I do a lot of defense work, and readers of this blog know that I work primarily for private lenders (not institutional lenders). This means I defend against a lot of TILA rescission claims. The current state of TILA rescissions is somewhat murky with circuit courts across the nation having to fill in the logistical gaps that the TILA statute neglects to fill in.
For example, the law currently proposes no timeframe for the rescission itself, nor does it specify when the borrower must return the loan proceeds to the lender.
Rescission is a straight-forward legal concept but actually quite difficult in practice to execute. The concept is that it restores everybody to the position they were in before the transaction happened, the status quo.
In a normal transaction with no loan, restoring the status quo is easier:
Seller sells Los Gatos home to Buyer. Buyer realizes there is a huge problem with the house, that it has a severely damaged foundation not disclosed by the seller, Seller thought she had provided the foundation report but failed to do so so. Under the doctrine of mutual mistake or to simply to resolve the case, the transaction is unwound. Seller takes the house back, Buyer gets the purchase money back. Everyone is restored to the status quo ante.
As related to mortgages/home loans, here’s how rescission plays out:
Borrower buys a house in San Jose for $1M in 2007, puts $200k down and borrows $800k from Bank of America. Bank of America screws up the TILA disclosure, fails to date it so instead of a 3 day right of rescission, the borrower has a 3 year right of rescission.
Fast forward to 2010. The house is now worth $700k, the property is underwater, the borrower wants a loan mod and can no longer afford to pay the mortgage payments. Borrower sees a “forensic loan consultant/auditor” and concludes there is a technical defect in the loan defects and the borrower sues BofA for rescission.
PROBLEMS WITH TILA RESCISSION LOGISTICS:
The way TILA is presently written, the mechanics of how the rescission would work are a little unclear. Also, the borrower is highly unlikely to have $800k to return to the lender and really, the seller does not want the house back or to give the borrower $200k back. Lastly, there is the matter of interest payments.
Just the plain language of the statute suggests that the bank needs to rescind the mortgage immediately and then it is left dangling out there as to how the borrower repays the loan.
As a result, courts have had to apply the normal legal principals of rescission in order for the law to make any sense. In the case of Yamamoto v. Bank of New York, The Ninth Circuit reiterated prior cases where it had concluded that “rescission should be conditioned on repayment of the amounts advanced by the lender…” and “and that the equities favored the creditor who would otherwise have been left in an unsecured position” and ultimately stated: “Thus, a court may impose conditions on rescission that assure that the borrower meets her obligations once the creditor has performed its obligations…”
Translated, even though TILA doesn’t say how and in what order the rescission should happen, courts can impose an equitable remedy that requires the borrower to pay back the loan before the lender has to rescind the mortgage.
WHY BOTHER TO SUE FOR TILA?
I am not sure what is prompting the Fed to make this proposal right now. Although the proposal is helpful to clarify, we have not seen any surge in TILA rescission suits because the reality is that they don’t pay plaintiffs’ lawyers all that well. The logical conclusion of the TILA suit is usually a settlement that involves a loan modification for the borrower. This is a good outcome for the borrower, but rarely leaves any money on the table for the borrower’s attorney–and the reality is that most borrowers can not afford to pay their attorney. This is why I support the recent Geithner comment that TARP bailout money could be allocated to homeowner legal aid. Borrowers should have access to competent counsel and those counsel should be paid for their labor.
HOW DOES TILA COMPARE TO PRODUCE THE NOTE?
In my opinion, an institutional lender is more likely to have messed up the arcane technicalities of note transfer than the TILA disclosures. Lenders defending either claim have an incentive to work with the borrower and are more likely to have a decision maker available to settle the case. As far as actual litigation, I think the produce the note claims are tougher to defend against. Either the lender has the note or it doesn’t. A Promissory Note is pretty much like an “IOU” or a “voucher” which means that if you hold that IOU or voucher, you can collect the debt and once it’s paid off, you return the IOU or voucher to the debtor or tear it up or “cancel” the debt. To transfer the Note is even more specific, it requires an endorsement, or if the back of the original Note is full, an allonge. Again, a very rarely followed requirement except in private money loans.
If the lender does NOT have the Note, then the real wrinkle for them is that their servicer has been collecting payments for the wrong party or there is a potential risk that the true holder of the note can come out of the woodwork and demand to be paid. Traditionally in the non-judicial foreclosure context, how California lenders got around this requirement is to buy a bond. Essentially the lender is paying they will pay a risk premium for the lost original promissory note and that they do not know of anyone else who will seek payment–this prevents the debtor/borrower from the risk that two parties can seek repayment of the debt.