Safe Streets Alliance v. Hickenlooper Provides Good News, Bad News, and Instructions to the Cannabis Industry and the Financial Institutions Serving It

<i>Safe Streets Alliance v. Hickenlooper</i> Provides Good News, Bad News, and Instructions to the Cannabis Industry and the Financial Institutions Serving ItFor years, the “legal” cannabis industry – operating in states that have legalized cannabis under state law despite its long-standing prohibition under federal law – and the financial institutions that serve the industry have closely watched Safe Streets Alliance v. Hickenlooper. In Hickenlooper, Safe Streets Alliance, a “nonprofit organization devoted to reducing crime and illegal drug dealing,” and a family (Plaintiffs) that owned land surrounding a Colorado cannabis farm (Farm), sued the Farm and its dispensary customer (Dispensary) (collectively, Companies), alleging those entities were engaged in a racketeering operation by respectively growing and selling cannabis, which is illegal under the Controlled Substances Act (CSA). Plaintiffs alleged they were entitled to damages under the citizen-suit provision of the Racketeer Influenced and Corrupt Organization Act (RICO).

The cannabis industry breathed a sigh of relief on October 31, 2018, when a federal jury sided with the Farm, finding that Plaintiffs failed to prove the Farm’s operations damaged them. While this verdict was a clear win for the industry, Hickenlooper’s somewhat convoluted procedural history reveals potential pitfalls for cannabis businesses and the ancillary businesses providing services to them. In particular, the Tenth Circuit’s reversal of the United States District Court for the District of Colorado’s earlier dismissal of the case arguably provides a blueprint for alleging RICO claims against cannabis-related businesses that can survive a motion to dismiss, opening the door to discovery and a potential trial. This weaponized litigation is a tactic developed, and expected to be broadly used, by anti-legalization organizations like Safe Streets in an attempt to turn the tide against legalization.

This article analyzes Hickenlooper and provides several takeaways for the legal-cannabis industry and financial institutions that provide or are evaluating whether to provide financial services to the industry.

The RICO Claims

RICO provides private citizens with a federal cause of action for “injur[ies]” to their “business or property” caused by a pattern of racketeering activity. Under RICO, “racketeering activity” includes “any offense involving … the felonious manufacture, importation, receiving, concealment, buying, selling, or otherwise dealing in a controlled substance” as defined in the CSA, including cannabis.

To succeed on a RICO claim, the plaintiff must prove that (1) the defendant engaged in a pattern of racketeering activity; (2) the plaintiff’s business or property was injured; and (3) the racketeering activity caused the injury. In Hickenlooper, Plaintiffs alleged that by cultivating and selling cannabis, the Companies engaged in racketeering activity that devalued Plaintiffs’ land and interfered with their present use and enjoyment of it because the Farm invited crime, and the Farm’s “distinctive and unpleasant smell” was detectable on their land.

The District Court Grants the Companies’ Motion to Dismiss

The Companies moved to dismiss the RICO claims, arguing that Plaintiffs alleged only a “speculative injury” to their land’s value, rather than providing the “proof of a concrete financial loss” required under a heightened RICO pleading standard that the Companies argued applied. The district court agreed and granted the motion. While the court noted Plaintiffs’ allegation that the Farm’s odor invaded their land “permit[ted] a reasonable inference that” the land was devalued, it nonetheless dismissed their RICO claims because Plaintiffs “provide[d] no factual support” or “concrete evidence” to “quantify or otherwise substantiate their inchoate concerns as to the diminution in value of their property.”

The Tenth Circuit Reverses the Dismissal

The Tenth Circuit reversed the district court for improperly applying this heightened-pleading standard to dismiss adequately-pled RICO claims. Perhaps most importantly, the Tenth Circuit articulated what appears to be a per se rule that cultivating and selling cannabis is “by definition” a “racketeering activity” under RICO because, regardless of whether it is legal under the laws of the state where it occurs, it is illegal under the CSA. Further, the Tenth Circuit held that Plaintiffs adequately alleged the Farm and Dispensary formed an “association-in-fact enterprise” – an enterprise comprised of “a group of persons associated together for a common purpose of engaging in a course of conduct” – by alleging the Companies “pooled their resources, knowledge, skills, and labor” to grow cannabis on the Farm to sell at the Dispensary.

Next, the Tenth Circuit explained that Plaintiffs sufficiently pleaded that the Companies each had a part in conducting the unlawful enterprises’ affairs, noting the Companies “admit[ted] that they all ‘agreed to grow marijuana for sale’” at the Farm. The Tenth Circuit noted this same admission in holding that Plaintiffs adequately alleged the Companies were engaged in a “pattern of racketeering activity” by “plausibly stat[ing] the requisite patterns of predicate acts that present a threat of ongoing criminal activity.”

Turning back to the damages element, the Tenth Circuit held the district court erred by requiring “evidence of a ‘concrete financial loss’ (e.g., an appraisal quantifying the diminution in property value or comparator results of attempts to sell predating and postdating a RICO violation) to plausibly allege” an injury caused by the Farm’s operations. The Tenth Circuit explained it had “little difficulty” concluding that Plaintiffs “plausibly pled an injury to their property rights caused by the stench that the [Farm]’s operations allegedly produce,” and that it “need only draw an eminently reasonable inference to conclude that it is plausible that activities that interfere with one’s use and enjoyment of property diminish the value of that property.” The Tenth Circuit also noted that at the pleading stage, the district court was not “at liberty to disbelieve the [Plaintiffs] by ratifying the [Companies]’ speculation that the value of the [Plaintiffs]’ land has, perhaps, increased because of the now-booming market in Colorado for land on which to cultivate [cannabis].” Notably, the Tenth Circuit did affirm the dismissal of the RICO claims premised on other non-cognizable injuries, such as the speculative future decrease in value of Plaintiffs’ land and the alleged injuries that arose each time they viewed the Farm because it was “a constant reminder of the crimes occurring therein.”

The Tenth Circuit concluded by reversing the district court, but limited its holdings:

We are not suggesting that every private citizen purportedly aggrieved by another person, a group, or an enterprise that is manufacturing, distributing, selling, or using [cannabis] may pursue a claim under RICO. Nor are we implying that every person tangentially injured in his business or property by such activities has a viable RICO claim. Rather, we hold only that [Plaintiffs] alleged sufficient facts to plausibly establish the requisite elements of their claims against the [Companies] here.  [Plaintiffs] therefore must be permitted to attempt to prove their RICO claims.

The Companies Prevail at Trial

Plaintiffs failed to prove their claims at trial. The Farm established that its business is legal under state law, licensed by the state, and located on land zoned for agriculture. Because Plaintiffs’ land was also zoned for agriculture, the Farm argued that Plaintiffs should have expected the surrounding land would be used for that purpose. A chemical engineer testified that while he detected the Farm’s odor at a few discrete locations on Plaintiffs’ land using a Nasal Ranger detection device, the levels at each location were below the device’s lowest measurement. The jury also heard from several experts regarding the Farm’s impact on the value of Plaintiffs’ land. After trial, the jury found that Plaintiffs failed to prove damages, and judgment was entered in the Farm’s favor.

Takeaways

Hickenlooper is a blessing and a curse for the cannabis industry and the financial institutions that serve it. The cannabis industry obviously celebrates the jury verdict, which provides potential cannabis defendants with a roadmap of sorts for defeating the damages element of a RICO claim based on the alleged nuisance created by a cannabis business.

On the other hand rests the Tenth Circuit’s published decision establishing that – at least in Colorado, Kansas, New Mexico, and Oklahoma – “the manufacture, distribution, and sale of [cannabis] is, by definition, racketeering activity under RICO,” a holding that appears well supported by RICO’s plain language. The Tenth Circuit also seemed to set a low bar for pleading that several entities are part of an “association-in-fact enterprise” in this particular context, and courts have held that banks can be part of an association-in-fact enterprise in RICO suits arising in other contexts. To be part of such an enterprise, however, the Tenth Circuit explained that an entity “must have some part in directing the enterprise’s affairs” – “simply provid[ing], through its normal course of business, goods and services that ultimately benefit the enterprise” is not enough.

Fully mitigating the legal risk of transacting with cannabis-related businesses is not possible so long as cannabis remains illegal at the federal level under the CSA. Financial institutions that choose to do so may mitigate that risk by avoiding covenants that provide the institution with the ability to direct any part of the cannabis-related business’s operations to avoid being deemed an “association-in-fact enterprise” with that business in a RICO suit. To balance this concern with their standard business practices, financial institutions should consult outside counsel familiar with lending issues unique to the cannabis industry before entering this space.

Court Stays Compliance Date for BCFP’s Payday Rule

Court Stays Compliance Date for BCFP’s Payday RuleOn Tuesday, the small-dollar lending industry received a favorable ruling in Community Financial Services Association of America v. CFPB. A Texas federal court reversed course by staying the August 19, 2019, compliance date for the Bureau of Consumer Financial Protection’s (BCFP) rule regarding “Payday, Vehicle Title, and Certain High-Costs Installment Loans.” The court also continued a stay on the underling litigation previously issued on June 12, 2018. This latest ruling was prompted by the BCFP’s October 26, 2018, announcement that it would revisit key portions of the rule — specifically, the ability-to-repay provisions and address the compliance date of the rule as early as January 2019. Judge Lee Yeakel had previously denied the parties’ request to stay the rule’s compliance date in June. At that time, the industry trade groups Plaintiff Community Financial Services Association of America, Ltd. and the Consumer Services Alliance of Texas were hoping to stay the compliance date for 455 days after any final judgment in the case.

Unfortunately, the court failed to specify how long the stay on the rule’s compliance date will remain in place, only finding it was “pending further order of the court.” Our best guess is that the court will keep the stay in place at least through March 1, 2019, when the parties’ next joint status report is due. By then, the BCFP’s new proposal should be issued. What is unclear is whether any parts of the existing rule, e.g., the payment provisions, will still be tied to the August 19, 2019, compliance date when the stay is lifted. The BCFP has indicated that it will address the compliance date as part of the new proposal, but that may be a hard sell to consumer advocate groups. It is certainly possible that the August 19, 2019, compliance date will still be in play for some parts of the rule. For that reason, lenders should begin focusing their attention on the payment provisions until further guidance is issued from the court or BCFP.

First Party Creditors Should Carefully Consider the Upcoming Debt Collection Rules

First Party Creditors Should Carefully Consider the Upcoming Debt Collection RulesOn October 17, 2018, the Bureau of Consumer Financial Protection (BCFP), formerly known as the CFPB, announced that it plans to issue a Notice of Proposed Rulemaking (NPRM) for the Fair Debt Collection Practices Act (FDCPA) by March 2019. The NPRM will likely have a dramatic impact on collection practices for debt collectors. But, what about first party creditors? Did the Supreme Court’s decision in Henson v. Santander Consumer USA, Inc. obviate the necessity for first party creditors to comply with the BCFP’s debt collection rules?

Impact of Henson

In mid-2017, the United States Supreme Court issued a significant decision in Henson regarding the universe of companies subject to potential liability under the FDCPA. In a unanimous decision authored by Justice Neil Gorsuch, the Supreme Court held that companies that buy defaulted debts are not “debt collectors” under the FDCPA because they are not, by definition, “collect[ing] or attempt[ing] to collect . . . debts owed or due . . . another,” under 15 U.S.C. §1692a(6).

A cursory review of Henson might suggest that first party creditors, even when buying debts in default, are not subject to the FDCPA and therefore would likely not be subject to any rulemaking under the FDCPA. The Supreme Court in Henson, however, refused to consider the plaintiffs’ arguments that Santander was a debt collector because it allegedly regularly attempts to collect debts and because it is allegedly engaged in a business “the principal purpose of which is the collection of any debts.” Since the Supreme Court’s decision in Henson in 2017, these two aspects of the definition of debt collector in the FDPCA have become the primary battleground for consumer litigation under the FDCPA. Indeed, a number of courts over the last year have held that first party creditors qualify as debt collectors under the FDCPA’s “principal purpose” prong. See, e.g., Norman v. Allied Interstate, LLC, 310 F. Supp. 3d 509, 514-15 (E.D. Pa. 2018) (“[D]ebt buyers whose principal purpose of business is debt collection . . . are debt collectors under the [FDCPA].”); Tepper v. Amos Financial, LLC, 898 F.3d 364, 370-71 (3rd Cir. 2018); but see Bank of New York Mellon Trust Co. N.A. v. Henderson, 862 F.3d 29 (D.C. Cir. 2017) (holding that Bank of New York, which regularly purchased and collected on defaulted loans, was not a debt collector under the FDCPA because there was no evidence to indicate its principal purpose was debt collection). Until the Supreme Court weighs in again on the definition of debt collectors under the FDCPA, first party creditors should not simply assume the FDCPA does not apply. Additionally, it is conceivable that the BCFP’s upcoming NPRM could provide a broad interpretation of the “principal purpose” prong that would apply the new rules to first party creditors. While this seems somewhat unlikely under the current BCFP leadership, that was presumably the BCFP’s intention under former Director Richard Cordray.

Application via Unfair, Deceptive or Abusive Acts and Practices

Even if the BCFP’s new debt collection rules do not apply directly to first party creditors under the FDCPA, first party creditors should consider the possibility of liability for unfair, deceptive or abusive acts and practices (UDAAP) before discounting the NPRM.

In the mortgage servicing space, the BCFP, under former Director Cordray’s leadership, entered into Consent Orders with one or more servicers in 2014 for conduct that violated the BCFP’s mortgage servicing rules using an exam period that predated the effective date of the servicing rules. Under a similar line of thinking, it would not take a significant logical leap for the BCFP or another regulator to interpret a violation of the standards of conduct under the FDCPA as constituting a UDAAP for a first party creditor. Indeed, portions of the FDCPA specifically define certain behaviors as abusive and unfair. See 15 U.S.C. §§ 1692d, 1692f.

While it would be easy to assume the current leadership at the BCFP would not take such a stance given the stated intention of ending “regulation by enforcement,” the BCFP’s most recent consent order sends a different message. In the BCFP’s October 2018 Consent Order with Cash Express LLC, the BCFP used its UDAAP authority to apply violations of the FDCPA to a non-debt collection company. Even if the BCFP ultimately chooses not to utilize its UDAAP authority in this manner, Section 1042 of the Dodd-Frank Wall Street Reform and Consumer Protection Act provides state attorneys general and state regulatory agencies with the ability to enforce UDAAP violations. This enforcement structure significantly complicates and expands upon the potential risks that may be present for first party creditors. As a result, first party creditors should carefully consider the potential impact of the BCFP’s upcoming NPRM to its current collection practices.

Right Consumer, Right Amount

The BCFP’s original outline of proposed debt collection rules in 2016 incorporated robust data integrity requirements for debt collectors and creditors that supply information to debt collectors. In June 2017, the BCFP, under former Director Cordray, announced that it would take a bifurcated approach to addressing the issues detailed in the outline of proposed debt collection rules. Specifically, the BCFP stated it would develop a separate rule regarding the “right consumer, right amount” aspect of the outline. Given the large percentage of complaints categorized as “attempts to collect debts not owed” in the BCFP’s recent 50-State Complaint Snapshot, the BCFP may opt to change course and address the “right consumer, right amount” aspect of the proposed rule at the same time as the other components set forth in the 2016 outline. If so, the data integrity standards would obviously carry significant importance to first party creditors that engage in debt sales.

Debt collectors, debt sellers, and creditors will have an opportunity to impact the BCFP’s debt collection rules by commenting on the draft rules when they are released in 2019.

BCFP 50-State Complaint Snapshot Contains Lesson for Debt Collection Industry

BCFP 50-State Complaint Snapshot Contains Lesson for Debt Collection IndustryEarlier this week, the Bureau of Consumer Financial Protection (BCFP) released a 50-State Complaint Snapshot. Credit reporting, debt collection, and mortgage continued to be the top three categories of complaints both nationwide and in most states. The percentage of consumer reporting complaints did increase by 11 percent from 2016 to 2017 and surpassed debt collection as the number one source of complaints, which suggest financial services companies, including debt collectors, should increase their focus on furnishing complete and accurate data to consumer reporting agencies. While the complaint snapshot was largely unremarkable, one significant trend emerged.

The highest percentage of debt collection complaints, both nationally and in every state, were categorized as “attempts to collect debts not owed.” Acting Director Mick Mulvaney has consistently emphasized the importance of complaint data in determining how to allocate the BCFP’s resources. The consistency with which consumers complain about “attempts to collect debts not owed,” and the importance of consumer complaints in the BCFP’s process may prompt the BCFP to include data integrity requirements in the upcoming debt collection rules, which are scheduled for release by March 2019.

The BCFP’s 2016 outline of proposed debt collection rules incorporated robust data integrity requirements for debt collectors and creditors supplying information to debt collectors, including pre-collection account reviews, ongoing monitoring for “red flags,” pre-litigation reviews, and requirements for ensuring the accuracy of transferred data. These requirements went well beyond the validation processes employed by many debt collection companies and would require debt collectors, creditors, and debt sellers to devote substantial resources towards validating information about the debt.

In June 2017, the BCFP, under Director Richard Cordray, announced that it would take a bifurcated approach to addressing the issues detailed in the outline of proposed debt collection rules. Specifically, the BCFP stated it would develop a separate rule regarding the “right consumer, right amount” aspect of the outline that would simultaneously address both third-party debt collectors and first-party creditors. In explaining the reason for the change of course, the BCFP noted it had received substantial feedback from the industry about the difficulties for debt collectors to comply with the “right consumer, right amount” without concurrent rulemaking to ensure first-party creditors and third-party debt collectors were working together to guarantee they were collecting the right amount from the right consumer.

Director Cordray’s announcement, however, came more than a year ago. Given the prevalence of consumer complaints categorized as “attempts to collect debts not owed,” the BCFP may opt to change course again and address the “right consumer, right amount” aspect of the proposed rule at the same time as the other components set forth in the 2016 outline. Debt collectors, debt sellers, and creditors will have an opportunity to impact the BCFP’s debt collection rules by commenting on the draft rules when they are released in 2019.

BCFP Enters into Consent Order with Small Dollar Lender

BCFP Enters into Consent Order with Small Dollar LenderOn October 24, 2018, the Bureau of Consumer Financial Protection (BCFP), formerly known as the CFPB, entered into a Consent Order with Cash Express, LLC. Cash Express is a small dollar lender based in Cookeville, Tennessee, that operates 328 retail lending outlets in Alabama, Kentucky, Mississippi, and Tennessee, and offers short-term loans and check cashing services to its customers. Cash Express agreed to a $200,000 penalty and to pay $32,000 in restitution to resolve allegations that it violated the Consumer Financial Protection Act by engaging in deceptive and abusive practices.

The Highlights

The BCFP alleged that Cash Express engaged in deceptive activity by stating or implying that it intended to take legal action on out-of-statute debts, debts that were beyond the relevant statute of limitations period, when in fact it had no intention to file a legal action on these debts. Specifically, the BCFP alleged that Cash Express sent over 19,000 letters to more than 11,000 consumers with time-barred debts but only sued five of these 11,000 consumers. In contrast, Cash Express sued thousands of borrowers whose debts were not time-barred.

The BCFP further alleged that Cash Express engaged in deceptive activity by repeatedly indicating to borrowers, in loan documents, collection letters, and other communications, that it might report delinquencies to consumer reporting agencies when, in fact, Cash Express, as an institution, did not provide information to consumer reporting agencies. Interestingly, the allegedly deceptive statements referenced in the Consent Order stated that Cash Express may or might report negative information to consumer reporting obligations.

Finally, the BCFP alleged that Cash Express engaged in abusive conduct by failing to inform customers that it would exercise a right of set-off by retaining portions of cashed checks to pay outstanding obligations owed to Cash Express. The BCFP acknowledged that Cash Express disclosed this practice to consumers as part of its application process but took issue with Cash Express’ practice of not disclosing its intent to retain a portion of the check at the time of the transaction. The Consent Order referenced training materials that instructed Cash Express employees to avoid disclosing its intent to exercise its right of set-off until after Cash Express completed the transaction.

Impacted Industries

Small dollar lenders should pay particular attention to this Consent Order. However, the order also impacts debt collectors and anyone who services consumer accounts.

What It Means

First, companies that service consumer debt should take note of the BCFP’s theory for imposing liability associated with attempts to collect on out-of-statute debt. Interestingly, the BCFP did not directly attack Cash Express’ practice of stating or implying that it might take legal action on out-of-statute debts and instead focused on the discrepancy between Cash Express’ stated intention to take legal action and failure to actually take that action. The FDCPA directly prohibits a debt collector from “threat[ening] to take any action that cannot legally be taken or that is not intended to be taken.”[1] The BCFP essentially used its UDAAP authority to extend this FDCPA requirement to a non-debt collection company. This is not the first time the BCFP used its authority in this way and recently discussed the issue in the September 2018 CFPB Supervisory Highlights when it observed entities in the payday lending industry engaging in a deceptive act or practice in their collection letters.

Second, consumer financial services companies should carefully analyze statements regarding furnishing of information to consumer reporting agencies and ensure those statements align with company practices. It may not be sufficient to simply use the words may or might when those statements do not align with a company’s actual practices. While Cash Express never furnished information to consumer reporting agencies, it is not clear how the BCFP would apply this theory to more borderline situations. For example, would the BCFP use this theory to pursue a company that includes generic credit reporting language on all loan documents but only furnishes information to consumer reporting agencies on certain types of loans? Would they pursue a company who at one point was reporting on all loans but stopped reporting for a period of time?

Third, this Consent Order may shed some light on the BCFP’s recently announced intent to better define the term abusive. In this case, the allegedly abusive behavior had a fairly direct financial impact on consumers and was allegedly a systemic company policy. The Consent Order further emphasizes the BCFP’s position on clear disclosures and transparency to consumers. Additionally, the penalty appears to be smaller than the penalties that the BCFP would have sought under former Director Richard Cordray.

[1] 15 USC 1692e(5)

DOJ Continues Fair Housing Act Enforcement Actions

DOJ Continues Fair Housing Act Enforcement ActionsThe United States Department of Justice (DOJ) recently filed a civil action in the United States District Court for the Western District of Tennessee against an apartment development and its property management company alleging violations of sections 3604(a) and 3604(b) of the Fair Housing Act (FHA). Specifically, the complaint challenges the management company’s policy of rejecting applications for tenancy if any member of the household had a felony conviction within the past 10 years and instructed that in the event of such a conviction “consideration shall be given to favorable changes in the households’ pattern of behavior, a lapse of years since occurrence of an offense[,] and to other extenuating circumstances.” The complaint further asserts that the defendants improperly rejected the application of a black felon and issued a Letter of Banishment to the black felon, but either accepted the applications of white felons or did not issue Letters of Banishment to white felons. In the complaint, DOJ seeks injunctive relief and monetary damages.

This is not DOJ’s first involvement in an FHA case involving criminal records of potential tenants. In October 2016, DOJ filed a statement of interest in Fortune Society, Inc. v. Sandcastle Towers Housing Development Fund Corp. arguing that blanket bans of individuals with criminal records may disparately impact African American and Hispanic housing applicants. In Fortune Society, DOJ took the position that general safety and security concerns alone do not justify a screening policy that excludes any potential tenant who has a criminal conviction. DOJ noted that, while the FHA does not forbid housing providers from considering the criminal histories of applicants, categorical prohibitions that do not consider the age of conviction, the underlying criminal conduct, or what the convicted person has done in the intervening time create a substantial risk of running afoul of the FHA. The Fortune Society case remains pending.

Enforcement of the FHA is shared between the Department of Housing and Urban Development (HUD) and DOJ. DOJ takes enforcement of the FHA seriously and views the right to housing free from discrimination as one of the most fundamental rights of individuals. Enforcement of the FHA is among the responsibilities of the Housing and Civil Enforcement Section of the Civil Rights Division of DOJ. The Civil Rights Division was created by Congress in 1957 and tasked with upholding the civil and constitutional rights of all Americans, with an emphasis on protecting the rights of the most vulnerable members of society. In addition, HUD’s Office of Fair Housing and Equal Opportunity (FHEO) is tasked with implementing and enforcing the FHA. In 2016, HUD published guidance related to the use of criminal records in housing and real estate transactions. The FHEO investigates fair housing complaints and works to ensure civil rights in HUD programs.

The complaint filed in the Western District of Tennessee was signed by both the United States Attorney for the Western District of Tennessee and attorneys from the Housing and Civil Enforcement Section of the Civil Rights Division of DOJ. The filing of this complaint, as well as DOJ’s involvement in Fortune Society, signals DOJ’s continued interest in ensuring compliance with the FHA. In light of these developments, single or multi-family property owners or managers should review their housing application processes to ensure that they do not violate FHA or otherwise attract the attention of DOJ, HUD, or local United States Attorneys.

BCFP Revitalizes Efforts to Enact FDCPA Regulation

BCFP Revitalizes Efforts to Enact FDCPA RegulationOn October 17, 2018, the Bureau of Consumer Financial Protection (BCFP), formerly known as the CFPB, announced that it plans to issue a Notice of Proposed Rulemaking (NPRM) for the Fair Debt Collection Practices Act (FDCPA) by March 2019. The NPRM will address “how to apply the 40-year old [FDCPA] to modern collection processes,” including communication practices and consumer disclosure requirements.

The Highlights

The Dodd-Frank Act granted the BCFP authority to prescribe rules that are necessary to carry out and administer the purposes and objectives of federal consumer financial laws, including the FDCPA. The BCFP has been working on FDCPA rules for a number of years. In 2016, the BCFP went so far as to issue an outline of proposed debt collection rules and convened a panel pursuant to the Small Business Regulatory Enforcement Fairness Act. However, the BCFP’s change in leadership delayed further progress on the rules until now.

The first quarter 2019 NPRM will pick up where the BCFP left off in 2016 and is the next step towards issuing final rules. The NPRM will likely contain the following sections:

  • Background Section – Provides information about the relevant markets and other applicable legal requirements;
  • Section-By-Section Analysis – Provides an analysis of the proposed regulatory text and official commentary;
  • Proposed Impact Analysis – Assesses the benefits and costs to affected consumers and companies; and
  • Proposed Regulatory Text and Official Commentary – Provides the proposed regulatory text and official commentary.

The public, including affected companies and industry groups, will then have a period of time, usually 60 to 90 days, to provide feedback and comments. Once the comment period is closed, the BCFP will review all comments, make revisions to the proposed regulatory text and official commentary as it deems appropriate, and issue final rules.

Impacted Industries

These rules will likely impact anyone currently subject to the FDCPA, including debt collection companies, debt purchasers, debt sellers, small dollar lenders, mortgage servicers, credit card companies, student loan servicers, and auto finance companies.

What It Means

All consumer finance companies currently subject to the FDCPA should carefully follow the development of these rules. The FDCPA, which is in many ways a vague statute, has been largely unchanged since it was enacted over 40 years ago. In the absence of regulations, courts have been largely responsible for clarifying statutory ambiguity and determining how the FDCPA applies to new technologies, often resulting in differing opinions across different jurisdictions. The absence of binding regulations has created a landscape full of ambiguity and litigation risk. The BCFP’s rules will bring more clarity to the interpretation of the FDCPA. Additional clarity should allow companies to significantly reduce FDCPA litigation risk. However, additional clarity will also require companies to invest significant resources towards complying with the new rules.

O Canada! What Canada’s Nationwide Legalization of Cannabis Means for American Financial Institutions

O Canada! What Canada’s Nationwide Legalization of Cannabis Means for American Financial InstitutionsToday marks a significant shift in cannabis policy, both domestically and internationally, as Canada becomes the first industrialized nation in the world, and only the second nation overall, to legalize cannabis. This follows the passage of The Cannabis Act in June of this year, which legalized cannabis at all levels of government.

With this blessing from the highest level of the Canadian government, Canada’s legal-cannabis industry is expected to grow to $7.2 billion by 2019. Combined with the $21 billion in sales expected in 2021 in the United States in states where cannabis has been permitted under state law, this presents a lucrative and growing North American market for cannabis. Fueled by the desire to enter the largely untapped legal-cannabis market and hungry for capital, cannabis companies have begun listing on stock exchanges in both Canada and the United States. Several major players in the Canadian cannabis industry have up-listed to United States exchanges. In the last eight months alone, Canopy Growth, the largest Canadian cannabis company, up-listed to the New York Stock Exchange, Cronos up-listed to the NASDAQ, and Tilray became the first cannabis IPO on a United States exchange. Following the lead of these companies, Aurora Cannabis officially filed to list on the New York Stock Exchange just last week.

Alternatively, because United States exchanges refuse to list companies that violate United States federal law, United States cannabis-related businesses have looked north. The Canadian Securities Exchange, in particular, has become a haven for United States cannabis businesses seeking to raise capital but unable to list on the major United States exchanges. Prominent United States cannabis businesses Acreage Holdings – backed by former Speaker of the House John Boehner – and LivWell have announced plans to follow in the footsteps of MedMen and list on the Canadian Securities Exchange this fall.

These developments raise issues for American financial institutions providing, or seeking to provide, services for cannabis businesses from both nations. The federal prohibition on cannabis in the United States still looms large for financial institutions. As discussed in a recent post in this series, many financial institutions have chosen to avoid working with cannabis-related businesses altogether rather than navigate the compliance and reporting requirements associated with these businesses.

With the legalization of cannabis at all levels of Canadian government, the trend of Canadian cannabis businesses listing on United States exchanges likely will continue, adding more complexity and uncertainty to an already murky landscape. And while the official legalization of cannabis in Canada is a significant development in the growing trend of loosening cannabis laws here and abroad, it also presents a risk to both American investors and financial institutions transacting with these businesses. Anyone investing in or transacting with companies listed on either country’s exchanges should also carefully consider the legal and financial risk those relationships may carry. In particular, investors and financial services providers should note that whether the proceeds of a cannabis-related business originate in Canada or the United States may determine whether criminal liability or compliance obligations under American law attaches to those proceeds. While the cannabis industry in Canada and elsewhere celebrates this landmark legislation, American companies investing in or providing financial services to cannabis-related businesses should take a fresh look at their compliance programs to ensure consistency with the most recent rules and guidance in this rapidly evolving space.

Eleventh Circuit Rules Reverse Mortgage Companies Not Prohibited from Foreclosing on Non-Borrowing Spouses

Eleventh Circuit Rules Reverse Mortgage Companies Not Prohibited from Foreclosing on Non-Borrowing SpousesMortgagees of Home Equity Conversion Mortgages (“HECMs,” more commonly known as reverse mortgages) obtained a significant victory in an important federal appellate court, which ruled last month that non-borrowing spouses are not protected from foreclosure by the statute authorizing the HECM program. In Estate of Jones v. Live Well Financial, Inc., the United States Court of Appeals for the Eleventh Circuit concluded that 12 U.S.C. § 1715z-20(j)’s safeguards do not limit a mortgagee’s “right to foreclose under the terms of its valid mortgage contract.” The Eleventh Circuit decision represents a significant development since the United States District Court for the District of Columbia determined in Bennett v. Donovan that HUD violated Section 1715z–20(j) by insuring reverse mortgages that permitted the loan obligations to come due upon the borrower’s death regardless of whether the non-borrowing spouse was still alive.

In 2014, Caldwell Jones acquired a reverse mortgage that was secured by his Stockbridge, Georgia, home and covered by HUD’s mortgage insurance program. Jones shared the home with his wife and daughter, though Jones was named the sole “borrower” under the security deed. Jones died in 2014. The assignee, Live Well Financial, Inc. (“Live Well”), subsequently initiated foreclosure proceedings. Jones’ wife, Vanessa Jones, petitioned for injunctive relief to prevent the foreclosure sale. The petition asserted that Section 1715z-20(j) prohibited Live Well from foreclosing while Vanessa Jones resided in the home. The Superior Court of Henry County, Georgia, enjoined the foreclosure sale proceedings, Live Well removed the case to federal court, and the district court granted Live Well’s motion to dismiss.

On appeal, Vanessa Jones and the Estate of Caldwell Jones argued that the district court’s dismissal violated Congress’s intent in Section 1715z-20(j) to “protect the non-borrowing surviving spouse of a [r]everse [m]ortgage [b]orrower from displacement from their residential home.” Section 1715z-20(j) provides, in excerpted part, that:

The Secretary may not insure a [HECM] under this section unless such mortgage provides that the homeowner’s obligation to satisfy the loan obligation is deferred until the homeowner’s death, the sale of the home, or the occurrence of other events specified in regulations of the Secretary. For purposes of this subsection, the term “homeowner” includes the spouse of a homeowner.

12 U.S.C. § 1715z-20(j) (emphasis added).

The court agreed that Section 1715z-20(j) reflected an intent to “safeguard widowed spouses like Vanessa” by including the spouse of a homeowner in its definition of “homeowner.” However, Judge Newsom reasoned: “[Section] 1715z-20(j)’s plain language applies only to HUD and speaks only to what the Secretary can and cannot do . . . .  Section 1715z-20(j) says nothing about private contractual obligations one way or the other, and thus cannot be read to alter or affect the enforceability of the mortgage contract or its terms.” As with all standard HECMs, the mortgage at issue in Estate of Jones deferred foreclosure following a borrower’s death “only as long as a ‘surviving Borrower’ still lives in the mortgaged property.” Vanessa Jones was not designated a “borrower” under the mortgage contract. Thus, the Eleventh Circuit affirmed the district court’s dismissal, and Live Well’s “private contractual right” to demand payment.

The Eleventh Circuit’s jurisdiction over federal cases originating in Florida, a state of particular relevance to the reverse mortgage industry due to the number of HECM loans in the state, highlights the significance of Estate of Jones. Without deciding whether HUD should have insured the mortgage at issue, the Eleventh Circuit in Estate of Jones joins the Fifth Circuit’s unpublished Jeansonne v. Generation Mortgage Co. decision in rejecting the argument that Section 1715z–20(j) precludes a mortgagee’s contractual “right to foreclose under the terms” of a valid mortgage contract. In addition to Florida’s Third District Court of Appeal opinion in OneWest Bank, FSB v. Palmero, Estate of Jones should help reduce litigation against foreclosing HECM mortgagees where a surviving spouse is not a “borrower” under the mortgage contract.

HUD OIG Report Could be Precursor to Increased Partial Claim Reimbursement Demands

HUD OIG Report Could be Precursor to Increased Partial Claim Reimbursement DemandsOn September 21, 2018, the Department of Housing and Urban Development (“HUD”)’s Office of Inspector General (“OIG”) completed a review of HUD’s partial claims program. In many ways, the title of the OIG audit report, “HUD Did Not Have Adequate Controls To Ensure That Partial Claim Notes for FHA Loans Were Properly Tracked for Future Collection,” speaks for itself. As OIG reports typically drive process changes within HUD program offices, FHA mortgagees may need to brace for increased partial claim reimbursement demands, which typically total tens of thousands of dollars per loan.

A partial claim is a loss mitigation tool that allows lenders to advance funds on behalf of borrowers to reinstate a delinquent FHA-insured mortgage. The partial claim defers the repayment of mortgage principal through an interest-free subordinate mortgage that is not due until the first mortgage is paid off. HUD has strict guidelines requiring lenders to provide HUD with partial claims notes and mortgages within specific timeframes; failure to comply with those guidelines results in the lender being required to reimburse HUD for the total value of the partial claim plus the incentive fee (a “bonus” paid to the lender for each eligible loan that the lender enrolls in the partial claims program).

The OIG audited HUD’s partial claims program from January 1, 2013, until August 31, 2017, a timeframe that accounted for 407,984 partial claims totaling $11.7 billion. The OIG reviewed 695 of those partial claims at random and found that 421 (60.6%) contained deficiencies in the boarding process, i.e. entering the partial claims into HUD’s SMART system, and 394 (56.7%) contained deficiencies in HUD’s tracking of partial claims documents. For many of these deficient partial claims, the mortgage documents were either missing or had not been properly recorded before being sent to HUD.

In light of the error rate of tracking partial claim collateral documents, the OIG recommended that HUD reach out to lenders to obtain the missing documents or get them re-recorded, and also recommended that HUD require reimbursement for any loans for which the missing documents could not be obtained. The OIG report also recommended that HUD develop and implement additional controls to ensure these problems do not persist, meaning compliance by lenders will likely be under a microscope going forward.

In the last eighteen months, FHA mortgagees have seen an uptick in HUD making partial claim reimbursement demands from lenders that failed to strictly comply with HUD’s guidelines to timely provide HUD with the partial claims documents. This OIG report indicates that HUD will likely continue to aggressively pursue partial claims reimbursements from lenders who failed to comply with the guidelines, and may begin to pursue such reimbursements even more aggressively. In light of the report, FHA mortgagees would be well-advised to consider their potential liability and exposure from historic partial claim filings, ensure their current partial claims procedures strictly comply with HUD’s requirements, and consider all options when responding to a partial claim reimbursement demand from HUD.

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