A Growing Field And Shrinking Options

An October 26th New York Times article reports that the Federal Reserve has jumped into the ring of government interests now actively investigating mortgage servicing and foreclosure practices. Federal Reserve Chair, Ben Bernake has announced that an "in depth" review of the nation's largest morgage servicers' is underway, and that preliminary results should be announced next month. So, similar to the States, the federal government is looking for evidence of improper foreclosures.

For those keeping score, we now have a cooalition of every State Attorney General's office, scores of State banking commissioners,the Federal Reserve and HUD all investigating the same issues. And, while the State Attorneys General are fielding daily press inquiries and pressure for a foreclosure moratorium, HUD Secretary Shaun Donovan was quoted as saying that "the federal government has found no systemic issues underlying legal documents," which is a fairly astonishing comment for two reasons. First, the Fed's preliminary report is not even due out until November. Second, and more importantly, it is the first signal that there is likely to be a chasm of perspective between the feds and the State law enforcement officials that are investigating this issue. From a policy perspective, the federal government cannot allow the mortgage servicing industry to be imperiled, and a lengthy foreclosure moratorium is untenable. The scope of the related economic impact would simply be too large. Meanwhile, the States are faced with identifying an actual cooalition that must be centered on similar policy and State laws and who can work together toward a global resolution,another difficult challenge.

So, how does this play itself out? Well, mortgage servicers are not likely to be singled out individually, because there simply aren't sufficient resources to conduct the number of necessary investigations. The States will want an industry task force, similar to the one that the States themselves have designed, to interface with the States and forge a resolution. Initially, those involved will be down in the weeds arguing over issues such as robosigning and improper notarization, but that will ultimately give way to broader policy discussions and a resolution that is palatable to the industry and that focuses more on the future than on the past.

In the mean time, look for words of encouragement to the industry from the federal government, a flat report from the Federal Reserve and relative quiet from the State Attorneys General, whose boots-on-the-ground lawyers have already seen the problems and are concerned with identifying a practical solution. Turns out, it is lost on no one that as goes the mortgage servicing industry and the resolution of the current issues, so goes the economy for the foreseeable future, but the States aren't ready just yet to concur that all should be forgiven. That will take some work. In the interim, what is the worst mistake that a mortgage servicer can make? That would be to say that there are no issues in its shop without knowing...really knowing, not robo-knowing, for sure that the statement is correct. The most clear and present danger? Tone deafness and misunderstanding that it may well be better to admit some problems now and fix them than to claim perfection and force investigators' hands. Sometimes it is better to be part of the crowd.

DESPERATION IS THE MOTHER OF CREATIVITY

BEWARE ILSA. What is ILSA? Never heard of it, you say? Well, you are about to hear of it, and if a recent federal court decision from New York becomes a trend, it will be one of many wrinkles that tend to prolong the real estate crisis. ISLA is the Interstate Land Sales Full Disclosure Act, and it was enacted in the late 1960s in response to land booms in places like Florida where unscrupulous interstate developers were selling land sight unseen to out-of-state buyers. It contains numerous technical requirements. Requirements that, as with many technicalities that really have little to do with the propriety or fairness of the involved deal, were often ignored prior to the real estate bust.

Now, as recently reported by New York Times reporter, Christine Haughney, prospective buyers that put down large sums to hold condominiums or apartments are finding refuge in the technicalities of the statute, and developer oversights are resulting in cases going forward that seek return of deposits merely because the property has devalued, the investment is not as attractive and the buyers want out.

Last month, a federal judge in New York ruled that prospective purchasers of a $3.4 million Upper East Side (this equals expensive real estate for the three of you who are unfamiliar with New York City)may recover their $510,000 deposit, because the developer's contract violated an ILSA provision requiring that contracts in large developments be in a form that can be filed with the city register. In other words, the complaint was not that the developer was unscrupulous, that there was deception or fraud, that the development was not being completed, or that some financing trap tricked the wealthy shipping executive buyer. Instead, the argument was that the developer would not permit the contract to be filed because it would trigger a lien against the property (and, ironically, likely throw a wrench in the developer's financing and ability to complete the project). The natural, fair and just thing to do in such a case? Apply a law that was intended to protect the unsophisticated from buying up swampland in Florida, and leave developers, and their financiers, swinging in the wind.

So, here is how this will work: Rich and sophisticated Greek executive bruises his knees jumping on the real estate band wagon and puts a half-million dollar downpayment on a swank Upper East Side apartment; then the real estate market does precisely what everyone predicted . . . it bursts; the value of apartments like the one he is buying drop precipitously, and his investment doesn't look nearly as smart; Greek executive now wants out and wants to walk with his $500,000 (and really, who can blame him?); developer has financed the project in part on the strength of pre-construction sales and cannot return buyers' downpayments or else the entire development will collapse; enter, ILSA and creative lawyering; the court (perhaps correctly) rules that the deal violated ILSA provisions and the prospective buyer(s) are entitled to have their investment returned; developer's financing crashes and the development goes into...wait for it...FORECLOSURE, which we all know will be a pitfall free, smooth sail for the banks; the development sits empty (or at least emptier) for goodness knows how long. And, what does this do for revitalization of the real estate market, the economy or development of sound jurisprudence? To get that answer, you'll have to stay tuned...just like me.

But DC's Got a Lot More Traffic than Raleigh

North Carolina's Chief Deputy Commissioner of Banks Mark Pearce is headed to Washington. The FDIC announced Tuesday that he has been named Director of the new Division of Depositor and Consumer Protection (DCP). He had been Commissioner of Banks Joseph A. Smith Jr.'s deputy since 2006, where he focused on foreclosure, foreclosure prevention and non-depository lending. DCP was created in August as part of the Dodd-Frank Act, and no doubt the FDIC and Pearce will get right to work.

If Only We Had More than 50 States….

As we previously blogged, last week North Carolina AG Roy Cooper, as well as AGs from Texas, Ohio and several other states, ordered that loan servicers hold off on foreclosure proceedings until their processes can be examined to ensure fairness to homeowners. This past Tuesday, as reported by Bloomberg and other news outlets, about 40 AGs planned to announce a joint investigation into foreclosure practices. Yesterday midday, as reported here in the Washington Post and elsewhere, 49 states’ Attorneys General announced they’re joining forces for the investigation into whether Bank of America, J.P. Morgan Chase, Ally Financial and several others made false or misleading statements in carrying out their foreclosures, focusing initially on the so-called “robo-signers.” Not surprisingly, Alabama, the 50th and final state, then joined in.

With all the political pressure, public outcry and media attention being brought to bear on the faulty foreclosure question, it’s not surprising that this investigation has spread like wildfire. The Washington Post article says that the investigation first will focus on whether the companies engaged in unfair or deceptive trade practices and that it may be used to force companies to offer additional loan modifications. Ohio’s AG Richard Cordray already has initiated one suit against GMAC Mortgage LLC and its parent for violations of the Ohio consumer practice law; at $25K per violation, being in the foreclosure business in Ohio could get pretty pricey pretty quickly. As the investigation gets rolling and more AGs consider possible suits, the servicers will no doubt quickly be peppered with requests and subpoenas. Then they’ll have the difficult task of searching for documents and responding promptly to multiple AGs’ requests for production and subpoenas with different states’ statutory requirements and laws in mind. And of course, this huge a government investigation means that the class action suits can't be far behind. On the bright side for our unemployment numbers, looks like the AGs’ offices may be doing some serious hiring over the next year or two….

Does Sunshine Handcuff The SEC?

As reported in today's "Investment News," President Obama has rolled back some significant Dodd-Frank related SEC FOIA exemptions. Initially adopting similar FOIA exemptions that apply in some other regulatory scenarios, Dodd-Frank contemplated that FOIA exemptions would extend to information gathered while the SEC conducts "surviellance, risk assessment or other oversight work." Legislation overturning that exemption unanimously passed the House and Senate on September 21 and was quietly signed into law last week.

The SEC opposed the change, stating its concern that such exemptions allowed it to conduct full and open investigations without concern that any confidential information it gathered would be subject to FOIA requests by competitor companies. For the moment, the SEC's concerns have been brushed aside by lawmakers in favor of the populist position that more "sunshine" in government is always better. However, in this case, as in many, the lawmakers' effort may fall short of their ultimate goal.

Anyone involved in an SEC, or really any government investigation, knows that the agencies depend upon openness and cooperation from subjects. In the world of government investigations, the environment is simply too target rich for the government to fight each investigation tooth and nail. Notwithstanding perceptions, even the federal government's resources fall short of the breadth needed to fight if every subpoena, document request or request for interview or meeting were challenged. They depend upon cooperation. They depend upon subjects concluding that, on balance, it is better to cooperate than to challenge, and the Consumer Finance Protection Bureau will be no different. From a subject's perspective, that analysis could change substantially if confidential information that is requested in furtherence of a SEC investigation is subject to public disclosure. One can easily imagine a circumstance in which dilatory or down-right obstructive behavior could better protect a subject's sensitive information than cooperative behavior.

Lawmakers have promised that they will return to this issue and reestablish appropriate exemptions in the future. One can only hope that they will be true to their word. No doubt, there is a place for "sunshine" in government, and open government advocates do us all a service. But, as we here at BB&R have opined in connection with the foreclosure issues that are dominating the news, there are equities on both sides that should be considered. No subject of an investigation should be put in the position of choosing whether to allow confidential and competitive information to be made public or challenging subpoenas and other investigatory tools that might otherwise be handled cooperatively. Whether you believe the repeal of the exemptions to be good or bad, one thing is for certain, SEC investigations will be more difficult, and likely more expensive for the agency than they were, at least in the short run.

Ma Bell Best Be On Top Of Her Game In PA

The real question in connection with the latest consumer finance related State Attorney General activity is: Does the Pennsylvania Attorney General's Office have enough phone lines? On Wednesday, it seems, Attorney General Tom Corbett of Pennsylvania called for consumers in that State who believed that they may have been the victim of wrongful foreclosures to call a special AG consumer protection hotline.

Now, we here at BB&R have nothing against hotlines. They have there place. For instance, if I have a heart attack from one too many donuts, I want a hotline. In the event that NORAD observes bombers coming in over Alaska, it is probably important that their be a hotline. But, seriously,asking consumers who either have been or are being foreclosed upon to call if they believe the foreclosures are improper? This is one of those ideas that sounded good in someone's head. What precisely is it that the AG expects will happen? Of the percentage of delinquent homeowners that have ever been forclosed upon, precisely what percentage do we believe perceived it as fair and equitable? And, how many do we believe have any idea whether the foreclosure was proper or even what metrics there are that may result in an improper foreclosure? Our advice to the PA AG? Just ask everyone that has ever been foreclosed upon to all call your office (Oh, and in case you have missed it, the number of delinquencies and related foreclosures has gone up just a bit in the past couple of years, so call volume could be unusually high). The result will be the same, and PA will be no closer to knowing the scope of improper foreclosures. Really, now may be a good moment for everyone to pause, take a breath and remember that there are equities on both sides of the foreclosure issue.

Transfer Date Set and Director Appointment on the Horizon

Reuters is reporting that Senate Banking Committee Chairman, Christopher Dodd has indicated an expectation that the first Director of the Consumer Finance Protection Bureau, now racing toward its July 21, 2011, Designated Transfer Date, should be appointed shortly after the November elections. The article notes Dodd's widely reported opinion that the White House should nominate someone with sufficient support to guarantee confirmation, and that Elizabeth Warren may not have sufficient support.

To the extent Republicans pick up more Senate seats in the impending election, one can only assume that existing support for Ms. Warren would only erode further.

Meanwhile Ms. Warren has been busy meeting with top executives in the U.S. financial industry to explain her view that simplifying credit card and similar consumer finance agreements could go a long way to giving consumers the protection that she perceives they need.

Ms. Warren's views on credit card agreements are well known, but it is unlikely that the banking industry will quickly forget that she testified against several leading U.S. banks as an expert witness in credit card fee related antitrust cases and was paid $90,000 to do it, all while serving on the TARP Oversight Committee. Apprently, Ms. Warren was careful to ensure that there was no technical conflict created, but one could hardly blame a banking industry that is slow to warm to her, regardless of how many feel good speeches she offers.

North Carolina Seeks Halt to Foreclosures

In the world of consumer finance, foreclosure issues are continuing across the country. Today, in an A.P. article, the Charlotte Observer is reporting that North Carolina Attorney General, Roy Cooper, has asked fourteen lenders to stop foreclosures in North Carolina. The move comes after at least one large bank has voluntarily halted foreclosure proceedings to investigate widening allegations that lenders have made use of unverified affidavits to support foreclosure actions in numerous States. The Attorney General's office has previously stated that use of unverified affidavits could consitute fraud. Whether that is technically correct is an open question. Regardless, Attorney General Coopers' primary stated concern is that homeowners may not be getting a fair modification opportunity. Again, it would seem that such a conclusion could only be reached on a case-by-case basis. One way or the other, we will stay tuned to this broadening issue.

Texas A.G. Takes Action

As we mentioned in an earlier post, Texas Attorney General Gregg Abbott is attacking what he believes are inappropriate practices by debt collectors in the State of Texas. Yesterday, Abbott called on 30 companies who service mortgages in Texas to halt all foreclosure proceedings "until companies have completed a review of their processes, including whether employees or agents 'robosigned' affidavits and other documents which were recorded in the State of Texas."

In related news, the Washington Post is reporting that House Speaker Nancy Pelosi and several other House members are calling for a federal investigation on similar grounds.