federal Court: California Finance Lenders Law Does Not Prohibit a Licensee from Selling Loans to Non-Institutional Investors

The U.S. District Court for the Northern District of California has held that Section 22340(a) of the California Financial Code does not restrict licensed finance lenders to selling loans secured by real estate to only institutional investors. 

In Skinner v. Mountain Lion Acquisitions, Inc., the plaintiff obtained a loan from a lender licensed under the California Finance Lenders Law (CFLL). The lender then sold the plaintiff's obligation to the defendant, a debt collector that was not an "institutional investor" as defined in the CFLL. When the defendant attempted to collect the debt, the plaintiff sued. The plaintiff claimed that Section 22340 of the CFLL was violated by the transfer of her debt to defendant because it was not an institutional investor and that the debt was consequently void and unenforceable.

At issue was whether a licensed finance lender can sell loans to entities other than institutional investors. Section 22340(a) of the CFLL provides that a licensee "may" sell loans that it has made or purchased from another finance lender (and certain exempt entities) to an institutional investor. "Institutional investors" are defined in Section 22340(b) to include depository institutions, insurance companies, licensed finance lenders, credit unions, and state, federal, and local governmental entities.

The plaintiff alleged that while the statute states licensed finance lenders "may" sell loans to institutional investors, it actually means that licensees "may only" sell to institutional investors. The plaintiff argued that this imposes certain limitations on a finance lender's ability to sell loans, which the lender violated, voiding the debt under Section 22750(b).

The court dismissed the plaintiff's CFLL-related claim with leave to amend, holding that the plain reading of the word "may" as used in Section 22340 is permissive and merely authorizes licensees to sell loans to institutional investors. The court relied on Section 15 of the California Financial Code, which specifies that "'[s]hall' is mandatory and 'may' is permissive."

The court explained that statute's legislative history shows Section 22340 was enacted to authorize finance lenders to sell loans secured by real estate without the need for a "costly and duplicative" real estate broker's license. "Neither the plain language of Section 22340, nor its legislative history" supports an interpretation that the statute prohibits any conduct, the court said.

The court did not address other instances in Section 22340(a) where the word "may" is used, such as regarding licensees' authorization to service loans secured by real estate. Historically, the California Department of Business Oversight, which administers the CFLL, has taken the position that such licensees can only service loans made and sold by the finance lender to an institutional investor, and that Section 22340 prohibits the servicing of other loans. Interestingly, it would appear that the court's holding does not support the regulator's interpretation of "may" as "may only."

John D. Socknat and Marc D. Patterson


Borrowers' Counsel Can Be Sanctioned over Frivolous Complaints in Foreclosure and Eviction Proceedings, Michigan Court Holds

A Michigan appellate court recently held that a borrower's counsel could be sanctioned for filing a complaint for the purpose of delaying foreclosure or eviction. In Edgett v. Flagstar Bank, after multiple reviews of the borrower's loan modification requests, the bank completed foreclosure. The borrower then filed a four-count complaint alleging quiet title, unjust enrichment, breach of implied agreement/specific performance, and breach of Michigan's loan modification process.

The trial court granted the bank's motion for summary disposition finding that the borrower failed to show fraud or irregularity to set aside the sheriff's sale, that the statute of frauds barred the borrower's claims of unjust enrichment and breach of implied contract, and that the bank did not violate Michigan's loan modification process. The trial court declined to award the bank sanctions. Both parties appealed.

The borrower's appeal was dismissed because she never filed an opening brief. Reviewing the bank's cross-appeal, the appellate court held that the borrower's lawsuit epitomizes frivolousness and remanded to the trial court for an assessment of reasonable attorneys' fees to be imposed only against borrower's counsel. Specifically, the appellate court concluded the borrower's complaint was not well grounded in fact and was not warranted by existing law or a good-faith argument for the extension, modification, or reversal of existing law. Additionally, the court found, the lawsuit was clearly initiated to cause unnecessary delay. The appellate court also awarded taxable costs to the bank.

Lenders should note that sanctions may be available against a borrower's counsel who files multiple frivolous complaints simply to delay foreclosure or eviction proceedings.

- Robert A. Scott, Edward Chang, and Patrick H. Pugh


Clarity May Finally Arrive in the District of Columbia for Lenders and Title Insurers

In response to the concerns of lenders and title insurers, the District of Columbia recently enacted clarifying legislation to amend the Saving D.C. Homes from Foreclosure Emergency Amendment Act of 2010 (the Act).  The Act went into effect on November 17, 2010, and created a new and complex residential foreclosure process in the District.  The previous residential foreclosure process replaced by the Act only required lenders to send a notice of foreclosure to a borrower by certified mail, with a copy to the District government, before the lender was allowed to proceed. The process allowed lenders to do so 30 days after issuing the notice of foreclosure. The Act significantly changed this process by requiring lenders to:

  • Send a statutory notice of default to the borrower and the District before issuing a notice of foreclosure
  • Participate in mediation and obtain a mediation certificate, which must be recorded in the District's land records
  • Pay a $300 mediation fee when issuing the notice of default
  • Potentially pay a $500 fine if the lender fails to attend the mediation, fails to bring required documents to the mediation, or fails to participate in good faith in the mediation.

Most importantly, the Act provides that any foreclosure sale that does not comply with its provisions is void.

However, the Act only imposed a quasi-judicial foreclosure procedure. This meant that lenders and title insurers would never receive an order or any other document from the District that would confirm that the residential foreclosure sale conformed with the Act's rigorous requirements.  In response to the legislation, title insurers requested that the District issue a certification that a foreclosure sale complied with the new requirements of the Act. Without a mechanism to issue such a certification, the Act effectively halted foreclosures in the District because title insurers would not insure title to property obtained from a foreclosure sale.

According to the District's Department of Insurance, Securities and Banking, 1,349 foreclosure sales were conducted in the District in fiscal year 2010 prior to the effective date of the Act. Since the Act became law, the District had 566 foreclosures in fiscal year 2011, 89 in fiscal year 2012, and 39 in fiscal year 2013. Most, if not all, of the residential foreclosure sales conducted since the Act took effect occurred under notices of foreclosure that were issued before the Act's effective date.

To address the concerns of lenders and title insurers, the District recently enacted temporary and permanent legislation collectively referred to as the Saving D.C. Homes from Foreclosure Clarification and Title Insurance Clarification Amendment Act of 2013 (Amendment). Among its provisions:

  • The Amendment revises the definition of residential mortgage as "a loan secured by a deed of trust or mortgage, used to acquire or refinance real property which is improved by 4 or fewer single family dwellings, including condominium or cooperative units." The Act's previous definition of residential property focused on the property's designation as being the principal place of residence and owner occupancy. The Amendment also specifically carves out the Act's application to debts incurred by borrowers acting as business entities.
  • The Amendment increases the time period by which lenders and borrowers must complete the mediation process from 30 days to 90 days.
  • The Amendment addresses the Act's lack of judicial certification of compliance by stating that a mediation certificate shall serve as conclusive evidence that the lender complied with all other provisions of the Act and implementing regulations in conducting the residential foreclosure sale.

The District's Department of Insurance, Securities, and Banking has issued the mandatory corresponding regulations to the Amendment, which are currently under legal sufficiency review, and will then enter the public comment phase. It is too early to determine if the Amendment will completely solve all of the concerns of residential lenders and title insurers in the District. Instituting a mechanism for the issuance of a final mediation certificate as conclusive proof of compliance with the Act, however, is certainly an important step in the right direction. 

- John D. Sadler and Jessica Hepburn Sadler


State Licensing Requirements for Appraisal Management Companies

Appraisal management companies (AMC) are now required to register with and be subject to state supervision. In each state where AMCs provide services in connection with federally related mortgage transactions (as that term is defined in the Real Estate Settlement Procedures Act), AMCs are subject to supervision by a state appraiser licensing agency. This requirement is in accordance with amendments to Title XI of the Financial Institutions Reform, Recovery and Enforcement Act of 1989 that were made by Section 1473 of the Dodd-Frank Act (Dodd-Frank).

Section 1473 provides that an AMC is not eligible for licensing/registration if it is owned by any person who has had an appraiser license or certificate refused, denied, cancelled, surrendered in lieu of revocation, or revoked in any state. This section further requires that each 10 percent or more owner of an AMC shall be of good moral character and must submit to a background investigation to be carried out by the state licensing agency.

The Consumer Financial Protection Bureau, Federal Deposit Insurance Corporation, National Credit Union Administration, Federal Housing Finance Agency, and the Federal Reserve must jointly issue a rule establishing minimum standards regarding AMC licensing and registration. States must then establish implementing provisions no later than 36 months after the interagency guidance is issued in final form.

Even though no interagency guidance has been proposed to date, as of December 2013, 38 states have passed legislation requiring AMCs to obtain a license or registration. However, licensure is not required in a number of those states because the states have not adopted implementing regulations and/or appropriate license application forms. Currently, 30 states issue AMC licenses. Legislation is pending in approximately 11 states, and the rest are expected to introduce legislation in upcoming legislative sessions.

Many of the existing laws are patterned after the original Appraisal Management Company Registration and Regulation Model Act (Model Act), which was created by the Appraisal Institute, an industry trade association. Pending legislation in most states is based on the updated Model Act.

Although not yet quite as burdensome as mortgage banking licensing requirements, AMC licensing can be a difficult process to manage. One common requirement is that applicants submit substantial information regarding company management and financial structure. Other requirements include:

  • Designated Controlling Person (typically a licensed appraiser)
  • Biographical statements, criminal background investigation authorizations, and fingerprint cards for owners, partners, and officers
  • Organization and ownership and structure chart
  • Surety bonds ranging from $10,000 to $100,000

- Jared R. Kelly


Ginnie Mae Issues Clarification on Electronic Signatures and Documents

Ginnie Mae recently issued All Participant Memorandum 2014-01, which clarifies its position on electronic signatures and documents. In response to the Federal Housing Administration's recent announcement (Mortgagee Letter 2014-03) that it will begin accepting electronic signatures on certain loan documents, the Memorandum states that current Ginnie Mae policy is not to accept electronic signatures or electronic documents on notes, security instruments, or loan modification agreements. According to the Memorandum, the policy is due to concerns with maintaining the liquidity and negotiability of Ginnie Mae's pools and the individual mortgage loans contained therein.

Ginnie Mae is, however, exploring the issues associated with electronic instruments, and this year it will work to develop program standards to facilitate their use. To work through the applicable issues, Ginnie Mae is requesting input from issuers, document custodians, title insurers, legal experts, and investors. Participants can direct questions to their Ginnie Mae Account Executive in the Office of Issuer and Questions at 202.708.1535.

For additional information regarding FHA's position on electronic signatures, please refer to our February 14, 2014 Mortgage Banking Update.

- Reid F. Herlihy


MBA: Virginia Governor Should Sign Transitional MLO Licensing Bill

As we previously reported, the Virginia Senate and House recently unanimously passed legislation that would authorize the Virginia State Corporation Commission to issue transitional MLO licenses. On March 3, 2014, David H. Stevens, President and CEO of the Mortgage Bankers Association (MBA), sent a letter to Virginia Governor Terry McAuliffe strongly encouraging the Governor to sign the Senate Bill 118 and House Bill 954 into law. The MBA previously submitted a similar letter to members of Virginia's Senate and House Commerce and Labor Committees before passage. If the legislation is enacted, Virginia would become the fourth state to grant transitional licenses to out-of-state MLOs and federally registered loan originators.

- Marc D. Patterson


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This alert is a periodic publication of Ballard Spahr LLP and is intended to notify recipients of new developments in the law. It should not be construed as legal advice or legal opinion on any specific facts or circumstances. The contents are intended for general informational purposes only, and you are urged to consult your own attorney concerning your situation and specific legal questions you have.

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