Saturday, April 8, 2017

FYI: 5th Cir Holds No Statute of Limitations on Texas Home Equity Claims

The U.S. Court of Appeals for the Fifth Circuit recently held that no statute of limitations applies to a mortgage loan borrower's claims of violations of the requirements for home equity loans contained in section 50(a)(6) of the Texas Constitution.

 

In so ruling, the Court recognized and applied the Texas Supreme Court's recent ruling in Wood v. HSBC Bank USA, N.A., 505 S.W.3d 542 (2016), which reached the same conclusion, and held that the borrower did not waive the issues in Wood for purposes of the appeal.

 

A link to the opinion:  Link to Opinion

 

Following the borrower's default on his mortgage loan, the mortgagee filed a foreclosure complaint more than four years after the loan origination.  In response to the foreclosure complaint, the borrower raised as his affirmative defense and counterclaim that the mortgagee's security interest was unenforceable due to the violations of section 50(a)(6) of the Texas Constitution.  The mortgagee replied to the counterclaim asserting that the claims were barred by the applicable four year statute of limitations, and in the alternative, that the lender was entitled to equitable subrogation.

 

Following cross-summary judgment motions, the trial court granted summary judgment in favor of the mortgagee based, in part, on Fifth Circuit precedent applying the four year statute of limitations to claims and defenses under section 50(a)(6) of the Texas Constitution.  See Priester v. JP Morgan Chase Bank, N.A., 708 F.3d 667, 674 (5th Cir. 2013). 

 

The trial court further determined that the borrower waived by failing to adequately plead his arguments presented at summary judgment that even if the statute of limitations did apply, his claims were still timely under Tex. Civ. Prac. & Rem. Code s. 16.069 which allows for otherwise time-barred claims to be asserted as counterclaims to actions arising out of the same transaction or occurrence or under a theory of recoupment.

 

The borrower appealed.  Subsequent to the trial court's ruling, the Texas Supreme Court issued its ruling in Wood v. HSBC Bank USA, N.A. which explicitly cited and rejected the Fifth Circuit precedent applying the Texas residual four year statute of limitations.

 

The parties stipulated in their arguments before the Fifth Circuit that the holding in Wood abrogated the Fifth Circuit precedent.  However, the mortgagee argued that the borrower waived his arguments that Wood controlled in the present matter by failing to raise the argument in its initial brief despite the Wood opinion being released prior to the borrower's opening brief. 

 

The Fifth Circuit rejected the mortgagee's waiver argument.  In so ruling, the Court held that although the general rule is that issues not briefed are waived, this rule is a prudential construct that requires the exercise of discretion.  The Court explained that because the borrower's essential argument in the trial court and before the Fifth Circuit was that the statute of limitations did not apply that the Fifth Circuit would need to examine the issue as to the applicability of the statute of limitations and thus, the Wood opinion, based upon the borrower's arguments.  Further, the Court explained that application of Wood was a pure question of law for which there was a well settled discretionary exception to the waiver rule. 

 

Accordingly, the Fifth Circuit determined that in light of the holding in Wood, the trial court erred in determining that the borrower's claims and defenses were barred by the statute of limitations.

 

The Fifth Circuit remanded the matter to the trial court for further consideration of the borrower's assertions that the loan violated section 50(a)(6) of the Texas Constitution and consideration of the mortgagee's equitable subrogation claims.

 

 

 

Ralph T. Wutscher
Maurice Wutscher LLP
The Loop Center Building
105 W. Madison Street, 18th Floor
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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Friday, April 7, 2017

FYI: Ind Sup Ct Rejects Borrowers' Argument That Bankruptcy Discharge Wiped Out Mortgage Loan and Lien

The Supreme Court of Indiana recently confirmed a mortgagee's ability to seek an in rem judgment against property for which there was an outstanding lien balance after the borrowers obtained a discharge of their Chapter 7 bankruptcy. 

 

In so ruling, the Court distinguished the difference between an in rem and in personam judgment, and rejected borrowers' unsupported argument that the debt was paid in full by the time the mortgagee initiated foreclosure proceedings against the borrowers.

 

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

 

The borrowers obtained a loan from the lender to purchase their home, and executed a promissory note for the principal amount of the loan. The borrowers also executed a mortgage in favor of the lender using the property as security for repayment of the loan. 

 

The borrowers later filed Chapter 13 bankruptcy ("Bankruptcy I").  The mortgagee filed a proof of claim in Bankruptcy I for an arrearage in the amount of $18,665.85 and a total claim for $124,154.04.  Both of the mortgagee's claims were allowed.  Bankruptcy I was later dismissed because the borrowers defaulted on the plan payments, and Bankruptcy I was terminated without an order of discharge.  The Trustee's Final Report showed principal paid in the amount of $53,002.79.

 

Later, the borrowers filed a second Chapter 13 bankruptcy ("Bankruptcy II").  The mortgagee filed a proof of claim for a total amount due of $131,633.84, with a claim for an arrearage of $19,453.14.  Both of the claims in Bankruptcy II were allowed.  Bankruptcy II was dismissed on borrowers' motion, and borrowers' debts were not discharged.  The Trustee's Final Report in Bankruptcy II showed principal paid in the amount of $42,492.75 and $9,988.72 towards the arrearage. 

 

The borrowers later filed a third Chapter 13 bankruptcy ("Bankruptcy III").  The mortgagee filed a proof of claim with $13,343.26 in arrearage and a total claim of $113,279.23.  Bankruptcy III was converted from a Chapter 13 to Chapter 7.  The Trustee's Final Report, issued in November of 2013, discharged borrowers, showed nothing was paid toward the arrearage, and reflected a "Mortgage Ongoing" in the amount of $106,491.26.

 

After the discharge was entered the mortgagee filed its complaint on the note and to foreclose on the mortgage.  The mortgagee sought "[J]udgment, IN REM, against the real estate being foreclosed herein, in the sum of the outstanding principal balance of $100,806.90 . . ."  The mortgagee filed a motion for summary judgment and submitted with the motion the note and mortgage, and an affidavit from the mortgagee's representative establishing borrowers were in default under the loan documents. 

 

The borrowers filed a cross-motion for summary judgment, and tendered several documents with their cross-motion.  Included among borrowers' documents, the Court noted, was a letter to the mortgagee acknowledging borrowers were in arrears on their mortgage. The borrowers, however, did not submit any affidavits in support of their own cross-motion or in opposition to the mortgagee's motion. 

 

The trial court granted summary judgment in favor of the mortgagee and denied borrowers' cross-motion.  The trial court granted the mortgagee an in rem judgment against the property in the principal sum of $100,806.90. 

 

The borrowers appealed the trial court's judgment. Despite giving borrowers multiple chances to comply with the appellate rules, the Indiana Court of Appeals found the borrowers' Appellant's Brief was "woefully defective" and dismissed the appeal with prejudice.  The borrowers filed a petition to transfer, which the Court initially denied.  The borrowers filed a motion to reconsider, and the Court vacated the order denying transfer and assumed jurisdiction over the appeal to address the merits.

 

On appeal, the borrowers asserted that the foreclosure was improper because by the time the mortgagee initiated the foreclosure action they no longer owed any debt to the mortgagee  The borrowers based their argument on (i) documentation showing they paid $122,007.21 in principal to the mortgagee during their three bankruptcies, (ii) their assertion the mortgagee did not properly apply borrowers' payments, and (iii) their assertion the mortgage was paid in full when the Final Report in Bankruptcy III showed borrowers had been "discharged." 

 

The Court quickly pointed out that the borrowers submitted no evidence to support their argument that their bankruptcy payments were not properly applied. The Court also observed that borrowers had not submitted admissible evidence establishing they had paid over $120,000 in principal to the mortgagee. 

 

Next, the Court clarified that the difference between Chapter 13 and Chapter 7 is one of reorganization versus liquidation.  In the liquidation bankruptcy (Chapter 7), the debtor surrenders his assets and in exchange is relieved of his debts.  In contrast, in a Chapter 13 reorganization a debtor's assets are not surrendered or sold.  Instead, the debtor retains his assets and pays his creditors as much as he can afford over a certain period of time.  Once the debtor makes all of the required payments under the plan, the bankruptcy court discharges most of the debtor's remaining debts.

 

The Court observed that Bankruptcy I and II were terminated without an order discharging borrowers' remaining debts.  Bankruptcy III, which as converted to Chapter 7, resulted in borrowers' debts being "discharged."

 

The borrowers relied on the "discharge" from Bankruptcy III to assert they were no longer indebted to the mortgagee.  The Court, in response, corrected borrowers' misunderstanding of (i) owing on the loan, and (ii) the lien on the property provided by the mortgage. 

 

In addressing whether the borrowers owed on the loan, the Court conceded a Chapter 7 discharge "wipes out" a borrower's obligation to pay back the loan.  According to the Court, however, "such a discharge extinguishes only the personal liability of the debtor" and it has no bearing on the validity of a mortgage lien. 

 

As to the lien on the property provided by the mortgage, the Court affirmed a century-old rule that the right to foreclose on the mortgage survives the bankruptcy.  The Court then summed up the distinction between in personam and in rem judgments: "a bankruptcy discharge removes the ability of creditors to seek to collect against the debtor individually (known as in personam liability).  Liens, on the other hand are in rem meaning they are rights against the property which are enforceable." 

 

The Court concluded that the discharge in Bankruptcy III only protected borrowers from personal liability for their debts, and the mortgage lien survived and is enforceable as an in rem action. 

 

Because the mortgagee's complaint and motion for summary judgment did not seek an in personam judgment against the borrowers, and only sought an in rem judgment against the property for which there was an outstanding balance, the Court affirmed the granting of the mortgagee's motion for summary judgment.

 

 

 

Ralph T. Wutscher
Maurice Wutscher LLP
The Loop Center Building
105 W. Madison Street, 18th Floor
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   |   Indiana   |   Massachusetts   |   Michigan   |   New Jersey   |   New York   |   Ohio   |   Pennsylvania   |   Texas   |   Washington, DC   |   Wisconsin

 

 

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Thursday, April 6, 2017

FYI: 7th Cir Rejects Borrower's Claims Against Mortgagee and Various Other Parties Under Rooker-Feldman

The U.S. Court of Appeals for the Seventh Circuit recently affirmed the dismissal of a borrower's lawsuit against his mortgagee, its former employees, counsel and appellate counsel, and the original mortgagee's software platform creator, under various federal and state consumer protection statutes and common law torts.

 

In so ruling, and despite the borrowers assertion that new and previously unknown claims were being asserted, the Court held that the all causes of action brought by the borrower in the federal action were necessarily adjudicated in prior state court foreclosure action, and barred by the Rooker-Feldman doctrine.

 

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

 

After falling behind on his mortgage payments, a borrower applied for a modification with his mortgage loan servicer three times before discontinuing payments altogether.  After a default and acceleration notice was sent to the borrower, a foreclosure action was initiated by the mortgagee.

 

The mortgagee filed a motion for summary judgment, but withdrew the motion months later while it was under investigation for alleged improper foreclosure practices.  The motion for summary judgment was later re-filed, and granted.  The borrower appealed the foreclosure judgment, arguing that the mortgagee was not the proper party to foreclosure, and committed fraud because it was not the real party of interest, and instructed its employees to fraudulently sign documents.  The appellate court affirmed the trial court's order, and the Indiana Supreme Court denied the borrower's motion for transfer.

 

The borrower then brought suit in federal court, filing a rambling 90-page complaint alleging new evidence of fraud that allegedly could not be presented to the state court, including supposed undisclosed consent judgments, alleged undisclosed parties in interest, and supposed evidence of robosigning. He also claimed to have rescinded his mortgage after the foreclosure action was filed. 

 

The complaint named multiple defendants including former employees of the original mortgagee, the mortgagee's counsel and appellate counsel, and a computer software and form provider for the former mortgagee. The federal complaint asserted violations of a number of federal statutes, including the Real Estate Settlement Procedures Act ("RESPA"), 12 U.S.C. §§ 2605 et seq. and its implementing regulation, 12 CFR Part 226 ("Regulation Z"); the Truth in Lending Act ("TILA"), 15 U.S.C. § 1601 et seq.; the Fair Debt Collection Practices Act ("FDCPA"), 15 U.S.C. § 1692 et seq.; and the Racketeer Influenced and Corrupt Organizations Act ("RICO"), 18 U.S.C. §§ 1961 et seq., as well as state law claims under Indiana Code § 32-30-10.5 (relating to foreclosure prevention agreements), intentional infliction of emotional distress, negligent misrepresentation, common law fraud, and negligence.

 

The trial court dismissed the borrower's complaint reasoning that it lacked subject matter jurisdiction under the Rooker-Feldman doctrine. See Rooker v. Fidelity Trust Co., 263 U.S. 413 (1923); District of Columbia Court of Appeals v. Feldman, 460 U.S. 462 (1983).  The instant appeal followed.

 

On appeal the borrower argued that Rooker-Feldman did not apply, because the federal complaint asserted new evidence of fraud that was not known to the state court, and it would be unfair in light of that to hold him to the state court's judgment.

 

As you may recall, the Rooker-Feldman doctrine prevents federal courts from exercising jurisdiction over cases challenging state-court judgments. ExxonMobil Corp. v. Saudi Basic Indus. Corp., 544 U.S. 280, 284 (2005).  Even claims that were not raised in state court may be subject to Rooker-Feldman if they are closely enough related to a state-court judgment. Sykes v. Cook Cnty. Cir. Ct. Prob. Div., 837 F.3d 736, 742 (7th Cir. 2016).

 

On appeal, the Seventh Circuit agreed that the foundation of the lawsuit rested on the borrower's claims that the state court's foreclosure judgment was in error, as it rested on fraud perpetrated by the defendants, and that redressing that supposed wrong is prohibited under Rooker-Feldman.

 

First, the Seventh Circuit examined the borrower's RESPA claims alleging improper accounting and imposition of fees long before the state court's judgment.  Although these claims may have been independent of the state court's judgment, the appellate court concluded that the amounts due on the loan were nonetheless already determined by the state court's judgment, and thus subject to dismissal under Rooker-Feldman.

 

As to the borrower's claims that the prior and current mortgagees violated TILA by misrepresenting payments and amounts due, these too were barred by Rooker-Feldman because the state court judgment had already determined the amounts due and owing.  Moreover, any claims that the defendants failed to respond to his "rescission" in a timely manner, the Seventh Circuit held that these claims were separately barred by TILA's three year time limit for a rescission.  See 15 U.S.C. § 1635(f).

 

Because the borrower's RICO conspiracy claims were also dependent upon, and interwoven with the state-court litigation, the Seventh Circuit held that these claims also failed under Rooker-Feldman.

 

Next, the Court examined the borrower's FDCPA claims, which argued (i) that the prior mortgagee using false, deceptive, or misleading representations or means to collect money and attempt to seize his property, because the debt allegedly no longer existed due to his rescission, and (ii) that the defendants attempted to collect a debt it knew was invalid because of "defective and falsified documents."

 

The Seventh Circuit agreed with the trial court's reasoning that the collection attempts are not only independent nor extricable from the state-court judgment, and thus disallowed under Rooker-Feldman, but that the purported rescission is also time-barred.  However, the claims that trying to collect a debt that they knew to be invalid because of "defective and falsified documents" may be viewed as resting on conduct and injury that predated the state litigation, and not barred by Rooker-Feldman, because the relief may be granted without setting aside the foreclosure judgment.  Nonetheless, the Seventh Circuit concluded that the claims were barred by issue preclusion, because the state court had already established that the mortgagee was authorized to collect the debt.

 

As to the borrower's causes of action against the mortgagee's former employee, these not only failed under Rooker-Feldman, but also under the Financial Institutions Reform, Recovery and Enforcement Act of 1989 ("FIRREA"), which divests courts of jurisdiction over any claim involving an act or omission of a depository institution placed in receivership by the FDIC until the claimant has exhausted his administrative remedies. 12 U.S.C. § 1821(d)(13)(D); Farnik v. FDIC, 707 F.3d 717, 720– 21 (7th Cir. 2013).

 

In sum, the Seventh Circuit concluded that all of the borrower's claims must be dismissed — most under Rooker-Feldman and a few for issue preclusion, or other reasons — and affirmed the trial court's dismissal. 

 

However, because the trial court lacked subject-matter jurisdiction its dismissal was prejudice was inappropriate because "that's a disposition on the merits, which only a court with jurisdiction may render."  Frederiksen v. City of Lockport, 384 F.3d 437, 438 (7th Cir. 2004).

 

As such, the Seventh Circuit affirmed the dismissal, but modified the trial court's judgment to show that most of the borrower's federal and state law claims are dismissed without prejudice, and the remainder are dismissed with prejudice.

 

 

 

Ralph T. Wutscher
Maurice Wutscher LLP
The Loop Center Building
105 W. Madison Street, 18th Floor
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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RE: Ill App Ct (1st Dist) Holds Post-Foreclosure COA Dues Need Not Be Paid Monthly to Extinguish Pre-Foreclosure COA Lien

Reversing a trial court's ruling in favor of a condominium association and against a mortgagee, the Appellate Court of Illinois, First District, recently held that the Illinois Condominium Property Act's ("Condo Act") provision creating a mechanism to extinguish liens for pre-foreclosure common expense assessments does not create a timing requirement as to when common expense assessments must be paid post-foreclosure to confirm extinguishment of the pre-foreclosure lien. 

 

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

 

A condominium association ("COA") filed a lawsuit against a mortgagee seeking possession of a condominium unit, pre-foreclosure sale common expenses, and attorney's fees.   

 

Prior to the filing of the COA's complaint, the mortgagee had foreclosed on the condominium unit, and named the COA in the foreclosure action.  The COA never appeared in the foreclosure action and judgment was entered against it. 

 

The mortgagee was the successful bidder at a foreclosure sale.  The sale was confirmed, and a judicial sales deed was recorded. 

 

Some four months later, COA transmitted a 30-day notice to the mortgagee, claiming that the mortgagee was "in default in the payment of [its] proportionate share of the common expenses."  The COA demanded payment of $81,400.35, which included, among other things, regular and special assessments, parking fees, and late fees that had accrued over several years.

 

In response, the mortgagee paid $14,968.76 to the COA, representing only about 5 months of post-sale expenses that had accrued to the date of its payment.

 

The COA's complaint demanded payment from the mortgagee for the pre-foreclosure sale common expenses for the unit and possession.  The COA alleged that its "lien for all past due assessments has not been extinguished and remain[ed] valid" because the mortgagee "failed to [timely] pay the condominium association assessments, parking fees, late fees and other charges the month after the date of the judicial foreclosure sale" as required by section 9(g)(3) of the Condo Act.

 

Cross-motions for summary judgment were filed.  The mortgagee argued that section 9(g)(3) did not contain a timing requirement and that its payment for post-sale expenses extinguished the COA's lien against the unit for pre-sale expenses.

 

The COA argued that section 9(g)(3) did contain a timing requirement with which the mortgagee failed to comply.  As a result, the COA reasoned the mortgagee's payment did not extinguish the COA's lien, and therefore claimed the mortgagee still owed it $94,873.79, which amount included pre-foreclosure sale expenses and $25,816.88 in post-sale expenses.

 

Some nine months after making its first post-sale payment, the mortgagee transmitted two checks to the COA totaling $25,816.88 with a letter stating they were being "tendered as payment in full of all outstanding amounts due for the Unit" from the date the foreclosure sale was confirmed to the date of the second round of payments. 

 

In its response in opposition to the mortgagee's motion for summary judgment, the COA argued that the second round of payments did not extinguish its lien for pre-foreclosure expenses because the second round of payments were made in "bad faith."  Conversely, the mortgagee argued the COA's lien for pre-foreclosure expenses had been extinguished by the two rounds of post-sale payments. 

 

The trial court entered summary judgment in favor of the COA and against the mortgagee, and awarded the COA possession, unpaid pre-foreclosure common expenses, and attorney's fees.  The mortgagee appealed. 

 

To begin its analysis, the Appellate Court noted that "[t]o determine whether the court properly granted summary judgment to the association, we must interpret section 9(g)(3) to determine whether it sets forth a timing deadline for foreclosure purchasers to pay condominium associations for post-sale common expenses."

 

Initially, the Court noted, subsection 9(g)(1) of the Condo Act "permits condominium associations to assert liens against a unit owner for unpaid common expenses."

 

As you may recall, the Illinois Supreme Court previously ruled that the lien created under section 9(g)(1) is not extinguished in a foreclosure action.  See 1010 Lake Shore Association v. Deutsche Bank National Trust Co., 2015 IL 118372.  Instead, the Appellate Court noted, subsection 9(g)(3) of the Condo Act "sets forth a mechanism by which foreclosure purchasers may extinguish an association's lien for pre-sale common expenses."

 

More specifically, subsection 9(g)(3) provides in relevant part that a purchaser condominium unit at a foreclosure sale "shall have the duty to pay the unit's proportionate share of the common expenses for the unit assessed from and after the first day of the month after the date of the judicial foreclosure sale. . ."

 

The Appellate Court noted that the case turned on the meaning of the phrase "from and after the first day of the month after the date of the judicial foreclosure sale" contained in subsection 9(g)(3). 

 

The mortgagee argued that this language simply denotes the point in time after which a "purchaser of a condominium unit at a judicial foreclosure sale" becomes responsible for paying post-sale common expenses. The COA argued that the phrase sets forth a strict deadline by which purchasers must remit payment for post-sale expenses to extinguish any lien for pre-sale common expenses.

 

The Appellate Court agreed with the mortgagee, and held that "based on a plain reading of subsection 9(g)(3), that the phrase 'from and after the first day of the month after the date of the judicial foreclosure sale' does not create a timing deadline with which purchasers must comply to avail themselves of the statute's extinguishment provision. Instead, that phrase simply demarcates the precise moment in time when the foreclosure-purchaser becomes liable for post-sale common expenses."

 

As a fallback position, the COA argued that it should still prevail under subsection 9(f) of the Condo Act.  This subsection states: "Payment of any assessment shall be in amounts and at times determined by the board of managers." 765 ILCS 605/9(f).

 

Relying on subsection 9(f), the COA contended that the mortgagee's payments for post-sale expenses were untimely because the COA's condominium declaration states that assessments are due on "the first of each and every month."

 

The Appellate Court disagreed.  On this issue, the Court held "that sections 9(f) and 9(g)(3) are essentially unrelated. Section 9(f) concerns when assessments are due. Section 9(g) and its various subparts, by contrast, relate to the creation, and extinguishment, of liens for unpaid common expenses. Section 9(g) does not incorporate or otherwise refer in any way whatsoever to section 9(f)."

 

Additionally, the Court held, "[b]y relying on section 9(f) to construe section 9(g)(3), the association is inviting us to apply the doctrine of in pari materia," under which "two legislative acts that address the same subject are considered with reference to one another, so that they may be given harmonious effect." 

 

However, the Appellate Court found that because the language of the statute was clear, the doctrine of in pari materia did not apply and the COA could not "supplement its text by importing section 9(f) into section 9(g)(3)."

 

Because the mortgagee paid the full amount of post-sale expenses it owed the COA before judgment was entered against it, the COA's lien for pre-sale expenses was extinguished pursuant to subsection 9(g)(3), and the Court held that the mortgagee was entitled to summary judgment as a matter of law.

 

 

 

Ralph T. Wutscher
Maurice Wutscher LLP
The Loop Center Building
105 W. Madison Street, 18th Floor
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   |   Indiana   |   Massachusetts   |   Michigan   |   New Jersey   |   New York   |   Ohio   |   Pennsylvania   |   Texas   |   Washington, DC   |   Wisconsin

 

 

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Tuesday, April 4, 2017

FYI: 5th Cir Holds Wage Garnishment Served More Than 90 Days Before Bankruptcy Is Avoidable Transfer

The U.S. Court of Appeals for the Fifth Circuit recently held that the collection of garnished wages earned during the 90 days prior to the filing of a bankruptcy petition is an avoidable transfer, even if the garnishment was served before the 90-day preference period.

 

The ruling creates a potential split with the Second, Seventh, and Eleventh Circuits, with the Fifth Circuit joining with the Sixth Circuit on the issue.

 

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

 

A creditor obtained a money judgment in state court against the debtor and served a garnishment order on the debtor's employer in January of 2012.  In November of 2012, the debtor filed a Chapter 7 bankruptcy proceeding in the Bankruptcy Court for the Middle District of Louisiana.

 

In 2014, the bankruptcy trustee filed an adversary proceeding seeking to recover the money collected under the garnishment order within the 90 days prior to the filing of the petition pursuant to 11 U.S.C. § 547(b).

 

The bankruptcy court granted summary judgment in the bankruptcy trustee's favor and the district court affirmed on appeal. The creditor appealed to the Fifth Circuit, arguing that "the garnished wages should be considered transferred on the date the garnishment order was served, before the preference period, and therefore that the trustee is not entitled to recover them."

 

The Fifth Circuit began by citing the text of 11 U.S.C. § 547(b), noting that issue was the fourth element of § 547(b), which states that "[t]he trustee may avoid any transfer of an interest of the debtor in property … (4) made—(A) on or within 90 days before the filing of the petition;…."

 

The Court explained that "[w]hat constitutes a transfer and when it is complete is a matter of federal law[,] [while] [s]tate law generally determines the nature of the property interests involved in purported transfers, but only '[i]n the absence of controlling federal law.'"

 

The Fifth Circuit further explained that "[s]ection 547(e) provides the governing principles that determine the timing of a transfer … [and] a transfer is generally made at the time it is 'perfected,' … which, in the context of non-real property, occurs when 'a creditor on a simple contract cannot acquire a judicial lien that is superior to the interest of the transferee.' However, § 547(e)(3) qualifies that general principle and provides that 'a transfer is not made until the debtor as acquired rights in the property transferred.'"

 

The Court cited in support its ruling in In re Lathan from 1987, holding that "[a] lien that is perfected outside the preference period does not attach to property rights transferred to the Debtor during the preference period[,]" and Tabita v. IRS, a 1984 bankruptcy case out of the Eastern District of Pennsylvania, which held that "wages earned within [the] preference period are subject to preference even though [the] writ of attachment was served beyond the preference period."

 

The Fifth Circuit then cited a 1934 Supreme Court of the United States ruling in Local Loan Co. v. Hunt, in which the Supreme Court held, "in the context of a bankruptcy discharge dispute, [that] '[t]he earning power of an individual is the power to create property, but it is not translated into property within the meaning of the Bankruptcy Act until it has brought earnings into existence.'"

 

Thus, the Fifth Circuit reasoned, citing the Sixth Circuit's 2001 ruling in In re Morehead, "in the wage garnishment context, a debtor cannot logically obtain rights in her future wages until she performs the services that entitle her to receive those wages. … The Morehead court therefore held that 'when wages are earned during the preference period, transfer of those wages pursuant to garnishment order is avoidable under … § 547(b).'" Because the debtor "had not earned the disputed wages before the ninety-day preference period, he had acquired no rights to those wages and, under § 547(e)(3), could not have transferred such rights to [the creditor] prior to the preference period."

 

The creditor cited three case in which the Second, Seventh, and Eleventh Circuits "held that a transfer of garnished wages occurred at the time the garnishment was served on the employer[,]" but the Court distinguished them because two of them did not address "the effect of § 547(e)(3), and both predated [the Supreme Court's decision] that federal law governs the determination of whether and when a transfer occurred."

 

The Fifth Circuit disagreed with the Seventh Circuit's ruling, which held "that the execution of a garnishment acted as a novation of all of the debtor's interests in the wages under Indiana law so that there could not have been a transfer within the preference period … [and § 547(e)(3) was] inapplicable because the debtor 'will never acquire rights in the portion of his or her wages to be garnished in the future' as those were 'irrevocably transferred to the garnishment plaintiff.'"

 

The Fifth Circuit explained that the Seventh Circuit's conclusion "conflicts with § 547(e)(3)'s instruction that no transfer of an interest in property is made before the debtor acquires rights in the property[,]" that case was also decided before the Supreme Court's decision that federal law governs the determination of whether and when a transfer occurs, and the Seventh Circuit itself held in 1995 that earlier "cases holding that a transfer occurs when a notice of garnishment is served … did not survive the Supreme Court's decision."

 

Given that "[t]he Supreme Court precedent and the overwhelming weight of persuasive authority applying § 547(e)(3) make clear that a debtor's wages cannot be transferred until they are earned[,]" the Fifth Circuit held that "a creditor's collection of garnished wages earned during the preference period is an avoidable transfer made during the preference period even if the garnishment was served prior to that period …" and affirmed the district court's judgment.

 

 

 

 

Ralph T. Wutscher
Maurice Wutscher LLP
The Loop Center Building
105 W. Madison Street, 18th Floor
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, April 3, 2017

FYI: MD Tenn Holds Creditor's Telephone Authorization Process Complied with EFTA

The U.S. District Court for the Middle District of Tennessee recently held that a creditor complied with the federal Electronic Funds Transfer Act, 15 U.S.C. § 1693, et seq. ("EFTA"), when it obtained verbal authorization to accept the consumer's electronic fund transfer and request for enrollment into an autopay system. 

 

In so ruling, the Court held that the creditor was not required to send the consumer a copy of his electronic signature (the recording).  Instead, the Court held, the written confirmation of enrollment need only include the material terms of the autopay system, and sending the confirmation of enrollment within two business days of the date of enrollment was sufficient to meet creditor's duty under the EFTA.

 

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

 

The consumer purchased a vehicle and executed a retail installment contract.  The retail installment contract was assigned to the defendant sales finance company ("creditor").  After the consumer failed to make his first payment on time, he called creditor and (1) authorized it over the phone to make a one-time withdrawal from his checking account to cover the missed payment; and (2) requested that he be enrolled in the creditor's monthly automatic payment system ("DirectPay").

 

To complete the consumer's second request, he was transferred to an interactive voice response system ("IVR").  After the IVR played a message providing the terms of DirectPay system, the IVR asked the consumer to press 1 to authorize the enrollment of his account into DirectPay.  The consumer pressed 1 on his phone. 

 

One business day later, the creditor mailed the consumer a letter confirming the one-time debit from his checking account to make his missed payment.  Two business days after enrolling in DirectPay, the creditor sent a letter containing the following information:  the amount of the payments to the creditor, the recurring schedule of the payments, the date on which the first withdrawal would take place, the date on which the consumer agreed to the terms via the IVR system, and information on how to cancel or change his DirectPay enrollment.

 

The consumer alleged that the creditor violated the EFTA in two specific ways.  First, the creditor did not obtain his authorization to the recurring payments in writing, as the EFTA requires.  Second, the letter confirming his enrollment into DirectPay was insufficient to meet the EFTA's requirements that the creditor mail a copy of his authorization to him.

 

The consumer and the creditor filed competing motions for summary judgment.  The parties stipulated to all the relevant facts.  The only issues that remained were issues of statutory interpretation.

 

As you may recall, preauthorized electronic fund transfers, such as the ones the consumer agreed to by enrolling in DirectPay, are governed by the EFTA.  "A preauthorized electronic fund transfer from a consumer's account may be authorized by the consumer only in writing, and a copy of such authorization shall be provided to the consumer when made."  15 U.S.C. § 1693e(a).

 

The EFTA is implemented by Regulation E, 12 C.F.R. § 1005, et seq., which also contains official interpretations.  Regulation E allows for the consumer's written authorization to be provided electronically, as long as the electronic authorization complies with the Electronic Signatures in Global and National Commerce Act ("E-SIGN Act"). 

 

As you may recall, the E-SIGN Act was enacted in recognition of the developing world of electronics, and it mandates that a signature "may not be denied legal effect … solely because it is in electronic form[.]"  15 U.S.C. § 7001(a)(1).  Moreover, it mandates that a "contract relating to such transaction may not be denied legal effect … solely because an electronic signature or electronic record was used in its formation."  15 U.S.C. § 7001(a)(2).

 

In this case, the parties stipulated that the consumer's telephone call was conducted by "electronic means" through an "electronic agent" (the IVR system) and that the call generated an "electronic record" and "electronic signature" as all terms are defined in the E-SIGN Act.

 

Turning first to the requirement for a written authorization, the consumer argued that his authorization over the phone did not equate to written authorization as contemplated by the EFTA.  The Court disagreed.

 

In 2015, the Consumer Financial Protection Bureau ("CFPB") issued a Compliance Bulletin stating that the EFTA "does not prohibit companies from obtaining signed, written authorization from consumers over the phone if the E-SIGN Act requirements for electronic records and signatures are met." 

 

Nevertheless, the consumer argued that the creditor failed to comply with a different portion of the E-SIGN Act, § 7001(c), concerning consumer disclosures.  Section 7001(c) states that "if a statute … requires that information relating to a transaction … be provided or made available to a consumer in writing, the use of an electronic record to provide or make available … such information satisfies the requirement that such information be in writing" if the creditor provided the consumer with certain disclosures.  15 U.S.C. § 7001(c)(1).

 

However, the Court held, the E-SIGN Act section in question, § 7001(c), did not require the creditor to make the consumer disclosures as the consumer argued, because the creditor did not provide any information in electronic form. 

 

The Court noted that the creditor here obtained the consumer's signature electronically and then provided a copy of that authorization to the consumer in paper form.  If the creditor had chosen to provide the consumer with a copy of his authorization in the form of an electronic record, it may have been required to comply with § 7001(c)'s consumer disclosure requirements.  But, this was not the situation before the Court. 

 

Therefore, the Court determined that the consumer's phone call created an electronic signature in accordance with the E-SIGN Act, and the creditor met the written authorization requirement as contemplated in the EFTA.

 

Next, the consumer argued that the creditor violated the § 1693e(a) requirement that "a copy of such authorization shall be provided to the consumer when made."  15 U.S.C. § 1693e(a).  The consumer argued that the creditor violated this provision in two ways: (1) the creditor did not send a copy of the authorization "when made" but instead waited two business days; and (2) the copy that the creditor did eventually send was insufficient, in both form and substance, for purposes of the EFTA.

 

The consumer argued that "when made" means contemporaneously with the authorization.  The Court disagreed, holding instead that two business days was an appropriate amount of time to provide a copy of the authorization based on the plain language of the EFTA and other notice requirements in the statute.

 

For example, the Court noted that (1) with transfers to a consumer's account, the financial institution must provide "oral or written notice of the transfer within two business days after the transfer occurs;" 12 C.F.R. § 1005.10;  (2) when a consumer notifies a financial institution about an alleged error and the financial institution investigates and determines that no error occurred, the financial institution "shall deliver or mail to the consumer an explanation of its finding within 3 business days after the conclusion of its investigation;" 15 U.S.C. § 1693f; (3) when a consumer learns of a lost or stolen card, the consumer must inform the financial institution within two business days in order to limit the consumer's financial responsibility for unauthorized charges; 15 U.S.C. § 1693g(a); and (4) the issuer of a prepaid account must provide "the consumer a copy of the consumer's prepaid account agreement no later than five business days after the issuer receives the consumer's request."  12 C.F.R. § 1005.19.

 

Moreover, the Court explained a requirement to provide all copies of authorizations at the very moment in which they are made would be unreasonable and unworkable.  The Court noted that this ruling did not establish a specific deadline by which a company must mail a copy of the authorization.  Instead, the Court held only that two business days was an appropriate amount of time to meet the EFTA notice requirement in § 1693e(a).

 

Finally, the consumer argued that the paper copy of the authorization did not meet the requirements of the EFTA in two ways. 

 

First, because the creditor obtained his authorization via the electronic IVR system, the consumer argued that the creditor was then required to give him an audio recording of the phone call.  The consumer argued that this was required by § 7001(e) of the E-SIGN Act, which states that "the legal effect … of an electronic records … may be denied if such electronic record is not in a form that is capable of being retained and accurately reproduced for later reference[.]"  15 U.S.C. § 7001(e).

 

Second, the consumer argued that the paper copy of his authorization failed to make up for the creditor's failure to send him a copy of the phone call because the letter did not contain the full terms that he agreed to when he used the IVR system.  Specifically, the consumer cited the following differences:  (1) the IVR system said he would no longer be receiving monthly statements but the paper copy in the mail did not mention this fact; and (2) the IVR system told the consumer that to change or cancel DirectPay he should call an 800 number, while the letter told the consumer that he can stop payment by notifying the creditor three business days or more before his account is charged.

 

Regarding the form of the confirmation letter, the Court determined that § 7001(e) of the E-SIGN Act did not apply to the consumer's situation because he was not disputing the contents of the original phone call. 

 

In fact, the Court noted that the consumer stipulated to exactly what the IVR message said – that he agreed to the terms in the message and pressed 1 to confirm his enrollment in DirectPay.  Moreover, the EFTA's official interpretations allowed financial institutions to comply with the copy requirement by providing the copy of the authorization "either electronically or in paper form."  12 C.F.R. § Pt. 1005, Supp. I. 10(b) ¶ 5.  Thus, the Court held that the letter mailed to the consumer was a correct form in which to give a copy of the electronic authorization. 

 

As to the contents in the confirmation letter, the Court found that the terms contained in the letter were sufficient to meet the standards of 15 U.S.C. § 1639e(a), and the letter's failure to recite the exact words in the IVR system is immaterial. 

 

Again, the Court referenced the CFPB's Compliance Bulletin.  CFPB Compliance Bulletin 2015-06 states that "[t]wo of the most significant terms of an authorization are the timing and amount of the recurring transfers from the consumer's account." 

 

Here, the Court noted that the confirmation letter that was mailed to the consumer contained the amount of the payments to the creditor, the recurring schedule of the payments, the date of the first withdrawal, the date when the consumer agreed to the terms via the IVR system, and information on how to cancel or change his DirectPay enrollment.  These terms, according to the Court, were the material and important terms of the consumer's DirectPay enrollment, and the letter was sufficient to meet creditor's duty under 15 U.S.C. § 1693e(a).

 

Accordingly, the Court granted summary judgment in favor of the creditor, and denied the consumer's motion for summary judgment. 

 

 

 

Ralph T. Wutscher
Maurice Wutscher LLP
The Loop Center Building
105 W. Madison Street, 18th Floor
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   |   Indiana   |   Maryland   |   Massachusetts   |   Michigan   |   New Jersey   |   New York   |   Ohio   |   Pennsylvania   |   Texas   |   Washington, DC   |   Wisconsin

 

 

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.


Our updates and webinar presentations are available on the internet, in searchable format, at:

 

Financial Services Law Updates

 

and

 

The Consumer Financial Services Blog

 

and

 

Webinars

 

and

 

California Finance Law Developments