Consumer Financial Services Alert - July 9, 2013 July 09, 2013
In This Issue

CFPB Issues Guidance Bulletin on Responsible Conduct in Enforcement Investigations

The CFPB issuedbulletin detailing certain actions by those subject to its enforcement authority that the CFPB will take into consideration in the exercise of its enforcement discretion. These actions, collectively referred to as “responsible conduct,” include self-policing, self-reporting, remediation and cooperation. Responsible conduct requires a party to substantially exceed the standard of what is required by law in its interactions with the CFPB and the bulletin includes questions the CFPB will consider in each of the four categories of conduct to determine whether to take certain actions into account. The bulletin explains that there is no precise formula for assessing the impact responsible conduct by a party may have on the enforcement proceedings and even if all of the elements are met, it will not foreclose the CFPB from pursuing any particular remedy available to it. However, responsible conduct by a party could lead the CFPB to resolve an investigation with no public enforcement action, treat conduct as a less severe type of violation, reduce the number of violations pursued or reduce the sanctions or penalties sought; provided, any such remedy is in the best interests of consumers. In announcing the guidance bulletin, the CFPB noted that it will take into account “significant responsible conduct…when deciding which cases to pursue and how to resolve the ones we do pursue.”

CFPB Releases Readiness Guide for Mortgage Rules

The CFPB released a readiness guide for the mortgage rules it finalized in January 2013 (see January 10, 2013 Alert discussing ability-to-repay and qualified mortgage rule and January 22, 2013 Alert discussing the mortgage servicing rules). The guide consists of a summary of the rules, a readiness questionnaire, frequently asked questions and tools, which contain links to summaries of the rules and the small entity compliance guides.

CFPB Issues Procedural Rule on Supervision of Nonbanks

The CFPB issuedfinal rule establishing procedures under which it may supervise a nonbank whose activities it has reasonable cause to determine has engaged or is engaging in conduct that poses risks to consumers. Nonbanks are generally companies that offer or provide a consumer financial product or services, but does not hold a bank, thrift or credit union charter. Such conduct, according to the CFPB, includes unfair, deceptive, or abusive practices or acts. The final rule substantially adopts the proposed rule published in May 2012 (see May 29, 2012 Alert) with a few modifications, most notably that: (1) all aspects of a proceeding will be deemed confidential; (2) the Notice of Reasonable Cause will set forth a summary of the documents and other sources relied upon in issuing the notice; (3) nonbanks have 30 days to respond to a Notice of Reasonable Cause and (4) nonbanks will receive a copy of the Associate Directors’ recommended determination at the end of the process. The final rule also creates a mechanism by which supervised nonbanks may file a petition to terminate the CFPB’s supervisory authority after two years. In addition to its enforcement authority over nonbanks that pose risks to consumers, the CFPB has enforcement authority over other nonbanks that provide consumer financial products or services, including debt collectors, consumer reporting agencies and student loan servicers. Previously, the CFPB issued rules defining "larger participants" of the debt collection market (see November 13, 2012 Alert) and the consumer reporting market (see July 24, 2012 Alert) and a proposed rule defining "larger participants" of the student loan servicing market (see March 19, 2013 Alert). This rule is effective August 2, 2013.

CFPB to Hold Field Hearing on Debt Collection

The CFPB will hold a field hearing on debt collection in Portland, Maine on July 10, 2013. The CFPB previously finalized a rule defining "larger participants" of the debt collection market and released its debt collection examination manual (see November 13, 2012 Alert).

CFPB Publishes Rulemaking Agenda

The CFPB published a semi-annual update of its rulemaking agenda as part of the broader initiative led by the OMB to publish a Unified Agenda of federal regulatory and deregulatory actions across the federal government. The rulemaking agenda includes a number of rulemakings mandated by the Dodd-Frank Act, such as the recently issued mortgage rules scheduled to take effect in January 2014 (see e.g., January 10, 2013 Alert) and the CFPB notes that it is focusing on the implementation process for these rules. The rulemaking agenda also highlights that the CFPB is working to complete a rule to integrate and streamline federal mortgage disclosures, continuing rulemaking to implement its supervisory program for certain nonbanks and conducting outreach and research to assess issues in various other markets for consumer financial products and services. Of note, the CFPB noted that it plans to "build on an advance notice of proposed rulemaking" related to prepaid cards by proposing a rule to "strengthen federal consumer protections" for prepaid cards. The May 2012 advanced notice of proposed rulemaking sought to extend the protections under Regulation E, the implementing regulation for the Electronic Fund Transfers Act, to general purpose reloadable prepaid cards.

FTC Settles with Mortgage Broker for Violations of Mortgage Acts and Practices Advertising Rule

In its first enforcement action for violations of the Mortgage Acts and Practices Advertising Rule, the FTC announced it imposed a $7.5 million civil penalty against a mortgage broker for violations of the Do Not Call provisions of the Telemarketing Sales Rule and the MAP Rule. The MAP Rule prohibits unfair or deceptive acts or practices regarding mortgage loans, loan modifications and foreclosure rescue services. The complaint alleges that, in violation of the TSR and the MAP Rule, the mortgage broker: (1) called more than 5.4 million numbers on the National Do Not Call Registry to offer home loan refinancing services to current servicemembers and veterans; (2) falsely offered low interest, fixed rate mortgages at no cost, when in fact the mortgage broker only offered adjustable rate mortgages that required consumers to pay closing costs and (3) misled consumers about its affiliation with the Department of Veteran Affairs.

The settlement is the result of a coordinated effort with the CFPB, which also shares enforcement authority of the MAP Rule. In November 2012, the two agencies issued warning letters and initiated formal investigations of mortgage lenders and brokers concerning potentially misleading mortgage advertisements in violation of the MAP Rule and TSR (see November 27, 2012 Alert). Under the terms of the settlement, the mortgage broker is prohibited from denying future consumer requests to be placed on Do Not Call lists, calling consumers on the National Do Not Call Registry, misrepresenting any terms related to mortgage credit products and misrepresenting its affiliation with any government entity or organization.

Fifth Circuit Rejects Show-Me-The-Note and Split-the-Note Challenges to Foreclosure

Addressing the question of an oft-used tactic by borrowers seeking to challenge a foreclosure, the United States Court of Appeals for the Fifth Circuit held that neither the "show-me-the-note" nor the "split-the-note" theories apply under Texas law. In the underlying case, the lender executed a security instrument naming MERS as the beneficiary and nominee of the lender and its assigns. After the borrower defaulted, MERS assigned the mortgage to defendant, a bank, that subsequently filed a foreclosure action against the borrower. The borrower contested the foreclosing arguing that defendant was not the holder of the note, did not own the mortgage and therefore could not foreclose. The borrower also alleged that defendant could not foreclose because MERS only assigned the mortgage and not the note. The lower court granted defendant’s motion to dismiss.

In affirming the lower court’s dismissal of the borrower’s action, the Fifth Circuit held that Texas law did not require production of the original note. In particular the Court held that "the original, signed note need not be produced in order to foreclose," thus rejecting the borrower’s show-me-the-note theory. The Fifth Circuit rejected the borrower’s "split-the-note" theory, holding that the "split-the-note" theory is inapplicable under Texas law where the foreclosing party is a mortgage servicer and the mortgage has been properly assigned. Under the "split-the-note" theory, borrowers argue that assignment of the deed of trust by MERS splits the note from the actual deed of trust, making it unlawful for the lender to which the deed of trust was last assigned to initiate foreclosure proceedings. The Fifth Circuit concluded that the foreclosing party need not possess the note itself (i.e., MERS and its assignee did not need to possess the note to foreclose). "Split-the-note" theories are commonly advanced by defaulted borrower plaintiffs in an effort to challenge foreclosures and invalidate the enforceability of their loan obligations. Numerous state and federal courts around the country have rejected such claims on a host of grounds (see e.g., October 16, 2012 Alert) and this case presents yet another example that contributes to the weight of authority.

California Federal Court Dismisses Class Action Challenging Bank’s Force-Placed Insurance

The United States District Court for the Northern District of California partially dismissed a class action alleging violations of the anti-tying provisions of the Bank Holding Company Act and backdating on the part of defendant, a bank, among other claims. Plaintiffs’ claims arose out of defendant’s practice of purchasing flood insurance on real property when plaintiffs failed to do so—commonly known as forced-placed or lender-placed insurance. More specifically, plaintiffs claim that defendant “improperly exploited force-placed insurance to its advantage” by entering into an exclusive purchase agreement with a third-party under which defendant purchased all force-placed insurance from the third-party and in return the third-party paid a kickback to defendant or its affiliate, an insurance company. According to plaintiffs, despite receipt of commissions from the third-party, defendant’s affiliated insurance company “performed no services whatsoever.” Defendant moved to dismiss plaintiffs’ allegations that it violated the anti-tying provisions of the BHC Act and plaintiffs’ backdating theory.

In dismissing plaintiffs’ claims that defendant violated the anti-tying provisions of the BHC Act, the Court agreed with defendant that there can be no tying unless the products are distinct. Defendant argued that there were no distinct products because purchasing insurance on behalf of the borrowers and being an insurance agent for the borrowers is the same thing. The Court agreed noting that there was "no functional distinction between the two putative services" of purchasing insurance and of being the agent for obtaining the insurance. The Court also dismissed plaintiffs’ claims that defendant backdated force-placed insurance. In moving to dismiss this claim, defendant argued that backdating is required by the National Flood Insurance Act and that the mortgages plaintiffs signed gave it the authority to backdate. Finding defendant’s argument that it had reasonable basis for the backdating practice (i.e., defendant had no way of knowing whether a loss occurred during the period of lapsed coverage) "persuasive," the Court rejected plaintiffs’ argument that such a practice violated an implied covenant of good faith and fair dealing. Moreover, while the Court held that the National Flood Insurance Act does not require backdating, it did not bar such practice. Instead, the Court held that the National Flood Insurance Act “appear[ed] to authorize [such] practice.” Because the National Flood Insurance Act did not bar the practice of backdating the flood insurance and because defendant had not acted unreasonably when it backdated the policies, the Court dismissed plaintiffs’ claims. Despite defendant’s victory, force-placed or lender-placed insurance has been a cause for concern among state and federal regulators. The FHFA recently issued a proposal to restrict mortgage sellers and servicers from receiving commissions or other remuneration associated with maintaining force-placed insurance with certain providers (see April 2, 2013 Alert) and both the New York Department of Financial Services and the California Department of Insurance recently entered into settlements with force-placed insurers (see April 2, 2013 Alert and November 13, 2012 Alert, respectively).

California State Legislature Passes Fair Debt Buyers Practices Acts

The California Assembly passed legislation, the Fair Debt Buyers Practices Act, to regulate the activities of debt-buyers. "Debt buyer" is defined in the Act as a person or entity that is regularly engaged in the business of purchasing charged-off consumer debt for collection purposes. Among the many consumer protections in the Act, debt buyers would be prohibited from making any written statement in an attempt to collect a consumer debt unless the debt buyer possesses information that the debt buyer is the sole owner or is authorized to assert the rights of all owners of the specific debt at issue, the debt balance and the name and address of the creditor at the time the debt was charged off. Notably, the Act prohibits a debt buyer from initiating a suit to collect a debt if the statute of limitations on the cause of action has expired. If signed into law by the governor, the provisions of the Act would apply to consumer debt sold or resold on or after January 1, 2014.