How to Avoid Foreclosure: What You Don’t Know Can Hurt You
The Federal Truth in Lending Act is a group of laws requiring that certain disclosures be made about the cost of borrowing money. For example, each time you get a credit card, you will see very specific disclosures listed in your paperwork. And when you borrow money against your home, you have three days to cancel the transaction. Both of these things are a result of the Federal Truth in Lending Act.
But only a handful of real estate attorneys are aware of the fact that the Truth in Lending Act’s right to cancel can actually last for up to three years after your loan is made. Also, in specific cases, the TILA can govern lenders making a loan secured by residential property. Fewer attorneys yet understand that the cost to the lender of undoing the loan consists of all costs, fees, interest and all charges not directly benefitting the borrower. This can be a large sum of money.
The Truth in Lending Act
Congress passed the Federal Truth in Lending Act in 1968 (15 USC §§1601–1693r). Section 105 of this law requires the Federal Reserve Board to announce the implementation of its regulations. The regulations section is referred to collectively as Regulation Z. Regulation Z has commentary that provides guidance to the attorney and protects the creditor from civil or criminal liability.
The Truth in Lending Act began as a disclosure statute that mandated that consumers be advised of actual costs involved in borrowing money so they could compare lending products and make better decisions.
The TILA was amended in 1980 and again in 1994. The 1994 changes added the Homeowner’s Equity Protection Act. “HOEPA” was added to control predatory lending practices in sub-prime loans–higher risk loans that do not meet conventional loan standards. Through HOEPA, federal law began to prohibit certain lender behaviors and loan terms by tying the loan terms to the Treasury Bill rate. For instance, if the APR of a home loan is greater than 8 % plus the comparable T-Bill rate on a first deed of trust, it is a HOEPA loan. If loan costs and fees are more than eight points, it’s a HOEPA loan.
When Can a Borrower Legally Rescind?
A borrower whose loan is secured by his principal dwelling has the right to rescind a loan agreement if the loan is used for personal family purposes or if it’s a purchase money loan.
- Foreclosure. A borrower can rescind if the lender starts the foreclosure process.
- 3-Day Right to Cancel. A borrower may also rescind by exercising his three-day right to cancel. This period ends at midnight on the third business day (Monday through Saturday) after the loan documents were signed. During this period, the lender should not release proceeds or record the security interest.
- Extended Right to Rescind. The extended right to rescind becomes applicable when the borrower is not properly notified of his three-day right to cancel the loan or the Truth in Lending Act disclosures are inaccurate. A borrower must be clearly informed when his right to cancel expires, as well as how and where to make his cancellation. A borrower must be given two copies of the right to cancel form. So, if the lending institution miscounts the days, fails to provide two copies to the borrower or fails to fill out the form, effectively the borrower has not received proper notice of the right to cancel–and his right to cancel continues until 1) the borrower is notified properly or 2) the three-year statute of limitations expires.
The Truth in Lending Disclosure Form
At the top of the TILA Disclosure form, there is a place for the Annual Percentage Rate, the amount financed, the finance charge and the total payments. The body of the form also indicates the regular payment amount and the number of payments to be made over the loan’s term.
Total Payments. The Total Payments equal the monthly payment multiplied by the total number of payments during the term of the loan. If the loan is a fixed-rate mortgage that’s fully amortized or an interest-only loan with an end balloon, the calculation is straightforward. But when it’s for a variable-rate mortgage, the calculation becomes a little more difficult.
APR. The Annual Percentage Rate is the interest rate that will be paid over the term of the loan by the borrower to the lender. The Truth in Lending Act makes room for several different methods of determining APR.
Finance Charge. The Finance Charge is any charge that’s imposed by the lender as a condition of the loan. Knowing which charges are finance charges can be confusing to the borrower as there are often many different types of charges lenders may impose. It’s important to know that a number of charges are covered by the definition of Finance Charge and these fees are often lumped together with interest charges in order to determine the annual percentage rate.
The Finance Charge amount must be accurate, according to TILA, up to certain tolerances that depend on the action the borrower is enforcing. If the borrower wants to rescind his loan, and foreclosure has not been initiated, the tolerance is a half of a percent, that is .5%. Should the Finance Charge be overstated, this consequently voids the right to rescind. Although if the lender has already begun judicial or non-judicial foreclosure, the tolerance is then a flat $35.00.
Amount Financed. The Amount Financed is the line of credit dollar amount made available to the borrower, that is, the Total Payments less the Finance Charge.
Here, too, if the annual percentage rate is overstated, the extended right to cancel is null and void. Regarding APR rate accuracy in the TILA Disclosure, the tolerance is an eighth of a percent or .125%. There is, however, some disagreement on this point.*
The tolerances mentioned above all apply to transactions that are considered to be “regular.” Conversely, a transaction that is “irregular” has 1) multiple advances, 2) irregular payment periods or 3) irregular payment amounts other than first or last payments. Irregular transaction tolerance is a quarter of a percent or .25%.
HOEPA as a part of TILA was put in place to protect people from lending practices that are considered predatory. HOEPA loans contain additional disclosures that cannot be violated without resulting in giving the borrower the extended right to rescind the loan. But HOEPA loans are hard to find these days because the majority of commercial lenders are not longer making them because they are difficult to resell.
A. Annual Percentage Rate and Points and Fees
First position loans made after October 1, 2002 are subject to HOEPA if the APR exceeds by more than 8% the yield on Treasury securities having comparable maturities on the 15th day of the month preceding the making of the loan. For junior loans the spread is increased to 10%.
The other HOEPA trigger is when the lender charges points and fees that add up to greater than 8% of the loan’s total amount.
B. HOEPA Disclosures
Disclosures specific to HOEPA loans augment the TILA disclosures and must be given to the borrower a minimum of 3 business days before the loan is finalized.
The following language is required in HOEPA disclosures:
- You are not required to complete this agreement merely because you received these disclosures or have signed a loan application.
- If you obtain this loan, the lender will have a mortgage on your home.
- You could lose your home and any money you have put into it, if you do not meet your obligation under the loan.
- Additionally, the lender must disclose the accurate APR and monthly payment amount, if the loan is a fixed-rate loan. If the loan is a variable interest rate loan, the disclosure must also inform the borrower that the monthly payment may increase and must state the amount of the maximum potential monthly payment. The monthly payment amount must also include disclosure of any balloon payment.
- The disclosure also must show the total face amount of the loan and state whether optional credit insurance or debt cancellation coverage is being sold to the borrower. 15 USC §1639; Reg Z §§226.31–226.32.
C. Prohibited Contract Terms
In the event of a HOEPA-prohibited contract term in a loan, HOEPA ensures an extended right to rescind the contract.
The following are contract terms that are prohibited:
- Prepayment Penalties are only allowed when the following conditions exist. A loan contract may not require the borrower to pay greater than 50% of his gross monthly income toward “monthly indebtedness payments.” Borrower’s income and expenses must be confirmed by a financial statement that is signed by the borrower, by a credit report, and by employment pay records, if applicable. A penalty may not apply when the borrower refinances one of his loans. And a repayment penalty can be imposed only for the first 5 years of the loan term which is valid under state law.
- Default Interest Rate Increases.
- Balloon Payments are allowed only if the loan has a term of 5 years or longer.
- Negative Amortization.
- Prepaid Interest Payments are allowed if up to two months of payments are escrowed.
- Due-On-Demand Clauses are only allowed if there is fraud or material misrepresentation by the consumer with regard to obtaining the loan, if the borrower fails to meet his financial obligations under the loan terms or if any action or inaction by the borrower adversely affects the lender’s security interest in the property.
The Law and the Rescission Process
The rescission process was created as a self-enforcing measure that could be conducted without the need to go to court. Extended right of rescission can last for up to three years after the loan is completed and possibly longer should the lending institution start the foreclosure process.
Rescission is a three-step process. First, the borrower or borrower’s attorney must notify the lender of the loan cancellation in writing and send it to the lender’s business address. One caveat, it’s important that the notification goes to the owner of the loan and not a loan servicer. Therefore, it’s necessary to review the loan and determine the lender at the time of the loan consummation. It’s also prudent to review any chain of title to see if the loan has been assigned and, if so, to send a copy of the rescission letter to the new lender, too.
Once the loan has been rescinded, the security interest or lien and the note become void automatically and the lender’s interest in the property is negated, regardless of its status. The lender then has 20 days to return to the borrower any money or property given to anyone in connection with the loan and show that the security interest has been terminated.
Once the lender has taken these steps, the borrower must then tender any money or property he has received from the lender–although no time period is specified for this to be accomplished.
With the rescission, the lender loses the right to charge interest, fees, and costs on the loan, even costs paid to outside third parties such as the title insurer. This is retroactive. The amount of tender is calculated by determining what funds the borrower actually received for his direct benefit–for example funds released to pay the borrower’s debts, for example–less the total payments the borrower has made. Attorney fees are available against a violating lender, as well as actual and statutory damages. The remaining balance is the amount due on tender. Once tender is delivered, the rescission process is complete.
How Rescissions Work
TILA allows the courts to modify certain aspects of the rescission process. For example, Reg Z allows the courts to modify the second and third steps of the rescission process; however, some courts have been uncomfortable with enforcing the statute’s first step–that of voiding the security interest. It is often best practice, then, not to force a lender to remove their security interest prior to tender, but to simply require acceptance of the rescission within the required 20-day period. Once rescission has been accepted, our attorneys will work with the lender to determine the amount of tender. In most cases, clients sell or refinance their property to fund the tender. Occasionally, lenders agree to rewrite the loan at the new loan balance. In either scenario, the lender submits a payoff demand equal to the tender amount into escrow and title insurance is obtained.
TILA can be an extremely powerful tool for borrowers and should be considered anytime you make or obtain a loan secured by residential property. At least one court has held that it may be malpractice for an attorney not to review a borrower’s rescission rights when representing them in a foreclosure proceeding. This article just scratches the surface of this area of law. If you are looking for a firm that has the background to understand the loan process when it comes to securing the loan against real property, the Law Offices of Leslie Richards can help you.