We received a letter from the banking department that accuses us of violating high-cost mortgage provisions. This came from a review of 75 loan files, which they conducted remotely earlier this year.
This is pretty scary for us. We are a small lender, licensed in only one state, and this kind of action has never happened.
The violation specifically mentions the added provisions to the high-cost mortgage rule. We want to know more about these added provisions.
Can you provide some information about the added provisions to the high-cost mortgage rule?
ANSWER
I understand that you are a bit upset about this situation. In my experience, banking departments do not go out of their way to “accuse” their licensees of violations. Generally, their orientation is geared toward consumer advocacy, and ensuring that supervision and enforcement are maintained across the range of companies in their purview.
ANSWER
I understand that you are a bit upset about this situation. In my experience, banking departments do not go out of their way to “accuse” their licensees of violations. Generally, their orientation is geared toward consumer advocacy, and ensuring that supervision and enforcement are maintained across the range of companies in their purview.
So, trust me, it’s very unlikely that you were singled out. This is just a banking department doing its job. Regulators want their licensees to operate within applicable federal and state guidelines.
Prior to the enactment of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (“Dodd-Frank Act”), Regulation Z contained a set of restrictive provisions affecting high-fee, high-rate mortgage loans, which generally were referred to as HOEPA (Home Ownership and Equity Protection Act) or Section 32 mortgage loans (because the main provisions were found in Regulation Z § 1026.32).
The Dodd-Frank Act amended the Truth in Lending Act (TILA) to change the name to “high-cost mortgages” or HCMs, expand the scope of coverage, alter the coverage thresholds, and enhance the restrictions and prohibitions, but not until the CFPB amended Regulation Z (TILA’s implementing regulation), thereby promulgating the changes.
On January 13, 2013, the CFPB did just that, adopting its HCM Rule, also known as the January 2013 HOEPA Rule, with implementation delayed until January 10, 2014. Regulation Z requires special disclosures for HCMs and prohibits them from including certain provisions. In addition, consumers have enhanced remedies for violations, including rescission, higher damages, and higher potential liability for purchasers and assignees.
The HCM Rule added the following restrictions:
(1) a general ban of prepayment penalties and balloon payments, with limited exceptions including one for certain balloon loans made by creditors serving rural or underserved areas;
(2) a prohibition of fees for modifying HCMs;
(3) a cap on late fees of 4% of the past due payment;
(4) a prohibition of closing costs rolled into the loan amount;
(5) a restriction on the charging of payoff statement fees;
(6) a ban of certain other practices, such as encouraging a consumer to default on an existing loan to be refinanced by an HCM; and,
(7) a requirement of homeownership counseling before taking out an HCM; and (8) an enhanced requirement that creditors assess repayment ability.
Let me broaden this out a bit by discussing a recent decision in a federal district court in California, where TILA’s HCM provisions were applied. The case is Sundby v. Marquee Funding Group, Inc. [Sundby v. Marquee Funding Group, Inc., 2020 U.S. Dist. (S.D. Cal. Sept. 15, 2020)]
In 2016 and 2017, Sundby and his spouse obtained a loan and then refinanced it, obtaining both loans in the name of Sundby Trust, their family trust, and securing both with their home.
Sundby sued the two lenders for the same three alleged violations of TILA: (1) the inclusion of a prepayment penalty, (2) the inclusion of a balloon payment, and (3) a failure to abide by the ability-to-repay provisions.
After denying the lenders’ motions for summary judgment, the court granted summary judgment for Sundby.
The loans were HCMs because they required prepayment penalties exceeding 2 percent. TILA includes other ways of falling into the HCM category, but one automatic determinant is having a prepayment penalty exceeding 2 percent. The net result, then, is that the HCM violates TILA because it has a prepayment penalty.
The first loan contained a clause requiring the payment of a prepayment penalty equal to at least “90 days of interest from the day of this loan funding,” or $64,109.59, which amounted to more than 2 percent of the loan amount ($2,600,000) or $238,333.37.
Prior to the enactment of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (“Dodd-Frank Act”), Regulation Z contained a set of restrictive provisions affecting high-fee, high-rate mortgage loans, which generally were referred to as HOEPA (Home Ownership and Equity Protection Act) or Section 32 mortgage loans (because the main provisions were found in Regulation Z § 1026.32).
The Dodd-Frank Act amended the Truth in Lending Act (TILA) to change the name to “high-cost mortgages” or HCMs, expand the scope of coverage, alter the coverage thresholds, and enhance the restrictions and prohibitions, but not until the CFPB amended Regulation Z (TILA’s implementing regulation), thereby promulgating the changes.
On January 13, 2013, the CFPB did just that, adopting its HCM Rule, also known as the January 2013 HOEPA Rule, with implementation delayed until January 10, 2014. Regulation Z requires special disclosures for HCMs and prohibits them from including certain provisions. In addition, consumers have enhanced remedies for violations, including rescission, higher damages, and higher potential liability for purchasers and assignees.
The HCM Rule added the following restrictions:
(1) a general ban of prepayment penalties and balloon payments, with limited exceptions including one for certain balloon loans made by creditors serving rural or underserved areas;
(2) a prohibition of fees for modifying HCMs;
(3) a cap on late fees of 4% of the past due payment;
(4) a prohibition of closing costs rolled into the loan amount;
(5) a restriction on the charging of payoff statement fees;
(6) a ban of certain other practices, such as encouraging a consumer to default on an existing loan to be refinanced by an HCM; and,
(7) a requirement of homeownership counseling before taking out an HCM; and (8) an enhanced requirement that creditors assess repayment ability.
Let me broaden this out a bit by discussing a recent decision in a federal district court in California, where TILA’s HCM provisions were applied. The case is Sundby v. Marquee Funding Group, Inc. [Sundby v. Marquee Funding Group, Inc., 2020 U.S. Dist. (S.D. Cal. Sept. 15, 2020)]
In 2016 and 2017, Sundby and his spouse obtained a loan and then refinanced it, obtaining both loans in the name of Sundby Trust, their family trust, and securing both with their home.
Sundby sued the two lenders for the same three alleged violations of TILA: (1) the inclusion of a prepayment penalty, (2) the inclusion of a balloon payment, and (3) a failure to abide by the ability-to-repay provisions.
After denying the lenders’ motions for summary judgment, the court granted summary judgment for Sundby.
The loans were HCMs because they required prepayment penalties exceeding 2 percent. TILA includes other ways of falling into the HCM category, but one automatic determinant is having a prepayment penalty exceeding 2 percent. The net result, then, is that the HCM violates TILA because it has a prepayment penalty.
The first loan contained a clause requiring the payment of a prepayment penalty equal to at least “90 days of interest from the day of this loan funding,” or $64,109.59, which amounted to more than 2 percent of the loan amount ($2,600,000) or $238,333.37.
The second loan also carried a prepayment penalty of more than 2% because it required the payment of a prepayment penalty equal to “the difference between Six (6) month(s) of interest” and the interest due as of the “date of the prepayment” if “this loan [for $3,160,000] is paid off or refinanced during the first Six (6) month(s) of the term.” Given that the prepayment penalty could be as high as $150,100.02, it would exceed 2 percent of the loan amount.
This fact – having a prepayment penalty exceeding 2 percent – pushed the loans into the HCM category. It also meant that each loan violated TILA’s HCM prohibition of prepayment penalties.
The loans violated the HCM balloon payment prohibition because each loan required its entire principal and remaining interest due on a single day at the end of the loan and referred to that payment as a “balloon balance.”
The lenders also violated TILA by failing to adequately assess Sundby’s ability to repay. The applications for the loans did not include income or assets other than the subject property and listed only $7,200 monthly income, $5,840 expenses, $15,000 in non-property assets, and $40,000 in non-mortgage liabilities to service a $3,160,000 loan with $833.89 daily interest.
The parties included no additional evidence substantiating the lenders’ efforts to test or analyze Sundby’s ability to pay the loan. Given the lack of information available to the lenders, the lack of other evidence to indicate their due diligence, and the lenders’ failure to contest the ability to pay violation, the court granted summary judgment for Sundby as to the ability to repay.
So, what does this decision tell us?
This fact – having a prepayment penalty exceeding 2 percent – pushed the loans into the HCM category. It also meant that each loan violated TILA’s HCM prohibition of prepayment penalties.
The loans violated the HCM balloon payment prohibition because each loan required its entire principal and remaining interest due on a single day at the end of the loan and referred to that payment as a “balloon balance.”
The lenders also violated TILA by failing to adequately assess Sundby’s ability to repay. The applications for the loans did not include income or assets other than the subject property and listed only $7,200 monthly income, $5,840 expenses, $15,000 in non-property assets, and $40,000 in non-mortgage liabilities to service a $3,160,000 loan with $833.89 daily interest.
The parties included no additional evidence substantiating the lenders’ efforts to test or analyze Sundby’s ability to pay the loan. Given the lack of information available to the lenders, the lack of other evidence to indicate their due diligence, and the lenders’ failure to contest the ability to pay violation, the court granted summary judgment for Sundby as to the ability to repay.
So, what does this decision tell us?
The case involved the restrictions and prohibitions that were added by the HCM Rule.
Regulation Z already included, and still includes, other prohibitions, including prohibitions of negative amortization, advance payments, default interest rates, and non-actuarial rebates.
Jonathan Foxx, Ph.D., MBA
Chairman & Managing Director
Lenders Compliance Group
