination Date: 02/21/2007
• Loan Amount: $369,310.39
• Adjustable rate (ARM) terms:
i) Initial Fixed Rate: 6.500%
ii) Term of Initial Rate: 5/1
iii) Initial Payment: $2,401.85
iv) Payment Feature: 5 YEAR LPMI
v) Index: LIBOR
vi) Index Rate: 5.875 (08/09)
vii) Margin: 6.250%
viii) Fully Indexed Rate: 11.375%
ix) Min/Max Rate: 3.875% - 10.875%
x) TILA disclosed APR: 7.064%
• Total Closing Costs (HUD line 103): $310.00
• Total “Points & Fees”: 4.5%
• Prepayment Penalty (% of balance): N/A
• Unsecured Debt Paid Off by Refinance: N/A
• Loan Origination Fee: $950.00
• Loan Discount Fee: $0.00
• Total Broker Fees (% of loan): $16,605.00 (4.525%)
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
6
FINANCIAL & UNDERWRITING ANALYSIS
Underwriting Standards
The purpose of an underwriter is to determine whether the borrowers can qualify for a loan and if
the borrowers have the ability to repay the loan. This determination of the ability to repay a loan
is based upon employment and income in large measure, which is proved by getting pay stubs,
1040’s, W-2’s and a Verification of Employment and Income on the borrowers.
If an underwriter has evaluated the loan properly, then there should be no question of the ability
of the borrower to repay the loan. Debt ratios will have been evaluated, credit reviewed and a
proper determination of risk made in relation to the loan amount. Approvals and denials would
be made based upon a realistic likelihood of repayment.
Automated Underwriting Systems
The underwriter’s role in approving loans has been delegated to a support role in the past decade.
Automated Underwriting Systems became the normal approval method. An underwriter or even
a loan officer would simply input the data and the Automated System would give an approval or
denial. Any documents requested would be gathered and then loan documents drawn and signed.
The real issue with the automated systems is that they were not designed to be the “final word”
in approval. The system approval was designed to be a guide, a preliminary approval and nothing
more. After approval was received, the underwriter would then be expected to extensively
review the file, closely examining the documents for final approval.
DISCUSSION: Borrower’s financial status at the time of the loan is taken from the loan
application and an interview with borrower. Borrower indicates that broker took borrower’s
information over the phone. Per the borrower, the loan documents and income verification were
not provided until closing and reflects a larger income than borrower provided to broker
($7,960.61). The loan application reflects total income as $9,724.63 per month. An analysis of
borrower’s financial status at the time of the loan reveals the following:
Gross Mortgage Other Total Monthly Debt-to
Monthly Payment Monthly Debt income
Income Debt ratio
Present $7,960.61 $2,185.00 $4,207.00 $6,392.00 81.520%
Proposed $9,724.63 $2,491.10 $4,207.00 $6,698.10 68.250%
*Initial 5-yr payment only (full ARM rate payment $ 3,479.26)
CONCLUSION: Lender’s underwriting standard far exceeded normal underwriting practices of
33/41%. During 2007 to 2008, subprime lending involved higher DTI ratios, from 33/38% to
38/50%. This loan exceeded that standard as well.
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
7
TRUTH IN LENDING ACT ANALYSIS
Application: The TILA applies because the transaction involves the extension of credit to a
consumer for personal, family or household purposes that is subject to a finance charge and/or
payable by written agreement in more than our installments. 15 U.S.C. §§ 1601-1666j.
PASS FAIL
X Notice of Right to Cancel (2 copies per borrower; filled out completely). 12 C.F.R. §
226.23(b).
X TIL Disclosure Statement provided. 12 C.F.R. §§ 226.17, 226.18.
X Payment Schedule correctly identified on TIL. 12 C.F.R. §§ 226.18(g), (h).
X Interest Rate consistent: Loan app v GFE v Commitment Letter v TIL
Timely and correctly make Good Faith Estimate (GFE). 12 C.F.R. §§ 226.19(a). Note:
X GFE required within 3 days of application: loan applications taken 2/14/07; GFE’s NOT
PROVIDED TO LENDER.
X “Consumer Handbook on Adjustable Rate Mortgages” (CHARM) provided within 3 days
of application.
Note: Other disclosures provided may nevertheless meet requirements for equivalency; 12
CFR § 226.19(b).
N/A Interest-only payment feature adequately disclosed. 15 U.S.C. §§ 1638, 12 C.F.R. §
226.17(c).
N/A Negative-amortization payment feature adequately disclosed. 15 U.S.C. §§ 1638, 12
C.F.R. § 226.17(c).
X Itemization of amount financed. 12 C.F.R. § 226.18(c).
X Property/Hazard Insurance disclosure provided (choice by consumer). 12 C.F.R. §
226.4(d)(2).
APR Calculation Loan is considered a High Cost Loan
{US Treasury Jan.12, 2007=5.380% At Consummation APR was 7.064%} Deviation
[1.684]
X
Note: An APR deviation is a material violation permitting the right of rescission if: (a) it
was a refinance, (b) within 3 years of the transaction1, and (c) outside the tolerance of
.125%, or .25% for irregular transactions. 12 C.F.R. § 226.22. See Note 1 below for
further discussion.
Finance Charge Calculation.
[disclosed $547,293.53 vs. actual $394,579.60] [Diff. = $152,713.40]
Note: A finance charge deviation is a material violation permitting the right of rescission
X
if: (a) it was a refinance, (b) within 3 years of the transaction, and (c) understated by either
(i) more than .5% of the loan (when not in foreclosure), or (ii) more than $35 (if in
foreclosure). A deviation of $100 otherwise permits statutory damages. 12 C.F.R. §§
226.18(d), 226.23. See Note 2 below for further discussion.
X Loan payment terms were not affordable to borrower. See Note 3 below for further
discussion.
X All disclosures accurately reflect the legal obligation between the parties; 15 U.S.C. §§
1638, 12 C.F.R. § 226.17(c).
Total Potential TILA Violations: 8
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
8
1 Can be equitably tolled under limited circumstances, i.e., fraudulent concealment, attempt to rescind within 3 years, and during
pendency of class action. See, for example, Walker v. WAMU, 63 Fed. Appx. 316 (9th Cri. 2003).2. The finance charge exceeds the amount listed
on the TIL. 3. According to the application the borrower could not afford these terms see RESPA (Section 32)
Further recommendations: None at this time.
Potential remedies for violations: The finance charge exceeds the amount that the borrower
should pay by $152,713.40. The right of rescission does apply in this case because the
transaction occurred less than three years ago. Rescission may nevertheless be available also due
to a violation of Civil Code §1632 or §1688 (fraud). Statutory (up to $2000) and actual damages,
as well as attorney’s fees, are available for the violations noted.
TILA NOTATIONS
1) Annual Percentage Rate
12 CFR § 226.22(a)(2) provides: “As a general rule, the annual percentage rate shall be
considered accurate if it is not more than 1/8 of 1 percentage point above or below the annual
percentage rate determined in accordance with paragraph (a)(1) of this section.” There is an
exception for “irregular transactions.” Under 12 CFR 226.22(a)(3): “In an irregular transaction,
the annual percentage rate shall be considered accurate if it is not more than 1/4 of 1percentage
point above or below the annual percentage rate determined in accordance with paragraph (a)( 1)
of this section.” See also, 12 CFR § 226.23(a)(3) for rescission. The APR has been
miscalculated i.e. {US Treasury Jan.12, 2007=5.380% At Consummation APR was 7.064%}
Deviation [1.684]
2) Finance Charge
12 CFR § 226.18(d) requires the disclosure of the finance charge amount. For purposes of
“mortgage loans,” 12 CFR § 226.18(d)(1) provides the following tolerance: “In a transaction
secured by real property or a dwelling, the disclosed finance charge and other disclosures
affected by the disclosed finance charge (including the amount financed and the annual
percentage rate) shall be treated as accurate if the amount disclosed as the finance charge:
is understated by no more than $100; or (ii) is greater than the amount required to be disclosed.”
The finance charge proves to be inaccurate by an amount of $152,713.40.
15 U.S.C. §1635(i) also provides: “RESCISSION RIGHTS IN FORECLOSURE.--(2)
TOLERANCE FOR DISCLOSURES.--Notwithstanding section 106(f), and subject to the time
period provided in subsection (f), for the purposes of exercising any rescission rights after the
initiation of any judicial or non-judicial foreclosure process on the principal dwelling of the
obligor securing an extension of credit, the disclosure of the finance charge and other
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
9
disclosures affected by any finance charge shall be treated as being accurate for purposes of this
section if the amount disclosed as the finance charge does not vary from the actual finance
charge by more than $35 or is greater than the amount required to be disclosed under this title.”
12 CFR § 226.23(g) provides: “Tolerances for accuracy.--(1) One-half of 1 percent tolerance.
Except as provided in paragraphs (g)(2) and (h)(2) of this section, the finance charge and other
disclosures affected by the finance charge (such as the amount financed and the annual
percentage rate) shall be considered accurate for purposes of this section if the disclosed finance
charge: (i) is understated by no more than ½ of 1 percent of the face amount of the note or $100,
whichever is greater; or (ii) is greater than the amount required to be disclosed. (2) One percent
tolerance. In a refinancing of a residential mortgage transaction with a new creditor (other than a
transaction covered by § 226.32), if there is no new advance and no consolidation of existing
loans, the finance charge and other disclosures affected by the finance charge (such as the
amount financed and the annual percentage rate) shall be considered accurate for purposes of this
section if the disclosed finance charge: (i) is understated by no more than 1percent of the face
amount of the note or $100, whichever is greater; or (ii) is greater than the amount required to be
disclosed.”
3) Ability to Pay
Engaging in a pattern or practice of extending such credit to a borrower based on the borrower's
collateral rather than considering the borrower's current and expected income, current
obligations, and employment status to determine whether the borrower is able to make the
scheduled payments to repay the obligation, is in violation of Section 129(h) of TILA, 15 U.S.C.
§ 1639(h), and Section 226.32(e)(1) of Regulation Z, 12 C.F.R. § 226.32(e)(1).
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
10
HOEPA AND ARIZONA FINANCIAL CODE §4970 et seq. ANALYSIS
Application: Neither statute applies as the actual APR [~11.2] does not exceed 8% over the
comparable yield on Treasury securities [~12.58], nor does the “total points and fees” exceed 8%
or 6%, respectively, of the loan amount.
PASS FAIL
X APR disclosed. 12 CFR 226.32(c)(2)
X 3 days prior to closing, the APR and disclosure statement similar to the
following: "You are not required to complete…” (HOEPA).
X 3 days prior to closing, disclosure: "CONSUMER CAUTION AND HOME
OWNERSHIP COUNSELING NOTICE…” (§4970).
X Disclosed the amount of the borrower’s regular monthly payment. 12 CFR
226.32(c)(3).
X If variable, includes a statement that the interest rate and monthly payment may
increase and the maximum payment that could be reached. 12 CFR 226.32(c)(4).
X No increase in the interest rate in the event of default. 12 CFR 226.32(d)(4).
X Disclosed amount of any balloon payment. 12 CFR 226.32(c)(3).
No prepayment penalty after first 5 years, source of funds is not refinance by
X creditor, and consumers total monthly is no more than 50% of DTI. 12 CFR
226.32(d)(7).
X No balloon payments prior to ten years. 12 CFR 226.32(d)(1)(i)-(iii).
X No negative amortization. 12 CFR 226.32(d)(2).
X No refinance within one year. 12 CFR 226.34.
X No prepaid payments. 12 CFR 226.32(d)(3).
The borrower’s ability to repay was adequately considered: pattern or practice of
X extending credit subject to 226.32 to a consumer without regard to consumer’s
ability to repay; presumption if extension of credit without verifying and
documenting repayment ability, i.e., stated income loans.
If refinance transaction, disclosed total amount borrowed and if the loan amount
NA includes premiums or other charges for optional credit insurance or debt
cancellation coverage, that fact shall be stated. 12 CFR 226.32 (c)(5).
Total Potential HOEPA/§4970 Violations: 7
Potential remedies for violations: All TILA remedies, plus all finance charges and fees if “material”violation, pursuant to 15 U.S.C. §1640(a)(4).
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
11
REAL ESTATE SETTLEMENT PROCEDURES ACT ANALYSIS
Application: The RESPA applies because lender regularly extends federally related mortgage
loans aggregating more than $1 million per year, and intended for the purchase of a one- to four-
family residential property. 12 U.S.C. §§ 2601-2617.
PASS FAIL
X Informed borrower of intention to transfer the servicing of the loan and/or failed
to inform the borrower of the actual transfer within fifteen (15) days before the
effective date of the transfer. 24 C.F.R. § 3500.21.
X Did not require deposit of funds in escrow in excess of the statutorily permitted
amounts. 24 C.F.R. § 3500.17.
X Provided the Special Information Booklet explaining the settlement costs within
three (3) business days after Plaintiff submitted his/her loan application. 24
C.F.R. § 3500.6.
X No fees charged for preparation of the settlement statement, escrow account
statement, and/or the TILA disclosure statement. 24 C.F.R. § 3500.12.
X Disclosed all affiliated business arrangements. 24 C.F.R. § 3500.15.
X Did not give, provide or receive a hidden fee or thing of value for the referral of
settlement business, including but not limited to, kickbacks, hidden referral fees,
and/or yield spread premiums. 24 C.F.R. § 3500.14.
X Adequately and timely responded to Plaintiff qualified written request. 24
C.F.R. § 3500.21.
Properly and timely paid for property taxes, insurance and other charges for
X which Defendants are collecting within an escrow impound account; or other
servicing violations. 24 C.F.R. § 3500.17.
X HUD-1 provided and accurate. 24 C.F.R. § 3500.8(b).
X No fees charged in excess of the reasonable value of goods provided and/or
services rendered.
Total Potential RESPA Violations: 3
Further recommendations: QWR/discovery re: mortgage servicing for potential servicing
violations or breach of contract.
Potential Remedies for Violations: Actual damages, statutory (up to $1000 if show pattern and
practice), and treble damages for excessive portion of fees (above), plus attorney’s fees and
costs.
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
12
PREDATORY LOAN INDICATORS
“Predatory lending” is a general term used to describe unfair, deceptive, or fraudulent practices
of lenders during the loan origination process. Predatory lending is often a combination of
several factors that can only be evaluated in the context of the overall lending transaction.
Typically, no single factor can be relied upon to consider it a predatory loan.
A large number of agencies and consumer organizations recognize predatory lending, including,
for example, the Department of Housing and Urban Development, Federal Deposit Insurance
Corporation, National Consumer Law Center, Arizona Department of Real Estate, Fannie Mae,
National Association of Consumer Advocates, Association of Community Organizations for
Reform Now, National Home Equity Mortgage Association, and Center for Responsible
Lending.
The predatory lending factors present in the subject transaction were found to be as follows:
PASS FAIL
X Solicitation for refinance.
X Mortgage broker and corresponding lender involved.
X Borrower was a minority and/or the transaction was conducted in a foreign
language.
X Loan-to-value ratio above 80%.
X Debt-to-income ratio above 28/36%.
X Teaser rate involved
Interest rate was more than 2 points above either: 5.30% (2.77 margin) [average
X US 5/1 ARM rate] or 6.4% [average 30-year fixed]. (source: Freddie Mac
1/2007-12/2007)
X Excessive Closing Costs/Fees.
NA Prepayment Penalty – none.
NA Interest-Only Payments.
NA Negative Amortization Payments.
X Broker Compensation >4.5%
X Loan Flipping – refinance within 3 years of previous loan.
X Balloon Payments.
X Unsecured Debt Shifted to Secured – none.
X Unnecessary insurance and other products offered in closing.
X Mandatory arbitration clause in Note.
X Bait & Switch – borrower initially offered lower rate than final Note.
X Other unfair, deceptive, or fraudulent practices in transaction
Total Predatory Indicators: 8
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
13
ADDITIONAL LEGAL CLAIMS ANALYSIS
(Probability of Violations Ratings: No Evidence, Possible, or Probable)
Equal Credit Opportunity Act (discrimination) – Possible
The Credit Opportunity Act provides at Sec. 202.1 – Authority, scope and purpose:
(b) Purpose. The purpose of this regulation is to promote the availability of credit to all
creditworthy applicants without regard to race, color, religion, national origin, sex,
marital status, or age (provided the applicant has the capacity to contract); to the fact that
all or part of the applicant's income derives from a public assistance program; or to the
fact that the applicant has in good faith exercised any right under the Consumer Credit
Protection Act. The regulation prohibits creditor practices that discriminate on the basis
of any of these factors. The regulation also requires creditors to notify applicants of
action taken on their applications; to report credit history in the names of both spouses on
an account; to retain records of credit applications; to collect information about the
applicant's race and other personal characteristics in applications for certain dwelling
related loans; and to provide applicants with copies of appraisal reports used in
connection with credit transactions.
Additionally, at Sec. 202.4 – General Rule Prohibiting Discrimination:
1. Scope of section. The general rule stated in Sec. 202.4 covers all dealings, without
exception, between an applicant and a creditor, whether or not addressed by other
provisions of the regulation. Other sections of the regulation identify specific practices
that the Board has decided are impermissible because they could result in credit
discrimination on a basis prohibited by the act. The general rule covers, for example,
application procedures, criteria used to evaluate creditworthiness, administration of
accounts, and treatment of delinquent or slow accounts. Thus, whether or not specifically
prohibited elsewhere in the regulation, a credit practice that treats applicants differently
on a prohibited basis violates the law because it violates the general rule. Disparate
treatment on a prohibited basis is illegal whether or not it results from a conscious intent
to discriminate. Disparate treatment would be found, for example, where a creditor
requires a minority applicant to provide greater documentation to obtain a loan than a
similarly situated nonminority applicant. Disparate treatment also would be found where
a creditor waives or relaxes credit standards for a nonminority applicant but not for a
similarly situated minority applicant. Treating applicants differently on a prohibited basis
is unlawful if the creditor lacks a legitimate nondiscriminatory reason for its action, or if
the asserted reason is found to be a pretext for discrimination.
DISCUSSION: Borrowers are Serbian. There is no direct evidence of any discriminatory
conduct. However, the high interest rate and broker compensation and other charges may be
suspect for a borrower with good credit of 680+. Borrowers filled out forms in foreign language
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
14
and with assistance of lender directly. Borrowers signed no waiver of language barrier and one
borrower was not of U.S. Citizenship at the time of consummation.
Fraud – Possible
Deceit is defined in Civ. Code §§1709 and 1710, and fraud is defined in Civ. Code §§1572
(actual fraud) and 1573 (constructive fraud). Liability for actual fraud under Civ. Code §1572 is
limited to acts committed by or with the connivance of a party to a contract with the intent to
deceive another party to the contract and induce that party to enter into the contract.2
Civil Code §1689 provides that:
(a) A party to a contract may rescind the contract in the following cases:
(1) If the consent of the party rescinding, or of any party jointly contracting with him, was given
by mistake or obtained through duress, menace, fraud, or undue influence, exercised by or
with the connivance or the party as to whom he rescinds, or of any other party to the contract
jointly interested with such party.
DISCUSSION: No direct evidence of fraud. However, investigation with borrower revealed that
rate promised was 5.250% and broker did not mention higher 10.50% potential rate. Loan was
sold as a “good loan.” Loan documents were not provided in Serbian. Loan modification
agreement was not provided in Serbian and no mention of potential waiver of claims.
Arizona Civil Code §§ 1916.5-1916.7 – Probable
Civil Code §1916.5-1916.7 provides for certain disclosures required for variable rate loans.
DISCUSSION: All required disclosures were not evident in the file.
See also, the traditional elements of fraud are frequently more difficult to establish than a
deception claim under an Unfair Deceptive Acts and Practices (UDAP) statute. However, in
some instances fraud causes of action can be used quite effectively. People Trust & Saving Bank
v. Humphrey, 451 N.E. 2d 1104 (Ind. Ct. App. 1983). In this case, the consumers went to their
own bank for a home construction loan. The bank promised them a “good loan” at a 9.0250%
rate. That was merely the initial rate. The permanent financing was actually a variable rate loan
and included a clause that allowed the bank to demand full payment at their discretion. The court
held that “when parties to a contract have prior understanding about the contract terms, and the
party responsible for drafting the contract includes contrary terms and then allows the other party
to sign it without informing him of the changes, the drafter’s conduct is fraudulent.” The court in
Humphrey dismissed the lender’s foreclosure, reformed the contract by deleting the demand
and variable rate clauses, and awarded $1,000 actual and $40,000 punitive damages.; Greene v.
Gibraltar Mortgage Investment Corp, 488 F. Supp. 177 (D.D.C. 1980), 839 F.2d 680 (D.C. Cir.
1980). This was another misrepresentation case. The court found the failure to disclose an
unconscionably high broker fee and the lender’s charging of interest on that fee to be a
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
15
misrepresentation. The lender also falsely represented the loan amount and claimed to offer a
market interest rate. Accordingly, the court voided the promissory note and deed of trust and
permanently enjoined foreclosure proceedings; Mahaffe v. Investors National Security, 747 P.2d
890 (Nev. 1987). This case involved a common home improvement fraud. The borrowers were
promised home insulation which would cut fuel consumption in half, the borrower’s home would
be used for promotional purposes, and the total cost would be $5300. Work was begun before the
3 day cooling off period, but never completed; what was done was done improperly. The
contractors induced the borrowers to sign a completion certificate despite the incomplete work
by threatening them with “skyrocketing interest rates” and “troubles.” The assignee tried to
foreclose but the Nevada Supreme Court found the contract to be null and void because of the
fraudulent inducement and failure of consideration on the contractor’s part; First Charter
National Bank v. Ross, 29 Conn. App. 667, 617 A.2d 909 (1992). Fraud may also be available as
a defense when a borrower is tricked by a family member into signing mortgage documents. In
this case a wife was allowed to assert fraud as a special defense to foreclosure action when her
husband had given her loan documents to sign with the signature page on top, had discouraged
her from looking at the documents, and had told her that the documents had nothing to do with
their home. The court ruled that the defense of fraud was not barred by the general rule that a
person has a duty to read what they sign and that notice of the content of signed documents is
imputed. The court said the official rule does not apply when there is fraud and only applies if
nothing is said to mislead the person signing. It should be noted, however, that some courts have
refused to invalidate a mortgage when the fraud was committed by a party other than the lender
and the lender was not involved in or aware of the fraud. Family First Fed. Sav. Bank v. De
Vincentis, 284 N.J. Super. 503, 665 A.2d 1119 (1995).
Arizona Civil Code §§ 1918-1921 – Probable
Civil Code §1918-1921 provides for certain disclosures required for variable rate loans.
DISCUSSION: All required disclosures were not evident in the file. Borrower denies ever seeing
them.
The adjustable rate mortgage handbook was not provided to the borrowers nor is there any
indication that proves it was. There are no signatures validating the terms of the adjustable rate.
Arizona Civil Code §1632 – Possible
Civil Code §1632 provides:
(b) Any person engaged in a trade or business who negotiates primarily in Spanish,
Chinese, Tagalog, Serbian, Vietnamese, or Korean, orally or in writing, in the course of entering
into any of the following, shall deliver to the other party to the contract or agreement and
prior to the execution thereof, a translation of the contract or agreement in the language
in which the contract or agreement was negotiated, which includes a translation of every
term and condition in that contract or agreement:
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
16
(4) Notwithstanding paragraph (2), a loan or extension of credit for use primarily for
personal, family or household purposes where the loan or extension of credit is subject to
the provisions of Article 7 (commencing with Section 10240) of Chapter 3 of Part 1 of
Division 4 of the Business and Professions Code, or Division 7 (commencing with Section
18000), or Division 9 (commencing with Section 22000) of the Financial Code.
(k) Upon a failure to comply with the provisions of this section, the person aggrieved may
rescind the contract or agreement in the manner provided by this chapter. When the
contract for a consumer credit sale or consumer lease which has been sold and assigned
to a financial institution is rescinded pursuant to this subdivision, the consumer shall
make restitution to and have restitution made by the person with whom he or she made
the contract, and shall give notice of rescission to the assignee. Notwithstanding that the
contract was assigned without recourse, the assignment shall be deemed rescinded and
the assignor shall promptly repurchase the contract from the assignee.
DISCUSSION: This transaction may be subject to §1632 as broker likely meets the definition of
“real estate broker” pursuant to Business & Professions Code §10131. If the transaction was not
conducted primarily in Serbian, a violation exists and the transaction is rescindable based on the
fact that documents were not translated into Serbian for borrower.
Unfair/Deceptive Practice – Business & Professions Code §17200, §17500 – Probable
Business & Professions Code §17200 provides:
… unfair competition shall mean and include any unlawful, unfair or fraudulent business
act or practice and unfair, deceptive, untrue or misleading advertising and any act
prohibited by Chapter 1 (commencing with Section 17500) of Part 3 of Division 7 of the
Business and Professions Code.
Violations of other statutes and laws also violate §17200. (See McKell v. Washington Mut., Inc.
(2006) 142 Cal.App.4th 1457).
DISCUSSION: See violation of other statutes.
[Statute of Limitations of 4 years, B&P §17208 – may be subject to equitable tolling.]
Breach of Contract – No Evidence
Need to evaluate entire mortgage-servicing history for breach of contract – QWR
RECOMMENDATION.
DISCUSSION: There is no current evidence to support this theory.
[Statute of Limitations of 4 years, CCP §337 – may be subject to equitable tolling.]
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
17
Breach of Implied Covenant of Good Faith and Fair Dealing – Probable
The law provides that in every contract, there is an implied duty of good faith and fair dealing
between the parties. Carma Developers, Inc. v. Marathon Dev. Cal., Inc. (1992) 2 Cal.4th 342,
371. This implied covenant imposes the requirement “that neither party will do anything, which
will injure the right of the other to receive the benefits of the agreement.” Andrews v. Mobile
Aire Estates (2005) 125 Cal.App.4th 578, 589.
DISCUSSION: Based on the loan application, borrower appears to have been promised a
5.875% loan, with no indication that it would be switched to 6.500% prior to the first 5 years;
further investigation may reveal other breaches in origination regarding promises to borrower
and/or misleading disclosures.
Breach of Fiduciary Duty – Probable
In certain situations, courts have implicitly recognized imposing fiduciary duties on lenders
based on policy grounds. For instance, a lender may be considered a fiduciary when it “takes
control” of the borrower, or when “moral, social, personal, or domestic” relationships are shown
to exist between the parties. (Cases cited in American Bar Association – Business Tort Litigation
(2d Ed.)) Further, when the lender undertakes to perform a task on behalf of the borrower, then it
is likely that the lender has made itself a fiduciary for the borrower, based on the law of agency.
Often times, when a loan officer or mortgage broker is helping to arrange a loan for a borrower,
that loan officer/mortgage broker is, in reality, acting as the agent for both the lender and
borrower.
The fiduciary duty of the lender is a responsibility to perform their own diligence to determine if
a customer is being placed in a loan that is legal, properly disclosed, is the best loan for the
consumer given their financial circumstance and affordable over the life of the loan if present
financial positions hold steady. If the lender knew or should have known that the Borrower has a
likelihood of defaulting on this loan, he/she has a fiduciary duty to the borrower to not place
them in that loan (in harm’s way).
When a loan transaction occurs, any missteps in the loan transaction process can lead to dire
consequences for the borrower. It is for this reason that the law should impose more liberally a
fiduciary relationship between borrower and lender, especially in the residential home loan
marketplace where the average borrower is not as sophisticated as the lender. If fiduciary
relationships were more liberally imposed, we would likely see lenders implementing more
safeguards before underwriting a loan.
If the lender is aware that the borrowers would be better off with another type of loan that the
lender offers, they have violated their duty to the consumers and such act of deception would be
likely be considered fraud on the consumer and predatory.
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
18
►Brokers owe a fiduciary duty to borrowers. (Wyatt v. Union Mortgage Co. (1979) 24 Cal.3d
773).3
DISCUSSION: There is substantial evidence to support this theory. Here, the broker was highly
compensated for over-selling this loan (i.e., YSP), and did not disclose those fees or the high
variable interest rate borrower was put into. Neither did the lender take the borrower nationality
into consideration by not offering a distinct definition of loan terms in the borrower’s native
language.
►Liability potential for lender may exist if borrower can prove either that: (1) a “special
relationship or circumstance” existed (Peterson Development Co. v. Torrey Pines Bank, 377
Cal.App.3d 103, 119 (1991); Neiderreuther v. Schifter, 1998 WL 409876, *1 (N.D.Cal. 1998)),
(2) the lender “directly ordered, authorized or participated in” the broker’s tortious conduct
(Wyatt v. Union Mortgage Co. (1979) 24 Cal.3d 773, 785), or (3) that broker acted as lender’s
agent for the transaction (Montoya v. McLeod (1985)
176 Cal.App.3d 57).
DISCUSSION: There is sufficient evidence to support this theory.
Unjust Enrichment – Probable
Unjust enrichment is a general equitable principle that no person should be allowed to profit at
another's expense without making restitution for the reasonable value of any property, services,
or other benefits that have been unfairly received and retained. The elements to prove this claim
are threefold. First, the plaintiff must have provided the defendant with something of value while
expecting compensation in return. Second, the defendant must have acknowledged, accepted,
and benefited from whatever the plaintiff provided. Third, the plaintiff must show that it would
be inequitable or unconscionable for the defendant to enjoy the benefit of the plaintiff's actions
without paying for it. (1 Witkin, Summary of Cal. Law (10th ed. 2005) Contracts, § 1013, p.
1102; McBride v. Boughton (2004) 123 Cal.App.4th 379, 388–389; Ghirardo v. Antonioli (1996)
14 Cal.4th 39, 51–52.)
DISCUSSION: There is no current evidence to support this theory. There do not appear to be
any unearned, high closing costs or fees that might be potentially recoverable under a theory of
unjust enrichment.
Unconscionability – Possible
Pursuant to Civil Code § 1670.5, the court has the power to refuse to enforce a contract or a
clause in a contract that is unconscionable when made.
3 See also, Am. Bankers’ Ins. Co. v. Wells, 819 So. 2d 1196 (Miss. 2001); Barrett v. Bank of Am. 229 Cal. Rptr.
16(Ct. App. 1986); Charleswell v. Chase Manhattan Bank, N.A., 308 F. Supp. 2d 545 D. V.I. 2004); Chedick v.
Nash, 151 F. 3d 1077 (D.C. Cir. 1998); Hilgeman v. Am. Mortg. Securities, Inc., 994 P. 2d 1030 (2000); Choi v.
Chase Manhattan Mortg. Co., 63 F. Supp. 2d 874 (N.D. Ill. 1999); Citicorp. Mortg. Inc., v. Upton, 42 Conn. Supp.
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
19
302 (Conn. Super. 1992); Farm Credit Servs. Of America v. Dougan, 2005 S.D. 94 (2005); Foley v. Interactive Data
Corp., 765 P.2d 373 (Cal. 1988); In re Hart, 246 B.R. 709 (Bankr. D. Mass. 2000); Whittingham v. Mortg. Elec.
Registration Servs, 2007 WL 1362669 (D.N.J. May 4, 2007).
The common law contract defense of unconscionability could be applied to stop a foreclosure
when either the mortgage terms are unreasonable favorable to the lender or certain aspects of the
transaction render it unconscionable. In re Maxwell, 281 B.R. 101 (Bankr. D. Mass. 2002);
Hager v. American Gen. Fin. Inc., 37 F.Supp. 2d 778 (1999). For example, a Connecticut court
found a second mortgage contract to be unconscionable based on the facts that:
• The defendant had limited knowledge of English, was uneducated and did not read very
well;
• The defendant’s financial situation made it apparent she could not reasonably expect to
repay the mortgage;
• At the closing, the defendant was not represented by an attorney and was rushed by
plaintiff’s attorney to sign the loan document;
• The defendant was not informed until the last minute that, as a condition of credit, she
was required to pay one year’s interest in advance and there was an absence of
meaningful choice on the part of the defendant; and
• In addition, the court found that the contract was substantively unconscionable, because it
contained a large balloon payment that the borrower had no means of paying, and that the
borrower had no reasonable opportunity to understand the terms of the contract.
FamilyFin. Servc. V. Pencer, 677 A.2d 479, (Conn. Ct. App. 1996); and Emigrant
Mortg., Co., Inc., v. D’ Angostino, 896 A.2d 814 (Conn. App. Ct. 2006).
DISCUSSION: Borrowers had good credit and were given a high interest rate loan, not provided
multiple disclosures, etc. See additional elements above.
Civil Conspiracy – No Evidence
A civil conspiracy or collusion is an agreement between two or more parties to deprive a third
party of legal rights or deceive a third party to obtain an illegal objective. (Orloff v.
Metropolitan Trust Co. (1941) 17 Cal.2d 484, 488.)
DISCUSSION: There is no current evidence to support this theory. However, high fees to broker
may be worth evaluating for a prior relationship.
Fair Debt Collection Practices Act (Fed. & State) – No Evidence
The Fair Debt Collection Practices Act (FDCPA), 15 U.S.C. § 1692 et seq., is a United States
statute added in 1978 as Title VIII of the Consumer Credit Protection Act. Its purposes are to
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
20
eliminate abusive practices in the collection of consumer debts, to promote fair debt collection
and to provide consumers with an avenue for disputing and obtaining validation of debt
information in order to ensure the information's accuracy.
The Act creates guidelines under which debt collectors may conduct business, defines rights of
consumers involved with debt collectors, and prescribes penalties and remedies for violations of
the Act. It is sometimes used in conjunction with the Fair Credit Reporting Act. The Arizona
equivalent is known as the Rosenthal Fair Debt Collection Practices Act under Civil Code§ 1788
et seq. Both statutes prohibit from certain types of "abusive and deceptive" collection practices
by a “debt collector,” such as harassing phone calls, attempting contact after a request not to
contact or told that the borrower is represented by counsel, contacting borrowers at their
employment, misrepresentations, seeking unjust amounts, threatening arrest or illegal action, etc.
In some cases, the original creditor may not be considered a “debt collector.”
DISCUSSION: There is no current evidence to support this theory. No evidence that borrowers
are presently behind in payments and no collection efforts are evident in the file.
AZ Business & Professions Code § 10241.3 – No Evidence
In any loan transaction in which a fee is charged to a borrower for an appraisal of the real
property that will serve as security for the loan, a copy of the appraisal report shall be given by or
on behalf of the broker to both the borrower and the lender at or before the closing of the loan
transaction.
DISCUSSION: An appraisal is evident in the file.
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
21
Appendix A
Real Estate Market Overview & Loan Modification Strategy
Prior to the year 2000, the mortgage lending industry was a conservative operation. Borrowers
were subjected to means testing of their ability to repay loans. There were three basic
components to the approval process:
1. The ability to pay. Did the borrower make enough income to support the loan? Typical
debt ratios were 28– 32% housing ratio and 36–38% total debt ratio. Was the home
being purchased no more than three times yearly income? Did a decent down payment
exist?
2. Willingness to pay. Did their credit histories show a pattern of being able to pay credit on
time? If there were credit issues, were their extenuating circumstances to explain the
problems? Was credit used appropriately?
3. Stability. Did the borrower’s job history show a pattern of reliability and stability? Did it
appear that the borrower would be likely to remain in the position and continue to thrive?
Sometime in the beginning of the new century, standards changed. Acceptable standards
of underwriting loans suddenly changed – down payments disappeared, credit scores kept
lowering, and proof of income was not required. This led to the boom in the real estate
industry in approximately 2001.
By the beginning of 2007, the first sub-prime lenders were failing. Home values were dropping
fast. The first foreclosures were beginning with sub-prime borrowers, but at a very low level. As
the months went by, more lenders were failing, but before the lenders went under, they tried to
fund every loan they could, to save the company; never mind if the borrowers could afford it or
not. In the summer of 2007, the end of the boom officially hit. June 29, 2007 saw American
Home Loans fail, and the landslide began, with the bottom not yet reached in 2009.
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
22
The Typical Loan Modification Strategy
An example of the legal approaches that attorneys and modification companies have used in the
marketplace is:
1. The attorney or modification company obtains a forensic loan audit to determine the
strength of the case.
a. In the cases of a modification company, if violations are found, a certified opinion
letter should be obtained in conjunction with the audit.
2. The borrower’s representative should then send a qualified written request to the bank
requesting the loan file. The bank must provide a written response acknowledging receipt
of the correspondence within 20 days. 12 U.S.C. § 2605(e)(1)(A) and (B).
3. The borrower’s representative then presents their claim of violations within the loan to
the lender.
4. The Lender has 60 days from the qualified written request to actually fix any alleged
violations through a workout agreement. 12 U.S.C. § 2605(e)(2)(A), (B), and (C).
5. If the lender does not fix the violations within 60 days, the borrower is entitled to bring a
Claim for any violations found in the loan.
6. Upon a successful claim of lending violations against the lender, the borrower is entitled
to damages based on the specific violations.
a. Typically a borrower will always be entitled to actual damages, attorneys fees, and
statutory damages. 12 U.S.C. § 2605(a); Reg. X, 24 C.F.R. § 3500.21.
b. In some cases, borrowers will be entitled to treble damages for settlement fees, plus
attorneys fees and costs.12 U.S.C. § 2607; Reg. X, 24 C.F.R. § 3500.14(b)
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
23
Appendix B
Predatory Lending
The terms “abusive lending” or “predatory lending” are most frequently defined by reference to a
variety of lending practices. Although it is generally necessary to consider the totality of the
circumstances to assess whether a loan is predatory, a fundamental characteristic of predatory
lending is the aggressive marketing of credit to prospective borrowers who simply cannot afford
the credit on the terms being offered.
Typically, such credit is underwritten predominantly on the basis of the liquidation value of the
collateral, without regard to the borrower’s ability to service and repay the loan according to its
terms absent resorting to that collateral. When a loan has been made based on the foreclosure
value of the collateral, rather than on a determination that the borrower has the capacity to make
the scheduled payments under the terms of the loan, based on the borrower’s current and
expected income, current obligations, employment status, and other relevant financial resources,
the lender is effectively counting on its ability to seize the borrower’s equity in the collateral to
satisfy the obligation and to recover the typically high fees associated with such credit. Not
surprisingly, such credits experience foreclosure rates higher than the norm.
“Predatory Lending” can be defined as any lien secured by real estate which shares well known
common characteristics. While such disregard of basic principles of loan underwriting lies at the
heart of predatory lending, a variety of other practices may also accompany the marketing of
such credit, such as:
HOEPA Loans
High cost loans that violate the Homeownership and Equity Protection Act.
Bait and Switch
The practice of offering a loan at one rate and then changing the loan program at the last
moment. It can also apply to the negative amortization loan.
Elder Abuse
The practice of targeting the elderly with loans that they cannot afford, or negative amortization
loans with low minimum payments, but high actual interest rates, simply for getting the
commissions on the loan.
Targeting
Targeting inappropriate or excessively expensive credit products to older borrowers, to persons
who are not financially sophisticated or who may be otherwise vulnerable to abusive practices,
and to persons who could qualify for mainstream credit products and terms.
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
24
Spurious Open End Mortgages
In order to avoid making required disclosures to borrowers under the Truth in Lending Act,
many lenders make "open-end" mortgage loans. Although the loans are called "open-end" loans,
in fact they are not. Instead of creating a line of credit from which the borrower may withdraw
cash when needed, the lender advances the full amount of the loan to the borrower at the outset.
The loans are non-amortizing, meaning that the payments are interest only, so that the balance is
never reduced.
Yield Spread Premium
Does not plainly and prominently disclose on the good faith estimate of closing costs the size of
any yield spread premium paid directly or indirectly, in whole or in part, to a mortgage loan
officer.
Negative Amortization
Loans where the borrower is often told that the payment and rate are actually such that the
balance on the loan can increase monthly. See above analysis.
Non-English Speaking borrowers
Persons who don’t speak or read English well and all the conversations are held in either English
or their native language. Borrowers cannot understand the loan documents and have no idea what
they are signing.
Excessive Fees and Rates
Requires borrowers to pay interest rates, fees and/or charges not justified by marketplace
economics in place at the time the lien was originated.
Loan Flipping & Equity Stripping
Repeated refinancing of borrowers into loans that have no tangible benefit to the borrower. Can
be the same lender or different lenders. Loans and refinances whereby equity is removed from
the home through repeated refinances, consolidation of short term debt into long term debt,
negative amortization or interest only loans whereby payments are not reducing principle, high
fees and interest rates. Eventually, borrower cannot refinance due to lack of equity.
Shifting Unsecured Debt Into Mortgage
Mortgage lenders badger homeowners with advertisements and solicitations that tout the
"benefits" of consolidating bills into a mortgage loan. The lender fails to inform the borrower
that consolidating unsecured debt such as credit cards and medical bills into a mortgage loan
secured by the home is a bad idea. If a person defaults on an unsecured debt, they do not lose
their home. If a homeowner rolls their unsecured debt into their mortgage loan and default on
their mortgage payments, they can lose their home. Furthermore, since unsecured debt generally
is paid off between three and five years, shifting unsecured debt into a mortgage loan extends the
payoff period to 15 to 30 years. Paying off unsecured debt with a mortgage loan also necessarily
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
25
increases closing costs because they are often calculated on a percentage basis, thereby
increasing the loan balance.
Whereas the old total monthly household debt payments may in some cases be less than the
monthly payments on the new mortgage loan, the monthly mortgage
payments are often more than the previous mortgage payments, thus exacerbating the risk that
the homeowner will lose the home to foreclosure.
High Debt Ratios
This is the practice of approving loans with high debt ratios, usually 50% or more, without
determining the true ability of the borrower to repay the loan. Can often be seen with Prime
borrowers approved through the Automated Underwriting Systems.
High Loan to Value loans
Loans that are done with the borrower having little or no equity in the home. Usually Adjustable
Rate Mortgages that the borrower will not be able to refinance out of when the rate adjusts due to
lack of equity.
Fraudulently Caused to Execute Loan Documents
Adjustable rate mortgage loan was an inter-temporal transaction on which Plaintiffs had only
qualified at the initial teaser fixed rate, and could not qualify for the loan once the interest rate
terms changed in two years.
Deception, Fraud, Unconscionable
Is marketed in a way that fails to fully disclose all material terms. Includes any terms or
provisions which are unfair, fraudulent or unconscionable. Is marketed in whole or in part on the
basis of fraud, exaggeration, misrepresentation or the concealment of a material fact.
Includes interest only loans, adjustable rate loans, negative amortization and HOEPA loans.
Stated or No Income/No Assets
Is based on a loan application that is inappropriate for the borrower. For instance, the use of a
stated-income loan application from an employed individual who has or can obtain pay stubs, W-
2 forms and tax returns.
Lack of Due Diligence in Underwriting
Is underwritten without due diligence by the party originating the loan. No realistic means test
for determining the ability to repay the loan. Lack of documentation of income or assets, job
verification. Usually with Stated Income or No documentation loans, but can apply to full
documentation loans.
Inappropriate Loan Programs
Is materially more expensive in terms of fees, charges and/or interest rates than alternative
financing for which the borrower qualifies. Can include prime borrowers who are placed into
subprime loans, negative or interest only loans. Loan terms whereby the borrower can never
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
26
realistically repay the loan.
Mandatory Arbitration Clauses.
Pre-dispute, mandatory, binding arbitration clauses limit the rights of borrowers to seek relief
through the judicial process for any and all claims and defenses the borrower may have against
the mortgage lender, mortgage broker, or other party involved in the loan transaction. By
inserting these clauses in the loan documents, some lenders attempt to obtain an unfair advantage
by relegating their borrowers to a forum perceived to be more favorable to the lender. This
perception exists because discovery is not a matter of right, but is within the discretion of the
arbitrator; the proceedings are private; arbitrators need not give reasons for their decisions or
follow the law; a decision in any one case will have no precedent value; judicial review is
extremely limited; and injunctive relief and punitive damages are not available. Furthermore, the
lender is not required to arbitrate claims it may have against the borrower. If the borrower
defaults on the loan, the lender proceeds directly to foreclosure.
Appendix C
MERS, Securization, Legal Standing, and Other Foreclosure Defenses
This section will deal with issues of MERS, Securitization, Legal Standing to Foreclose, and
other potential foreclosure defenses.
Securitization & MERS
Mortgage Electronic Registration System (MERS) has been named the beneficiary for this loan.
MERS was created to eliminate the need for the executing and recording of assignment of
mortgages, with the idea that MERS would be the mortgagee of record. This would allow
“MERS” to foreclose on the property, and at the same time, assist the lenders in avoiding the
recording of the Assignments of Beneficiary on loans sold. This saved the lenders money in
manpower and the costs of recording these notes. It was also designed to “shield” investors from
liability as a result of lender misconduct regarding the process of mortgage lending.
MERS is simply an “artificial” entity designed to circumvent certain laws and other legal
requirements dealing with mortgage loans. By designating certain member employees to be
MERS corporate officers, MERS has created a situation whereby the foreclosing agency and
MERS “designated officer” has a conflict of interest.
Since neither MERS nor the servicer have a beneficial interest in the note, nor do they receive
the income from the payments, and since it is actually an employee of the servicer signing the
Assignment in the name of MERS, the Assignment executed by the MERS employee is illegal.
The actual owner of the note has not executed the Assignment to the new party. An assignment
of a mortgage in the absences of the assignment and physical delivery of the note will result in a
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
27
nullity.
It must also be noted that the lender or other holder of the note registers the loan on MERS.
Thereafter, all sales or assignments of the mortgage loan are accomplished electronically under
the MERS system. MERS never acquires actual physical possession of the mortgage note, nor do
they acquire any beneficial interest in the Note.
The existence of MERS indicated numerous violations of the Arizona Business and
Professions Code as well as Unfair and Deceptive Acts and Practices due to the conflicting
nature and identity of the servicer and the beneficiary. Each of these practices were intentionally
designed to mislead the borrower and benefit the lenders.
So the question becomes, is MERS the foreclosing party or the Servicer? Since the Servicer is
the party initiating the foreclosure and they take the documents to their own employee who has
also been designated as a “Corporate Officer of MERS”, and who conveniently signs the
document for MERS, aren’t they the “foreclosing party”?
Is MERS the Beneficial Owner of the Note?
1. MERS is named as the beneficiary on the Deed of Trust and holds only legal title to the
interest granted by Borrower in this Security Instrument, and has the right to exercise
any or all of those interest, including, but not limited to, releasing and canceling the
security instruments.
2. MERS has no actual possession of the Note, though they claim to hold the Note.
3. MERS receives no payments or income from the monthly payments. This money goes to
the ultimate Investor. The Investor has the beneficial interest in the Note by reason of the
Investor receiving the payments.
4. MERS agreement says that MERS shall at all time comply with the instructions of the
holder of mortgage loan promissory notes. Additionally, it says “In the absence of
contrary instructions from the beneficial owner, MERS may rely on instructions from the
servicer shown on the MERS system in accordance with these rules and the procedures
with respect to transfers of beneficial ownership”.
5. MERS has testified in Florida Courts that they are not the beneficial owner of the note.
AZ. Civil Code 33-801. Definitions
“Beneficiary” means the person named or otherwise designated in a trust deed as the
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
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person for whose benefit a trust deed is given, or the person’s successor in interest.
AZ. Civil Code 33-807. Sale of Trust Property
The beneficiary of trustee shall constitute the proper and complete party plaintiff in any
action to foreclose a deed of this. The power of sale may be exercised by the trustee
without express provision therefore in the trust deed.
AZ. Civil Code § 2932.5. Notice of Default; Grace Period
Prior to recording an NOD, lender is required to attempt contact with borrower to discuss a
workout agreement at least 30 days prior to recording. Under the statute, lender is required to
provide borrower with certain information contained in the statute. If lender fails to do so,
presumably this would be grounds to halt or set aside a foreclosure sale.
Assignment of Beneficiary
MERS does not record the assignment of beneficiary as required by law, until the foreclosure
process starts and the Notice of Default has been filed, and apparently, only when it appears that
the borrower will not be able to reinstate the loan and then foreclosure is inevitable. It maintains
itself as the beneficiary throughout the entire process up to foreclosure.
MERS has represented in Florida Courts that its sole purpose is as a system to track mortgages. It
has stated that it does not do the entries itself, but the lenders and servicers do. When an
Assignment of Beneficiary is executed, it is the member servicer or lender that goes to the
website, downloads the necessary forms, completes the forms and then takes it to the designated
“MERS officer” to sign.
MERS agreements state that MERS and the Member agree that: (i) the MERS System is not a
vehicle for creating or transferring beneficial interest in mortgage loans, (ii) transfer of servicing
interests reflecting on MERS System are subject to the consent of the beneficial owner.
Since neither MERS nor the servicer have a beneficial interest in the note, nor do they receive
the income from the payments, and since it is actually an employee of the servicer signing the
Assignment in the name of MERS, this begs the question:
Is the assignment executed by the MERS employee even legal, since the actual owner of the note
has not executed the assignment to the new party?
A good indicator might be in Sobel v Mutual Development, Inc, 313 So 2d 77 (1st DCA Fla
1975). An assignment of a mortgage in the absence of the assignment and physical delivery of
the note in question is a nullity.
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
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Possession of the Note & Holder in Due Course
Possession of the Note is a key argument coming to the forefront. The foreclosing entity must
prove possession and ownership of the original Note in order to foreclose. This comes to the
forefront because it has been reported that upwards of 40% of the Notes are missing and cannot
be found. MERS is once again involved in this.
In Judicial Foreclosure states, MERS foreclosure lawsuits often include a Lost, Missing, or
Destroyed Affidavit. This affidavit “testifies” that the Note cannot be found, and that the Note
prior to being lost was in the possession of MERS. This has become very problematic for
MERS, since they have admitted in Courts that they do not own the Note or even hold the Note.
If this is so, then MERS is likely filing fraudulent Affidavits.
When challenged, one defense that MERS uses to support its “legal standing” is that the servicer
has possession of the Note and Deed. MERS, by the act of having its own “Officers” as
employees of the servicer, entitles it to foreclose on behalf of the servicer and the beneficiary.
When confronted with this defense, the response should be for the servicer to produce the note.
It must also be noted that the lender or other holder of the note registers the loan on MERS.
Thereafter, all sales or assignments of the mortgage loan are accomplished electronically under
the MERS system. MERS never acquires actual physical possession of the mortgage note, nor
do they acquire any beneficial interest in the Note.
Supporting Case Law
In Saxon vs. Hillery, CA, Dec 2008, Contra Costa County Superior Court, an action by Saxon to
foreclose on a property by lawsuit was dismissed due to lack of legal standing. This was because
the Note and the Deed of Trust were “owned” by separate entities. The Court ruled that when
the Note and Deed of Trust were separated, the enforceability of the Note was negated until
rejoined. This can be an effective defense in foreclosure actions.
If the mortgage (or the deed of trust) is not a legally enforceable instrument then there can be no
valid foreclosure. In re Hudson, 642 S.E. 2d 485 (N.C. Ct. App. 2007). A deed or mortgage that
is forged is presumptively invalid. Ex Parte Floyd, 796 So. 2d 303 (Ala. 2001). As a result,
forgery of a mortgage is generally an absolute defense to foreclosure. Similarly, where a deed
has been forged and the new title holder then encumbers the property, courts have held both the
deed and the mortgages are null. Flagstar v. Gibbons, 367 Ark. 225 (2006).
The validity of security instruments in some community property states may require both
spouses to execute instruments encumbering a homestead. For example, under Wisconsin law, a
court found that a mortgage on a married couple’s homestead that was not signed by both
spouses was void as to both spouses, regardless of their respective ownership interests. In re
Larson, 346 B.R. 486 (Bankr. E.D. Wis. 2006). The failure to follow the formal requisites in
acknowledging deeds and mortgages may also result in a void instrument. Many deed and
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Property: 1122 Any Street Any Town, USA
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mortgage fraud cases involve situations in which the person whom the notary certified as having
appeared did not, in fact, appear.
In re Fisher, 320 B.R. 52 (E.D. Pa. 2005). In fraudulent mortgage cases, borrowers are often
instructed to sign a stack of documents that are then taken elsewhere for notarization. Goldone
Credit Corp. v. Hardy, 503 So. 2d 1227 (Ala. Civ. App. 1987). Alternatively, improper
notarization may result from the taking of an actual acknowledgment from an imposter,
incompetent person, or over the telephone. Regardless, of the reason for the defective
acknowledgment, practitioners should investigate whether such defects may render the
instrument invalid.
UCC Provisions
UCC 3-309. ENFORCEMENT OF LOST, DESTROYED, OR STOLEN INSTRUMENT. 9.
ENFORCEMENT OF LOST, DESTROYED, OR STOLEN INSTRUMENT.
(a) A person not in possession of an instrument is entitled to enforce the instrument if (i) the
person was in possession of the instrument and entitled to enforce it when loss of possession
occurred, (ii) the loss of possession was not the result of a transfer by the person or a lawful
seizure, and (iii) the person cannot reasonably obtain possession of the instrument because
the instrument was destroyed, its whereabouts cannot be determined, or it is in the wrongful
possession of an unknown person or a person that cannot be found or is not amenable to
service of process.
(b) A person seeking enforcement of an instrument under subsection (a) must prove the
terms of the instrument and the person's right to enforce the instrument.
§ 3-301. PERSON ENTITLED TO ENFORCE INSTRUMENT.
"Person entitled to enforce" an instrument means (i) the holder of the instrument, (ii) a nonholder
in possession of the instrument who has the rights of a holder, or (iii) a person not in
possession of the instrument who is entitled to enforce the instrument pursuant to Section 3-
309 or 3-418(d). A person may be a person entitled to enforce the instrument even though the
person is not the owner of the instrument or is in wrongful possession of the instrument.
2. HOLDER IN DUE COURSE.
(a) Subject to subsection (c) and Section 3-106(d), "holder in due course" means the holder of
an instrument if:
(2) the holder took the instrument (i) for value, (ii) in good faith, (iii) without notice that the
instrument is overdue or has been dishonored or that there is an uncured default with respect
to payment of another instrument issued as part of the same series, (iv) without notice that the
instrument contains an unauthorized signature or has been altered, (v) without notice of any
claim to the instrument described in Section 3-306, and (vi) without notice that any party has
Borrower(s): John & Jane Doe
Property: 1122 Any Street Any Town, USA
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A defense or claim in recoupment described in Section 3-305(a).
§ 3-305. DEFENSES AND CLAIMS OF RECOUPMENT.
(a) Except as otherwise provided in this section, the right to enforce the obligation of a party
to pay an instrument is subject to the following:
(1) a defense of the obligor based on (i) infancy of the obligor to the extent it is a defense to
a simple contract, (ii) duress, lack of legal capacity, or illegality of the transaction which,
under other law, nullifies the obligation of the obligor, (iii) fraud that induced the obligor to
sign the instrument with neither knowledge nor reasonable opportunity to learn of its
character or its essential terms, or (iv) discharge of the obligor in insolvency proceedings;
(c) Except as stated in subsection (d), in an action to enforce the obligation of a party to pay
the instrument, the obligor may not assert against the person entitled to enforce the
instrument a defense, claim in recoupment, or claim to the instrument (Section 3-306) of
another person, but the other person's claim to the instrument may be asserted by the obligor if
the other person is joined in the action and personally asserts the claim against the person
entitled to enforce the instrument. An obligor is not obliged to pay the instrument if the
person seeking enforcement of the instrument does not have rights of a holder in due course
and the obligor proves that the instrument is a lost or stolen instrument.
§ 3-305. TRANSFER OF INSTRUMENT: RIGHTS ACQUIRED BY TRANSFER
(b) Transfer of an instrument, whether or not the transfer is a negotiation, vests in the
transferee any right of the transferor to enforce the instrument, including any right as a
holder in due course, but the transferee cannot acquire rights of a holder in due course by a
transfer, directly or indirectly, from a holder in due course if the transferee engaged in fraud
or illegality affecting the instrument.
Supporting Case Law
Pacific Concrete F.C.U. V. Kauanoe, 62 Haw. 334, 614 P.2d 936 (1980),
GE Capital Hawaii, Inc. v. Yonenaka, 25 P.3d 807, 96 Hawaii 32, (Hawaii App 2001),
Fooks v. Norwich Housing Authority, 28 Conn. L. Rptr. 371, (Conn. Super.2000),
Town of Brookfield v. Candlewood Shores Estates, Inc. 513 A.2d 1218, 201 Conn.1 (1986).
Solon v. Godbole, 163 Ill. App. 3d 845, 114 Ill. Dec. 890, 516 N. E.2d 1045 (3Dist. 1987).
Staff Mortgage. & Inv. Corp., 550 F.2d 1228 (9th Cir 1977). “Under the Uniform
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Commercial Code, the only notice sufficient to inform all interested parties that a security
interest in instruments has been perfected is actual possession by the secured party, his agent
or bailer.
Substitution of Trustee
Trustees are usually changed when a foreclosure action is deemed necessary. A Substitution of
Trustee is signed and recorded and then the Trustee has the legal standing to act, provided the
Trustee has the authority of the actual owner of the note.
The entities that initiate foreclosure almost always are either the servicer of the Note, or MERS,
who acts through their “designated officers” who are in fact employees of the servicer. These
are the entities that decide on foreclosure, not the true owners of the Note or Deed of Trust who
are the investors. This would suggest that such actions may be unlawful.
Arizona Civil Code Section 2934a – Procedure for Substitution of Trustee
(d) A trustee named in a recorded substitution of trustee shall be deemed to be authorized to act
as the trustee under the mortgage or deed of trust for all purposes from the date the substitution is
executed by the mortgagee, beneficiaries, or by their authorized agents. Nothing herein requires
that a trustee under a recorded substitution accept the substitution. Once recorded, the
substitution shall constitute conclusive evidence of the authority of the substituted trustee or his
or her agents to act pursuant to this section.
There is a specific procedure for the filing of a Notice of Default by a Trustee. In 2005, the
provisions were amended to allow a substituted trustee to act before the substitution is actually
recorded as long as the substitution is signed before or concurrently with it. If so, the substitution
doesn't actually have to be recorded until prior to the sale. Nonetheless, if the substitution wasn't
signed, the trustee couldn't act.
The Trustee on this loan has been changed from the originally named Trustee. Examiner
recommends that the Substitution of Trustee be obtained to determine what date the Substitution
of Trustee was signed. If the document was signed after the NOD was filed, then the NOD and
all subsequent actions are unlawful.
See, Pro Value Properties Inc. vs. Quality Loan Service Corp.
Securitization Process
Securitization is the name for the process by which the final investor for the loan ended up with
the loan. It entailed the following:
1. Mortgage broker had client who needed a loan and delivered the loan package to the
lender.
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2. The lender approved the loan and funded it. This was usually through “warehouse”
lines of credit. The lender hardly ever used their own money instead using the
warehouse line that had been advanced to the lender by major Wall Street firms like
J.P. Morgan.
3. The lender “sold” the loan to the Wall Street lender, earning from 2.5 - 8 points per
loan. This entity is known also as the mortgage aggregator.
4. The loan, and thousands like it, are sold together to an investment banker.
5. Investment banker sells the loans to a securities banker.
6. Securities banker sells the loans to the final investors, as a Securitized Instrument,
where a Trustee is named for the investors, and the Trustee will administer all
bookkeeping and disbursement of funds.
7. The issue with the securitization process is that when the Securitized Instrument was
sold, it was split apart and sold in tranches, (in slices like a pie). There were few or
no records kept of which notes went into which tranche. Nor were their records of
how many investors bought into each particular tranche. Additionally, there were no
assignments designed or signed in anticipation of establishing legal standing to
foreclose.
8. The tranches were rated by Rating Agencies at the request of the Investment Bankers
who paid the Rating Agencies.
9. When the tranches were created, each “slice” was given a rating, “AAA, AA, A,
BBB, BB, etc. The ratings determined which tranche got “paid” first out of the
monthly proceeds. If significant numbers of loans missed payments, or went into
default, the AAA tranche would receive all money due, and this went on down the
line. The bottom tranches with the most risk would receive the leftover money.
These were the first tranches to fail. Even if the defaulting loans were in the AAA
tranche, the AAA tranche would still be paid and the lowest tranche would not. Wall
Street, after the 2000 Dot.com crash, had large amounts of money sitting on the
sidelines, looking for new investment opportunities. Returns on Investments were
dismal, and investors were looking for new opportunities. Wall Street recognized
that creating Special Investment Vehicles offered a new investment tool that could
generate large commissions.
Other Pertinent Facts of Securitization
1. Wall Street created pooling agreements where they defined in the agreements the loans
that they would accept for each investment vehicle. They executed agreements with the lenders
and then immediately issued warehouse lines of credit to the lenders.
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2. Lenders then let brokers know the loan parameters to meet the pooling agreement
guidelines and the brokers went out and found the borrowers.
3. Wall Street took all the loans, packaged them up and sold them as bonds and other
security instruments to other investors, i.e. Joes Pension, and paid off original investors or
reissued new line of credit, and earned commissions on both ends.
4. The process was repeated time and again.
5. What we do know now is that in most cases, the reality is that the reported lender on the
Deed of Trust was NOT the actual lender. The actual lender who lent the money was the Wall
Street Investment Bank. They simply rented the license of the lender, so that they would not run
afoul of banking regulations and/or avoid liability and tax issues. For all purposes, Wall Street
was the true lender and there are arguments that suggest that Disclosures should have been
required naming Wall Street as the lender.
Now it can be easier to understand how possession of the Note and ownership of the Note play a
significant part. In most cases, it is unknown which tranche will contain any particular note.
Nor will it be known how many investors, and who bought the individual tranches without
significant and time-consuming investigation.
Hence, without the “True Owners” of the note stepping forward to demand foreclosure, any
foreclosure that was securitized may be completely unlawful.
Assignee Liability
Assignee liability is another issue being contested. Under TILA and RESPA, if on the face of the
loan documents it is evident that there are violations of the statutes, then assignees have a
significant liability when they assume the loan. However, the question arises as to if assignee
liability can be claimed when there are no violations on the face of the documents.
It is believed that MERS became the “beneficiary” for so many notes to address the Assignee
Liability problem. By keeping MERS as the beneficiary, and avoiding the recording of
assignments, it becomes more difficult to determine assignee liability and holder in due course
issues.
This could offer “cover” for all the parties participating in the Securitization process, since no
Assignments were recorded, and “proof of ownership” of the note could not be easily
determined. The only way to determine ownership of the Notes would be to track the monthly
payments made to the investors, determining which party received the monthly payment. This
would be time consuming and likely only Discovery would prove the process necessary to get
this information.
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In Cazares v Pacific Shore Funding, C.D. Cal. Jan 3, 2006, assignee that actively participated in
original lender’s act and dictated loan terms may be liable under UDAP.
The question then arises as to assignments further down the “chain of title”. Under these
circumstances, the UDAP codes can be utilized for attacking the lenders. Show fraud and other
causes of action, then the contracts can be “voided or rescinded” common law and UDAP codes,
especially CA B&P § 17200, and CA Civil Code §1689, which allows for contract rescission.
FDIC Statement of Policy
Federal Deposit Insurance Corporation Statements of Policy - "When an institution offers
nontraditional mortgage loan products, underwriting standards should address the effect of a
substantial payment increase on the borrower's capacity to repay when loan amortization begins."
"Ensure that loan terms and underwriting standards are consistent with prudent lending practices,
including consideration of a borrower's repayment capacity;" "For all nontraditional mortgage
loan products, an institution's analysis of a borrower's repayment capacity should include an
evaluation of their ability to repay the debt by final maturity at the fully indexed rate, assuming a
fully amortizing repayment schedule"
Risk-layering features in a subprime mortgage loan may significantly increase the risks to both
the institution and the borrower. Therefore, an institution should have clear policies governing
the use of risk-layering features, such as reduced documentation loans or simultaneous second
lien mortgages. When risk-layering features are combined with a mortgage loan, an institution
should demonstrate the existence of effective mitigating factors that support the underwriting
decision and the borrower's repayment capacity.
Recognizing that loans to subprime borrowers present elevated credit risk, institutions should
verify and document the borrower's income (both source and amount), assets and liabilities.
Stated income and reduced documentation loans to subprime borrowers should be accepted only
if there are mitigating factors that clearly minimize the need for direct verification of repayment
capacity. Reliance on such factors also should be documented. Typically, mitigating factors arise
when a borrower with favorable payment performance seeks to refinance an existing mortgage
with a new loan of a similar size and with similar terms, and the borrower's financial condition
has not deteriorated. Other mitigating factors might include situations where a borrower has
substantial liquid reserves or assets that demonstrate repayment capacity and can be verified and
documented by the lender. However, a higher interest rate is not considered an acceptable
mitigating factor.
Office of the Comptroller of the Currency Policy Letters
The Office of Comptroller of the Currency has been concerned with Predatory Lending for over
a decade. They have addressed this issue time and again through Policy Letters that also address
Unfair Business Practices and Deceptive Business Acts.
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OCC Guidance Letter AL 2003-3
…the OCC believes that a fundamental characteristic of predatory lending is the provision of
credit to borrowers who simply cannot afford the credit on the terms being offered. Typically,
such credit is underwritten predominantly on the basis of the liquidation value of the collateral,
without regard to the borrower’s ability to service and repay the loan according to its terms,
absent resorting to that collateral. When a loan has been made based on the foreclosure value of
the collateral, rather than on a determination that the borrower has the capacity to make the
scheduled payments in accordance with the terms of the loan, the lender is effectively relying on
its ability to seize the borrower’s equity in the collateral to satisfy the obligation (including
accrued interest) and to recover the typically high fees associated with such credits.
Predatory and abusive loans originated through brokers or by third-party lenders also present a
wide range of heightened legal risks for national banks, and could subject them to both
supervisory action and civil liability. For example, borrowers victimized by oppressive loan
terms or other unscrupulous conduct of a mortgage broker or loan originator may have remedies
against the ultimate creditor under common law theories of fraud or unconscionability.
In addition, predatory loans originated through mortgage brokers, or purchased from third-party
lenders, may subject national banks to liability or supervisory action under a wide range of
federal consumer protection laws. For example, in typical mortgage broker transactions, the loan
will be closed in the name of the bank as the initial creditor, and thus, the bank generally will
have direct liability for any violations of law committed in connection with the loan. In addition,
the bank could be liable under agency, “common enterprise,” or other theories for violations
committed by the broker, and may be jointly and severally liable with the broker—for example,
under the Real Estate Settlement Procedures Act (RESPA)—for violations it is deemed to
commit in conjunction with the broker. Even in table-funded or purchase transactions, a bank
may have liability for violations of law as a successor or assignee of the original creditor.
OCC Policy Letter AL 2003-2
…a fundamental characteristic of predatory lending is the aggressive marketing of credit to
prospective borrowers who simply cannot afford the credit on the terms being offered. Typically,
such credit is underwritten predominantly on the basis of the liquidation value of the collateral,
without regard to the borrower’s ability to service and repay the loan according to its terms
absent resorting to that collateral. The advisory also describes how certain abusive lending can
involve unfair or deceptive practices and thus violate section 5 of the Federal Trade Commission
Act (FTC Act);
Using loan terms or structures – such as negative amortization – to make it more difficult or
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impossible for borrowers to reduce or repay their indebtedness;
Inadequate disclosure of the true costs, risks and, where necessary, appropriateness to the
borrower of loan transactions…
End Report………
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