A Bid to Delay Implementation of the Payday Rule Ends in a Judicial Cul-de-sac

A Bid to Delay Implementation of the Payday Rule Ends in a Judicial Cul-de-sacLate last month, the CFPB took the extraordinary step of joining two trade groups in requesting a stay of a case challenging the bureau’s final payday/auto title/high-rate installment loan rule (“Payday Rule”) pending the CFPB’s reconsideration of the rule promulgated under the prior administration. Significantly, the joint motion also seeks a stay of the Payday Rule’s compliance date. The CFPB’s decision to join the plaintiff in requesting the stay of the rule is a firm indication of the bureau’s altered priorities under Director Mick Mulvaney. Indeed, the joint motion goes so far as to state that the CFPB’s rulemaking “may result in repeal or revision of the Payday Rule and thereby moot or otherwise resolve this litigation or require amendments to Plaintiffs’ complaint.” On this basis, the CFPB and the trade groups asked the federal court in Texas to stay the compliance date until 445 days from the date of final judgment in the litigation.

In response, several consumer advocacy groups filed amicus memorandum opposing the joint request for a stay. These groups argue that the CFPB’s decision to join the plaintiffs in seeking to stay the case and the Payday Rule compliance date deprive the court of the “benefit of adversarial briefing.” The consumer groups also argue that the CFPB lacks authority under 5 U.S.C. § 705 to delay implementation of the Payday Rule because Section 705 can only “stay agency action for the purpose of maintaining the status quo during judicial review.” The consumer groups argue that the CFPB is not seeking to maintain the status quo to protect against litigation uncertainties but rather to address uncertainties created by its reconsideration of its own rule. The consumer groups argue that, in fact, “the parties are not litigating and have no intention to do so,” and that application of Section 705 is therefore improper. The plaintiffs in the case filed a reply to the oppositions on June 11.

On June 12, 2018, the court entered an order staying the litigation and relieving the CFPB of the obligation to file an answer. Importantly, however, the order denied the request to stay the Payday Rule compliance date. This leaves the industry in essentially the same position that it was before the suit was filed. It is still possible that Director Mulvaney could propose a change to the rule extending the compliance date. Until then, impacted entities must continue to prepare for the August 2019 compliance date.

Financial Reform Legislation (S. 2155) Becomes Law with Industry Support

Financial Reform Legislation (S. 2155) Becomes Law with Industry SupportDescribed as “the first bipartisan banking law to be enacted in a decade” by the American Bankers Association, the Economic Growth, Regulatory Relief, and Consumer Protection Act was signed into law on May 24, 2018 following a vote of 258 to 159 in the House of Representatives. The act addresses a number of subjects ranging from mortgage lending and consumer protection to regulatory reform for community and large banks.

Sen. Mike Crapo (R-ID), chairman of the Senate Banking Committee, described the act as “a bipartisan compromise” with commonsense changes, while Acting Director of the Consumer Financial Protection Bureau Mick Mulvaney applauded the bill as “the most significant financial reform legislation in recent history.” Sen. Sherrod Brown (D-OH), ranking member of the Senate Banking Committee, however, has criticized the bill as a win for special interests and “a giveaway that loosens rules” for large banks. The act’s significance has already been recognized among industry groups including the Mortgage Bankers Association.

Three sections of the act are briefly highlighted: (1) Section 106’s response to employment barriers for loan originators; (2) Section 304’s restoration of the Protecting Tenants at Foreclosure Act of 2009; and (3) Section 401’s revisions to the asset thresholds set forth in Section 165 of the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank).

Section 106: Job Mobility and Barriers for Mortgage Loan Originators

Section 106 of the act amends the S.A.F.E. Mortgage Licensing Act of 2008 by addressing barriers for mortgage loan originators.    The act provides certain qualifying loan originators that are moving interstate or from a depository institution to a non-depository institution with “temporary authority” to originate loans in the state in which the originator seeks to be licensed.  The temporary authority serves as a “grace period” to allow originators who are shifting positions and who satisfy specific performance and eligibility criteria to become licensed.  David W. Perkins, et al., Congressional Research Service, Economic Growth, Regulatory Relief, and Consumer Protection Act (S. 2155) and Selected Policy Issues at 9 (Apr. 12, 2018).  In doing so, Section 106 addresses a concern raised by the real estate finance industry since S.A.F.E.’s enactment – job mobility for loan officers. Section 106’s amendments take effect 18 months after the act’s enactment.

Section 304: Restoration of the PTFA

Section 304 restores the Protecting Tenants at Foreclosure Act of 2009 (PTFA) by repealing its sunset provision. The PTFA had imposed “requirements on successors in interest to foreclosed properties in order to protect tenants,” Mik v. Fed. Home Loan Mortg. Corp., before expiring on December 31, 2014. The PTFA’s expiration left behind a patchwork of state and local laws protecting tenants in foreclosed property. However, effective 30 days after its enactment, the act restores Sections 701 through 703 of the PTFA and “any regulations promulgated pursuant to such sections, as were in effect on December 30, 2014.”

Section 401(a): Enhanced Supervision and Prudential Standards Thresholds

Section 401(a) of the act amends the asset thresholds established in Section 165 of Dodd-Frank, codified at 12 U.S.C. § 5365.

First, Section 401(a) raises Section 5365(a)’s asset threshold for enhanced prudential standards. Section 5365(a) originally provided that the Board of Governors of the Federal Reserve System “shall establish prudential standards for nonbank financial companies supervised by the Board of Governors and bank holding companies with total consolidated assets equal to or greater than $50,000,000,000.”  Prudential standards encompass, inter alia, risk-based capital, risk management, and liquidity requirements.  These standards were designed to be stringent and to reflect the risks posed by the failure of a large financial institution.  Section 401 of the act replaces Section 5365(a)’s $50 billion threshold with a $250 billion threshold. However, according to Section 401(f) of the act, “[a]ny bank holding company, regardless of asset size, that has been identified as a global systemically important BHC” under 12 C.F.R. § 217.402 is “considered a bank holding company with total consolidated assets equal to or greater than” $250 billion for purposes of Section 5365.

Second, for bank holding companies with total consolidated assets between $100 billion and $250 billion, Section 401(a) enables the Board of Governors to apply, upon a determination of appropriateness and consideration of certain risk-related factors, any prudential standard established under Section 5365.  Third, for publicly traded bank holding companies, Section 401(a) substitutes the asset threshold that triggers the risk committee requirement in Section 5365(h)(2) from $10 billion to $50 billion. In effect, Section 401(a) “exempt[s] banks with assets between $50 billion and $100 billion from enhanced regulation, except for the risk committee requirements.”  David W. Perkins, et al., Congressional Research Service, Economic Growth, Regulatory Relief, and Consumer Protection Act (S. 2155) and Selected Policy Issues at 31 (Apr. 12, 2018). As an additional resource, the Congressional Research Service has compiled a table of bank holding companies and intermediate holding companies with over $50 billion in assets, as of September 30, 2017, in CRS Report R45073.

Section 401’s amendments take effect 18 months after the act’s enactment. However, for a bank holding company with total consolidated assets of less than $100 billion, Section 401’s amendments were effective on the date of its enactment, May 24, 2018. The import of Section 401(a) goes well beyond the subjects addressed in this blog and includes, inter alia, a requirement that the Board of Governors “differentiate among companies on an individual basis or by category” when prescribing prudential standards and amendments related to Section 5365(i)’s stress test subsection, as well as Section 5365(j)’s leverage limitation subsection.

Altogether, the Economic Growth, Regulatory Relief, and Consumer Protection Act, as well as the remainder of Section 401’s provisions, will warrant further analysis and attention both within the industry and among its observers.

Providing Banking Services to the Legal Marijuana Industry: Mitigating Risks to Maximize Potential Rewards

Providing Banking Services to the Legal Marijuana Industry: Mitigating Risks to Maximize Potential RewardsSince 1996, when California became the first state to legalize marijuana (at the time, for medicinal purposes only), 28 additional states and the District of Columbia have legalized marijuana to some extent. Public support for legalization continues to rise as more and more jurisdictions loosen their marijuana laws, with 64 percent of Americans in favor of legalization, nearly double the percentage that supported legalization in 2000.

While the use and possession of marijuana is still illegal under federal law, the long-term outlook for the legal-marijuana industry appears strong. This emerging industry took in approximately $9 billion in sales in 2017, with that number expected to grow to $11 billion in 2018 and $21 billion in 2021.

Despite these eye-popping numbers, the legal-marijuana industry is severely underserved by many of the industries it requires for support, perhaps none more so than the banking and financial services industry. Broadly speaking, the reason for this is obvious – the federal prohibition on marijuana found in the Controlled Substances Act. In light of that prohibition and the regulatory challenges that come with it, many financial institutions have decided that doing business with this industry is simply too risky.

But not all financial institutions share that view, and the number of institutions willing to reap the reward of engaging an underserved $11 billion industry continues to grow. Now, almost 400 banks and credit unions provide banking services to the legal-marijuana industry, more than three times the amount that served the industry in 2014.

Like most decisions in the financial world, whether to do business with the legal-marijuana industry is a question of risk tolerance. While the risks in this arena are certainly higher than most, so too are the potential rewards given the relative scarcity of competition compared to other industries.

To assist in evaluating those risks, this article provides a brief overview of two key laws governing a financial institution’s relationship with marijuana-related businesses: (1) the Bank Secrecy Act (BSA), and (2) the Federal Deposit Insurance Act’s prohibition of “unsafe or unsound practices” for banks insured by the Federal Deposit Insurance Corporation (FDIC). Future articles will provide a more in-depth look into each.

The Bank Secrecy Act

The BSA – along with its implementing regulations promulgated by the Office of the Comptroller of the Currency (OCC) – establish various recordkeeping and reporting requirements for national banks, federal savings associations, and agencies of foreign banks. The OCC, as well as the Treasury Department’s Financial Crimes Enforcement Network (FinCEN) and Office of Foreign Assets Control (OFAC), all play a role in enforcing the BSA.

On February 14, 2014, FinCEN issued guidance that, by its terms, “clarifies how financial institutions can provide services to marijuana-related businesses consistent with their BSA obligations” (the FinCEN Guidance). The FinCEN Guidance is expressly based on the Cole Memorandum – Obama-era guidance from the Justice Department that directed federal prosecutors to take a hands-off approach to legal-marijuana businesses in states where marijuana had been legalized to some degree. Although Attorney General Sessions rescinded the Cole Memorandum on January 4, 2018, FinCEN has since indicated that the FinCEN Guidance remains in effect.

While some nonetheless viewed Sessions’ rescission of the Cole Memo as weakening the FinCEN Guidance, the pendulum may have swung back on April 13, when Colorado Senator Cory Gardner – who began blocking the confirmation of Justice Department nominees after Sessions rescinded the Cole Memo – announced that he received a commitment from President Trump “that the Department of Justice’s rescission of the Cole Memo will not impact Colorado’s legal marijuana industry.” The White House confirmed that Senator Gardner’s statement was “accurate,” but did not offer details as to how the Administration would implement President Trump’s directive. Given Trump’s directive and FinCEN’s indication that its Guidance remains in effect, financial institutions transacting with marijuana-related businesses should still look to the FinCEN Guidance to clarify their BSA obligations in this space.

The FinCEN Guidance requires that a financial institution engaging a marijuana-related business conduct substantial, and, importantly, continuing due diligence to determine whether that business is (1) complying with state law, (2) interfering with any of the eight priorities listed in the Cole Memorandum, or (3) otherwise engaging in “suspicious activity,” including a list of “red flags” enumerated in the Guidance. The institution must then file one of three marijuana-specific Suspicious Activity Reports (SAR), and continue filing SARs throughout its relationship with the marijuana-related business. Which of the three depends on what the institution uncovers in its due diligence:

  • The institution should file a “Marijuana Limited” SAR if “it reasonably believes, based on its customer due diligence,” that the business “does not implicate one of the Cole Memo priorities or violate state law[.]”
  • The institution should file a “Marijuana Priority” SAR if “it reasonably believes, based on its customer due diligence,” that the business “implicates one of the Cole Memo priorities or violates state law[.]”
  • The institution should file a “Marijuana Termination” SAR if “it reasonably believes, based on its customer due diligence,” that it must terminate its relationship with the business “to maintain an effective anti-money laundering compliance program[.]”

While the FinCEN Guidance mandates an onerous compliance program for financial institutions doing business with the legal-marijuana industry, the costs of such programs can be passed through to the legal-marijuana client. Given the dearth of supply and substantial demand for financial institutions willing to do business with them, such clients understand the need for and are willing to pay such fees.

“Unsafe and Unsound Practices”

The FDIC provides deposit insurance to its member banks, and all federally- and nationally-chartered banks, and nearly all state-chartered banks, are required to have FDIC Insurance. FDIC-insured banks that engage in “unsafe or unsound practices” are subject to FDIC enforcement actions. While the FDIC has broadly declared that “committing violations of law” is an unsafe and unsound practice, courts have interpreted the phrase “unsafe or unsound practice” as a “flexible concept which gives the administering agency the ability to adapt to changing business problems and practices in the regulation of the banking industry.”

Given the federal prohibition on marijuana, providing banking services to legal-marijuana businesses can put an institution’s FDIC Insurance at risk. But a financial institution serving the legal-marijuana industry may be able to decrease the risk that the FDIC would deem such service an “unsafe and unsound practice” through certain actions, like limiting marijuana-related deposits to a small percentage of its total deposits to decrease liquidity risk and ensuring its employees are well-trained on its policies and procedures for serving the industry.

Notably, unlike their bank counterparts, credit unions are not supervised by the FDIC, and the FDIC does not insure their deposits. Those deposits are instead insured by the National Credit Union Administration (NCUA), which also supervises federally-chartered credit unions. The NCUA has indicated that it will follow the FinCEN Guidance when examining the federally-chartered credit unions it supervises, and state-chartered credit unions are not supervised by federal banking regulators. For these reasons, many view the regulatory environment for providing banking services to the legal-marijuana industry as more favorable for credit unions than their bank counterparts.


Until marijuana is legalized at the federal level or Congress passes legislation protecting financial institutions that serve the legal-marijuana industry, providing banking services to that industry will be a risky endeavor. But financial institutions can minimize that risk to an extent by building out a robust compliance program. While that program may be costly, financial institutions can recoup those costs through the fees they charge to the legal-marijuana client, which can provide a potentially lucrative opportunity for financial institutions willing to engage with the industry.

Meltdown of the Iran Nuclear Deal—Sanctions Update

Meltdown of the Iran Nuclear Deal—Sanctions UpdateOn May 8, 2018, President Donald Trump announced that the United States would no longer participate in the Joint Comprehensive Plan of Action (JCPOA), the international agreement regarding Iran’s nuclear activities and sanctions imposed on Iran that was entered into in July 2015. The Treasury Department’s Office of Foreign Asset Control quickly issued a frequently asked questions bulletin explaining how the U.S. will re-impose sanctions that had been lifted pursuant to the JCPOA. The U.S. withdrawal from the deal will occur over either a 90-day (ending August 6, 2018) or 180-day (ending November 4, 2018) wind-down period, depending on the type of activity at issue. Here are some key takeaways:

  1. Until the expiration of the applicable wind-down period, all prior guidance, waivers, and licenses effectively remain in place (though under temporary wind-down waivers).
  2. Non-U.S. persons owed payment for goods or services supplied to non-Iranian persons that were legal under the JCPOA can still receive payment even after expiration of the wind-down period provided such payments do not involve U.S. persons or the U.S. financial system.
  3. All persons removed from the SDN (Specially Designated Nationals) List under the deal will be re-designated as such by November 5, 2018. These persons and entities will be subject to secondary sanctions after that date. Secondary sanctions are those targeting non-U.S. citizens and companies abroad that interface with the U.S. financial sector. This category of sanctions has been used particularly aggressively as it relates to Iran.
  4. Any specific or general licenses extended under the JCPOA will be revoked, including the licenses related to commercial aircraft sales and the importation of Iranian carpets and foodstuffs. Any applications still pending will be denied.

Because of the complexity of U.S. sanctions, individuals should confer with an attorney about the application of the new authority to their specific circumstances.

Florida Third District Court of Appeal’s Ruling in Favor of Reverse Mortgage Lender Signals New Positive Outlook for Non-Borrowing Spouse Issue

Florida Third District Court of Appeal’s Ruling in Favor of Reverse Mortgage Lender Signals New Positive Outlook for Non-Borrowing Spouse IssueReverse mortgage lenders received a significant victory in Florida’s Third District Court of Appeal last week when the court issued its decision in OneWest Bank, FSB v. Palmero. After previously ruling in Smith v. Reverse Mortgage Solutions, Inc. and Edwards v. Reverse Mortgage Solutions, Inc. that the surviving spouses of borrowers who had taken out reverse mortgage loans also qualified as “borrowers” under the terms of the mortgage and thus had the right to remain in the property after the death of a spouse, the court changed course in Palmero, outlining the conditions under which a lender could prove that “borrower” meant only the person who actually “borrowed” the money.

In Palmero, the lender brought a foreclosure action against Luisa Palmero, claiming that her deceased husband Roberto had taken out a reverse mortgage and that his death triggered the lender’s right to accelerate the mortgage debt and commence foreclosure proceedings. The mortgage granting the security interest to the lender defined the borrower as “Roberto Palmero, a married man reserving a life estate unto himself with the ramainderman [sic] to Luisa Palmero, Idania Palmero, a single woman and Rene Palmero, a single man.” Mr. and Mrs. Palmero executed the mortgage on separate signature lines underneath the statement “BY SIGNING BELOW, Borrower accepts and agrees to the terms contained in this Security Instrument and in any rider(s) executed by Borrower and recorded with it.” However, only Mr. Palmero signed the promissory note evidencing the payment obligation associated with the reverse mortgage.

Further, only Mr. Palmero was named as the borrower in the loan application and loan agreement. Mrs. Palmero executed a “non-borrower spouse ownership interest certification” in which she certified that “should [her] spouse predecease [her] . . . and unless another means of repayment [was] obtained, the home where [she] reside[s] may need to be sold to repay Reverse Mortgage debt incurred by [her] spouse” and that “[i]f the home where [she] reside[s] [was] required to be resold,” Mrs. Palmero agreed that she understood “that [she] may be required to move from [her] residence.” After trial, the circuit court granted judgment in favor of Mrs. Palmero, concluding that (1) she was not a “borrower” under the terms of the mortgage and thus Mr. Palmero’s death triggered acceleration of the loan, but (2) that federal law prevented the lender from foreclosing on the property while Mrs. Palmero, the non-borrowing spouse, remained alive.

On appeal, a majority of the panel of the Third District Court of Appeal affirmed the circuit court’s holding that Mrs. Palmero was not a “borrower,” but reversed the judgment in favor of Mrs. Palmero by rejecting the argument that federal law precluded foreclosure. In holding that the circuit court properly determined that Mrs. Palmero was not a “borrower,” the court held that it was required to read all of the documents executed at the origination of the reverse mortgage together. The court determined that reading the definition of “borrower” in the mortgage, along with the loan application executed by Mr. Palmero, the note executed by Mr. Palmero, and the non-borrower spouse certification executed by Mrs. Palmero, made it clear that Mrs. Palmero was not a “borrower” under the reverse mortgage. The court recognized its prior holdings in Smith and Edwards in which it held that a foreclosing entity failed to demonstrate that it was entitled to foreclose against the surviving spouse on a reverse mortgage, but distinguished those cases based on the evidence of the contemporaneously signed documents that made it clear that Mrs. Palmero was not a “borrower.”

The court further held that federal law did not preclude the lender’s foreclosure. The court first held that Mrs. Palmero had failed to raise at trial the defense that federal law precluded the foreclosure, and thus the defense had been waived. The court also rejected the argument on the merits, finding that federal law did not require Mrs. Palmero to be a “borrower” in order for the reverse mortgage to be insurable by the federal government.

Going forward, Palmero stands as a significant cut against the broad interpretation of Smith and Edwards that many Florida trial courts had adopted in order to hold that a surviving spouse had the legal right to remain in property secured by a reverse mortgage after the borrower’s death. Palmero demonstrates that a lender may demonstrate that the surviving spouse is not a “borrower” under the mortgage by introducing the other documents executed at the time the loan is originated—most significantly, the non-borrower spouse ownership interest certification, in which the non-borrowing spouse expressly recognized the fact that the borrower’s death would allow the lender to accelerate the loan and proceed to foreclosure.

FFIEC Highlights Cyber Insurance for Financial Institutions

FFIEC Highlights Cyber Insurance for Financial InstitutionsThe Federal Financial Institutions Examination Council (FFIEC) has issued a joint statement emphasizing the need for lenders and servicers to include cyber insurance in their risk management program. Although the FFIEC did not announce new regulatory requirements or expectations, the announcement is further evidence of what most in the industry have already recognized: Cyber coverage is quickly becoming indispensable.

Among the points highlighted by the FFIEC:

  • Financial institutions face a variety of risks from cyber incidents, including risks resulting from fraud, data loss, and disruption of service.
  • Traditional insurance coverage may not cover cyber risk exposures.
  • Cyber insurance can be an effective tool for mitigating risk.
  • Insurance does not remove the need for an effective system of controls as the primary defense to cyber threats.
  • The cyber insurance marketplace is growing and evolving, requiring due diligence to determine what insurance products will meet an organization’s needs.

Although not specifically mentioned in the FFIEC statement, financial institutions should be aware that cyber coverage can be an important source of mitigating regulatory risk associated with data breaches – if the organization purchases a policy that provides regulatory coverage. Today, there are a number of insurers offering products that reimburse costs for investigating and responding to a regulatory investigation or enforcement proceeding, as well as provide coverage for administrative penalties. Given amplified scrutiny from regulators in the area of data security, the importance of such coverage continues to increase. With a rapidly changing market, institutions should carefully review policies to be sure that the scope and limitations of coverage match their exposure.

SEC Action Highlights Importance of Specific Language in Directors and Officers Insurance for Fintech and Other Startup Companies

SEC Action Highlights Importance of Specific Language in Directors and Officers Insurance for Fintech and Other Startup CompaniesThe founder of Mozido, the fintech startup once claimed to be valued at $5.6 billion, has been named as a defendant in a civil lawsuit filed by the Securities and Exchange Commission (SEC). The complaint names Michael Liberty (and others) individually and also names corporate entities related to Mozido as defendants. This action by the SEC highlights the importance of ensuring adequate Directors and Officers (D&O) insurance for startup fintech entities and for their directors and officers. In addition, the fraud allegation illustrates the significance of negotiating specific language in the standard D&O fraud exclusion.

In its civil complaint, the SEC asserts that the defendants engaged in a “long-running fraudulent scheme using multiple fraudulent securities offerings” that “tricked investors into believing they were funding fast-growing startup companies.” The complaint further alleges that this fraudulent scheme “centered on MDO, a financial technology company (then known as Mozido LLC), and later on Mozido, Inc.” and that “Liberty claimed to be the founder of MDO and served as a de facto officer of MDO and Mozido, Inc.” The 66-page complaint asserts a number of securities fraud claims and seeks injunctive relief, disgorgement, and civil monetary penalties.

The typical D&O policy provides insurance coverage under three different insuring agreements, commonly known as Side A, Side B, and Side C coverage. Side A provides “direct” or personal liability coverage for individual directors and officers where the company cannot legally provide a defense or indemnify loss (where such indemnity is prohibited by state law) or where the company is financially unable to do so. Side B indirectly covers the individual directors and officers of the company by reimbursing the company for defense or indemnity payments that the company has made or is required to make on behalf of its directors and officers. Side C, which is also known as “entity coverage,” provides coverage for claims against the company itself. In short, D&O insurance may protect corporations from potentially sizable losses and also protects the individual directors or officers against those losses when corporate indemnification is not available.

The insuring agreement of most D&O policies will provide coverage for “loss” that is incurred as a result of a “claim” made for a “wrongful act.” While the specific language of D&O policies varies, the term “claim” typically refers to an assertion of a legal right or demand for payment by a third party against the insured, and the term “wrongful act” generally is defined as “actual or alleged act, error, misstatement, misleading statement, omission or breach of duty.” Importantly, the term “loss” usually includes defense costs; the value of the D&O policy in providing coverage in response to claims such as the SEC complaint is that the insurer should advance defense costs to an individual, or corporation, accused of offenses.

In addition, most D&O policies will include a “fraud exclusion,” which excludes coverage for claims based on an insured’s fraudulent act. A policyholder may incorrectly assume that a claim alleging a “long-running fraudulent scheme,” such as the SEC complaint, is excluded by a D&O policy. It is important to understand, however, that under the fraud exclusion language found in many D&O policies, allegations of fraud alone are insufficient to trigger the exclusion. For example, the fraud exclusion may apply only when there is an “actual finding of dishonesty or fraud,” a “final adjudication of fraud,” or better yet, fraud that is “established by a final and non-appealable adjudication.” Courts interpreting such narrow fraud exclusions, which are construed against the insurer, have generally found that “actual finding” requires a finding of fraud by a court. When such language is included in the fraud exclusion, the D&O insurer should provide coverage for claims such as the SEC complaint, unless and until a court finds the defendant has committed fraud.

Any fintech startup should work with coverage counsel and an experienced broker to identify risks and consider procurement of insurance to offset those risks. Counsel and the broker can help ensure that policy language, such as a narrow fraud exclusion, will maximize coverage to the insured in the event of a claim.

Do Servicers Have to Monitor Whether a Successor in Interest is in Bankruptcy? CFPB’s FAQ Suggests the Answer is “Yes”

Do Servicers Have to Monitor Whether a Successor in Interest is in Bankruptcy?  CFPB’s FAQ Suggests the Answer is “Yes”As the effective date for the CFPB’s successor in interest and bankruptcy billing statement requirements quickly approaches, one question we’ve heard multiple times is whether a mortgage servicer is required to know when a confirmed successor in interest is in bankruptcy. The question stems from upcoming provisions in Regulations X and Z that will collectively say, in essence, that a confirmed successor in interest must be treated as if he or she is a borrower for the purposes of the mortgage servicing rules. Combine that mandate with specific requirements in the periodic billing statement and early intervention contexts that apply when “any consumer [or borrower] on a mortgage loan is a debtor in bankruptcy” and it becomes clear why many servicers have wondered whether a confirmed successor in interest’s bankruptcy might trigger the various bankruptcy-specific requirements in the mortgage servicing rules.

On March 20, 2018, the CFPB arguably settled the debate when it published a set of Frequently Asked Questions that primarily addresses issues related to the upcoming periodic billing statement requirements for borrowers in bankruptcy. However, towards the end of the FAQ the CFPB includes the following question:

Do servicers have a responsibility to know if a confirmed successor in interest is in bankruptcy for purposes of complying with the early intervention and periodic statement requirements?

The answer, which may be surprising to some, is “yes”:

Under Regulation X, § 1024.30(d) and Regulation Z, § 1026.2(a)(11), confirmed successors in interest are considered “borrowers” for purposes of the early intervention requirements and “consumers” for purposes of the periodic statement provisions. Because confirmed successors in interest are considered to be “borrowers” and “consumers” for the relevant parts of Regulation X and Regulation Z, servicers need to know whether confirmed successors in interest are in bankruptcy and may want to include them in any normal checks they utilize to identify borrowers in bankruptcy.

This means that yes, mortgage servicers do have to monitor whether a confirmed successor in interest is in bankruptcy and will, therefore, have to figure out how to include confirmed successors in interest in their standard bankruptcy checks. This may mean obtaining a confirmed successor in interest’s Social Security number or figuring out another way to determine whether a confirmed successor in interest is impacted by bankruptcy.

As the CFPB noted, if a borrower or consumer—and now a confirmed successor in interest—is a debtor in bankruptcy, a servicer’s obligations change in terms of early intervention contact and periodic billing statements. Although there are some nuances to the early intervention requirements when someone is in bankruptcy, servicers generally seem much more comfortable in that context as compared to the upcoming billing statement requirements when someone is impacted by bankruptcy. On April 19, 2018, new billing statement requirements will go into effect for when someone is in active bankruptcy or has received a discharge. There are certain scenarios where a servicer may be exempt altogether from sending periodic statements, but, when those exemptions do not apply, the upcoming law requires very detailed content and formatting modifications that take into account different chapters of bankruptcy.

In terms of required content on a periodic billing statement and whether a confirmed successor in interest’s status as a debtor in bankruptcy will trigger the modified billing statement obligations, the CFPB posed the following question in its FAQ:

Do the modifications to the periodic statement required for borrowers in bankruptcy apply if the borrower is a confirmed successor in interest in bankruptcy?

Given the CFPB’s response to the first question, you might not be surprised to learn that the answer is “yes”:

Under Regulation Z, § 1026.2(a)(11), confirmed successors in interest are borrowers for purposes of the periodic statement provisions, and so the periodic statement modification requirements for borrowers in bankruptcy in § 1026.41(f) would apply to the periodic statements supplied to that confirmed successor in interest in bankruptcy.

This means that not only will servicers have to figure out how to track whether a confirmed successor in interest is in bankruptcy, they will also have to figure out how to appropriately populate the periodic billing statement, in many cases with information that is specific to the successor’s bankruptcy case.

Together, these two questions and answers shed light on how the CFPB currently interprets the new law. They very clearly do believe that a confirmed successor in interest must be treated as a borrower or consumer for the purposes of all mortgage servicing rules, including those triggered by bankruptcy. Although it is helpful to have some clarity from the CFPB in advance of the rules’ effective date, the timing—approximately just one month before servicers are expected to be fully compliant—is likely to leave some servicers scrambling at the last minute.

CFPB Issues Implementation Guidance for Mortgage Servicing Rule Amendments

CFPB Issues Implementation Guidance for Mortgage Servicing Rule AmendmentsOn March 29, 2018, the Consumer Financial Protection Bureau (CFPB) released two important implementation tools that may help mortgage servicers ensure compliance with recent amendments to the mortgage servicing rules in Regulations X and Z. This release comes shortly after the CFPB published a set of Frequently Asked Questions that primarily addressed issues related to the upcoming periodic billing statement requirements for borrowers in bankruptcy, and certain interactions with successors in interest.

First, the CFPB updated its Small Entity Compliance Guide so that it now reflects the status of the law that will become effective on April 19, 2018. The new version 3.1 incorporates the latest timing requirements related to the transition to and/or from modified periodic billing statements that account for a consumer’s status as a debtor in bankruptcy. That change stems from the CFPB’s March 8, 2018, final rule that amended the 2016 Mortgage Servicing Rules. Additionally, version 3.1 now removes aspects of the mortgage servicing rules that will no longer be in effect on or after April 19, 2018. For example, the blanket exemption from sending periodic billing statements to all accounts impacted by bankruptcy is removed, and the guide now reflects the upcoming rule that will soon be in effect.

Second, the CFPB published a Mortgage Servicing Coverage Chart that explains the applicability and exclusions of each section of the mortgage servicing rules in Regulations X and Z. The new version replaces the prior chart that the CFPB released in 2014, and now incorporates all of the CFPB’s amendments to the original rules. This type of document has historically been one of the more valuable and relied upon tools issued by the CFPB.

After comparing the new version to the older one, a few notable changes become evident:

  • The CFPB now clarifies in the escrow context that annual escrow statements are not required for “certain default, foreclosure, or bankruptcy situations, per 1024.17(i)(2).”
  • Early intervention partial exemptions for borrowers in bankruptcy and “certain debt collection-related situations,” meaning borrowers who are protected by the Federal Fair Debt Collection Practices Act and who properly submit a cease communication request, are now included.
  • Small servicer obligations in the loss mitigation and dual tracking context are more accurate and specific. The prior version suggested that small servicers were prohibited from filing foreclosure if a borrower is performing pursuant to a loss mitigation agreement or is less than 120 days delinquent. The new version more accurately explains that a small servicer must comply with “certain prohibitions on foreclosure referral, moving for judgment or order of sale, or conducting a sale.”
  • The new version now specifies that a servicer may be exempt from sending the otherwise required notice in conjunction with the first interest rate change on an ARM loan in “certain debt collection-related situations,” meaning when borrowers who are protected by the Federal Fair Debt Collection Practices Act properly submit a cease communication request.
  • New periodic billing statement exemptions for certain charged off loans and certain consumers impacted by bankruptcy are now included.
  • Applicable mortgage servicing requirements that were not part of the original 2014 rules (e.g., escrow cancellation notices in 1026.20(e) and mortgage loan transfer disclosures in § 1026.39) are not included on the chart.

As mentioned above, the CFPB’s scope chart has long been a valuable tool for mortgage servicers to ensure compliance and assist in deciphering what rules apply in certain scenarios. The newest version appears to be a more complete view into the law as it currently stands.

New Decision from the D.C. Court of Appeals Recognizes Additional Defenses to HOA Super-Priority Lien Statute

New Decision from the D.C. Court of Appeals Recognizes Additional Defenses to HOA Super-Priority Lien StatuteAs we noted in last week’s blog post, the District of Columbia Court of Appeals issued a decision on March 1, 2018, that created a new wave of uncertainty for lenders with loans secured by deeds of trust on condominium units in the District of Columbia. In the Liu decision, the court held that a condominium association’s foreclosure on its statutory lien could wipe out a first priority security interest on the same property even when the association expressly purported to foreclose subject to the first deed of trust. But a new decision in U.S. Bank, N.A. v. Green Parks, LLC, issued on March 13, 2018, offers insight into what secured lenders can do to avoid the outcome in Liu.

Green Parks involved a similar fact pattern. In 2013, a condominium association foreclosed on its statutory lien but advertised its sale and described it in the memorandum of purchase and deed as having taken place “subject to” U.S. Bank’s deed of trust.

After the D.C. Court of Appeals issued its decision in Chase Plaza Cond. Ass’n v. JPMorgan Chase Bank (which indicated that a condominium’s foreclosure on its statutory lien could extinguish a first deed of trust), U.S. Bank brought an action to establish the validity of its security interest in relation to Green Parks, which bought the property at the foreclosure sale. Green Parks filed a counterclaim, seeking a judgment that under Chase Plaza, it had acquired title to the property free and clear of U.S. Bank’s interest. U.S. Bank responded to the counterclaim with an answer that raised affirmative defenses – including unconscionability and unclean hands – and moved to dismiss, citing the extensive evidence that the association intended to foreclose on a lien that was subordinate to U.S. Bank’s interest.

In considering U.S. Bank’s motion, the trial court flipped the script. It first converted the motion to dismiss to a motion for summary judgment and denied it. It then went even further by dismissing U.S. Bank’s counterclaim and granting summary judgment against U.S. Bank, even though Green Parks had not requested that relief.

On appeal, the D.C. Court of Appeals quickly reasoned that the trial court’s order was incorrect because it failed to provide the parties with proper notice that it was considering granting summary judgment and because it failed to view the evidence in the light most favorable to U.S. Bank in granting summary judgment for Green Parks. But especially noteworthy is how the court framed the prejudice U.S. Bank suffered as a result of these actions. In the court’s words, “The surprise entry of judgment was not harmless for it deprived the Bank of an adequate opportunity to dodge the bullet.”

The Court of Appeals also noted that Liu left an important question unsettled: What happens if an association forecloses on a lien greater than the six months of unpaid assessments given super-priority status under D.C. law? The Green Parks court described it as an open question as to whether such a lien is “entirely lower in priority than a first deed of trust or whether a portion of the lien enjoys super-priority status.”

Furthermore, the Green Parks decision instructed that, on remand, the trial court had to consider the merits of U.S. Bank’s arguments that the association’s foreclosure sale should be set aside based on equitable doctrines such as unclean hands or unconscionability. While Liu may have established the legal priority of the association’s lien, U.S. Bank’s arguments that the sale was invalid based on equitable defenses were still to be decided.

Going forward, lenders now have a road map as to how to protect their deeds of trust on condominiums in the District of Columbia that have been placed in jeopardy as a result of an association’s foreclosure. The first step is determining whether the association included more than six months of unpaid assessments in its advertised lien amount. According to the Green Parks court, such a foreclosure may mean that the entire association lien is subordinate to the deed of trust. Second, and independently, lenders can raise equitable defenses to the association’s foreclosure sale and seek to have it invalidated on those grounds.