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Financial Services Law Insights and Observations


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  • 2nd Circuit: Bankruptcy rule on post-petition mortgage fee notices does not authorize punitive sanctions


    On August 2, the U.S. Court of Appeals for the Second Circuit vacated a sanctions order imposed on a mortgage servicer in three chapter 13 cases. According to the opinion, the servicer sent the debtors monthly mortgage statements listing fees that allegedly had not been properly disclosed in the three bankruptcy cases. The United States Bankruptcy Court for the District of Vermont then sanctioned the mortgage servicer $225,000 for violating court orders issued in two of the debtors’ cases, which had declared the debtors current on their mortgages and enjoined the servicer from challenging that fact in any other proceeding. The bankruptcy court also sanctioned the servicer $75,000 for violating Bankruptcy Rule of Procedure 3002.1, which requires creditors to provide formal notice to a debtor and trustee of new post-petition fees and charges and authorizes the bankruptcy court to impose sanctions for non-compliance.

    On appeal, the 2nd Circuit held that Rule 3002.1 “does not authorize punitive monetary sanctions,” and that the servicer “did not, as a matter of law, violate the court orders.” The appellate court added that “[a] broad authorization of punitive sanctions is a poor fit with Rule 3002.1’s tailored enforcement mechanism and limited purpose,” noting that the bankruptcy court in this case is “apparently the first and only one to impose punitive monetary sanctions under the rule.” While the bankruptcy court raised “serious concerns” about whether the servicer “is making a good faith effort to comply with Rule 3002.1,” the appellate court concluded that “[a] concern, even a serious concern, is not a finding.” Concluding that the $225,000 sanction was based on an improper finding of contempt, the appellate court vacated and reversed the order.

    Courts Mortgages Bankruptcy Appellate Second Circuit

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  • 2nd Circuit says private student loans not explicitly exempt from bankruptcy discharge


    On July 15, the U.S. Court of Appeals for the Second Circuit held that private student loans are not explicitly exempt from the discharge of debt granted to debtors in a Chapter 7 bankruptcy. According to the opinion, the plaintiff filed for Chapter 7, which led to an ambiguous discharge order as to how it applied to his roughly $12,000 direct-to-consumer student loans. After the plaintiff received the discharge in 2009, the student loan servicer started collection efforts. Because the plaintiff did not know whether the discharge applied to his student loans, he repaid the loans in full. In 2017, the plaintiff moved to reopen his bankruptcy case and filed an adversary proceeding against the student loan servicer and the servicer’s predecessor (collectively, “defendants”), seeking a determination that his student loans were in fact discharged during the original proceeding. The servicer moved for dismissal claiming the loans were exempt under 11 U.S.C. § 523(a)(8)(A)(ii), but the bankruptcy judge denied the motion, ruling that the bankruptcy code “does not sweep in all education-related debt.” The district court subsequently certified the bankruptcy court’s order for interlocutory appeal.

    On appeal, the 2nd Circuit reviewed whether the plaintiff’s private student loans could be discharged under bankruptcy. Under § 523(a)(8), the following types of student loans are exempt from discharge: (i) government or nonprofit institution student loans; (ii) obligations “to repay funds received as an educational benefit, scholarship, or stipend”; and (iii) qualified education loans. The defendants argued that the plaintiff’s loans fell into the “educational benefit” category, but the appellate court disagreed, concluding that § 523(a)(8) does not provide a blanket exception to the applicability of bankruptcy discharge to private student loans. In affirming the bankruptcy court’s ruling, the appellate court wrote, “if Congress had intended to except all educational loans from discharge under § 523(a)(8)(A)(ii), it would not have done so in such stilted terms.” The 2nd Circuit further added that “[i]nterpreting ‘educational benefit’ to cover all private student loans when the two terms listed in tandem describe ‘specific and quite limited kinds of payments that. . .do not usually require repayment,’. . .would improperly broaden § 523(a)(8)(A)(ii)’s scope.” 

    Courts Student Lending Student Loan Servicer Second Circuit Appellate Bankruptcy

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  • DFPI announces settlement on deceptive educational financing practices

    State Issues

    On April 26, the California Department of Financial Protection and Innovation (DFPI) announced a settlement with a San Francisco-based coding school, requiring removal of a bankruptcy dischargeability provision from the school’s student contracts and notification to students that this type of financing can be discharged in a bankruptcy filing. According to the consent order, a non-dischargeability provision used in the school’s installment agreements was “misleading because, contrary to the Bankruptcy Non-Dischargeability Provision, the Contract is not . . . subject to the limitations on dischargeability pursuant to . . . the United States Bankruptcy Code.” Therefore, the school violated the California Consumer Financial Protection Law, which prohibits companies from participating in practices that are unlawful, unfair, deceptive, or abusive. As part of the settlement, the school must (i) notify students that the bankruptcy dischargeability provision language is not accurate; (ii) retain a third party to review the terms of the school’s finance contract to certify that it follows the relevant regulations and laws; and (iii) go through a marketing compliance review to certify that the information is accurate and not misleading. According to DFPI Commissioner Manuel P. Alvarez, the consent order “helps ensure that future students can confidently enter into educational financing contracts without being subjected to false or misleading terms.”

    State Issues DFPI Deceptive Bankruptcy Student Lending CCFPL Enforcement

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  • Massachusetts bankruptcy court: No recoupment absent proof of emotional distress


    On April 12, the U.S. Bankruptcy Court for the District of Massachusetts entered judgment in favor of a national bank, determining that the plaintiff failed to, among other things, “carry his burden to prove that he incurred injury” concerning economic or emotional distress damages as a result of the original lender’s violations. During the plaintiff’s chapter 13 bankruptcy proceeding, he initiated an adversary proceeding against the bank and a loan servicer for violations of Massachusetts law related to the origination, underwriting, and closing of his mortgage loan. According to the memorandum, the plaintiff contended he was approved for a loan modification after he struggled to stay current on his loan. While the loan modification did not forgive any of the plaintiff’s outstanding debt, the plaintiff agreed to the terms, entered into a modification agreement with the bank (who was the successor by assignment of the original lender), and eventually filed a chapter 13 petition. The bankruptcy court was ultimately called to review the plaintiff’s objection to the bank’s proof of claim filed in his chapter 13 case, in which the plaintiff invoked the doctrine of recoupment, bringing a claim against the bank for damages under Chapter 93A of Massachusetts’ consumer protection law.

    Upon review, the court determined, among other things, that the plaintiff’s loan was “presumptively unfair and also unfair in the specific circumstances in which it was made” and that “[n]o reasonably diligent lender would have approved the loan to [the plaintiff] without taking steps to independently verify critical financial information.” Moreover, the court determined that the original lender’s conduct was “unfair and deceptive” under Chapter 93A. The court further noted that Massachusetts law states that while “an assignee ordinarily cannot be held liable for damages based upon the acts of its assignor,” under “the common law principle that an assignee stands in the assignor’s shoes, ‘assignees may be liable under [Chapter] 93A for equitable remedies such as cancellation of a debt or rescission of a contract’”—a context under which the plaintiff sought to have the bank’s claim “reduced by recoupment in the amount of his damages caused by [the original lender’s] unfair and deceptive acts.” However, the court noted that because the borrower failed to “carry his burden to prove that he incurred injury as a result of [the original lender’s] violation,” he “failed to prove an amount for recoupment in reduction” of the proof of claim the bank asserted against him.


    Courts Bankruptcy State Issues Mortgages

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  • SBA clarifies bankruptcy PPP eligibility

    Federal Issues

    On April 6, the Small Business Administration (SBA) updated its Paycheck Protection Program (PPP) frequently asked questions to clarify when an applicant or owner is no longer considered to be “presently involved in any bankruptcy” for PPP loan eligibility purposes. In order to be eligible for a PPP loan, SBA requires all borrowers to certify on their applications that the applicant, as well as any owner of 20 percent or more of the applicant, is not “presently involved in any bankruptcy.” SBA’s FAQ provides that “[i]f an applicant or owner has filed a Chapter 7 bankruptcy petition, the applicant or owner is considered to be ‘presently involved in any bankruptcy’ for PPP eligibility purposes until the Bankruptcy Court has entered a discharge order in the case.” For Chapter 11, 12, or 13 bankruptcy petitions, the applicant or owner will be “considered to be ‘presently involved in any bankruptcy’ for PPP eligibility purposes until the Bankruptcy Court has entered an order confirming the plan in the case.” An applicant or owner will not be considered to be “presently involved in any bankruptcy” if the Bankruptcy Court has entered an order dismissing the case, regardless of the type of bankruptcy petition. SBA stipulates, however, that the order must be entered before the date of the PPP loan application.

    The SBA also issued a procedural notice to lenders announcing it will shut down the PPP platform to new PPP loan guaranty applications at 12 a.m. EDT on June 1.

    Federal Issues SBA Covid-19 Small Business Lending Bankruptcy

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  • 9th Circuit vacates summary judgment in bankruptcy, FDCPA action


    On November 25, the U.S. Court of Appeals vacated summary judgment in favor of defendants in an action alleging the defendants violated the FDCPA by attempting to collect a debt that was discharged in a bankruptcy proceeding and no longer owed. According to the opinion, after the plaintiff fell behind on dues that were owed to his homeownership association (HOA), a law firm acting as a debt collector on behalf of the HOA obtained a lien for the unpaid debt and initiated nonjudicial foreclosure proceedings. The plaintiff filed and received approval for Chapter 13 bankruptcy protection. A separate collection agency that received the plaintiff’s HOA arrearage payments eventually informed the bankruptcy trustee that the HOA debt was “paid in full,” with a notice issued to that effect. An order of discharge was entered in the case by the bankruptcy court after the completion of payment was verified. Following the bankruptcy discharge order, the law firm—whose records still showed an unpaid balance—undertook collection efforts again. The plaintiff informed the law firm that the debt had been paid, and—after further review—the law firm acknowledged a communication from the collection agency that stated the debt had been paid in full. The plaintiff filed suit, but the defendants argued that the claims were precluded under Walls v. Wells Fargo Bank, N.A. because the debt was discharged in bankruptcy. The district court granted the defendant’s motion for summary judgment, ruling that the plaintiff’s “FDCPA claims were precluded ‘because they are premised upon violations of the bankruptcy post-discharge injunction.’”

    On appeal, the 9th Circuit concluded that the plaintiff’s claims were not precluded by the Bankruptcy Code. The appellate court observed that while its 2002 decision in Walls generally indicates that the Bankruptcy Code precludes FDCPA claims premised on a violation of a bankruptcy discharge order, it did not apply in this case. Among other things, the panel determined that the plaintiff’s FDCPA claims were not premised on an issuance or violation of the discharge order in the bankruptcy proceeding. Rather, the plaintiff’s FDCPA claims were based on a debt that was fully satisfied through arrearage payments as part of a Chapter 13 plan before a discharge order was entered. As such, the appellate court determined that “just because [the plaintiff] made his arrearage payments through operation of a bankruptcy plan” it “does not render his FDCPA claims inextricably intertwined with bankruptcy issues.”

    Courts Appellate Ninth Circuit FDCPA Bankruptcy Debt Collection

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  • FTC settles with auto dealers for falsifying consumer financial documents

    Federal Issues

    On September 4, the FTC announced a settlement with group of auto dealers (defendants) with locations in Arizona and New Mexico near the Navajo Nation’s border, resolving allegations that the defendants advertised misleading discounts and incentives and falsely inflated consumers’ income and down payment information on certain financing applications. As previously covered by InfoBytes in August 2018, the FTC filed an action against the defendants alleging violations of the FTC Act, TILA, and the Consumer Leasing Act for submitting falsified consumer financing applications to make consumers appear more creditworthy, resulting in consumers—many of whom are members of the Navajo Nation—defaulting “at a higher rate than properly qualified buyers.”

    The court-approved settlement requires the defendants to cease all business operations and includes a monetary judgment of over $7 million. Because the defendants are currently in Chapter 7 bankruptcy proceedings, the settlement will make the FTC an unsecured claimant in the bankruptcy proceedings. The settlement also prohibits the bankruptcy trustee from using or selling the consumer information obtained from the defendants’ business activities as part of the bankruptcy liquidation.

    Federal Issues Consumer Finance FTC Auto Finance FTC Act TILA Consumer Leasing Act Bankruptcy

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  • District court applies OCC’s valid-when-made final rule but raises true lender question


    On August 12, the U.S. District Court for the District of Colorado reversed in part a bankruptcy court judgment, concluding that the OCC’s valid-when-made rule applied but that discovery was needed to determine whether a nonbank entity was the true lender. According to the opinion, a debtor corporation commenced an adversary proceeding against a creditor in their bankruptcy, alleging, among other things, that the interest rate of the underlying debt’s promissory note is usurious under Colorado law. The promissory note was executed between a Wisconsin state-charted bank and a Colorado-based corporation, with an interest rate of nearly 121 percent. The note included a choice of law provision dictating that federal law and Wisconsin law govern. A deed of trust, dictating that Colorado law (the property’s location) governs, was pledged as security on the promissory note and incorporated by referencing the terms of the note. Subsequently, the Wisconsin bank assigned its rights under the note and deed of trust to a nonbank entity registered in New York with a principal place of business in New Jersey. The bankruptcy court denied the debtor’s claims, concluding that the Depository Institutions Deregulation and Monetary Control Act (DIDMCA) applied, which dictated the application of Wisconsin law, making the interest rate valid.

    On appeal, the district court applied the OCC’s valid-when-made rule (which was finalized in June and covered by a Buckley Special Alert), concluding that “a promissory note with an interest rate that was valid when made under DIDMCA § 1831d remains valid upon assignment to a non-bank.” However, the district court noted that DIDMCA § 1831d does not apply to promissory notes “with a nonbank true lender” and the parties did not “conduct discovery on the factual question of whether [the nonbank entity] was the true lender.” Thus, the court reversed and remanded to the Bankruptcy Court to determine whether the nonbank entity was the true lender.

    Courts OCC Bankruptcy Madden True Lender Interest Rate State Issues

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  • Southern District of New York Bankruptcy Court issues general order addressing certain filings, documentation requirements, and deadlines

    State Issues

    On April 9, the U.S. Bankruptcy Court for the Southern District of New York issued General Order M-545 regarding court operations under the exigent circumstances created by Covid-19. Effective immediately, with respect to cases filed by an individual under chapters 7, 11, 12, and 13 of the U.S. Bankruptcy Code, the general order:

    • Suspends the requirement that a CM/ECF user secure the signer’s original signature prior to electronically filing a document bearing the signature, provided certain requirements are met.
    • Provides guidance on documentation that creditors (mortgage holders or servicers) must file in connection with a temporary suspension of mortgage payments.
    • Extends any deadline under the Loss Mitigation Program Procedures or Student Loan Mediation Program Procedures that has not expired as of March 16, 2020, to July 1, 2020.
    • Provides an alternate standard for establishing a debtor’s identification for purposes of a meeting of creditors under section 341 of the bankruptcy code.

    The order expires on July 1, 2020 unless modified by further order.

    State Issues Covid-19 New York Bankruptcy Mortgages Student Lending

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  • 11th Circuit: District Court erred in denying class certification over bankruptcy preemption defense


    On October 29, the U.S. Court of Appeals for the Eleventh Circuit vacated a district court decision denying class certification, concluding the court erred in its determination that each FDCPA and Florida Consumer Collection Practices Act (FCCPA) claim’s individualized inquiries predominated over issues common to the proposed class. According to the opinion, two plaintiffs filed a class action against their mortgage servicer alleging the servicer violated the FDCPA and the FCCPA by sending monthly mortgage statements after the debt was discharged in a Chapter 7 bankruptcy and they moved out of the home. The servicer objected to class certification that included both consumers who vacated their homes and those who remained in their homes because the Bankruptcy Code treats the two groups differently, thus requiring an individualized review to decide how the rules would be applied. Additionally, the servicer argued that the court would be required to decide whether the Bankruptcy Code precluded or preempted the claims for only class members who chose to remain in their homes. The district court denied class certification, concluding that individualized claims predominated over common issues, because “the question of ‘whether the Bankruptcy Code precluded and/or preempted the FDCPA and FCCPA’ presented an individualized rather than a common issue.”

    On appeal, the 11th Circuit disagreed. The appellate court noted that the district court erred when it concluded that the question of whether the Bankruptcy Code precluded or preempted the FDCPA only applied to those consumers who chose to remain in their homes, because the preemption defense “potentially barred every class member’s FDCPA claim,” thus requiring the court to treat it as a common issue. The appellate court made a similar determination for the FCCPA claims. The appellate court cautioned that its conclusion was not an opinion about whether the servicer’s “defense is meritorious,” but was “limited to the conclusion that [the] defense raises questions common to all class members.” The appellate court, therefore, vacated and remanded the case back to district court.

    Courts Bankruptcy Class Action Debt Collection Appellate Eleventh Circuit

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