CFPB Issues Final Rules on Payday and Vehicle Title Loans—Little Impact for Auto Lenders

CFPB Issues Final Rules on Payday and Vehicle Title Loans—Little Impact for Auto LendersThe Consumer Financial Protection Bureau (CFPB) issued its final rule on payday, vehicle title, and certain high-cost installment loans. The new rule is effective in 2019 and imposes stringent underwriting requirements and payment restrictions on certain covered loans. Be sure to review our previous blog post “CFPB Releases Long Awaited Small Dollar Rule: 5 Things You Need to Know” for additional information. Fortunately, unlike the CFPB’s original proposals, the final rule seems to have very limited applicability to most automobile lenders.

Proposal for Longer-Term Loans

Under the proposed rule, it was an unfair and abusive practice for a lender to make covered longer-term loans without making an ability to repay determination. The proposal would have applied the ability to repay determination to high-cost loans where the lender took a leveraged payment mechanism, including vehicle security which includes any security interest in a motor vehicle or motor vehicle title. Thus, high-cost, longer-term loans secured by a motor vehicle were potentially subject to the ability to repay determination requirements.  Fortunately, the CFPB chose to stand down, at least for now, on implementing these particular standards for longer-term loans.

Underwriting/Ability to Repay Determination

The underwriting requirements of the final rule, including the ability to repay determination requirements, only apply to short-term vehicle title loans. Short term covered loans are loans that have terms of 45 days or less, including typical 14-day and 30-day payday loans, as well as short-term vehicle title loans that are usually made for 30-day terms.

The CFPB originally proposed to make these underwriting requirements, including the ability to repay determination, applicable for covered longer-term loans — loans with terms of more than 45 days–but elected not to finalize those requirements. Instead these stringent underwriting requirements apply only to short-term loans and longer-term balloon payment loans.

Under the final rule, before making a covered short-term or longer-term balloon payment loan, a lender must make a reasonable determination that the consumer would be able to make the payments on the loan and be able to meet the consumer’s basic living expenses and other major financial obligations without needing to re-borrow over the ensuing 30 days. A lender must verify monthly income and debt obligations under certain criteria and determine the consumer’s ability to repay the loan.

Although there is a conditional exception from the ability to repay determination for certain short- term loans of less than $500, any short-term loan where the lender takes vehicle security must be originated in accordance with the ability to repay determination.

Payment Restrictions

The payment restrictions portion of the rule applies to longer-term loans which exceed a cost of credit threshold and have a form of leveraged payment mechanism. The payment restrictions may have some application to loans secured by a vehicle to the extent that the longer-term, installment, vehicle-secured loan exceeds the 36 percent cost of credit threshold and the lender obtains a leveraged payment mechanism in connection with the loan. Having a leveraged payment mechanism means that the lender has the right to initiate a transfer of money from a consumer’s account to satisfy a loan obligation (not including a single, immediate transfer at a consumer’s request).

Covered loans subject to the payment restrictions of the new rule are limited to loans that involve types of leveraged payment mechanisms that enable a lender to pull funds directly from a consumer’s account. Accordingly, a loan that involves vehicle security may be a covered longer-term loan if it involves a leveraged payment mechanism, but not simply because it involves a vehicle security.

Under the rule, it is an unfair and abusive practice for a lender using its leveraged payment mechanism to make further attempts to withdraw payment from consumers’ accounts in connection with a covered loan, after the lender has made two (2) consecutive failed attempts to withdraw payment from the accounts, unless the lender obtains the consumers’ new and specific authorization to make further withdrawals from the accounts.


Note that loans made solely to finance the purchase of a car in which the car secures the loan are completely exempt from the coverage of the rule. Other exceptions include home mortgage loans, credit cards, student loans, and overdraft services and lines of credit.

Future Concerns

Although the CFPB decided to finalize the underwriting/ability to repay determination requirements only for covered longer-term balloon payment loans, the CFPB has stated that it does plan further action in this area with regard to longer-term loans. The CFPB has indicated that it has remaining concerns about lending practices with respect to longer-term loans, will continue to scrutinize such loans, and plans future rulemaking. It remains to be seen whether the CFPB will actually continue to pursue rulemaking in this area or will be blocked by the current administration’s regulatory freeze and cutting efforts.

After the Waters Recede: The Mortgage Servicer’s Role in Navigating Insurance Claims, Part II

In the first part of the series “The Mortgage Servicer’s Role in Navigating Insurance Claims,” we covered assessing the damage in the wake of a natural disaster and applying the proceeds when complying with the terms of mortgage agreements to protect against liability. In part two, we will look into protecting the mortgagee’s rights under a property policy.

Part II: Protecting the Mortgagee’s Rights under a Property Policy

After the Waters Recede: The Mortgage Servicer’s Role in Navigating Insurance Claims, Part IIPayment of insurance proceeds to a mortgagee are determined by policy specific language, interpretation of which can vary from one jurisdiction to another. In order to protect the mortgagee’s rights to insurer proceeds, it is important for the servicer to take appropriate steps to ensure those rights are not forfeited.

Property, or hazard, insurance policies are based on the concept of providing protection for an “insurable interest,” which is the insured’s financial interest in the value of the subject of insurance. A property owner has an insurable interest in the insured property, and secured creditors who have loaned money to the property owner also have an insurable interest in the covered property. Most mortgages or deeds of trust require the owner or mortgagor to insure the property and to provide coverage under the property policy to the mortgagee.

A typical mortgagee clause provides as follows: “If a mortgagee is named in this policy, any loss payable under Coverage A or B will be paid to the mortgagee and you, as interests appear.” The “as interests appear” language refers to the mortgagee’s “insurable interest” in the insured property and is generally limited to the amount of the debt secured by the property. The scope of that interest is not specified in the policy. The extent to which the mortgagee is protected by the policy depends on the type of mortgage clause in the policy. Property insurance policies generally contain one of two types of mortgage clauses – an “open mortgage clause,” also called a simple clause, or a “standard mortgage clause,” also called a union clause or New York clause.

Under the open or simple mortgage clause, the mortgagee’s right of recovery under the policy is determined by the acts or negligence of the mortgagor. In essence, under an open mortgage clause, the mortgagee is simply a payee whose right of recovery is no greater than the right of the insured – that is, if the mortgagor is entitled to proceeds under the policy, then the mortgagee is also entitled to proceeds to the extent of its interest. If the mortgagor is not entitled to proceeds (such as in cases of fraud, arson, or vacancy), then the policy is also void as to the mortgagee.

A standard mortgage clause, on the other hand, creates a separate insurance policy between the insurer and the mortgagee so that even if the mortgagor breaches the terms of the policy, that breach will not automatically preclude the mortgagee from recovery under the policy. Since the insurer and mortgagee have a separate policy, the acts of the mortgagor will not automatically determine coverage as to the mortgagee. Because the mortgagee is deemed to have a separate policy with the insurer, however, it is necessary for the mortgagee to satisfy, independently, the conditions of the policy, such as notification regarding changes in ownership or risk. Failure to provide the notice required may void the policy.

One of the conditions of any policy is that the mortgagee take steps to notify the insurer if there is a change in the risk associated with the insured property. Some courts have found that an insurer properly denied coverage under a borrower policy where a foreclosing mortgagee did not provide notice to the insurer of a “change in ownership” or “substantial change in risk.” Some courts have found that foreclosure constitutes a substantial change in risk and have held that provisions voiding a policy for foreclosure or the commencement of foreclosure proceedings are enforceable.

It is also important for a servicer to protect rights to insurance proceeds at the time of the foreclosure sale itself. A lender’s right to recovery under a borrower’s property policy is determined as of the date of the loss and is generally limited to the amount of the unpaid mortgage debt. Because the rights of a mortgagee are determined as of the time of the loss, extinguishment of a mortgage or deed of trust by foreclosure that extinguish the entirety of the debt can result in forfeiture of the mortgagee’s rights to insurance proceeds. Courts appear unanimous across jurisdictions in holding that where the mortgagee bids the full amount of the debt at the foreclosure sale, the mortgagee forfeits any right to the insurance proceeds.

Servicers of loans in default should take the following steps to ensure proper application of these funds:

  1. Advise the insurer when the loan is referred to foreclosure. In order to protect the mortgagee’s rights to potential insurance proceeds in the event of a loss, servicers should advise insurers when the property is referred to foreclosure.
  2. Closely monitor properties scheduled for foreclosure. Aside from regulatory concerns of foreclosure, servicers should ensure that they are protecting the mortgagee’s rights to recovery of insurance proceeds. This may require postponing foreclosure sales if the servicer has reason to believe that there is damage or loss to the property.
  3. Reduce foreclosure bid by the amount of available proceeds. Once a foreclosure sale is scheduled for a property that has sustained an insurable loss, bid instructions should reflect the amount of available insurance proceeds and should deduct those proceeds for the bid amount at sale to protect the mortgagee’s rights to such proceeds.

The Saga Continues: Who, Exactly, is a Debt Collector?

The Saga Continues: Who, Exactly, is a Debt Collector?One overarching certainty of federal debt collection law seems to be prolonged uncertainty over its appropriate scope. Is this scope about to change yet again? One recent bill called the Practice of Law Technical Clarification Act of 2017, H.R. 1849, seeks to do just that.

It has been now 40 years since the Fair Debt Collection Practices Act was enacted, and the scope of this law has continued to constantly evolve over time. Just recently, in Henson v. Santander Consumer USA, Inc., the Supreme Court weighed in on one aspect of this statute’s scope, holding that a company may collect debts that it purchased for its own account without triggering the statutory definition of a debt collector seeking to collect debts owed to another party. The Supreme Court’s decision in Henson will likely subject fewer entities to the FDCPA’s reach.

There has also been significant debate over the past 20 years plus as to whether lawyers and law firms fit within the scope of the FDCPA. While many believed that the FDCPA did not apply to attorneys who were debt collectors when the law was first enacted, the Supreme Court extended the FDCPA to apply to such attorneys in its 1995 decision in Heintz v. Jenkins. The basic premise of H.R. 1849 reverses this position, and provides that law firms and attorneys, when litigating or communicating in connection with a legal action, would be exempt from the FDCPA and the reach of the CFPB.

Why, then, is the debate over the FDCPA’s application to attorneys and law firms important for non-lawyers? For starters, some courts have held debt collector clients liable for the misconduct of their attorneys. Some courts have ruled that the current interpretation of the FDCPA covers attorneys who collect debts as a matter of course for their clients, or those who collect debts as a principal part of their law practice. Certain courts have even held attorneys (and, vicariously, their clients) liable under the FDCPA for representations they made in court filings, despite the fact that such filings were addressed not to individual consumers, but to the attorneys for such consumers. Additionally, while courts and state bars oversee the conduct of attorneys nationwide, the CFPB has tried to assert enforcement and supervisory authority over certain attorneys—even though such attorneys are not actively offering consumer financial services or products.    

In a September 7 hearing before the House Financial Services Subcommittee on Financial Institutions and Consumer Credit, testimony in support of this proposed legislation set forth the differences between preparing documents for litigation and communicating during litigation from sending dunning letters and calling debtors. Proponents offered testimony to discuss the appropriate reach of the CFPB and potential overlap with state bars and local courts under the current system. Opponents of this law, to the contrary, have argued that the CFPB’s oversight and the FDCPA’s penalties are needed to protect consumers from debt collector attorneys.

From a practical perspective, it appears that this proposed legislation would potentially reduce the costs of debt collection, as attorneys would be able to more freely engage in collection litigation (including foreclosures and repossessions) without certain added costs to ensure compliance with federal debt collection statutes. Companies engaged in debt collection themselves would have less risk of vicarious liability based upon the actions of their attorneys. This bill would also lessen the specter of potential lawsuits or CFBP enforcement actions interfering with the judgment of independent state judiciaries. As this legislation is sponsored by Rep. David Trott (R-Mich.), it is possible that this bill will make it out of the House Committee on Financial Services and be approved by the full House of Representatives on its way to becoming law. Rep. Trott, of course, is acutely aware of the potential impact as a former owner of a Michigan-based default firm, Trott Law, P.C. At the very least, H.R. 1849 is worth watching to see where Congress stands on the even more controversial issue of the proper scope and powers of the CFPB.

After the Waters Recede: The Mortgage Servicer’s Role in Navigating Insurance Claims, Part I

Part I: Assessing the Damage and Applying the Proceeds

After the Waters Recede: The Mortgage Servicer’s Role in Navigating Insurance Claims, Part IFollowing the recent hurricanes that have damaged many homes beyond repair, borrowers may seek to apply any available insurance proceeds to satisfy the outstanding balance on their loans rather than repair the property. Servicers should take certain precautions to ensure they comply with the terms of mortgage agreements to protect against liability.

Fannie Mae’s and Freddie Mac’s standard mortgage agreements contain the same clause regarding application of insurance proceeds to the balance on a loan:

Unless Lender and Borrower otherwise agree in writing, any insurance proceeds . . . shall be applied to restoration or repair of the Property, if the restoration or repair is economically feasible . . . . If the restoration or repair is not economically feasible . . . the insurance proceeds shall be applied to the sums secured by this Security Instrument, whether or not then due.

As interpreted by courts, this language requires lenders to apply insurance proceeds to an underlying loan within a reasonable time after discovering that repair of the mortgaged property is not economically feasible. Servicers who routinely place insurance proceeds in a suspense account should take the following steps to ensure proper application of these funds:

  1. Pay attention to communication from the borrower, especially if it is in writing. If borrowers advise they do not plan to repair the mortgaged property or request that insurance proceeds be applied directly to their loan, servicers and their insurance vendors should treat this request as potential notice that repair is not economically feasible. Courts have indicated that even unilateral written communication from the borrower may start the clock ticking for the “reasonable time” analysis.
  2. Reach out to the insurance company for a repair estimate. While servicers or their insurance vendors are not necessarily expected to conduct their own investigations into whether repair is not feasible, proactively seeking an estimate from the insurer can help servicers and their vendors stay on top of how to apply the proceeds. If the estimated repairs surpass the insurance proceeds, lenders should expect to apply those proceeds to the loan.
  3. Monitor accruing interest on the underlying loan while proceeds are in suspense. If the feasibility of repair is unclear, insurance proceeds may be kept in suspense for a limited time. Since courts seem concerned with loans accruing interest while a borrower’s proceeds sit unapplied in suspense, however, maintaining accurate records on the accounts and monitoring the length of time the funds remain unapplied may help demonstrate good faith on the part of the servicer.

By implementing the above practices, servicers should be able to ensure they are applying hazard insurance proceeds in compliance with mortgage agreements.

CFPB Releases Long Awaited Small Dollar Rule: 5 Things You Need to Know

CFPB Releases Long Awaited Small Dollar Rule: 5 Things You Need to KnowAfter months of speculation, the Consumer Financial Protection Bureau (CFPB) released a final small-dollar loan rule on October 5. If the final rule takes effect, lenders will be required, among other things, to determine whether consumers have the ability to repay (ATR) their loans, prior to issuing certain short-term small dollar, payday, and auto title loans. The rule applies to all storefront and online small-dollar short-term lenders, regardless of state license or tribal affiliation. The CFPB did carve out an exception for lenders that make less than 2,500 short-term loans per year and derive no more than 10 percent of their revenue from such loans. This exception likely confers the most benefit on credit unions and community banks that occasionally make these loans to members in need. In addition, the CFPB has exempted NCUA authorized “payday alternative loans” and certain wage advance loans offered to employees by employers. The final rule comes in at 1,690 pages and is scheduled to take effect around July 2019. The rule will need to survive legislative challenges, trade association litigation, and a new CFPB Director to get there, but if the final rule does become law, then small dollar lenders should be prepared for a sea change in how their industry is regulated by the federal government.

1. Ability to repay

In its most basic form, the rule requires lenders to determine that consumers have the ability to repay the loans they are being offered, prior to extending those loans to consumers. The CFPB imposed a similar requirement on mortgage lenders through its 2013 mortgage rules and considers an ability-t0-repay determination a fundamental step in underwriting consumer loans. For loans that must be repaid in a lump sum with terms less than 45 days, lenders must determine that consumers have the ability to repay the full amount due, including principal, interest, and fees, and still have enough money to meet basic living expenses and financial obligations. For loans with longer repayment periods that include a balloon payment, lenders must determine a borrower’s ATR based on the month with the highest amount due on the loan. The CFPB classifies these loans as full-payment loans.

The final rule permits lenders to make consumer loans of up to $500 without determining the consumer has the ability to repay the full amount of the loan, as long as the borrower pays off the full amount due within 3 payments, and pays at least one-third of the original principal with each payment. For these loans below $500, lenders cannot take an auto title as collateral, cannot make these loans to consumers with outstanding short-term loans, cannot make three such loans in quick succession, and cannot extend such loans where borrowers have greater than six short-term loans over a rolling 12-month period. These loans are classified as principal-payoff loans.

2. Must use CFPB-registered credit reporting systems

In order to make credible and documented ATR determinations, lenders must use credit reporting systems registered by the Bureau to report and obtain consumers’ information. This requirement will allow the CFPB to monitor lender activity and verify that lenders are using recognized credit reporting systems to verify borrowers’ ATR and not making cursory determinations based on incomplete information. In addition, the registration requirement may allow small-dollar consumer borrowers to build credit portfolios by repaying their loans as scheduled. Lenders may make full-payment loans to consumers if no credit report is available for that consumer, but may not make a principal-payoff loan where no such information is available.

3. Written authorization to debit consumers’ accounts and withdrawal attempt limits

The CFPB perceived repeated failed withdrawal attempts as a major driver of insufficient fund and returned payment fees that could haunt consumers long after they had paid off the principal amount of their loans. To address the issue, the CFPB is requiring lenders to give consumers written notice before the first attempt to debit their account and give additional notice prior to attempting to withdraw funds at a different time or in a different amount. The rule also includes a restriction that prohibits lenders from attempting to debit money from a consumer’s account after two failed attempts. This portion of the rule applies not only to short-term lenders, but also to lenders that make small-dollar loans with repayment terms greater than 45 days if those loans have an APR above 36%.

4. Cordray’s last stand

CFPB watchers have long speculated that CFPB Director Richard Cordray was waiting to issue the final small-dollar rule prior to resigning his position to run for governor of Ohio. The day after the rule was announced, Director Cordray was scheduled to appear before an Ohio audience to give remarks entitled, The State of the CFPB and Moving Ahead. As of publication, there was no formal indication that Director Cordray was resigning his position. If this rule does mark the end of the road for Director Cordray at the CFPB, his time at the Bureau will be remembered as one of an astonishing, albeit controversial, amount of activity. While the CFPB has garnered many adversaries and advocates during his five year tenure, there is no denying that under Director Cordray the CFPB has changed the regulatory environment in which financial services providers operate. Through a flurry of rulemakings, enforcement actions, and examinations, the CFPB has changed the way that consumer financial services companies interact with their regulators and customers. Of equal importance, the CFPB has changed the culture at its sister federal and state regulators and for this reason, even after Director Cordray has departed, financial institutions should expect heightened scrutiny from other regulators with jurisdiction over this industry.

5. The road ahead

Whether Director Cordray resigns now or remains at the CFPB through the end of his term in July 2018, the fate of this rule may ultimately be decided by the next permanent director of the CFPB, who will be appointed by President Trump. Congress’s ability to overturn CFPB rules through the Congressional Review Act has been well documented and financial services providers and their trade associations will certainly pursue this route. If Congress fails to secure the votes to disapprove of the rule, then the industry will likely pursue legal challenges to the rule to keep this final rule from ever going into effect. Finally, since the effective date of the rule is beyond the expiration of Director Cordray’s term, there is certainly a possibility that the CFPB’s next director will take steps to delay, scale back, or eliminate the rule. The CFPB has a remarkable track record to date of seeing their proposed rules become law, but that track record may be in jeopardy once the Trump administration appoints a new director.

CFPB Makes Last-Minute Changes to 2016 Mortgage Servicing Final Rule

CFPB Makes Last-Minute Changes to 2016 Mortgage Servicing Final RuleOn October 4, 2017, the CFPB released an interim final rule and a proposed rule to amend certain provisions of its 2016 Mortgage Servicing Final Rule. While the changes will not drastically change the 2016 Mortgage Servicing Final Rule, it is nevertheless important for mortgage servicers to synthesize the information and adjust implementation efforts as the effective dates quickly approach.

Interim Final Rule – Timing of FDCPA Written Early Intervention Notices

The CFPB’s interim final rule addresses a particular concern that had arisen among the industry over the past year relating to the timing of the provision of written early intervention notices to borrowers who have invoked their cease communication rights under the FDCPA. Under the 2016 Mortgage Servicing Final Rule, a servicer was both required to provide a modified written early intervention notice to a borrower every 180 days while also being prohibited from providing the notice more than once during any 180-day period. In effect, the rule would have required the servicer to provide the notice on exactly the 180th day in order to comply, regardless of whether the 180th day fell on a weekend or holiday.

Recognizing the difficulty of complying with this near impossible task, the CFPB’s interim final rule amends Regulation X to provide for a 10-day window in which servicers must provide the modified notice at the end of the 180-day period. For example, if a servicer provides a written early intervention notice to a borrower who has exercised his or her FDCPA cease communication rights on October 16, 2018, the servicer would be prohibited from providing another written early intervention notice for 180 days. After 180 days, the servicer would have a 10-day window—from April 14 to April 24, 2018—in which to provide the borrower another written early intervention notice, to the extent still required based upon the borrower’s delinquency status.

As the CFPB stated in its press release, this new framework will “provide mortgage servicers more flexibility and certainty around requirements to communicate with certain borrowers,” and “make it easier for mortgage borrowers to receive timely information from their mortgage servicers about available options for saving their home.”

The interim final rule will become effective on October 19, 2017, which is the same effective date as the corresponding provision in the 2016 Mortgage Servicing Final Rule. The CFPB is also seeking comments on the interim final rule. The comment period will close 30 days after the interim final rule is published in the Federal Register.

Proposed Rule – Transitioning to and from Bankruptcy Periodic Billing Statements

Under the current 2016 Mortgage Servicing Final Rule, servicers are provided with a single-billing-cycle exemption from the requirement to provide a periodic billing statement for a borrower transitioning from or to bankruptcy-specific disclosures. Notably, this exemption only applies if the payment due date for that billing cycle is no more than 14 days after an enumerated triggering event. This particular provision received a large number of comments from members of the industry prior to the release of the 2016 Mortgage Servicing Final Rule. The industry almost uniformly requested 60 days instead of the 14 days that ultimately made their way into the final rule.

Fortunately, it appears that the CFPB has recognized the operational challenges and has begun efforts to address the industry’s concerns. The proposed rule replaces the single-billing-cycle exemptions with a categorical single-statement exemption. What this means is that the servicer would be exempted from providing the modified or unmodified version of the next statement regardless of when in the billing cycle a triggering event occurred. Stated differently, this provides servicers with a minimum of one month and a potential of up to 75 days to transition to or from bankruptcy-specific disclosures following a triggering event.

The CFPB is currently seeking public comment on the proposed rule, which has a proposed effective date of April 19, 2018. That is the same effective date as the corresponding provision in the 2016 Mortgage Servicing Final Rule. The comment period will close 30 days after the proposed rule is published in the Federal Register.

Nevada Supreme Court Rules HOA Super-Priority Liens Can Be Revived after Release

Nevada Supreme Court Rules HOA Super-Priority Liens Can Be Revived after ReleaseHomeowners’ associations have a more robust tool for forcing mortgage lenders to pay delinquent assessments following a September 14 decision by the Nevada Supreme Court. Nevada HOAs have enjoyed a super-priority lien under NRS 116.3116 for nine months of unpaid assessments preceding institution of foreclosure proceedings, in addition to certain charges for maintenance and nuisance abatement.  In Property Plus Investments, LLC, v. Mortgage Electronic Registration Systems, Inc., the court found that this super-priority lien is not a “one-shot offer,” but can be revived even after a previous super-priority lien has been discharged.

In Property Plus, the HOA recorded a notice of lien in 2010 for unpaid assessments on a property securing a $215,000 mortgage loan. The loan servicer for the mortgage lender attempted to pay $522 to the HOA, representing nine months’ worth of assessments, but the HOA rejected the payment.  Subsequently, the property owner entered a payment plan with the HOA, and the HOA released the 2010 lien. In 2012, however, the HOA recorded a second notice of lien for unpaid assessments. That time, the property went to a foreclosure sale and sold to a new owner for $7,500. The purchaser at the sale then brought a quiet title suit, claiming that the sale foreclosed on the HOA’s super-priority lien and extinguished the first mortgage. The lender countered that its $522 payment extinguished the super-priority portion of the lien and that any foreclosure thereafter could not impact the mortgage.

The court rejected this argument, finding that NRS 116.3116 “does not limit an HOA to one lien enforcement action or one super-priority lien forever.” Instead, the court held that once the HOA rescinds or releases a previous lien, the HOA may later assert a new super-priority lien on the same property for any delinquent assessments coming due after the rescission. Any other result, the court found, would be contrary to the purpose of the statute: to “encourage the collection of needed HOA funds and avoid adverse impacts on other residents.”

In light of the ruling, lenders should continue to closely monitor receipt of any foreclosure notices from homeowners’ associations, and should not assume that the mortgage is protected just because the property has been previously redeemed from foreclosure.

Bitcoin and Bankruptcy: What You Need to Know about the Value of Bitcoin and Other Cryptocurrencies in Bankruptcy

Bitcoin and Bankruptcy: What You Need to Know about the Value of Bitcoin and Other Cryptocurrencies in BankruptcyIt is hard to peruse the internet or even mainstream media outlets without hearing about bitcoin. What is this ubiquitous bitcoin? It depends on whom you ask.

A CNN Money articled defined bitcoin as “a new currency that was created in 2009 by an unknown person using the alias Satoshi Nakamoto.” The IRS has recently defined bitcoin as an “intangible asset” for investors, making it subject to capital gains and loss treatment using the realization method.

While bitcoin lingers between a currency and an asset, more than 100,000 bitcoin transactions are taking place every day. Large e-commerce and industry giants such as Microsoft, Dell, DISH, Expedia, and Overstock now accept bitcoin as a form of payment.

Bitcoin has become synonymous with cryptocurrencies, although there are over 900 different cryptocurrencies in circulation as of this writing. Bitcoin and other cryptocurrencies are digital assets designed to be used as a unit of exchange. The holding and transfer of these “currencies” uses cryptography to secure transactions and to control the creation of additional units of the digital asset.

While bitcoin continues to work through its identity crisis, a California bankruptcy court has ruled, in an issue of first impression, that bitcoin should be treated more akin to property than currency within the definition of the bankruptcy code. In a fraudulent transfer and preference adversary proceeding, the trustee brought suit against the former promoter of the debtor for the transfer of 3,000 bitcoins prior to the firm’s collapse. During summary judgment, both sides submitted arguments on whether bitcoins should be considered currency (valued at $360,000) or a commodity (valued at $1.3 million). The 9th Circuit entered an order on the liquidating trustee’s motion, stating, “The court does not need to decide whether bitcoin are currency or commodities for the purposes of fraudulent transfer provisions of the bankruptcy code. Rather, it is sufficient to determine that, despite defendant’s arguments to contrary, bitcoin are not United States dollars. If and when the Liquidating Trustee prevails and avoids the subject transfer of bitcoin to defendant, the court will decide whether, under 11 U.S.C. §550(a), he may recover the bitcoin (property) transferred or their value, and if the latter, valued as of what date.” While the status of bitcoin may not be settled, it does appear that, at least in bankruptcy, courts are likely to treat bitcoin more like a commodity than a currency.

With over 900 cryptocurrencies in circulation and new ones being formed at a breakneck pace, creditors, debtors and bankruptcy practitioners alike should carefully examine cryptocurrency assets in any underlying credit transactions, as well as stay abreast of developments on how bankruptcy courts determine the valuation of these cryptocurrencies.

CFPB Walks the Data Privacy Tightrope on Public HMDA Disclosures

CFPB Walks the Data Privacy Tightrope on Public HMDA DisclosuresIn the wake of the Equifax data breach, consumers, companies, and regulators alike are cognizant of the potential exposure of personal information, and many companies are looking at ways to decrease the risk of unauthorized disclosure of personal data. In creating effective data privacy policies and procedures, companies must also analyze requirements under certain statutes which require companies to disclose material information to regulators. One such regulation is the Home Mortgage Disclosure Act (HMDA), which requires many lenders to report and disclose to the public certain information about their mortgage lending activities.

In a timely release, the Consumer Financial Protection Bureau (CFPB) issued guidance to clarify how the bureau would release essential consumer mortgage lending activity data to the public under HMDA. The guidance sets forth the CFPB’s analysis of information and the related risks associated with individual loan level consumer data, as well as data aggregates, which could identify individual consumers.

The CFPB is responsible for collecting this data and then posting it publically so that users of the HMDA database can extrapolate trends in consumer mortgage lending. In its current form, the HMDA database contains data about residential homebuyers and applicants that may allow users of the data to identify individual consumers, transactions, and properties. With this latest guidance, the CFPB is taking steps to diminish the risk that individuals could be identified by users of the HMDA database. Some of the specific measures the CFPB proposes include:

  • Excluding certain data points from the HMDA database, including the universal loan identifier; the date the application was received; the date of action taken by the financial institution on a covered loan or application; the address of the property securing the loan; and the credit score relied on in making the credit decision.
  • Excluding free-form text fields used to report applicant or borrower race; applicant or borrower ethnicity; the name and version of the credit scoring model used to generate each credit score or credit scores relied on in making the credit decision; the principal reason or reasons the financial institution denied the application, if applicable; and the automated underwriting system name.
  • Modifying the public loan-level HMDA data to reduce the precision of most values reported, including rounding the amount of the covered loan, and the value of the property securing the loan, to the nearest $10,000 interval; reporting borrowers’ ages in ranges (i.e., 25 to 34, 35 to 44, 45 to 54, 55 to 64, and 65 to 74); reporting borrowers’ total monthly debt to income ratios in making credit decisions in ranges, unless the consumer’s debt to income ratio is between 40 to 50 percent, in which case it will be reported as submitted by the financial institution.

What it means for financial services providers

The CFPB appears to be focused on not only the underlying purpose of the legislation, but in ensuring consumer privacy is protected. The CFPB’s guidance provides a clear analysis of what the bureau considers to be information, alone or when combined with other information, which may pose a risk to customers if the information is exposed to the public domain. This guidance is a positive step towards closing a potential opening that cyber criminals could exploit to steal, misuse, sell, or manipulate consumer data. The guidance also serves as a roadmap for what the CFPB believes is information about consumers that may be harmful or sensitive if disclosed, and provides a window into the CFPB’s expectations for financial services companies that can be used to internally analyze a company’s data privacy program.

The CFPB’s guidance reflects the seriousness and breadth of cybersecurity threats facing any institution that uses or stores a consumer’s personal information. Consumer real estate transactions have been in the public record in many jurisdictions for years, but the potential for widespread digital abuse of that data has resulted in the federal government and certain states limiting public access to that data. As a result, it is imperative that financial institutions understand the key elements of a robust data privacy program, including the types of data the company collects, where the data is stored, who has access to the data, how the data flows internally within the organization, how the data is submitted outside the organization, security controls at each access point, and data classification and sensitivity levels. Likewise, training, education, table-top and privacy risk exercises should be conducted by companies to prepare for potential threats.

As the landscape continues to change and regulators focus on increased regulation and enforcement of state and federal data privacy laws, companies must continue to reassess and build robust data privacy programs.

Jury Verdict Expands to $298 Million in False Claims Act/FIRREA Case as Court Assesses Treble Damages and Penalties

Jury Verdict Expands to $298 Million in False Claims Act/FIRREA Case as Court Assesses Treble Damages and PenaltiesA federal court in Texas recently entered a massive judgment against a mortgage originator for financial crisis conduct, transforming an already severe $93 million jury verdict into a $298 million punishment, and issuing one of the first judicial opinions regarding how to assess penalties under the Financial Institutions Reform, Recovery, and Enforcement Act of 1989 (“FIRREA”).

The suit began in 2011 as a whistleblower action, in which the government quickly intervened, alleging the submission of false Federal Housing Administration (“FHA”) insurance claims by Americus Mortgage Corporation (formerly known as Allied Home Mortgage Capital Corporation), one of its affiliates, and its CEO (collectively, “Allied”) between 2001 and 2011. The matter eventually proceeded to a five-week jury trial, where Allied was found liable for multiple violations of the False Claims Act (“FCA”) and FIRREA. The conduct proven at trial involved:

  • Submission of 1,192 FHA insurance claims for loans that were recklessly underwritten and ineligible for FHA insurance;
  • Submission of 103 FHA insurance claims for loans originated in branches without proper HUD registration, using registration numbers of other, registered branches;
  • Submission of nine false annual certifications to HUD relating to compliance with quality control requirements; and
  • Submission of an email from Allied to a HUD employee in 2009 containing 18 falsified quality control reports.

The dramatic increase from the $93 million jury verdict resulted from mandatory trebling of the government’s damages under the FCA as well as the court’s imposition of civil penalties.

In an attempt to lessen the blow of mandatory FCA trebling, Allied argued that “net” damages, rather than “gross” damages are the proper sum to treble. A “net” damages calculation would allow deduction of any payment the government had received back on the claims from the amount of loss prior to trebling. The court rejected this argument and Allied’s supporting case law from the Seventh Circuit, noting that Fifth Circuit precedent expressly prohibits such deductions. With trebling, the United States’ “gross” damages increased from $92,982,775 to $278,948,325 for the claims related to unregistered branches and underwriting failures.

The FCA also mandated penalties of $5,500 to $11,000 per claim for Allied’s conduct, in addition to treble damages. (This amount could have been higher had the conduct occurred more recently, as FCA penalties since 2015 have begun increasing each year with the inflation rate. The current range is $10,957 to $21,916.) Here, the court assessed $10,000 penalties, finding Allied’s conduct worthy of penalties at “the high end of the spectrum” for pre-2015 conduct, because of the many years across which the fraud occurred, the intentionality and severity of the conduct, the large amount of actual damages incurred by the government, and Allied’s failure to come clean when confronted by HUD during a routine audit years prior. The court assessed a penalty for each of the 103 claims submitted by unregistered branches and the 1,192 claims with underwriting failures—for a total of $12,950,000 in FCA penalties.

The court then turned to assessing FIRREA penalties, for which it has broad discretion and a dearth of case law to provide guidance. The statute allows for the assessment of penalties up to $1,100,000 per violation, up to $5,500,000 for a continuing violation, or the amount of the pecuniary gain or loss resulting from the violation. Although FIRREA has been on the books since 1989, there is little authority available for defendants to gauge where their conduct falls on the penalty spectrum when considering whether to settle with the government or take the risk of trial. The court in this matter appears to be only the third court in the country to address the calculation in an opinion, and to date, assessed the most severe FIRREA penalties. See United States v. Luce, No. 11 C 05158, 2016 WL 6892857, at *5 (N.D. Ill. Nov. 23, 2016) ($0 penalty) and United States v. Menendez, No. CV 11-06313 MMM JCGX, 2013 WL 828926, at *10 (C.D. Cal. Mar. 6, 2013) ($40,000 penalty). As a result, the court’s method of assessing FIRREA civil penalties in this case is worth careful study by financial institutions.

The court adopted a “totality of the circumstances” inquiry and considered the following factors:

  1. the good or bad faith of the defendant and the degree of his scienter;
  2. the injury to the public, and whether the defendant’s conduct created a substantial loss or the risk of substantial loss to other persons;
  3. the egregiousness of the violation;
  4. the isolated or repeated nature of the violation; and
  5. the defendant’s financial condition and ability to pay.

The court also rejected Allied’s argument that it would be unconstitutional to assess both FCA and FIRREA penalties for the same conduct, finding instead that the false certifications and quality control reports were different conduct than the problematic FHA insurance claims.

Testimony of former executives seemed to damn Allied in the court’s eyes, as one executive admitted that she and other officers knew that Allied was not in compliance with quality control rules and yet signed the certifications nonetheless. The court found that the conduct had continued for years and reflected a “high level of scienter and egregiousness” but that the defendants’ financial situation “weigh[ed] slightly in favor of a less than maximum allowable” penalty. The court assessed separate FIRREA penalties against the Company, its affiliate, and its CEO of $1,100,000 for the false certifications and $1,100,000 for the falsified quality control reports. The FIRREA penalties alone thus totaled $6,600,000.

Although the damages and penalties imposed in this case are shocking, there is a silver lining for financial institutions. The Allied ruling has now provided some guidance as to the ceiling for FIRREA penalties where no such guidance previously existed. Moreover, although the penalties seem harsh, the court actually declined to penalize Allied to the fullest extent requested by the government—which sought imposition of $9,900,000 in FIRREA penalties across the three defendants. Where defendants can demonstrate that conduct is more akin to “an isolated or occasional mistake,” rather than “a prolonged, consistent enterprise of defrauding,” they may successfully lessen the impact of civil penalties under FCA or FIRREA. We will continue to provide you updates as this area of the law develops.