FYI: 1st Cir Rules in Favor of Mortgagee in Water Damage Insurance Coverage Dispute

The U.S. Court of Appeals for the First Circuit recently ruled that water damage to a mixed-use rental property resulting from a tropical storm was covered under an all-risk policy where the water was categorized as "surface water" and an endorsement to the all-risk policy provided for coverage for damages resulting from surface water.

 

A copy of the opinion is available at:  http://media.ca1.uscourts.gov/pdf.opinions/12-1572P-01A.pdf.

 

Two borrowers ("Borrowers") owned a mixed-use rental property (the "Subject Property") with a drainage system consisting of a single drain located at the center of the roof.  The Subject Property was mortgaged with a bank ("Bank").  The Subject Property was insured through an all-risk policy by insurer ("Insurer").

 

Although the main all-risk policy contained an exclusion for water damage, including damage resulting from "[w]ater or water-borne material, that backs up or overflows from a sewer, drain or sump," the exclusion was subsequently deleted.  An additional endorsement to the policy added flood coverage for loss attributable to "[f]lood, meaning a general and temporary condition of partial or complete inundation of normally dry land areas due to … [t]he usual or rapid accumulation of runoff or surface waters from any source."

 

A tropical storm bringing heavy rains resulted in water accumulation on the roof of the Subject Property.  The water overwhelmed the rooftop drain, which caused the water to pool on the roof and leak into the building's skylights, causing substantial damage.  The Subject Property was ordered closed and all tenants were forced to move, leaving the Subject Property vacant. 

 

Borrowers submitted a claim for reimbursement of the interior wall damage with the Insurer.  Insurer investigated the damage by dispatching engineers, who concluded that the roof was not the path for water entry, and that the drain failed to drain rapidly accumulated water on the roof, and that the obstruction of the roof drain caused the ponding of water to a height that it flowed over the skylights and entered the building.

Insurer denied Borrowers' claim, citing a "rain limitation" exclusion and a "faulty workmanship exclusion."  The "rain limitation" exclusion barred coverage if the loss suffered is to "[t]he interior of the building . . . caused by or resulting from rain, .  . . whether driven by wind or not, unless [t]he building . . . first sustains damage by a Covered Cause of Loss to its roof or walls through which the rain . . . enters."  The "faulty workmanship" exclusion excluded damage resulting from "[f]aulty, inadequate or defective . . . [d]esign, specifications, workmanship, repair, construction, renovation, remodeling, grading, compaction; materials used in repair, construction, renovation or remodeling; or maintenance of part or all of any property on or off your 'covered locations.'"

 

Insurer concluded that the rainwater entered the Subject Property because of the backed up roof drain and not through damage to the roof or walls, and that pursuant to the "faulty workmanship" exclusion, the roof drain strainer and the roof drain were inadequate to handle the water deposited from the storm.

 

After the claim was denied, the Subject Property was vandalized, with much of the copper piping removed, causing further damage.  Borrowers submitted a separate claim relating to the vandalism, but Insurer denied the claim under the "vacancy exclusion," which provided that if the loss to the Subject Property occurs when the building is vacant for more than 60 consecutive days, Insurer will not pay for any loss resulting from vandalism or theft.

As a result of the denied claims, Borrowers could not make the necessary repairs and they defaulted on the mortgage.  Subsequently, the Bank took deed to the property through a deed in lieu of foreclosure, and received an assignment of Borrowers' insurance claims.

 

As assignee of Borrowers, Bank filed suit in state court seeking a declaration for coverage, a declaration that loss of business income was covered, monetary damages for breach of contract, negligence, and violation of the Massachusetts' consumer protection statute.  Insurer removed to federal court on diversity grounds, and the federal district court granted summary judgment in Insurer's favor, and denied Bank's cross-motion for summary judgment.

 

The federal district court held the "rain limitation" exclusion excluded coverage because "the water pooled on the roof, thus becoming surface water which entered the building through the eroded metal and glass skylights.  That the water pooled due to faulty or inadequate drain does not trump the surface water exclusion which bars coverage."  The lower court strictly construed the workmanship exclusion against Insurer and found that the single roof drain being inadequate to remove the rainwater did not, on its own, trigger the exclusion.   Lastly, the district court rejected Bank's argument that the vacancy exclusion did not bar coverage because the vacancy was the result of a wrongful denial of coverage.

The Bank moved for reconsideration, which motion the lower court denied.  The Bank then appealed.

 

Reversing the lower court, the First Circuit held: (1) in applying the "efficient proximate cause" analysis, the failure of the drain was the efficient proximate cause of the damage, not the rain; and (2) the water that damaged the Subject Property was properly categorized as "surface water" by the district court, but the damage was covered by the amendatory endorsement of the policy.  The First Circuit did not disturb the district court's ruling with respect to the faulty workmanship exclusion, finding that because the roof was not repaired by Borrowers, and Insurer's expert testified that the roof strainer or drain did not constitute faulty, inadequate or defective maintenance, the exclusion did not apply.

 

First, the Appellate Court ruled that the "efficient proximate cause" test must be applied to resolve the coverage controversy relating to the chain of causation because the policy clearly covered water damage caused by "surface water," but excluded water damage caused by or resulting from rain.  The Bank argued for a narrow interpretation of the "caused by rain" provision in the "rain limitation" exclusion, and further argued that the court may only exclude coverage for damage whose efficient proximate cause was rainfall.

 

As you may recall, the efficient proximate cause "that sets in motion a train of events which brings about a result without intervention of any force started and working actively from a new and independent source is the direct and proximate cause."  Lynn Gas & Elec. Co. v. Meridien Fire Ins. Co., 158 Mass. 570, 575 (1893).

 

In deciding this issue, the First Circuit examined Insurer's expert conclusions, which found the blocked or inadequate drain caused the water to accumulate, and that the damage occurred because rainwater backed up on the roof and ponded.  Thus, the Court found that the blocked or inadequate drain set in motion a train of events lacking intervention of any forces or activation of a new source to cause the interior water damage.  Accordingly, the First Circuit agreed with Bank's position that the failure of the drain was the efficient proximate cause of the damage, and therefore that the "rain limitation" exclusion did not bar coverage.

 

Next, the First Circuit upheld the district court's ruling that the faulty workmanship exclusion did not apply.  In so ruling, the Court recognized that the undisputed evidence established that the roof was repaired prior to Borrowers' ownership and that Insurer's expert admitted the roof strainer and drain did not constitute faulty, inadequate or defective maintenance.

 

The First Circuit further agreed with the district court's ruling that surface water caused the damage to the Subject Property.

In analyzing Massachusetts case law, the Court found that the water in this case met the definition of surface water, emphasizing that in previous cases, damage resulting from water that flooded into properties after accumulating on artificial surfaces does not lose its character as surface water merely because it flowed along artificial surfaces.  Therefore, here, the water was also surface water.

 

However, the First Circuit disagreed with the district court on the issue of whether surface water damage was excluded from coverage under the policy.  The endorsement to the policy provided for coverage from flooding caused by unusual or rapid accumulation of runoff of surface waters of any source, and that the flood coverage provision defined flood as a "general and temporary condition of partial or complete inundation of normally dry areas."  According to the First Circuit, the inundation of the roof was such an area.

 

The First Circuit's majority opinion also commented on and rejected the dissent's view that urged no coverage exists because the original policy language excludes coverage for any loss caused by surface water.  The majority found that in strictly construing the policy against Insurer, the deletion of the subject exclusion language "[w]e will not pay for loss or damage directly or indirectly by [water or water-borne material, that backs up or overflows from a sewer, drain or sump].  Such loss or damage is excluded regardless of any other cause or event that contributes concurrently or in any sequence to the loss or damage" was critical.  The majority concluded that the damage caused by drain overflow, even if indirectly caused in a sequence with other causes, would be entitled to coverage as a result of the endorsement.

 

Accordingly, because the evidence established that damage to the interior of the Subject Property was not "caused by rain" and should have been covered by the amendatory endorsement of the policy as "surface water," the First Circuit reversed the district court's judgment in favor of Insurer regarding coverage, and reversed the denial of Bank's cross-motion for summary judgment on the claim, and remanded for further proceedings. 

 

Finally, because the district court reached erroneous legal findings on Bank's business income loss claim and other state law claims, these claims were also remanded.

 

 

 

 

 

Ralph T. Wutscher
McGinnis Wutscher Beiramee 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@mwbllp.com

 

Admitted to practice law in Illinois

 

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FYI: Cal Sup Court Rules Consumer May Sue for Violation of TISA Under UDAP Statute, Despite No Private Right of Action Under TISA

The Supreme Court of California recently ruled that a state UDAP claim may be based upon a federal statute, even after Congress repealed a provision of the federal statute authorizing private actions for damages, where Congress has also indicated that state laws consistent with the federal statute are not superseded.

 

A copy of the opinion is available at: http://www.courts.ca.gov/opinions/documents/S199074.PDF.

 

After the expiration of 12 U.S.C. § 4310, plaintiffs filed a class action against defendant bank ("Bank"), alleging unlawful and unfair business practices based on alleged violations of federal Truth in Savings Act ("TISA") disclosure requirements.  The plaintiffs sought restitution, injunctive relief and attorneys' fees.

 

The Bank demurred, arguing that Congress had expressly prohibited private rights of action under TISA.  The trial court sustained the demurrer.  The plaintiffs appealed and the California Court of Appeal affirmed, reasoning that Congress's repeal of former section 4310 reflected its intent to bar any private action to enforce TISA.

 

As you may recall, TISA allowed for civil damages to be sought for failure to comply with its requirements until the provision authorizing lawsuits was repealed in 1996, effective September 30, 2001.  Omnibus Consolidated Appropriations Act of 1997, Pub.L. No. 104-208.

Former section 4310(a) stated:

 

 "Except as otherwise provided in this section, any depository institution which fails to comply with any requirement imposed under this Act or any regulation prescribed under this Act with respect to any person who is an account holder is liable to such person in an amount equal to the sum of —
(1) any actual damage sustained by such person as a result of the failure;
(2)(A) in the case of an individual action, such additional amount as the court may allow, except that the liability under this subparagraph shall not be less than $100 nor greater than $1,000; or
 (B) in the case of a class action, such amount as the court may allow, except that —
  (i) as to each member of the class, no minimum recovery shall be applicable; and
  (ii) the total recovery under this subparagraph in any class action or series of class actions arising out of the same failure to comply by the same depository institution shall not be more than the lesser of $500,000 or 1 percent of the net worth of the depository institution involved; and
(3) in the case of any successful action to enforce any liability under paragraph (1) or (2), the costs of the action, together with a reasonable attorney's fee as determined by the court."

 

Section 4312, TISA's savings clause, provides:

 

"The provisions of this subtitle do not supersede any provisions of the law of any State relating to the disclosure of yields payable or terms for accounts to the extent such State law requires the disclosure of such yields or terms for accounts, except to the extent that those laws are inconsistent with the provisions of this subtitle, and then only to the extent of the inconsistency. The Bureau [of Consumer Financial Protection] may determine whether such inconsistencies exist."

 

Also, the California unfair competition law ("UCL") sets out three different kinds of business acts or practices that may constitute unfair competition: the unlawful, the unfair, and the fraudulent.  Bus. & Prof. Code, § 17200; Cel-Tech Comm., Inc. v. Los Angeles Cellular Telephone Co., (1999) 20 Cal.4th 163, 180.

 

Relying extensively on the effect of TISA's savings clause, the Supreme Court of California analyzed the plaintiff's position that the savings clause preserves the authority of the states to regulate bank disclosures so long as state law is consistent with TISA, and Bank's position that Congress's repeal of § 4310 ruled out any private enforcement of TISA.

 

The Court rejected Bank's argument that the UCL may not be employed to borrow directly from a federal statute if Congress has decided not to allow private enforcement of the federal law.  The Court noted when Congress permits state law to borrow the requirements of a federal statute, it matters not whether the borrowing is accomplished by specific legislative enactment or by a more general operation of law.  Bates v. Dow Agrosciences LLC (2005) 544 U.S. 431, 447; In re Jose C. (2009) 45 Cal. 4th 534, 546.

 

The California Supreme Court also found that the plaintiffs were not suing to enforce TISA.  Rather, by proscribing any unlawful business practice, section 17200 borrows violations of other laws and treats them as unlawful practices that the UCL makes independently actionable.  The Court asserted that the Bank made a similar analytical error as did the defendant in Stop Youth Addiction, Inc. v. Lucky Stores, Inc. (1998) 17 Cal.4th 553, 570, where UCL claims were brought for violation of the Penal Code, and the Court held that such claims were not barred because the plaintiff was enforcing the UCL, and not the underlying statutes.  By borrowing requirements from other statutes, the Court held, the UCL does not serve as an enforcement mechanism because it provides its own unique and limited remedies for unlawful business practices.

 

The Supreme Court of California emphasized that Plaintiffs were not seeking damages under TISA.  Instead, the Court noted that the plaintiffs sought equitable remedies of restitution and injunctive relief, which the Court found consistent with the Congressional intent reflected in the terms and history of TISA.  Because the savings clause remained intact, the Court held, Congress expressly permitted private actions under state laws consistent with TISA.

 

Next, the Court distinguished a series of cases relied upon by the Bank. The Bank argued that a section 1983 action may not be premised on violations of a federal statute that does not authorize private suits; however, the California Supreme Court noted that the UCL, unlike section 1983, is meant to provide remedies cumulative to those established by other laws.  The Court noted that the existence of a separate statutory enforcement scheme does not preclude a parallel action under the UCL.  Stop Youth Addition, 17 Cal. 4th at 572-573.
 
The California Supreme Court also rejected the Bank's argument that Gunther v. Capital One, N.A. (E.D. N.Y. 2010) 703 F. Supp. 2d 264, applied and should bar the plaintiffs' claims where the U.S. District Court for the Eastern District of New York dismissed a claim for breach of contract alleging TISA requirements had been incorporated into the subject contract as barred by the repealing of former section 4310.  The Court distinguished Gunther on the basis that there was no attempt to incorporate TISA into the plaintiffs' contract to support a damage claim.  Instead, the plaintiffs here pursued a distinct restitutionary and injunctive remedies provided by the UCL.

 

Accordingly, the Supreme Court of California reversed the Court of Appeal's ruling, and held that TISA poses no impediment to the plaintiffs' UCL claim.

FYI: Ill App Ct Confirms Records of Prior Servicer Not Inadmissible Hearsay

The Illinois Appellate Court for the Fifth District recently upheld a trial court's grant of summary judgment in favor of the mortgagee in a mortgage foreclosure action, ruling that the mortgagee's affidavit testimony was admissible, despite the fact that it contained assertions concerning the records of prior servicers.

 

A copy of the opinion is available at http://www.illinoiscourts.gov/Opinions/AppellateCourt/2013/5thDistrict/5120283.pdf.

 

A borrower filed an answer with affirmative defenses and counterclaims to a bank's residential foreclosure complaint.  The mortgagee moved to strike the affirmative defenses and counterclaims, which the court granted.  The mortgagee then moved for summary judgment. 

 

On the day of the hearing, the borrower filed a response to the mortgagee's motion for summary judgment and a motion for leave to amend his answer.  The court struck the borrower's response to the mortgagee's motion, denied the motion for leave to amend the answer, granted the mortgagee's motion for summary judgment, and awarded the bank attorney fees and costs.  The borrower appealed. 

 

On appeal, the borrower advanced three arguments: (1) that the lower court erred in granting the mortgagee's motion for summary judgment, due to alleged problems with the mortgagee's affidavit;  (2) that the lower court erred in striking the borrower's response and denying the borrower's motion for leave to file an amended answer; and  (3) that the lower court erred in awarding the bank attorney's fees and costs. 

 

The Appellate Court first considered the borrower's arguments concerning the mortgagee's motion for summary judgment affidavit.  The borrower alleged that the affidavit included with the mortgagee's motion - which included claims regarding records kept by entities other than the mortgagee, namely the prior servicers of the mortgage loan - would be inadmissible as hearsay if offered at trial, and therefore was not sufficient to demonstrate that the mortgagee was entitled to summary judgment. 

 

The Court began by analyzing Illinois Supreme Court Rule 236 (regarding business records), noting that it provided in pertinent part that a showing that an affiant lacks personal knowledge as to business records "may be shown to affect [the writing or record's] weight, but shall not affect its admissibility." 

 

The Court then noted that the mortgagee's affiant attested that she was personally familiar with the procedures for creating and maintaining its records; that the relevant records were made at or near the time of the occurrence of the matters set forth therein; and that it was the mortgagee's regular practice to keep such records. 

 

Accordingly, the Court held that the affidavit testimony was admissible pursuant to Illinois Supreme Court Rule 236, and further held that the affidavit provided a "sufficient basis upon which to conclude that [the mortgagee] was entitled to summary judgment."

 

The borrower also raised allegations as to whether the mortgagee properly calculated the balance of his loan, and filed an affidavit with the lower court alleging that he made payments pursuant to a loan modification agreement that were not timely applied. 

 

However, the Appellate Court noted that these payments appeared to have been applied to his loan per the terms of the loan modification agreement.  In addition, the Court noted that under Illinois law, the facts asserted by the mortgagee's affiant were to be deemed admitted, unless contradicted by counter-affidavit. 

 

As the borrower failed to submit any counter-affidavit, as required, the Court rejected the borrower's claims. 

 

Next, the Court considered the lower court's decision to strike the borrower's response and deny him leave to file an amended answer, again finding in favor of the mortgagee. 

 

In so ruling, the Appellate Court placed emphasis on the fact that a circuit court has "discretion to manage its docket to ensure that there is no undue delay."  The Court further emphasized that the contentions contained within the borrower's stricken pleadings appeared to have been previously considered and rejected by the lower court.  The Court also observed that the borrower did not attach a proposed amended answer to his related motion, noting that the same is a "primary factor" for a lower court to consider in determining whether to allow a motion to amend. 

 

Finally, the Court considered whether the lower court properly awarded attorney's fees and costs to the bank.  It answered in the affirmative, emphasizing the fact that the borrower failed to contest the bank's assertion that it was entitled to attorney's fees in accordance with the terms of the related mortgage, nor did they claim that the fees were unreasonable.  Further, the Court noted that the borrower failed to raise the issue in the lower court, and failed to object to the lower court's award.  Accordingly, the Court determined that the borrower waived his right to challenge the award. 

 

Accordingly, the Appellate Court affirmed the judgment of the lower court.    

 

 

 

 

 

Ralph T. Wutscher
McGinnis Wutscher Beiramee 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@mwbllp.com

 

Admitted to practice law in Illinois

 

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FYI: Ill App Ct Rules Deposit Account Customer's Negligence Action Relating to Counterfeit Check Barred By UCC, Account Agreement, and Economic Loss Doctrine

Affirming the lower court's ruling, the Appellate Court of Illinois for the Third District recently upheld the dismissal of a depositor account customer's claim for common law negligence against the bank, where the deposit account customer drew on a counterfeit check before the final settlement of the check. 

 

In so ruling, the Court held that because the account agreement and UCC set forth the bank's duties and defined ordinary care, the UCC and not the common law controlled.  Because the account agreement placed risk of loss on the customer until the check finally settled, the customer's complaint failed to state a claim.

 

The Court further held dismissal of the negligence claim was appropriate because claims sounding in tort for purely economic damages are barred by the "economic loss" doctrine.   

 

A copy of the opinion is available at: http://www.illinoiscourts.gov/Opinions/AppellateCourt/2013/3rdDistrict/3120832.pdf.

 

A bank and its deposit account customer entered into an account agreement.  The customer deposited a $350,000 check, and then transferred $210,00 and $60,000 from the account.  Several days later, the check was returned to bank uncollected.  The bank notified the customer and charged back $350,000 to the account on the same day.

 

The customer filed suit against the bank, alleging negligence arising out of the bank's "duty to act with ordinary care by observing such reasonable commercial standards as prevail in the area where the [b]ank conducts business," and that the bank breached this duty by failing to inquire about the circumstances in which the customer obtained the check, did not recognize the check was counterfeit, and did not advise the customer that funds should not be drawn until final payment given the nature of the check and the account, and finally because bank did not notify the customer at the earliest time it knew or should have known that the subject check would not be paid.

 

The bank moved to dismiss, attaching the account agreement which provided that the customer agrees to be jointly and severally liable for any account shortage resulting from charges or overdrafts, and also attaching an affidavit of the bank's executive vice president/market president, which provided that there was nothing on the face of the check that gave any indication it may be dishonored.

 

The trial court dismissed the customer's complaint, finding that bank did not owe a duty under the common law because the UCC "provides a comprehensive remedy for check processing which places the risk of loss on the depositor until final collection," and that the complaint was barred under the economic loss doctrine.  The customer appealed.

 

As you may recall, the UCC governs the relationship between a bank and its customer, and sets forth responsibilities of a collecting an bank, which include exercising ordinary care "in presenting an item or sending it for presentment," "sending notice of dishonor for nonpayment or returning an item," "settling for an item when the bank receives final settlement," and "notifying its transferor of any loss or delay in transit within reasonable time after discovery."  810 ILCS 5/4-202(a), (b). 

 

First, the Appellate Court analyzed whether the bank owed a duty to the customer and whether the complaint stated a cause of action for negligence.  The Court held that the duty owed to the customer was governed by the UCC and the account agreement based upon the facts set forth in the record and the amended complaint.  The Court recognized that the account agreement placed risk of loss on the customer until final settlement of the check.  Further, the terms of the agreement did not require the bank to investigate the genuineness of the check or to warn the customer not to rely on the funds until final settlement.  Therefore, based upon the account agreement, the bank did not violate any duty owed to the customer.

 

Next, the Court held that the customer failed to allege bank breached any duties under the UCC.  Under the UCC, a collecting bank exercises ordinary care when it "presents an item, sends notice of dishonor, finally settles an item, or timely notifies the transferor of any delay by performing such actions before midnight following receipt, notice or settlement of an item."  And, the UCC displaces common law duties for a collecting bank. 

 

Both the UCC and the account agreement placed risk of loss on the customer until final settlement, the bank's affidavit established the check on its face did not indicate it was counterfeit and the customer did not offer any facts disputing the affidavit or that the bank did not satisfy its responsibilities of a collecting bank under the UCC.  Here, the bank processed the check under its standard procedures, received notice that the check was not collectable, and informed the customer on the same day.  Therefore, because the customer failed to assert that the bank failed to timely perform any of its duties under the UCC, the customer failed to assert a claim for negligence.

 

The Appellate Court also examined whether the customer's claim for negligence was barred by the economic loss doctrine.  As you may recall, under the economic loss doctrine, a plaintiff cannot recover for solely economic loss under a tort theory of negligence.  There is an exception for service providers, such as attorneys or accountants, where the duty arises out of contract.

 

The Court held that the economic loss doctrine applied because the bank and the customer entered into a binding account contract, which defined the parties' responsibilities.  The customer's reliance upon case law inferring that the implied duty of care owed in every contract may support an exception to the economic loss doctrine was unavailing.  In Mutual Service Casualty Ins. Co. v. Elizabeth State Bank, the Seventh Circuit looked to extra-contractual duties owed by attorneys and accountants, which would preclude application of the economic loss doctrine.  However, in the instant case, the account agreement and the UCC set forth the bank's duties and responsibilities, and recognized there was no extra-contractual relationship, distinguishing Mutual Service.

 

Accordingly, because the law customer's claim was based solely on economic loss, it was barred from pursuing a tort action.

 

 

 

Ralph T. Wutscher
McGinnis Wutscher Beiramee 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@mwbllp.com

 

Admitted to practice law in Illinois

 

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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FYI: Ill App Ct Rules Mortgagee Failed to Comply with HAMP Guidelines, Sets Aside Foreclosure Sale

The Illinois Appellate Court for the Second District recently held that a borrower's discharge in Chapter 7 Bankruptcy is a sufficient change in circumstance to trigger eligibility for a subsequent HAMP application, absent a written internal policy to the contrary on the part of the lender.   

 

A copy of the opinion is available at http://www.illinoiscourts.gov/Opinions/AppellateCourt/2013/2ndDistrict/2120719.pdf. 

 

A lender filed a foreclosure action against two borrowers, who had previously been denied a loan modification on the basis of a negative Net Present Value ("NPV") calculation.  The borrowers filed for bankruptcy, and then pursued an additional loan modification application.  The lender declined to postpone a scheduled sheriff's sale. 

 

The borrowers moved to deny confirmation of the sale, alleging that the lender had violated Illinois statutory requirements pertaining to loan modifications by failing to postpone a scheduled sheriff's sale after receiving a loan modification.  The lender argued that the borrowers failed to demonstrate a sufficient change in circumstance that would require it to consider a subsequent loan modification.  The lower court found in favor of the lender, and the borrower appealed. 

 

As you may recall, 735 ILCS 5/15-1508.5 ("1508.5") provides that sales are to be set aside where the mortgagor proves that he applied for assistance under the Making Home Affordable Program ("HAMP"), and that the mortgaged real estate was sold in material violation of HAMP's requirements for proceeding to judicial sale. 

 

Two HAMP guidelines are relevant here: Guideline 1.2 provides that a previously rejected loan modification application may be reconsidered if the borrower experiences a change in circumstance; and Guideline 3.3 provides that where a borrower submits a timely loan modification application after a foreclosure sale date has been scheduled, the servicer must suspend the sale as necessary to evaluate the borrower for HAMP. 

 

On appeal, the lender argued among other things that the borrowers' bankruptcy filing did not constitute a significant change in circumstance such that the lender was required to reconsider the borrowers' subsequent HAMP application.  Further, the lender argued that borrowers' argument led to an absurd result, in that sales might be postponed indefinitely by filing successive HAMP applications without any changes in circumstance. 

 

The Appellate Court disagreed.  In so ruling, it placed emphasis on the requirement of HAMP Guideline 1.2, which provides that servicers are to have an internal written policy which defines what the servicer considers to constitute a change in circumstance such that re-evaluating a HAMP application would be appropriate.  After reciting this requirement, the Court noted that a reference to said written policy was "conspicuously absent" from the lender's brief. 

 

Because the lender "has not ruled out a bankruptcy discharge as a change in circumstance," the Court found that it "stands to reason that a bankruptcy discharge could...affect the outcome of the very analysis that was the basis for [the borrowers'] first application: a negative NPV."

 

Accordingly, the Court held that "absent an internal policy to the contrary, a borrower's discharge from Chapter 7 bankruptcy is a change in circumstance that can trigger continued eligibility for a successive HAMP application under HAMP guideline 1.2." 

 

With that standard in place, the Court ruled that the lender's failure to postpone the sale to consider the borrowers' HAMP application constituted a "material" violation for the purposes of Sec. 1508.5. 

 

The Court also rejected the lender's contention that its decision would lead to borrowers gaining the power to postpone sales indefinitely.  The Court observed that "unless a defendant can declare and receive a discharge from bankruptcy multiple times - and all before a scheduled sale date - then a defendant cannot use our holding to perpetually suspend a sale."     

 

Accordingly, the Court reversed the lower court's holding, and remanded the matter to allow the lender to consider the borrowers' HAMP application.   

 

 

 

 

 

Ralph T. Wutscher
McGinnis Wutscher Beiramee 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@mwbllp.com

 

Admitted to practice law in Illinois

 

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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