FYI: 11th Cir Compels Arbitration in Overdraft Fee Putative Class Action, Severs Allegedly Unconscionable Fee Shifting Provision from Arbitration Provision

The U.S. Court of Appeals for the Eleventh Circuit recently held in a putative class action that:  (1) the Federal Arbitration Act did not preempt South Carolina law regarding the contract defense of unconscionability; (2) a fee-shifting provision in a bank's deposit account agreement containing a separate mandatory arbitration provision was unconscionable and thus unenforceable; (3) the fee-shifting provision was severable from the arbitration provision; and  (4) the mandatory arbitration provision was thus enforceable. 
 
A copy of the opinion is available at: 

http://www.ca11.uscourts.gov/opinions/ops/201114318.pdf.

 

A bank depositor (“Depositor”) filed a putative class action against a bank (‘Bank”), alleging that Bank supposedly charged overdraft fees on checking accounts even when the accounts contained sufficient funds to cover payments, supposedly provided inaccurate and misleading information about account balances, and supposedly failed to notify customers about check processing policies, thereby supposedly increasing overdraft charges assessed against the Bank’s customers. 

 

Depositor asserted claims for unfair and deceptive trade practices, breach of contract, breach of the covenant of good faith and fair dealing, and unconscionability.  In response, Bank moved to compel arbitration under the Federal Arbitration Act (“FAA”) pursuant to a mandatory arbitration provision in a Bank Services Agreement (“BSA”). 
 
The district court denied Bank’s motion to compel arbitration, ruling that the arbitration agreement was unconscionable and thus unenforceable under South Carolina law.  Bank appealed the ruling.  In light of the U.S. Supreme Court’s decision in AT&T Mobility, LLC v. Concepcion, 131 S CT. 1740 (2011)("Concepcion"), the Eleventh Circuit remanded.

 

On remand, Bank renewed its motion to compel.  Again, the district court denied the motion.  The district court ruled in part that the mandatory arbitration provision in the BSA was unconscionable, because a cost-and-fee-shifting provision (“Fee Shifting Provision”) in the BSA provided that only Bank could recover costs and attorneys’ fees resulting from arbitration, regardless of whether Bank prevailed and, further, that Bank could recover those fees by simply withdrawing them from customers' accounts without notice.

 

Bank appealed a second time.  The Eleventh Circuit reversed and remanded with instructions to compel arbitration, ruling that, severed from the unconscionable Fee Shifting Provision, the mandatory arbitration provision was enforceable.

 

As you may recall, the FAA provides in part: “[a] written provision in any . . . contract . . . to settle by arbitration a controversy thereafter arising out of such contract . . . shall be valid, irrevocable, and enforceable, save upon such grounds as exist at law or in equity for the revocation of any contract.”  9 U.S.C. § 2 (2006).

 

In addition, the Fee Shifting Provision provided that Depositor was "liable to the Bank for any loss, costs, or expenses, including, without limitation, reasonable attorneys’ fees, the costs of litigation, and the costs to prepare or respond to subpoenas, depositions, child support enforcement matters, or other discovery that the Bank incurs as a result of any dispute involving [Depositor's] account."  The Fee Shifting Provision also authorized "Bank to deduct any such loss, costs, or expenses from [Depositor's] account without prior notice to [Depositor].” 

 

Rejecting Bank’s assertion that the Fee Shifting Provision did not apply to arbitration because the arbitration provision expressly provided that the rules of the American Arbitration Association would govern any arbitration, the Eleventh Circuit ruled that the Fee Shifting Provision expressly applied to any “dispute,” and thus to arbitration as well.  

 

Next, in determining whether, under Concepcion, South Carolina law provided a basis for concluding that the arbitration provision in this case was unenforceable, the Eleventh Circuit noted that the FAA did not preempt “‘generally applicable contract defenses’ provided by state law ‘such as fraud, duress, or unconscionability’"  See Concepcion, 131 S.Ct. at 1746.

 

In so doing, the Court also observed that South Carolina’s test for unconscionability applied equally to arbitration as well as other agreements.  See, e.g., Community State Bank v. Strong, 651 F.3d 1241, 1267 (11th Cir. 2011)(ruling that generally applicable contract defenses that challenge “defects in the making of the arbitration agreement” and which “do not apply only to arbitration” may be a basis for invalidating arbitration agreements). 

 

Having thus concluded that South Carolina’s unconscionability doctrine did not specifically target arbitration agreements or interfere with arbitration’s procedural informality, the Court applied South Carolina's two-part test for contract enforceability: (1) whether an agreement contains oppressive terms that benefit one party only; and (2) whether the process of contract formation was flawed such that one  party lacked any meaningful choice.   See, e.g., Carolina Care Plan, Inc. v. United HealthCare Servs., 606 S.E.2d 752, 757 (determining unconscionability on the basis of an “absence of meaningful choice” on the part of one party to the contract and “oppressive contractual terms”); Simpson v. MSA of Myrtle Beach, Inc., 644 S.E.2d 663, 669 (S.C. 2007)(ruling that unconscionability required both “an absence of meaningful choice and oppressive, one-sided terms”).

 

Ruling that South Carolina’s unconscionability doctrine survived FAA preemption under Concepcion, the Court then addressed specifically whether the Fee Shifting Provision involved both “an absence of meaningful choice” and “oppressive, one-sided terms.”   In examining the circumstances surrounding the formation of the BSA, the Court made a number of observations, including:  (1) the Fee Shifting Provision appeared in an entirely separate portion of the BSA; (2) the arbitration provision on the first page of the BSA nowhere referenced the Fee Shifting provision and appeared to contain all the terms governing arbitration, including those related to fees and expenses; and (3) a thorough reading of the BSA might not allow a party to fully understand the applicability of the Fee Shifting Provision to arbitration. 

 

Concluding that the terms of the Fee Shifting Provision were unconscionable under South Carolina law, the Eleventh Circuit ruled that the Fee Shifting Provision was unenforceable and noted, among other things, that the Fee Shifting Provision actually negated the arbitration provision itself and contravened basic expectations that losing parties ordinarily do not have their fees and costs paid by the prevailing party.  See, e.g., Ruckelshaus v. Sierra Club, 463 U.S. 680, 685 (1983)(losing parties normally not entitled to recover costs and fees). 

 

Importantly, however, the Eleventh Circuit also ruled that the unconscionable Fee Shifting provision was severable from the arbitration provision, thereby allowing the arbitration provision to operate according to the rules of the American Arbitration Association, including its rules related to cost apportionment.

 

The Court thus reversed and remanded with instructions to compel arbitration.

Ralph T. Wutscher McGinnis Tessitore Wutscher LLP The Loop Center Building
105 W. Madison Street, 18th Floor
Chicago, Illinois 60602
Direct: (312) 551-9320
Fax: (312) 284-4751
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FYI: 5th Cir Rules in Favor of Debt Collector in Alleged FDCPA Overshadowing Case

The U.S. Court of Appeals for the Fifth Circuit recently held that a debt collector did not violate section 1692g(a) of the federal Fair Debt Collection Practices Act ("FDCPA") by sending a letter with language requesting the debtor "timely validate" the amount the debt collector claimed was due, and threatening to report the debtor's account to credit reporting agencies if the debtor did not do so.

 

A copy of the opinion is available at:

http://www.ca5.uscourts.gov/opinions/pub/11/11-10291-CV0.wpd.pdf

 

A debtor sued a debt collector, alleging that a letter from the debt collector violated the FDCPA, because it supposedly contained language that contradicted and overshadowed the statutorily mandated debt validation or "1692g" notice. The letter stated:  "failure to timely validate the referenced amount due will cause us to report your account to the credit reporting agencies" followed by blank space and the notice requirement of Section 1692g(a).

 

The collection agency moved for summary judgment, arguing that the statutory notice in its letter was not contradicted or overshadowed by the quoted passage in the letter. The district court granted the collection agency's motion for summary judgment and the debtor appealed.  The Fifth Circuit affirmed.

 

As you may recall, Section 1692(g)(a) of the FDCPA requires debt collectors to provide written notice of the following information to consumers within five days of the initial communication regarding a debt: (1) the amount of the debt; (2) the name of the creditor to whom the debt is owed; (3) a statement that unless the consumer "disputes the validity of the debt" within 30 days, the debt collector will assume the debt is valid; (4) a statement that if the consumer notifies the collector that the consumer is disputing the debt in writing within the 30 day period, the debt collector will obtain verification of the debt from the creditor and mail a copy of the verification to the consumer; and (5) a statement that, upon the consumer's written request, the debt collector will give the consumer the name and address of the original creditor, if different from the current creditor.  In addition, the notice must be set forth in a form, and within a context, that does not distort or alter its meaning through inconsistent or overshadowing statements.

 

The Fifth Circuit rejected the debtor's argument that the request to "timely validate" the debt equated to an immediate demand for payment. The Court reasoned that, generally for a demand for payment to contradict the requirements of § 1692g, the debt collector must make a demand in a concrete period shorter than the 30 day statutory contest period, or a demand for immediate payment without explaining the demand in the context of the 30 day contest period. The Court found that an unsophisticated debtor would not construe the language requesting the debtor "timely validate" the debt as a demand for payment of the debt.

 

The Fifth Circuit also held that the threat of reporting the debtor to credit reporting agencies falls in the category of letters that encourage debtors to pay their debts by informing them of the possible negative consequences of failing to pay. The Court found this language does not contradict or overshadow the required 1692g notice language.

 

In addition, the Court held the location of the notice was significant. The notice was on same page as the language contested by the debtor, was in bold typeface, which the contested language was not, was of the same size and font as the rest of the letter, and was located immediately above a payment slip for the debtor to fill out, tear off and send to the debt collector, which provided visual confirmation that payment was not the only option.

 

Ralph T. Wutscher
McGinnis Tessitore 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@mtwllp.com
 

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FYI: 8th Cir Upholds Dismissal of Loan Mod Misrepresentation and "Good Faith and Fair Dealing" Allegations Against MERS and Servicer

The U.S. Court of Appeals for the Eighth Circuit recently upheld the dismissal of a complaint against MERS and a loan servicer based on the servicer's supposed fraudulent and negligent misrepresentations, where the complaint failed to establish a causal link between the alleged misrepresentations and borrowers' claimed damages from the subsequent foreclosure. 

 

The Court further ruled that the complaint failed to state claims based on supposed violations of:  (1) the duty of good faith and fair dealing, under a Minnesota statute authorizing mortgagees to purchase foreclosed properties at foreclosure sales; and (2) an implied duty of good faith and fair dealing under the mortgage agreement.

 

A copy of the opinion is attached.

 

Plaintiffs-borrowers ("Borrowers") were having trouble making the payments on their home mortgage loan, and submitted an application to the loan servicer ("Servicer") for a loan modification under the Home Affordable Mortgage Program ("HAMP").  Servicer subsequently informed Borrowers that they "potentially qualified for a modification," and would be placed on a trial loan modification plan. 

 

After making the trial payments for three months, Borrowers were allegedly informed by an employee of Servicer to discontinue making payments pursuant to the trial plan, as the Borrowers had already demonstrated their ability to make payments pursuant to the modification.   Borrowers were also allegedly told that they could shortly expect a notice that the loan modification had been approved.  Supposedly in reliance on these statements, Borrowers stopped making their trial payments.
 
Several months later, Servicer sent Borrowers a letter denying their loan modification application.  The letter also allegedly informed Borrowers that a foreclosure action would ensue if they failed to bring their loan current immediately.    Borrowers later received another letter from Servicer allegedly informing them that, although they may not be eligible for a HAMP modification, the loan had been placed under review, that Borrowers should continue making their monthly trial payments in order to "continue to be eligible for HAMP consideration," and that Borrowers would be notified at the end of the review period as to the status of the modification.  Before the end of the review period, however, Borrowers were served with notice of a foreclosure sale and informed that they needed to pay almost $32,000 to bring the loan up to date.  The property was eventually sold at the foreclosure sale to the owner of the loan.

 

A month after the foreclosure sale, Borrowers filed suit in Minnesota state court against Servicer and Mortgage Electronic Registration Systems, Inc. ("MERS") (collectively, "Defendants"), seeking a "detailed accounting" of the steps taken in response to Borrowers' request for a loan modification.  The complaint also sought damages for:  violation of the duty of good faith and fair dealing required by Minnesota's "foreclosure-by-advertisement" statute, Minn. Stat. §580.11; breach of the implied duty of good faith and fair dealing arising from the original mortgage agreement; and, fraudulent and negligent misrepresentation.  Borrowers further sought a preliminary injunction staying the foreclosure proceedings.
 
Removing the case to federal court, Defendants moved to dismiss or alternatively for summary judgment.  The district court granted Defendants' motion to dismiss, ruling that there was no private right of action, because Borrowers' claims were based entirely on a request for a HAMP loan modification.  The district court also ruled that Borrowers failed to plead their claims with sufficient particularity.  The Eighth Circuit affirmed.

 

Addressing whether the complaint contained sufficient facts to state plausible claims, the Court of Appeals ruled, first, that Borrowers' request for an accounting was unwarranted, as they had an available remedy through normal discovery requests, but had failed to explain why discovery was not an adequate remedy in this case.
 
Next, rejecting Borrowers' assertion that Minn. Stat. §580.11 imposed a duty on Defendants to act fairly and in good faith "while foreclosing," the Eighth Circuit ruled that this provision merely authorized mortgagees to purchase foreclosed premises at the foreclosure sale, as long as the mortgagee's actions relating specifically to the sale are fair and done in good faith.   See Minn. Stat. §580.11 (authorizing "[t]he mortgagee, the mortgagee's assignee, or the legal representative of either or both [to purchase the premises] fairly and in good faith").  See also Sprague Nat'l Bank v. Dotty, 415 N.W.2d 725, 726-27 (Minn. App. 1987)(ruling that Section 580.11 imposes a duty on mortgagees to act fairly and in good faith when purchasing property at a foreclosure sale). 

 

Concluding that Section 580.11 did not pertain to conduct that had no material impact on the fairness of the sale, the Court ruled that Borrowers' failure to allege a connection between the fairness of the foreclosure sale itself, and Servicer's supposed failure to work with them to work out their delinquency or to provide them with requested information and documentation, warranted dismissal of the allegations under Section 580.11.
 
As to Borrowers' allegations that Defendants breached an implied duty of good faith and fair dealing, the Eighth Circuit pointed out that Borrowers did not need to assert an independent breach of an express contractual duty, as long as the claims were based on the underlying agreement and there was a "causal link" between the alleged breach of good faith and fair dealing and any claimed damages.

 

However, unable to locate the requisite causal link in the complaint, the Appellate Court dismissed Borrowers' claims that Defendants engaged in an "abuse of a power" and "unjustifiably hindered" performance under the mortgage agreement.  In so doing, the Court observed that Borrowers never: (1) identified any particular term in the mortgage agreement that gave rise to the alleged abuse of power; (2) alleged that Defendants' actions somehow prevented Borrowers from performing their obligations under the mortgage agreement; or (3) alleged plausible facts indicating that Borrowers would have been able to pay the mortgage absent their reliance on Servicer's alleged instructions to discontinue payments.  
 
In addition, observing that under Minnesota law any allegation of misrepresentation, whether fraudulent or negligent, is considered an allegation of fraud and must be pled with particularity, the Eighth Circuit ruled that Borrowers had failed to plead their misrepresentation claims with particularity in that they failed to plead "'the time, place, and contents' of the false representations, the identity of the individual who made the representations, and what was obtained thereby."  See, e.g., BJC Health Sys. v. Columbia Cas. Co., 478 f.3d 908, 917 (8th Cir. 2007).
 
The Court pointed out that, by providing only conclusory allegations that they suffered damages in reliance on Servicer's alleged misrepresentations, Borrowers failed to specify how Defendants' various misrepresentations caused either the foreclosure proceedings or Borrowers' inability to pay the mortgage delinquency, especially in light of the communications from Servicer alerting them to the need to bring the loan current immediately to avoid foreclosure.  The Court thus ruled that Borrowers failed to state plausible claims for fraudulent or negligent misrepresentation.  See Ashcroft v. Iqbal, 556 U.S. 662, 678 (2009); Bell Atlantic Corp. v. Twombly, 550 U.S. 544 (2007)(requiring a complaint to contain sufficient factual matter to state a claim that is plausible on its face).

 

Among its other rulings, the Eighth Circuit also dismissed Borrowers' claim for preliminary injunctive relief.

Ralph T. Wutscher
McGinnis Tessitore 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@mtwllp.com
 

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FYI: 10th Cir Holds Mere Demand for TILA Rescission Not Sufficient to Stop 3-Yr Deadline from Running, MERS Can Assign DOT and Related Right to Foreclose

The U.S. Court of Appeals for the Tenth Circuit recently held that Utah law does not prevent MERS from assigning a deed of trust and the related right to foreclose, and that the sending a letter to a lender, without more, is insufficient for a borrower to timely assert a right of rescission under the Truth in Lending Act ("TILA") within the three-year deadline.

 

A copy of the opinion is available at:

http://www.ca10.uscourts.gov/opinions/11/11-4176.pdf.

 

The Plaintiffs ("Borrowers") entered into a home loan agreement with the lender ("Lender") in February of 2007 by executing a note secured by a deed of trust. Mortgage Electronic Registration Systems, Inc. ("MERS") was named as the beneficiary of the deed of trust with the power to foreclose and sell the property.  Subsequently, two separate assignments were made to materially identical assignees, and the assignments of the deed of trust were recorded.  In August of 2009, the Borrowers sent notice of rescission to the Lender, MERS, and the assignees claiming that the Lender failed to provide required disclosures under TILA.  The Borrowers stopped paying the mortgage and an amended notice of default was recorded in June of 2010.

 

In September of 2010, the Borrowers filed an action seeking to quiet title and a TILA claim seeking rescission and monetary damages. The district court dismissed the Borrowers' quiet title count because the Borrowers failed to allege they held clear title to the property, had not alleged that they were not in default on the note, and had admitted to conveying their interest in the property for purpose of securing the loan. 

 

The district court also rejected the Borrowers' claim that MERS lacked standing to authorize the assignment of the deed of trust and resulting foreclosure, because the Borrowers had agreed that MERS was the beneficiary, and its successors and assigns had foreclosure authority.

 

The district court dismissed the TILA claim on two grounds: (1) the transaction at issue was a "residential mortgage transaction", thus exempt from TILA; and (2) the Borrowers had failed to allege that they had tendered or had the ability to tender the amounts owed under the note.

 

On appeal, the Borrowers argued that the district court misinterpreted Utah Code Ann. § 57-1-35, which provides: "The transfer of any debt secured by a trust deed shall operate as a transfer of the security therefor." The Borrowers claimed that under the statute, once the promissory note was transferred, the benefit of the deed of trust was transferred to the holder of the note, and only the holder of the note or its agent could transfer the beneficial interest in the deed of trust.  Thus, the Borrowers argued that the defendants were not beneficiaries of the deed of trust because they were not holders of the note.

 

In rejecting the Borrowers argument, the Tenth Circuit noted that Utah Code Ann. § 57-1-35 simply describes the long-applied principle that when a debt is transferred, the underlying security continues to secure the debt. Further, the Court agreed with a prior Utah state court case holding that § 57-1-35 does not prevent the original parties to the note and deed of trust from contracting at the outset to have a party, other than the beneficial owner of the debt, act on behalf of that owner to enforce the rights granted in the note and deed of trust.  Finally, the Court noted that the deed of trust explicitly gave MERS the right to foreclose on behalf  of 'Lender and Lender's successors and assigns' which is permissible under  § 57-1-35.

 

The Tenth Circuit also upheld the dismissal of the Borrowers' TILA claim, but did so on the grounds that the Borrowers had failed to give notice of their intent to rescind within three years of the consummation of the transaction, as required under TILA. The Court held that written notice sent to the Lender, without more, is insufficient to be a timely exercise of the right to rescind under TILA. Thus, the Court upheld the district court's dismissal, because the Borrowers had failed to file the court action within TILA's three year statute of limitations. 

Ralph T. Wutscher
McGinnis Tessitore 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@mtwllp.com
 

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FYI: CFPB's Homeownership Counseling and HOEPA Proposed Rule - Highlights

As widely reported, the CFPB recently issued a proposed rule and request for comment to: 

 

(1) implement the Dodd-Frank Act's pre-loan homeownership counseling-related requirements, separate from the HOEPA amendments; and 

 

(2)  implement the Dodd-Frank Act's expansion of HOEPA, as to purchase-money loans and HELOCs, lower high-cost triggers, the new prepayment penalty trigger, and additional new limitations and requirements on high-cost mortgages.

 

 

The full text of the proposed rule is available at:

http://files.consumerfinance.gov/f/201207_cfpb_proposed-rule_high-cost-mortgage-protections.pdf

 

 

PRE-LOAN HOMEOWNERSHIP COUNSELING

 

The proposal rule would implement the Dodd-Frank Act's non-HOEPA pre-loan homeownership counseling-related requirements. 

 

Generally, and among other things, the proposed rule would require lenders to provide a list of homeownership counselors to applicants within a three business days of application.

 

More specifically, the proposed rule would amend Regulation X to require lenders to provide a "a list of federally certified or approved homeownership counselors or organizations to consumers within three business days of applying for any mortgage loan" (except for HECMs, when a similar list is provided).  The proposed rule provides a new definition of "application."

 

If the mortgage broker provides the list, the lender is not required to provide an additional list, but the lender remains liable for not providing a correct list.  The list may be provided to the loan applicant in electronic form, subject to the consumer consent and other applicable provisions of ESIGN.  "The lender is not required to provide the list if, before the end of the three business day period, the lender denies the loan application or the loan applicant withdraws the application."  The CFPB indicates that it "expects to create a website portal to make it easy for lenders and consumers to obtain lists of homeownership counselors in their areas."

In addition, the proposed rule also would implement a Dodd-Frank Act requirement that first-time borrowers receive homeownership counseling before taking out a negatively amortizing loan.

 

More specifically, the proposed rule would amend Regulation Z to require lenders to "obtain confirmation that a first-time borrower had received homeownership counseling from a federally certified or approved homeownership counselor or counseling organization before making a negative amortization loan to the borrower." 

 

 

HOEPA CHANGES

 

The CFPB also proposes to amend Regulation Z to implement the Dodd-Frank Act amendments to HOEPA.

 

HOEPA would no longer exclude purchase money mortgage loans, or open-end credit plans (i.e., home-equity lines of credit, or HELOCs).  However, reverse mortgages would still be excluded.

 

Under the proposed rule, HOEPA would be triggered where:

 

(1)  The APR exceeds the average prime offer rate by 6.5% for most first-lien mortgages (8.5% for personal property dwellings with a total loan amount less than $50k), and 8.5% for subordinate lien mortgages; or
(2)  The total points and fees "payable in connection with the transaction" exceed:  (a) 5.0% of the total loan amount if the total loan amount is $20,000 or more; or  (b) the lesser of 8% of the total loan amount, or $1,000 for a transaction (adjusted for inflation), with a total loan amount of less than $20,000; or

(3)  The loan has a prepayment penalty feature that:  (a) is chargeable more than 36 months after loan consummation or account opening, or  (b) can exceed more than 2 percent of the amount prepaid.

 

In addition, and among other things, the proposed rule also would implement additional new Dodd-Frank Act restrictions and requirements for high-cost mortgages, such as:
• Restrictions on balloon payments

• Restrictions on late fees

• Restrictions on payoff statement fees

• Prohibitions on fees for loan modification or loan deferral 

• Prohibitions on prepayment penalties

• Prohibitions on financing points and fees  

• Extension ability to repay requirements to HELOCs

• Prohibitions on recommending or encouraging a consumer to default on a loan

• Prohibitions on recommending or encouraging a consumer to refinance into a high-cost mortgage
• Homeownership counseling requirements

 

 

COMMENTS

 

Comments are generally due on or before September 7, 2012.  Among other things, the CFPB seeks comment on:

• When a final rule should be effective, including consideration of how much time the industry needs to make the proposed changes;

• Whether to to make changes to the HOEPA regulations if the CFPB adopts a broader definition of "finance charge" under Regulation Z;

• The potential effect of the proposal on access to homeownership counseling generally, and the effect of increased consumer demand for counseling on existing counseling resources; 

• The costs and benefits of providing the list of homeownership counselors to applicants for refinances and home-equity lines of credit, as opposed to only purchase-money applicants.

 

Ralph T. Wutscher
McGinnis Tessitore 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@mtwllp.com
 

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Email: RWutscher@mtwllp.com

 

FYI: Ill App Ct Rules Illinois Credit Agreements Act's Bar Against Borrower Actions on Unwritten Loan Agreements Did Not Apply When Bank Raised Agreement in Aff Defense

The Illinois Appellate Court, Third District, recently held that the Illinois Credit Agreements Act did not prohibit a challenge to a commercial security agreement, where the lender raised the security agreement as an affirmative defense in an action for conversion of personal property, and the borrowers argued that the agreement as drafted contained a mutual mistake of fact as to extent of the lender's security interest. 

 

A copy of the complaint is available at: 
http://www.state.il.us/court/Opinions/AppellateCourt/2012/3rdDistrict/3110008.pdf.

 

Plaintiffs-borrowers ("Borrowers") took out a $30,000 loan (the "Loan") from a bank ("Bank"), executing a commercial security agreement ("CSA") that gave Bank a security interest in certain assets to secure payment on "Secured Debts."  Pursuant to the CSA, Borrowers granted Bank a security interest in Borrowers' personal property, including inventory, equipment, farm products and supplies.  At the time the Loan was made, Bank had already made 18 separate real estate mortgage loans to Borrowers.  Borrowers repaid the Loan in full the following month.

 

The CSA contained two boxes that could be checked to indicate whether "Secured Debts" referred to all the debts Borrowers owed to the bank or only to "Specific Debts" listed in the CSA.  The box for "All Debts" was checked.   

 

Bank later instituted foreclosure proceedings on the real estate mortgage loans against Borrowers, and also took possession of Borrowers' farm equipment, supposedly in accordance with the CSA.  Borrowers initially filed a complaint for declaratory and injunctive relief, seeking return of the personal property, and claiming that the farm equipment had allegedly been taken unlawfully. 

 

Borrowers ultimately filed a second amended complaint for conversion of the farm equipment, seeking the fair market value of the property.   The second amended complaint contained no mention of the CSA.  As its sole affirmative defense, Bank contended that the CSA secured "all present and future debts owed by [Borrowers]," including Borrowers' various real estate loans.   Moving for summary judgment, Bank argued that it had properly seized and sold the farm equipment pursuant to the CSA.
 
In response, Borrowers asserted that the CSA mistakenly indicated that the parties had intended to secure all debts to Bank, rather than just the Loan that had been paid off.   Bank then moved to strike and bar the testimony relating to errors in the written CSA, arguing that Borrowers were improperly attempting to modify the CSA in violation of the parol evidence rule and the Illinois Credit Agreements Act, 815 ILCS  160/1, et seq. ("ICAA").

 

The trial court granted Bank's motion to strike and bar the Borrower's testimony, and granted the Bank's the motion for summary judgment.  Borrowers appealed.  The Appellate Court reversed and remanded, ruling in part that Borrowers could challenge the validity of the CSA because it was raised as an affirmative defense to the Borrower's conversion action. 
 
As you may recall, the ICAA provides: "[a] debtor may not maintain an action on or in any way related to a credit agreement unless the credit agreement is in writing, expresses an agreement or commitment to lend money or extend credit or delay or forebear repayment of money, sets forth the relevant terms and conditions, and is signed by the creditor and the debtor."  815 ILCS 160/2.

 

As to the question whether Borrowers had sufficiently raised a claim of mutual mistake of fact, the Appellate Court disagreed with Bank's argument that, because Borrowers did not actually plead reformation of the CSA, Borrowers were not permitted to raise the validity of the CSA as a challenge to the Bank's affirmative defense based on the CSA. 

 

In so ruling, the Appellate Court noted that Borrowers were not looking to reform the CSA, but instead were challenging the preclusive effect of the CSA as an affirmative defense.  In addition, the Court ruled that Borrowers had alleged all five elements necessary for a cause of action for conversion, had raised the validity of the CSA at the appropriate point in the proceedings, and had properly alleged that the CSA did not accurately reflect the parties' intent. 

 

The Appellate Court further ruled that, even if Borrowers were required to specifically plead a count of reformation, Borrowers had presented sufficient facts from which mutual mistake could be established. Accordingly, the Court ruled that no further pleadings were required to present the issue to the trial court. 

 

Turning to the issue as to whether the ICAA precluded a challenge to the validity of the CSA, the Appellate Court noted that Illinois courts have consistently ruled that the ICAA precluded actions by a debtor against a creditor "so long as the action is in anyway related to a credit agreement." See Bank One, Springfield v. Roscetti, 309 Ill. App. 3d 1048, 1055 (1999). 

 

Importantly, the Appellate Court pointed out, however, that the Borrowers had not raised an action against Bank under the CSA or any alleged oral modification of the CSA, but had instead only alleged that the CSA was not accurate once Bank had asserted it as an affirmative defense to the Borrowers' conversion action.

 

Ruling that there was "no clear and unambiguous prohibition" in the ICAA against a debtor's challenge to the validity of a credit agreement when first raised by a creditor as an affirmative defense against a debtor, the Appellate Court concluded that summary judgment in favor of Bank was improper.  The Court thus reversed and remanded.

 

Ralph T. Wutscher
McGinnis Tessitore 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@mtwllp.com
 

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FYI: Ill App Ct Invalidates Foreclosure Based on Allegedly Faulty Publication Notice Affidavit

The Illinois Appellate Court, First District, recently held that a default judgment in a mortgage foreclosure action was void for lack of personal jurisdiction, where affidavits in filed support of service of process by publication failed to indicate that the affiants personally took the steps listed in the affidavits for attempting to first personally serve the mortgagor.  The court further ruled that, on remand, the trial court was to hold an evidentiary hearing to determine which specific steps the affiants personally took to locate and serve process on the mortgagor.

 

A copy of the opinion is available at: 

http://www.state.il.us/court/Opinions/AppellateCourt/2012/1stDistrict/1111213.pdf.

 

Defendant borrower ("Borrower") defaulted on a residential mortgage loan on a condominium located in Chicago, Illinois.  In the ensuing foreclosure action against Borrower, plaintiff loan owner ("Loan Owner") sought to serve process on Borrower at her residence, the mortgaged condominium.  After supposedly making repeated and unsuccessful attempts to serve process on Borrower through a special process server, the Loan Owner sought leave from the court to serve process on Borrower by publication.
 
To support its motion, the Loan Owner submitted affidavits of employees of the special process server, stating, among other things, that "attempts were made" to serve Borrower at the condominium and that "it was discovered that no contact could be made" with Borrower even after "we attempted to locate the defendant by searching" various public and confidential databases for a current address.  The Loan Owner's attorney also supposedly signed an affidavit swearing that Borrower "on due inquiry cannot be found" and, further, that Borrower's place of residence "[is] not known to the plaintiff, and upon diligent inquiry . . .  cannot be ascertained."

 

Relying on the affidavits, the trial court allowed publication service and eventually entered a default judgment against Borrower. Loan Owner purchased the property at the subsequent foreclosure sale.

 

Following the court's approval of the foreclosure sale, Borrower moved to quash service of process by publication and to void the judgment and sale of the condominium for lack of jurisdiction.  Borrower swore that had she lived at the condominium at all times relevant to the foreclosure action and that with reasonable efforts the process servers could have found her there.  The trial court denied the motion, ruling that Loan Owner adequately proved that it had satisfied the requirements for service by publication.  Borrower appealed.

 

The Appellate Court reversed, ruling in part that publication service was improper in this case, because the Loan Owner failed to show due inquiry in strict compliance with the circuit court's rule regarding affidavits in support of publication service in foreclosure cases. 

 

As you may recall, Section 2-206 of the Illinois Code of Civil Procedure provides in part:  "Whenever, in any action affecting property . . . within the jurisdiction of the court . . . plaintiff . . . shall file . . . an affidavit showing that the defendant . . on due inquiry cannot be found . . .  so that process cannot be served upon him or her, and stating the place of residence of the defendant, if known, or that upon diligent inquiry his or her place of residence cannot be ascertained, the clerk shall cause publication to be made in some newspaper in the county in which the action is pending."  735 ILCS 5/2-206(a).
  
Rule 7.3 of the Circuit Court of Cook County expands on Section 2-206 by requiring that, in mortgage foreclosure actions, all affidavits in support of publication service "be accompanied by a sworn affidavit by the individual(s) making such 'due inquiry' setting forth with particularity the action taken to demonstrate an honest and well directed effort to ascertain the whereabouts of the defendant(s) by inquiry as full as circumstances permit prior to placing any service of summons by publication."   Cook Co. Cir. Ct. R. 7.3.

 

Moreover, Section 15-1509(c) of the Code of Civil Procedure provides in part that relief from an erroneous foreclosure judgment and sale is limited to a claim for the proceeds from the sale.  735 ILCS 5/15-1509(c). 

 

Noting that Section 2-206 requires "strict compliance" with its requirements for publication service and that Cook County Rule 7.3 adds to those requirements by requiring affiants to set forth "with particularity" the actions affiants took to find and serve process on the defendant, the Appellate Court pointed out that the affidavits in this case failed to identify who attempted to serve process on Borrower or who took the steps listed in the affidavits to locate her at other addresses.  In so doing, the Court remarked that the use of the passive voice in the affidavits implied that someone else took those steps, and also noted that statements such as "we . .. search[ed] public . . . databases" similarly failed to identify the person who performed the searches. 

 

The Appellate Court thus ruled that Loan Owner's affidavits failed to indicate that the affiants had any personal knowledge of the attempts to serve process on Borrower, and that the affidavits consequently did not meet Rule 7.3's requirement that affiants swear that they personally undertook the actions listed in the affidavits to locate and serve Borrower. 

 

In so ruling, the Appellate Court rejected Loan Owner's assertions that:  (1) Rule 7.3 conflicted with Section 2-206;  (2) Illinois Civil Code Section 15-1509(c) barred any challenge to a foreclosure and sale; and  (3) Borrower had actual knowledge of the lawsuit, as evidenced by her communications to Loan Owner for reinstatement figures. 

 

Concluding that Loan Owner failed to strictly comply with Cook County Rule 7.3, the Appellate Court ruled that the lower court had improperly allowed publication service in this case, and that the trial court thus lacked jurisdiction to enter a default judgment or approve the foreclosure sale.   The Appellate Court further ruled that section 15-1509's provision limiting recovery following foreclosure sale to sale proceeds did not validate the void judgments.

 

In response to Loan Owner's request for clarification as to the proceedings required on remand, the Appellate Court explained that Loan Owner would be permitted to prove that it took adequate steps to justify service by publication, "even though it did not file affidavits showing that it took such steps, because trial courts prior to this opinion may have permitted service by publication based on insufficient affidavits that did not meet the requirements of section 2-206 and Rule 7.3 . . . ."  The Appellate Court specified that such evidence must come from the individuals who actually took the steps to locate and serve Borrower.

 

Ralph T. Wutscher
McGinnis Tessitore 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@mtwllp.com
 

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 are available on the internet, in searchable format, at:
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