Wednesday, September 23, 2020

FYI: 11th Cir Holds Obtaining Consumer Report for ID Verification Is a Permissible Purpose

In a case of first impression for the U.S. Court of Appeals for the Eleventh Circuit, the Court joined the Sixth Circuit in holding that obtaining a consumer report to verify a consumer's identity and eligibility for a service is a "legitimate business need" and therefore a "permissible purpose" under the federal Fair Credit Reporting Act (FCRA).

 

A copy of the opinion is available at:  Link to Opinion

 

In this case, the consumer was previously the victim of identity theft when her personal information was used on several occasions to create accounts with a television provider.  Learning of the accounts after they became delinquent, the consumer brought suit against the provider for alleged violations of the FCRA.  The lawsuit was settled, with the provider agreeing "to flag [the consumer's] social security number in order to preclude any persons from attempting to obtain new [provider] services by utilizing [the consumer's] social security number."

 

The present case ensued when the consumer's personal information was yet again fraudulently used to apply for the provider's services online.  The personal information included the last four digits of the consumer's Social Security number, her first name and her date of birth.  Other information, such as last name, address and telephone number were different from the consumer's.

 

As part of an automated process, the provider sent the application information to a consumer reporting agency that returned a consumer report that included the consumer's full Social Security number.  At that point, based on the full Social Security number, the processes put in place pursuant to the settlement agreement prevented the opening of an account.  In fact, at the provider's request, the consumer reporting agency deleted the inquiry from the consumer's record.

 

Nevertheless, the consumer filed a lawsuit against the provider alleging the consumer report had been obtained without a "permissible purpose" and that the terms of the settlement agreement had been breached. 

 

The trial court granted summary judgment in favor of the provider, finding that it had a "legitimate business need" for obtaining the report and that it fulfilled the terms of the settlement agreement by "flagging" the consumer's Social Security number.  The consumer appealed.

 

Initially, the Eleventh Circuit explained that the "FCRA enumerates an exhaustive list of the 'permissible purposes' for which a person may use or obtain a consumer report. 15 U.S.C. § 1681b(a)(3) . . . One of those permissible purposes is where a person 'has a legitimate business need for the information . . . in connection with a business transaction that is initiated by the consumer.' 15 U.S.C. § 1681b(a)(3)(F)(i)."

 

The Court noted that it had "never weighed in on what constitutes a 'legitimate business need' in connection to a business transaction for FCRA purposes."  However, following the lead of the Sixth Circuit Court of Appeals in Bickley v. Dish Network, LLC, 751 F.3d 724 (6th Cir. 2014), the Eleventh Circuit agreed "that requesting and obtaining a consumer report for verification and eligibility purposes is a 'legitimate business need' under the FCRA."

 

Here, the consumer argued the provider had no "legitimate business need" because it "either knew or should have known that [she] had not initiated the business transaction because of their prior settlement agreement."  Also, she believed that the provider should have done more to verify her identity before requesting the consumer report.

 

These arguments did not sway the Eleventh Circuit. 

 

First, "the FCRA does not explicitly require a user of consumer reports to confirm beyond doubt the identity of potential consumers before requesting a report."  

 

Second, just because the provider "had the mechanisms in place to verify that the scant information provided by the applicant actually belonged to [the consumer] does not necessarily lead to the conclusion that [the provider] suspected (or was able to verify) the same." 

 

Finally, the provider simply didn't have enough information to act upon until it received the full Social Security number contained in the consumer report.

 

The breach of contract claim was rejected by the Court, because "[t]he only affirmative action [the provider] agreed to take in the settlement agreement was 'to flag [the consumer's] social security number,'" which it did.

 

 

 

Ralph T. Wutscher
Maurice Wutscher LLP
The Loop Center Building
105 W. Madison Street, Suite 603
Chicago, Illinois 60602
Direct:  (312) 551-9320
Fax: (312) 284-4751

Mobile:  (312) 493-0874
Email: rwutscher@MauriceWutscher.com

 

Admitted to practice law in Illinois

 

 

 

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Monday, September 21, 2020

FYI: 2nd Cir Holds FDCPA Defendant's "Bona Fide Error" Defense Should Go to Jury

The U.S. Court of Appeals for the Second Circuit recently held that a debt collector did not violate the federal Fair Debt Collection Practices Act (FDCPA) where it unintentionally sent a valid debt collection communication to a non-debtor.

 

However, the Second Circuit also held that the trial court errored in granting summary judgment for the debt collector based on the bona fide error defense relating to additional communications made to the non-debtor because a reasonable jury could find these errors were not bona fide and the debt collector did not maintain procedures reasonably adapted to avoid them.

 

A copy of the opinion is available at:  Link to Opinion

 

A collection firm obtained a default judgment over a debtor named "William J. Wagner, Jr." in 2006 for unpaid rent. Thereafter, the collection firm unsuccessfully attempted to serve various post-judgment subpoenas and summons on the debtor at various addresses over the next few years.

 

In February 2015, the collection firm obtained a new address for William J. Wagner in Hamburg, New York. However, the William J. Wagner who resided at the Hamburg address was not the debtor and did not know the debtor.

 

On February 9, 2015, the collection firm sent a debt collection notice to Wagner at the Hamburg address. Upon receipt, on February 12, 2015, Wagner called the collection firm to notify it that he was not the debtor, did not use the suffix Jr., and had a different Social Security number.

 

A day earlier, the collection firm sent a subpoena and restraining notice by certified mail addressed to the debtor to the Hamburg address. Wagner, knowing that he was not the debtor, did not retrieve the letter.

 

On March 19, 2015, after receiving notifications from the postal service that it was holding certified mail sent to "William J. Wagner, Jr.," Wagner again called the collection firm to advise that he was not the debtor.

 

With the prior subpoena unclaimed, the collection firm sent a special process server to serve the debtor at the Hamburg address with specific instructions to "be sure to serve the correct William J. Wagner" because the collection firm "believe[d] there is a William J. Wagner, Sr. and William J. Wagner, Jr. living at the same address." This instruction was based off a LexisNexis search that indicated that a Senior and Junior William Wagner lived at the Hamburg address.

 

The process server served Wagner who again called the collection firm to reiterate that he was not the debtor and explain that no person using the suffix Jr. resided at the Hamburg address.

On July 15, 2015, Wagner brought suit in against the collection firm, alleging the collection firm's communications violated various provisions of the FDCPA. After discovery, both parties moved for summary judgment.

 

The trial court granted the collection firm's motion for summary judgment on claims relating to the original notice, reasoning that the collection firm had legal authority to pursue the collection of the debt in the precise amount owed, but merely attempted to collect the debt from the wrong person.

 

The trial court also held that the collection firm's conduct was not "unfair or unconscionable" reasoning that Wagner had not actually attended a debtor's examination, and the collection firm adjourned the debtor's examination upon Wagner's attorney's request.

 

In addition, the trial court held that the collection firm did violate portions of the FDCPA by serving Wagner with the subpoena after being informed he was not the debtor. However, the court concluded that the FDCPA's bona fide error defense shielded the collection firm from liability and thus entered judgment on its behalf. This appeal followed.

 

The Second Circuit examined the plaintiff's claim that the collection firm violated the provision of the FDCPA that makes it unlawful for a debt collector to "use any false, deceptive, or misleading representation or means in connection with the collection of any debt." 15 U.S.C. § 1692e.

 

On appeal, the plaintiff argued that the trial court erred in granting summary judgment because (1) under New York law the collection firm lacked the right to serve a restraining notice on him without first having "reason to believe" that he was the debtor; and (2) New York case law held that a subpoena duces tecum could not "be used as a fishing expedition for the purpose of discovery."

 

The Second Circuit rejected the plaintiff's arguments noting that he misconstrued both the statute and case law cited.  The Second Circuit also held the trial court did not err as the collection firm sought to collect on a valid judgment against the debtor by explicitly instructing the process server to serve the subpoena on "Wagner, Jr.", not "Wagner, Sr."

 

The Appellate Court also agreed with the trial court that the collection firm did not violate section 1692f of the FDCPA which provides a debt collector "may not use unfair or unconscionable means to collect or attempt to collect any debt." 15 U.S.C. § 1692f.

 

Here, the Second Circuit noted, the plaintiff was never forced to attend a debtor's examination or to respond to the subpoena, and the collection firm ultimately agreed to hold it in abeyance.

Accordingly, the collections firm's conduct did not constitute "unfair or unconscionable means" of debt collection for purposes of section 1692f, and the collection firm was entitled to summary judgment on this claim.

 

Next, the Appellate Court examined the application of the bona fide error defense under the FDCPA which provides a "debt collector asserting the bona fide error defense must show by a preponderance of the evidence that its violation of the Act: (1) was not intentional; (2) was a bona fide error; and (3) occurred despite the maintenance of procedures reasonably adapted to avoid any such error." Edwards v. Niagara Credit Sols., Inc., 584 F.3d 1350, 1352-53 (11th Cir. 2009).

 

The Second Circuit disagreed with the trial court's ruling that the collection firm was entitled to summary judgment pursuant to the bona fide error defense, because a reasonable jury could find that the collection firm's error was not bona fide and that it did not maintain procedures reasonably adapted to avoid its error.

 

In making this holding, the Appellate Court relied on the fact that the plaintiff twice informed the collection firm that he was not the debtor before receiving the subpoena. In addition, the collection firm conceded it had no written policies for situations when it is uncertain where a debtor resides based on conflicting information.

 

In sum, the Second Circuit concluded that a reasonable jury could find that the collection firm did not make a "bona fide error" within the meaning of the FDCPA, and accordingly held that the trial court erred in granting summary judgment to the collection firm.

 

Accordingly, the Appellate Court affirmed in part and vacated in part, and remanded the judgment of the trial court for further proceedings consistent with its opinion.

 

 

 

Ralph T. Wutscher
Maurice Wutscher LLP
The Loop Center Building
105 W. Madison Street, Suite 603
Chicago, Illinois 60602
Direct:  (312) 551-9320
Fax: (312) 284-4751

Mobile:  (312) 493-0874
Email: rwutscher@MauriceWutscher.com

 

Admitted to practice law in Illinois

 

 

 

Alabama   |   California   |   Florida   |   Georgia  |   Illinois   |   Massachusetts   |   New Jersey   |   New York   |   Ohio   |   Pennsylvania   |   Tennessee   |   Texas   |   Washington, DC

 

 

NOTICE: We do not send unsolicited emails. If you received this email in error, or if you wish to be removed from our update distribution list, please simply reply to this email and state your intention. Thank you.


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Saturday, September 19, 2020

FYI: 3rd Cir Rejects Challenge to Parallel State AG and CFPB Prosecutions

The U.S. Court of Appeals for the Third Circuit recently affirmed the denial of a motion to dismiss filed by a federal student loan lender and servicer against claims raised by the Commonwealth of Pennsylvania alleging violations of federal and state consumer protection laws after the Consumer Financial Protection Bureau filed suit raising similar claims.

 

In so ruling, the Third Circuit held that the Commonwealth's parallel enforcement action under the federal Consumer Protection Act of 2010 was permitted by the statute's plain language, and the federal Higher Education Act of 1965 does not expressly preempt the Commonwealth's claims under Pennsylvania's Unfair Trade Practices and Consumer Protection Law to the extent they are based on affirmative misrepresentations and misconduct, rather than failures of disclosure, and no other preemption principle barred the Commonwealth's claims.

 

A copy of the opinion is available at:  Link to Opinion

 

In January 2017, the Consumer Financial Protection Bureau ("CFPB"), along with the States of Illinois and Washington filed similar lawsuits against a prominent federal student loan lender and servicer ("Servicer") alleging, among other things, that it supposedly failed to adequately disclose the availability of income-driven repayment (RPA) programs to borrowers, instead steering its borrowers into forbearance to their detriment by adding interest to the loan's principal and losing credit for months that would have been counted towards forgiveness. 

 

Nine months later, in October 2017, the Commonwealth of Pennsylvania (the "Commonwealth") filed similar claims against the Servicer, alleging violations of the Pennsylvania's Unfair Trade Practices and Consumer Protection Law, 73 Pa. Const. Stat. §§ 201, et seq. (the "PA Protection Law") for supposedly unfairly and deceptively originating risky, expensive loans, which had a high likelihood of default, among other unlawful conduct; the PA Protection Law for allegedly steering borrowers suffering long-term financial hardship into costly forbearances; the Consumer Protection Act for allegedly steering borrowers suffering long-term financial hardship into costly forbearances; the PA Protection Law for alleged loan servicing failures related to recertification of IDR plans; the Consumer Protection Act for alleged loan servicing failures related to recertification of IDR plans; the PA Protection Law for alleged misrepresentations relating to cosigner releases; the Consumer Protection Act for alleged misrepresentations relating to cosigner releases; the PA Protection Law for alleged repeated payment processing errors; and the Consumer Protection Act for the same alleged repeated payment-processing errors. 

 

The Commonwealth's complaint differed from the other actions in that it also challenges the pre-2007 loan origination practices of the Servicer's corporate predecessor (Count I), and its alleged "fail[ure] to disclose a date certain by which a borrower must submit materials to recertify an [IDR] plan." 

 

The Servicer moved to dismiss the Commonwealth's complaint for failure to state a claim arguing: (i) that the Consumer Protection Act of 2010, 12 U.S.C. § 5552, et seq. (the "Consumer Protection Act" or the "Act") precluded the Commonwealth from filing a concurrent, parallel enforcement action lawsuit, and; (ii) that the federal Higher Education Act of 1965, 20 U.S.C. § 1001 et seq., (the "Education Act"), preempts the Commonwealth's loan servicing claims under its Unfair Trade Practices and Consumer Protection, 73 Pa. Cons. Stat. §§ 201-1 to 201-9.3 Law (the "PA Protection Law").

 

These arguments were rejected by the trial court, which held (i) that Section 5552(a)(1) of the Consumer Protection Act, 12 U.S.C. § 5552(a)(1), unambiguously confers a right on state attorneys general to file suit to enforce the Consumer Protection Act, and that there is nothing in the Act that would bar a parallel state action; (ii) that the Commonwealth's action survived under express-preemption principles in that the claims were not an attempt to impose disclosure requirements on Navient, but were instead distinct allegations of unfair and deceptive business practices brought pursuant to Pennsylvania's traditional state police powers, and; (iii) that conflict preemption did not apply because uniformity was not an express goal of Congress in enacting the Education Act and, even if it were, this goal is not defeated by allowing the Commonwealth to enforce its consumer protection laws. Pennsylvania v. Navient Corp., 354 F. Supp. 3d 529, 543-53 (M.D. Pa. 2018).

 

The Third Circuit granted permission to appeal two of the three questions of law certified by the trial court for interlocutory appeal: (1) whether the Commonwealth may bring a parallel enforcement action under the Consumer Protection Act after the Bureau has filed suit; and (2) whether the Education Act preempts the Commonwealth's loan-servicing claims under the PA Protection Law.

 

Turning first to the issue of whether the Consumer Protection Act barred concurrent actions, the Third Circuit noted that the plain language of Section 5552 permits the attorney general of any state to bring a civil action to enforce provisions of the Act.  12 U.S.C. § 5552(a)(1). Moreover, while other provisions of the Consumer Protection Act expressly prohibit concurrent claims, section 5552 does not. 

 

While the Servicer correctly pointed out that section 5552(b) requires state attorney generals to notify the CFPB before filing such a lawsuit (12 U.S.C. § 5552(b)(1)(A)) and grants the Bureau authority to intervene in such lawsuits (12 U.S.C. § 5552(b)(2)(A)), the Third Circuit concluded that the pre-suit notice requirement does not negate that statute's express authorization of parallel state actions, and the Servicer failed to provide any case law authority supporting that, where a statute allows third-party intervention, concurrent claims are barred. 

 

Lastly, the Third Circuit held that the trial court correctly rejected the Servicer's augment that allowing concurrent claims would overburden the courts, because although "federal courts are indeed inundated with cases, adjudicating this case is a burden the Court is required to assume, absent a recognized statutory or procedural basis that precludes the Commonwealth from bringing its action." Navient, 354 F. Supp. 3d at 546.

 

Accordingly, the Third Circuit held that the clear statutory language of the Consumer Protection Act permits concurrent state claims, for nothing in the statutory framework suggests otherwise.

 

Next, the Third Circuit reviewed the Servicer's argument that the Commonwealth's action was preempted, both expressly and impliedly by the federal Education Act.  As you may recall, The Supremacy Clause of the Constitution, U.S. Const. art. VI, cl. 2, invalidates any state law that "interferes with or is contrary to federal law[.]" Free v. Bland, 369 U.S. 663, 666 (1962). 

 

In preemption cases, "[the Court's] inquiry is guided by two principles.  First, the intent of Congress is the 'ultimate touchstone' of preemption analysis… Second, [Courts] 'start[] with the basic assumption that Congress did not intend to displace state law.'"  Farina v. Nokia Inc., 625 F.3d 97, 115-16 (3d Cir. 2010) (quoting Medtronic, Inc. v. Lohr, 518 U.S. 470, 485 (1996)).

 

The Servicer argued that Counts II and IV of the Commonwealth's Complaint challenging the sufficiency of the Servicer's "disclosures" or "notice" required under the PA Protection law are expressly preempted by Section 1098 of the Education Act which provides that "[l]oans made, insured, or guaranteed pursuant to a program authorized by Title IV of the Higher Education Act . . . shall not be subject to any disclosure requirements of any State law." 20 U.S.C. § 1098g. 

 

Here, the Third Circuit determined that the Commonwealth's claims were not wholly based on failures of disclosure, but instead, sought to hold the Servicer accountable for its misconduct in making numerous affirmative misrepresentations. 

 

Following rulings from the Eleventh and Seventh Circuits, the Third Circuit adopted the distinction between affirmative misrepresentation and failure to disclosure information as required by the Education Act, concluding that Section 1098g does not expressly preempt claims to the extent they are alleging affirmative misrepresentations rather than failures of disclosure.  See Lawson-Ross v. Great Lakes Higher Educ. Cop., 955 F.3d 908, 917 (11th Cir. 2020) ("the precise language Congress used in § 1098g preempts only state law that imposes disclosure requirements; state law causes of action arising out of affirmative misrepresentations a servicer voluntarily made that did not concern the subject matter of required disclosures impose no disclosure requirements."); Nelson v. Great Lakes Higher Educ. Cop., 928 F.639, 650 (7th Cir. 2019) ("[w]e recognize that it would be possible to apply state consumer protection laws to impose additional disclosure requirements on loan servicers of federally insured student loans. Such applications would be preempted under § 1098g . . . . But that result is not necessary or 31 inherent in [the borrower's] claims, at least to the extent she alleges affirmative misrepresentations."). 

 

Accordingly, the Third Circuit concluded that the trial court correctly concluded that the Commonwealth's complaint alleges Navient made numerous affirmative misrepresentations, and claims based thereon are not expressly preempted by the Education Act.

 

The Appellate Court similarly rejected the Servicer's arguments that Section 1098g impliedly conflicted with the Commonwealth's state-law claims, finding no intent that Congress "had the sweeping goal of regulating all misconduct that could possibly occur in student loan financing and requiring uniformity of all claims tangentially related to the Education Act," and that, while not expressly argued by the Servicer, that the Education Act also does not field preempt the regulation of student loans.  Nelson, 928 F.3d at 651 ("'[S]tate law and federal law can exist in harmony' under the Education Act."); See, e.g., Lawson-Ross, 955 F.3d at 923; Nelson, 928 F.3d at 651-52; Chae, 593 F.3d at 941–42; Armstrong v. Accrediting Council for Continuing Educ. & Training, Inc., 168 F.3d 1362, 1369 (D.C. Cir. 1999); Keams v. Tempe Tech. Inst., Inc., 39 F.3d 222, 226 (9th Cir. 1994).

 

Accordingly, because the Commonwealth's action was not barred under the plain language of the Consumer Protection Act nor preempted by the Education Act, the trial court's denial of the Servicer's motion to dismiss was affirmed.  

 

 

 

Ralph T. Wutscher
Maurice Wutscher LLP
The Loop Center Building
105 W. Madison Street, Suite 603
Chicago, Illinois 60602
Direct:  (312) 551-9320
Fax: (312) 284-4751

Mobile:  (312) 493-0874
Email: rwutscher@MauriceWutscher.com

 

Admitted to practice law in Illinois

 

 

 

Alabama   |   California   |   Florida   |   Georgia  |   Illinois   |   Massachusetts   |   New Jersey   |   New York   |   Ohio   |   Pennsylvania   |   Tennessee   |   Texas   |   Washington, DC

 

 

NOTICE: We do not send unsolicited emails. If you received this email in error, or if you wish to be removed from our update distribution list, please simply reply to this email and state your intention. Thank you.


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Thursday, September 17, 2020

FYI: 6th Cir Holds Lender Violated TILA's "Ability to Repay" Income Verification Rule

In an unpublished opinion, the U.S. Court of Appeals for the Sixth Circuit recently held that a mortgage lender's reliance upon borrower's representations concerning the amount of his future spousal support and rental income without proper verifiable documentation were insufficient to satisfy the "ability to repay" income verification requirements arising under the federal Truth in Lending Act, 15 U.S.C. § 1601, et seq. ("TILA"), and its implementing regulation ("Regulation Z").

 

However, the Sixth Circuit ruled in favor of the lender on the borrower's negligence, unclean hands, unconscionability, and recoupment claims.

 

A copy of the opinion is available at:  Link to Opinion

 

Prior to the finalization of a divorce proceedings between the borrower and his spouse, the borrower applied with the lender for a refinance of his existing mortgage loan in order to remove the spouse as an obligor on the existing loan.  In his loan application, the borrower claimed income from employment, social security, rental proceeds, and spousal support. 

 

For the spousal support income, the borrower and his spouse made various verbal representations to the lender in which they both promised that a separation agreement for the amounts claimed in the application would be executed by them.  This spousal support constituted a substantial portion of the borrower's income. 

 

The lender approved the borrower for the refinance loan based, in part, on the spousal support agreement provided by the borrower.  The agreement was not, in fact, executed by the borrower and his spouse until two months after the loan closed. 

 

The lender also relied upon the borrower's tax returns to verify the rental income claimed in the application.  However, the tax returns did not reflect the actual rental income amount claimed in the application and it did not pertain to the same property scheduled in the loan application.  The lender did not review any lease agreements concerning the rental income claimed by the borrower.

 

After the loan origination, the borrower and his ex-spouse complied with the separation agreement for a few months, but the borrower ultimately broke from the separation agreement.  Instead of complying with the terms of the separation agreement, the borrower petitioned the divorce court for a greater award of spousal support. 

 

The trial court denied the borrower's petition, and the final divorce decree awarded the borrower only a fraction of the agreed upon spousal support provided for in the separation agreement.

 

The borrower fell into arrears on the refinance loan and defaulted some two years after its origination. Following his default, the borrower filed a complaint against the lender alleging that the lender violated TILA by extending the loan without a reasonable and good-faith determination that he had a reasonable ability to repay the loan and failing to verify his income.  The borrower also brought a negligence claim against the lender for extending the loan.

 

After the borrower filed his complaint, the lender initiated a separate proceeding to foreclose on the loan.  That separate proceeding was dismissed, and the lender was provided leave to amend its answer in the present matter to include a counterclaim for foreclosure and breach of contract.

 

Following the filing of cross motions for summary judgment, the trial court granted judgment in favor of the lender and against the borrower on his claims for violations of TILA and for negligence.  The lower court also granted judgment in favor of the bank on its claims for breach of contract and issued a foreclosure decree.

 

The borrower appealed.

 

As to his TILA claims, the borrower argued on appeal that the lender failed to comply with TILA because his spousal support income was not documented or verified as required by TILA and its implementing regulations. 

 

As you may recall:

 

-  Section 1639c of TILA provides in relevant part that: "no creditor may make a residential mortgage loan unless the creditor makes a reasonable and good faith determination based on verified and documented information that, at the time the loan is consummated, the consumer has a reasonable ability to repay the loan…"  15 U.S.C. § 1639c(a)(1). 

 

-  TILA further provides that in making a determination as to the consumer's ability to repay, the creditor "shall include consideration" of among other things "the consumer's credit history, current income, expected income the consumer is reasonably assured of receiving…" 15 U.S.C. § 1639c(a)(3). 

 

-  TILA requires that the creditor verify the income sources through a review of numerous documents including the consumer's tax returns, payroll receipts, or "other third-party documents that provide reasonably reliable evidence of the consumer's income or assets".  15 U.S.C. § 1639c(a)(4).  Regulation Z provides additional clarification on the incomer verification and ability to repay requirements. 

 

-  TILA and Regulation Z provide for both a conclusive and a rebuttable presumption of the ability to repay for certain "qualified mortgages" under 15 U.S.C. § 1639c(b) and 12 CFR § 1026.43(e).

 

The Court found that 12 C.F.R. § 1026.43 and Appendix Q to Regulation Z were particularly relevant to the claims.

 

The Sixth Circuit noted that a determination that a loan is a "qualified mortgage" under Regulation Z can result in either a conclusive or rebuttable presumption that the lender complied with the reasonable-ability-to-repay requirement.  See 12 C.F.R. § 1026.43(e)(1).  However, the lender did not claim that the loan was a "qualified mortgage" or that it was otherwise entitled to the presumption.

 

Appendix Q generally requires that a creditor verify that spousal-support payments have "been received during the last 12 months" to include those in a consumer's income calculation.  But, Appendix Q allows for a creditor to rely upon "evidence that spousal support payments have been received" for "[p]eriods less than 12 months …, provided the creditor can adequately document the payer's ability and willingness to make timely payment."  App. Q § II(A)(3).  Appendix Q further requires that for spousal support income to be effective, the consumer must provide required documentation which may include a final divorce decree, legal separation agreement, court order or voluntary payment agreement.  Id.

 

Notwithstanding the issues as to whether or not Appendix Q even applied in this instance, which the Sixth Circuit did not resolve, the Court determined the lender failed to comply with Appendix Q because at the time of origination for the refinance loan, the borrower had not received any spousal support payments. 

 

The Sixth Circuit also found that the borrower's ex-spouse's verbal promises to enter into the separation agreement clearly did not meet the required document criteria. 

 

Similar to Appendix Q, section 1026.43(c) of Regulation Z requires the creditor to use "third-party records that provide reasonably reliable evidence of the consumer' income or assets."  12 C.F.R. § 1026.43(c)(2)(i). A "third-party record" under Regulation Z is limited to: (i) "a document or other record prepared or reviewed by an appropriate person other than the consumer, the creditor, or the mortgage broker … or an agent of the creditor or mortgage broker;" (ii) a copy of the consumer's state or federal tax returns; (iii) business records from the creditor for the consumer's account; (iv) if the consumer is an employee of the creditor or mortgage broker, then the consumer's employment records are allowed.  12 C.F.R. § 1026.43(b)(13).

 

The Sixth Circuit soundly rejected the lender's argument that it complied with the requirements of Section 1026.43 by reliance upon the representations of the borrower and his ex-spouse.  The verbal promises did not meet the definition of required documentation under Appendix Q or a "third-party record" because as the Court noted, it was not any agreement or document at all, and the lender did not present any argument to explain how it believed that these representations met this criteria. 

 

Accordingly, the Court found that the lender violated TILA and Regulation X in its handling of the spousal income.

 

The Sixth Circuit was not persuaded by the lender's argument that its reliance upon these representations was justified because it was in fact executed and the borrower and his ex-spouse did perform under that agreement.  As noted by the Court, "[a]lthough the [lender's] arguments are sympathetic, they do not change the fact that technical violations of TILA generally result in liability."  Putle v. Eldridge Auto Sales, Inc., 91 F.3d 797, 801-02 (6th Cir. 1996). Thus, the Court determined that the lender's good faith efforts and the borrower's actions in reneging on the separation agreement did not provide a defense or justification for the lender's violation of TILA. 

 

The Court also determined that the lender violated the income verification requirements pertaining to the borrower's rental income.  Specifically, the lender failed to obtain copies of the lease agreement to verify that his claimed rental income was accurate, and as the Court noted, the amount of the borrower's actual rental income at the time of the origination was lease than what he claimed on his application.  Instead, the lender merely relied upon tax returns which showed a different amount of rental income and for different properties. 

 

The Sixth Circuit found that this was a violation of lender's requirement to verify the sources of the claimed rental income as provided for in Section 1024.36(c)(3) and (4) of Regulation Z.

 

Accordingly, the Court reversed the trial court's summary judgment orders on the borrower's TILA claim, and remanded the matter for further proceedings.

 

As to the borrower's negligence claim, the Sixth Circuit agreed with the trial court that the borrower failed to establish that the lender owed him any duty.  As stated by the Court, "Ohio law provides that lenders owe no duty to prospective borrowers during negotiations about terms and conditions of a loan."  Blon v. Bank One, 519 N.E.2d 363, 368 (Ohio 1998); Shaner v. United States, 976 F.2d 990, 993 (6th Cir. 1992). 

 

The Court rejected the borrower's argument that TILA provided a duty on which it could premise his negligence claim, determining that it could not find any Ohio case which supported his argument and that "when given a choice between an interpretation of [state] law which reasonably restricts liability and one which greatly expands liability, we should choose the narrower and more reasonable path."  Combs v. Int'l Ins. Co., 354 F.3d 568, 577 (6th Cir. 2004). 

 

Accordingly, the Sixth Circuit affirmed the lower court's entry of summary judgment in favor of the lender on the negligence count.

 

The borrower further argued on appeal that the trial court's judgment in favor of the lender on its foreclosure claim was in error because he had valid defenses to foreclosure in the form of unclean hands, unconscionability, and recoupment or setoff. 

 

The Sixth Circuit found that the evidence in the record did not rise to the level of unclean hands which under Ohio law required a showing that the lender's conduct was reprehensible.  Basil v. Vincello, 553 N.E.2d 602, 607 (Ohio 1990).  As noted by the Court, although the lender failed to verify his income as required by TILA, the borrower himself signed the application confirming that the income was accurate, and the lender gathered and reviewed many standard loan-file documents including tax returns and bank statements. 

 

Similarly, the Court found that the evidence did not support a claim for unconscionability.  The borrower argued the lender engaged in prohibited "mortgage flipping" which is an unconscionable act under Ohio law.  See Ohio Rev. Code Ann. § 1345.031(B)(12).

 

The Sixth Circuit was not persuaded by the borrower's argument, however, as the terms of the refinance loan were not demonstratively worse than the prior loan.  As noted by the Court, although the interest rate was slightly higher on the refinance loan, it resulted in a lower monthly payment for the borrower.  The Court also found persuasive the fact that the refinance was extended based upon representations from the borrower and his ex-spouse that it was required to facilitate their separation agreement, not as a plot by the lender to saddle the borrower with debt and to strip the equity from the property. 

 

The Court also found that the borrower's claim for recoupment was without merit.  As noted by the Court, under TILA, recoupment or setoff is "a matter of defense" to foreclosure, and recovery is limited to the "amount to which the consumer would be entitled under [§ 1640(a)] for damages for a valid claim brought in an original action against the creditor."  15 U.S.C. § 1640(k)(1) & (2).  Because the borrower brought his own original claim against the lender for a violation of TILA, he cannot also assert recoupment as defense as this would result in an award of double damages. 

 

However, the Sixth Circuit found that the damages that he is awarded for a violation of TILA under Section 1640(a) can be applied as a set-off against the amount due in the foreclosure. 

 

Accordingly, the Sixth Circuit did not reverse the trial court's judgment as to foreclosure or breach of contract in favor of the lender, but it remanded these claims to be considered for a determination of damages under the borrower's TILA claim and for further proceeding consistent with its opinion. 

 

 

 

Ralph T. Wutscher
Maurice Wutscher LLP
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