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A lawsuit filed by
a Wisconsin couple against their mortgage lender could have major
implications for banks should a U.S. appeals court agree that
borrowers can cancel their loans en masse when their lenders violate
a federal lending disclosure law.
The case began like hundreds of others filed since the U.S. housing
boom spawned a rise in sales of adjustable rate loans. Susan and
Bryan Andrews of Cedarburg, Wisconsin, claimed that lender Chevy
Chase Bank FSB had hidden the true terms of what they believed was a
good deal on a low-interest loan.
In their 2005 lawsuit, the couple said the loan's interest rate had
more than doubled by their second monthly payment from the 1.95
percent rate they thought was locked in for five years. The interest
rate rose well above the 5.75 percent fixed-rate loan they had
refinanced to pay their children's college tuition.
The Andrews filed the case seeking class action status; and in early
2007, U.S. District Judge Lynn Adelman ruled that the bank had
violated the Truth in Lending Act, or TILA, and that thousands of
other Chevy Chase borrowers could join them as plaintiffs.
The judge transformed the case from a run-of-the-mill class action
to a potential nightmare for the U.S. banking industry by also
finding that the borrowers could force the bank to cancel, or
rescind, their loans. That decision was stayed pending an appeal to
the 7th U.S. Circuit Court of Appeals, which is expected to rule any
day.
The idea of canceling tainted loans to stem a tide of foreclosures
has caught hold in other quarters; a lawsuit filed last week by the
Illinois attorney general asks a court to rescind or reform
Countrywide Financial Corp mortgages originated under "unfair or
deceptive practices."
'MASSIVE CLASS SUITS'
The mortgage banking industry already faces pressure from state and
federal regulators, who have accused banks of lowering underwriting
standards and forcing some borrowers, through fraud, into costly
adjustable loans that the banks later bundled and sold as
high-interest investment vehicles.
The loans have caused serious instability in the financial sector,
as mortgage interest rates adjusted upward and borrowers began
defaulting at a significant rate starting in 2007, drawing lawsuits
from investors and homeowners.
Federal appeals courts disagree over whether class-wide rescission
under the Truth in Lending Act is available, said attorney Christine
Scheuneman, whose firm represented Chevy Chase at the district
court.
"If class treatment is found to be available for rescission ...,
given the current crisis not predicted in 2005, the result all over
the country could be massive class suits," said Scheuneman, a
partner at Pillsbury Winthrop Shaw Pittman LLP.
The Truth in Lending Act, a 1968 federal law designed to protect
consumers against lending fraud by requiring clear disclosure of
loan terms and costs, lets consumers seek rescission, or
termination, of a loan and the return of all interest and fees when
a lender is found in violation.
Should the 7th U.S. Circuit Court of Appeals agree with Judge
Adelman, banking industry associations predict "confusion and market
disruption" as banks curtail lending further.
"Class certification of rescission claims would saddle the mortgage
lending industry and secondary market with billions of dollars of
class action exposure for supposed violations of TILA that do not
give rise to any actual damages," the financial services
associations wrote in an amicus brief.
But the Andrews' attorney, Kevin Demet, said lenders want to scare
the judiciary into banning class action rescissions because they
were unable to convince Congress to do so in the 1990s.
"If (banks) get relief (from the appeals court), it's activist
judges trying to give them what they could not get legislatively,"
said Demet, of Demet & Demet of Milwaukee, Wisconsin.
Consumer advocates said the banks would have "no more or no less"
liability for the tainted mortgages if the court found in favor of
the Andrews plaintiffs.
But an adverse ruling for borrowers would cut off an important
remedy. Borrowers would "lose the opportunity to use rescission to
save their homes from foreclosure or to rescind their mortgages and
refinance into affordable ones," the Center for Responsible Lending,
the National Consumer Law Center, Public Citizen and AARP Foundation
Litigation wrote in an amicus brief filed in the case.
Both sides said the case will likely be decided by the U.S. Supreme
Court.
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