Consumer Financial Services Alert - June 11, 2013

The CFPB issued final rules amending certain aspects of its final ability-to-repay rule issued in January (see January 10, 2013 Alert). The new final rules, as well as the previously issued ability-to-repay rule, are effective on January 10, 2014. The new final rules amend the provisions related to loan originator compensation, small creditors and community-based lenders. For example, as amended, loan originator compensation paid by a creditor to its employees, as well as loan originator compensation paid by a mortgage broker to its individual loan broker employees, is excluded from the total points and fees calculation for determining whether a transaction is considered a qualified mortgage. Loan originator compensation paid by a creditor to a mortgage broker will be included in the points and fees calculation, unless the compensation was already included in the points and fees threshold as part of the finance charge. This treatment of loan originator compensation will also apply in determining whether loan originator compensation is included in the points and fees trigger for high-cost loans under HOEPA.

In addition, in order to facilitate lending by small creditors meeting certain conditions (e.g., less than $2 billion in assets) a loan originated by a small creditor and held in its own portfolio for at least 3 years, can be a qualified mortgage even though the consumer’s debt-to-income ratio exceeds 43%. In addition, a small creditor will be given the qualified mortgage safe harbor for first-lien mortgage loans that are 3.5 percentage points above the average prime offer rate. Other creditors are given the safe harbor for loans that are 1.5 percentage points above the average prime offer rate. Small creditors will also be allowed to make balloon payment qualified mortgages for 2 years, regardless of whether the creditor operates in a predominantly rural or underserved community, provided the creditor holds the loans in its own portfolio.

Finally, the ability-to-repay rule was amended to exempt certain community-based lenders, housing finance agencies, and credit extended under homeownership stabilization and foreclosure prevention programs. For example, non-profit lenders are exempt, provided that: (1) the creditor makes no more than 200 loans per year; (2) the creditor extends credit only to low- and moderate-income consumers; (3) credit is extended to consumers whose household income does not exceed the limits in the Community Development Act of 1974; and (4) the creditor, in accordance with its own procedures, determines that the borrower reasonably has the ability to repay the extension of credit.

The CFPB issued updates to the Truth in Lending Act and Equal Credit Opportunity Act sections of its examination manual. The release of the updated examination procedures is meant to provide financial institutions and mortgage companies with guidance on how the CFPB will evaluate compliance with many of the mortgage regulations issued in January. According to the CFPB, the updated examination procedures will provide guidance on how the CFPB will examine financial institutions and mortgage companies in the following areas: (1) setting qualification and screening standards for loan originators; (2) prohibitions on steering incentives in loan originator compensation; (3) prohibitions on loan originators being paid by both the consumer and another person; (4) escrow account requirements for higher-priced mortgage loans; (5) prohibitions on mandatory arbitration clauses for mortgage and home equity loans; (6) requirements that lenders provide applicants with appraisals and valuation reports; and (7) prohibitions on financing certain credit insurance premiums. The CFPB plans to publish examination procedures for the ability-to-repay and mortgage servicing rules in the coming months.

The CFPB issued a final rule delaying the June 1, 2013 effective date of the prohibition on creditors financing credit insurance premiums in connection with certain consumer credit transactions secured by a dwelling, which was originally adopted in its final rule governing practices for the origination of consumer mortgage loans in January 2013 (see January 22, 2013 Alert). The CFPB originally proposed a temporary delay of the effective date only for as long as necessary for any clarifications to be proposed, finalized and implemented (see May 14, 2013 Alert). The final rule sets January 10, 2014 as the new effective date.

The CFPB settled with a debt-relief company for violations of the FTC’s Telemarketing Sales Rule and the Consumer Financial Protection Act on the grounds that the company engaged in unfair, deceptive and abusive practices or acts. Both the TSR and the CFPA generally prohibit unfair and deceptive practices or acts; the CFPA also prohibits abusive practices or acts.

The settlement comes after the CFPB filed a complaint in federal court in Florida alleging that the debt-relief company violated the TSR and the CFPA by charging up-front "enrollment" fees in advance of providing the debt-relief service and misled consumers about its services by promising to begin settling consumers’ debts within three to six months of enrollment, but failed to do so. Of particular import to the CFPB was the debt-relief company’s practice of collecting detailed worksheets from consumers describing their monthly income, expenses and debts. This practice, according to the CFPB, meant that the debt-relief company should have known that it enrolled consumers with inadequate income to complete the debt-relief program. In announcing the filing of the complaint, Director Richard Cordray stated that the CFPB "will continue to crack down on this type of harmful behavior."

Pursuant to the consent order, the debt-relief company is permanently enjoined from advertising, marketing, promoting, and offering for sale or selling any debt-relief product or service. The company must also pay $15,000 in civil money penalties and damages of almost $500,000—the amount the CFPB claims the debt collection company collected in fees—and is subject to compliance monitoring by the CFPB for two years. The CFPB also noted that the action against the debt-relief company was part of its "comprehensive effort to prevent consumer harm in the debt-relief industry[]" and it is "focusing not only on debt-relief companies, but also on those who facilitate their unlawful conduct." Both the CFPB and the FTC have recently targeted the activities of debt-relief companies (see May 14, 2013 Alert and February 5, 2013 Alert respectively).

The CFPB released additional compliance guides to assist small creditors in complying with the mortgage servicing rules under TILA and RESPA and the loan originator compensation rule finalized by the CFPB in January 2013 (see January 22, 2013 Alert). The guides are intended to be an "easy-to-use summary" of the rules and highlight issues that small creditors may face when implementing the rules. The guides also provide implementation and compliance considerations for small creditors. For example, the CFPB noted that when mapping out a compliance plan, in addition to the obligations under the rules, the compliance plan may: (1) identify affected products, departments and staff; (2) identify the business-process, operational and technology changes that will be necessary for compliance; (3) identify impacts on key service providers or business partners; and (4) identify training needs.

The Department of the Treasury and HUD announced that the Making Home Affordable Program will be extended through December 31, 2015. Eligibility for the MHA Program was set to expire December 31, 2013. However, the determination to extend the MHA Program was made to align with the extended deadline for HARP (see April 16, 2013 Alert). According to Treasury Secretary Jacob J. Lew, although the housing market is gaining steam, "many homeowners are still struggling" and that extending the program for 2 years "will benefit many additional families while maintaining clear standards and accountability for an important part of the mortgage industry."

In conjunction with the extension of the MHA Program, FHFA announced that it was extending the Home Affordable Modification Program and the streamlined modification initiative, which it had previously issued guidance for in April (see April 2, 2013 Alert), through December 31, 2015.

The FDIC announced that it settled with a bank and an institutional affiliate for unfair and deceptive practices in violation of the FTC Act and violations of Treasury regulations governing the use of the ACH system to deliver federal benefit payments to prepaid debit cards. The FDIC alleged that the bank and its institutional affiliate engaged in unfair and deceptive practices in the marketing and servicing of a reloadable prepaid card offered by the institutional affiliate. In particular, the FDIC alleged that the bank and its institutional affiliated engaged in deceptive representations and omissions on the website with respect to advertising free online bill pay, promoted certain features and services that were not available to cardholders and charged fees that were not clearly disclosed. Further, it was alleged that the error resolution procedures imposed additional, undisclosed requirements on cardholders and in some cases violated Treasury regulations.

The terms of the settlements require restitution of approximately $1.1 million to over 64,000 cardholders and the payment of $710,000 in civil money penalties. In addition, the institutions are required to cease all unfair and deceptive acts or practices, strengthen their compliance management systems, including appointing a qualified compliance officer, establishing a compliance committee, and making periodic progress reports to the FDIC to ensure corrective action.

HUD announced that it settled claims alleging a national bank violated the Fair Housing Act regarding its maintenance and marketing practices for real estate owned properties. The complaint against the bank was filed by the National Fair Housing Alliance after it released a report on discrimination in the maintenance and marketing of REO properties. The complaint alleged that the bank engaged in differential treatment of REO properties on the basis of race, national origin or other prohibited grounds. In particular, it was alleged that the bank systematically failed to maintain properties in predominantly African American, Hispanic, and other nonwhite communities as opposed to properties located in mostly white communities.

The terms of the settlement require the bank to invest in minority neighborhoods hit hard by the foreclosure crisis, contribute to various programs that support homeownership, neighborhood stabilization, property rehabilitation, and housing development and enhance the bank’s practices of maintaining and marketing REO properties (e.g., by extending the amount of time that such properties are exclusively available for purchase by an owner-occupant or a non-profit organization).

Following FinCEN’s issuance of guidance on the applicability of the Bank Secrecy Act to virtual currency in March 2013 (see April 2, 2013 Alert), the Department of Treasury announced that it named, for the first time, a virtual currency provider as a "financial institution of primary money laundering concern" under Section 311 of the USA PATRIOT Act. Treasury considers the provider to be widely used by criminals worldwide to store, transfer, and launder the proceeds of a variety of illicit web-based activity, including identity fraud, credit card theft, online scams, and dissemination of computer malware. The regulatory action was made in conjunction with the unsealing of an indictment against the provider and certain of its principals, alleging a $6 billion money laundering scheme and the operation of an unlicensed money transmitting business. In conjunction with the announcement, FinCEN, issued a notice of proposed rulemaking that, if adopted, would prohibit covered U.S. financial institutions from processing foreign bank transactions involving the provider.

Considering "an issue of first impression" in the United States Court of Appeals for the Second Circuit and reversing the trial court’s order of dismissal, the Second Circuit ruled the Fair Debt Collection Practices Act does not require debtors to dispute the validity of the debt in writing, and so a debt collection notice likewise could not require the borrower’s response to be in writing. Plaintiffs filed a class action alleging that a debt collector violated the FDCPA by requiring them to submit any dispute of the validity of the debt in writing and could not be made orally. Defendant, a debt collector, moved to dismiss the class action. The lower court granted the motion and plaintiffs appealed.

The Second Circuit compared the conflicting rulings of the Third and Ninth Circuits on the issue, finding more persuasive the Ninth Circuit’s view that the FDCPA requires no writing from the debtor to dispute the validity of a debt. The Second Circuit ruled that Congress created "a sensible bifurcated scheme" that required a writing from the borrower to invoke more burdensome rights (such as demanding cessation of debt collection activities) than for other, less burdensome requests (such as disputing the validity of the debt). Thus, "[d]ebtors can protect certain basic rights through an oral dispute, but can trigger a broader set of rights by disputing a debt in writing." Notably, the Second Circuit rejected the debt collector’s argument that the ruling should have only prospective application.

In two related opinions, the Oregon Supreme Court issued long-awaited rulings concerning the nonjudicial foreclosure of trust deeds that named MERS as "beneficiary," on behalf of the lender and subsequent noteholders who are members of the MERS system. Plaintiffs, borrowers who defaulted on their mortgage loans, filed suit against MERS and other entities related to its nonjudicial foreclosure under Oregon’s Deed of Trust Act procedures and sought to enjoin the foreclosure proceedings. Plaintiffs contended that although the trust deed identified MERS as the beneficiary, neither MERS nor any of the other entities involved in the foreclosure had any legal or beneficial interest in the trust deed that would allow them to proceed under Oregon law.

The United States District Court for the District of Oregon certified four questions to the Oregon Supreme Court: (1) may an entity, such as MERS, that is neither a lender nor a successor to the lender, be a "beneficiary" as that term is used in the Oregon Deed of Trust Act?; (2) may MERS be designated as beneficiary under the Oregon statute where the trust deed provides that MERS "holds only legal title to the interests granted by Borrower in this Security Instrument, but if necessary to comply with law or custom, MERS (as nominee for Lender and Lender’s successors or assigns) has the right to exercise any or all of those interests?"; (3) does the transfer of a promissory note from the lender to a successor result in an automatic assignment of the securing trust deed that must be recorded prior to the commencement of nonjudicial foreclosure proceedings under the Oregon statute?; and (4) does the Oregon Deed of Trust Act allow MERS to retain and transfer legal title to a trust deed as nominee for the lender, after the note secured by the trust deed is transferred from the lender to a successor or series of successors? After re-framing two of the questions, the Oregon Supreme Court answered negatively to most of the certified questions.

The opinions had two central holdings. First, the Court agreed with plaintiffs that MERS cannot be "beneficiary" of a trust deed. Because Oregon law defines "beneficiary" as "the person for whose benefit the trust deed is given," only the lender (or successive owner of the debt) meets this definition of "beneficiary." Second, the Court rejected borrowers’ argument that, before foreclosing nonjudicially, lenders must record an assignment for every promissory note transfer. Instead, the Court held that lenders are not required to record a trust deed assignment for every promissory note transfer. Although Oregon law requires that "any assignment of the trust deed" be recorded to foreclose non-judicially and under the common-law principle that "[a] trust deed follows the promissory note that it secures," trust deed assignments do occur by operation of law, the statutory requirement, according to the Court, only extends to written assignment documents. The Court explained that the legislature did not intend assignments by operation of law to come within the purview of the recording statutes.

Of import, the opinions left open the question of whether a proper "beneficiary" is the owner of the debt, the "person entitled to enforce the note" (i.e., often the servicer) or both. On the fourth question, which the Court reframed to ask, in part, whether MERS had authority, nevertheless, as an agent for the original lender and its successors in interest to act on their behalves with respect to the transfer of the beneficial interest in the trust deed or the nonjudicial foreclosure process, the Court concluded that it did not have sufficient information on record to answer that question. As a result, all cases were remanded back to the trial courts for further fact-finding to determine whether MERS had agency authority to act on behalf of the owner of the debt when it took the challenged actions related to nonjudicial foreclosures.

Claiming "that its nation-leading force-placed insurance reforms will now cover 100 percent of the New York market," the New York Department of Financial Services announced that it settled with four providers of lender-placed insurance. DFS assessed a civil money penalty of $1 million against one of the insurers, which was also required to lower its premium rates. The other three insurers did not face civil money penalties, as they were not alleged to have participated in "kickbacks" by which insurers purportedly competed for lenders’ business through profit-sharing arrangements with the lenders. These three insurers signed "voluntary codes of conduct" through which they agreed not to engage in conduct including: (1) issuing force-placed insurance through affiliated lenders or servicers; (2) obtaining reinsurance through affiliated lenders or servicers; (3) paying commissions to lenders or servicers; (4) paying internal commissions based on underwriting profitability or loss ratios; (5) providing free or below-cost outsourced services to lenders and servicers; and (6) making any payments to servicers, lenders, or their affiliates to secure business.

The settlements with the force-placed insurers are part of a growing trend to reform the industry. Previously, both the DFS and the California Department of Insurance have entered into settlements with force-placed insurers (see April 2, 2013 Alert and November 13, 2012 Alert, respectively). The FHFA has also issued a proposal to restrict mortgage sellers and servicers from receiving commissions or other remuneration associated with maintaining force-placed insurance with certain providers (see April 2, 2013 Alert).