The Sad State of Mortgage Service Providers
A major feature unique to chapter 13 is the ability of a chapter 13 plan to cure defaults on home mortgages, even though the mortgage has been accelerated or the foreclosure process has commenced. So long as the chapter 13 plan proposes to maintain the payments on a mortgage and cure the pre-petition default within a reasonable period of time,2 it is irrelevant whether the mortgage creditor accepts or rejects the plan. The use of chapter 13 to save a family home from foreclosure has escalated to the point that saving a home is one of the principal reasons for selection of chapter 13.3
As the use of chapter 13 to save families' homes has escalated, the practices of the mortgage industry have shifted dramatically. No longer are mortgage lenders the holders of the mortgage claims, bearing the risk of loss and the possibility of gain on the investment as well as maintaining the responsibility for the servicing of the obligation. Rather, mortgage debts are bundled into pools, securitized for the benefit of investors, and the servicing functions "outsourced" to professional mortgage servicers, all of whom compete for the opportunity to provide such services at the lowest possible cost.4
The mortgage servicing industry has benefited greatly by computerization. For standard mortgage servicing, computers can accurately determine the amounts received, the amounts that would be withdrawn from escrowed funds for the payment of insurance and real estate taxes, whether payments are late, and what the late charges should be. Like most financial computer programs, most of them allocate the funds received to the oldest outstanding balance. Most of them apply the charges automatically, subject only to review by the servicing provider staff. Most of them cannot or will not accommodate the changes forced upon them when a chapter 13 bankruptcy is filed.
By its very terms, when a plan proposes to cure a mortgage, two claims are created.5 Restrictions are placed upon the method by which the default may be cured (within a reasonable time) and conditions for such cure (the plan must propose to maintain the regular payments). By the very nature of mortgage service provider's computer software, most of them do not create two claims. Thus, even though the mortgage service provider, fully aware of the impact of the automatic stay, halts foreclosure action and, for the most part, ceases communications with the debtor, nothing is undertaken in an effort to cause the records of the mortgage service provider to match the plan or the Code.
This lack of effort has been, for many, no harm, no foul. After all, the obligation to the long-term mortgagee is excepted from the chapter 13 discharge.6 Mortgage service providers have had the ability to defer the questions of appropriate application of payments to cure a mortgage in a chapter 13 plan until after the discharge, when most debtors are no longer represented and the bankruptcy court no longer may have jurisdiction.7 Trustees and practitioners are struggling to deal with the problem of the records of the mortgage service providers after a successful chapter 13 case.
The concerns of the trustee and the debtor are not misplaced. Mortgage obligations may be transferred from one lending pool to another with inadequate notice.8 Service providers are filing proofs of claim on the mortgage9 and including charges that are not clear or not accurate. If the debtors serve as disbursing agents on mortgage obligations, one circuit court has held that the court has no jurisdiction to review the manner in which such payments are applied.10 Another circuit court has held that a mortgage service provider's improper application of mortgage payments in a chapter 13 plan to attorneys' fees, costs and other charges does not violate the automatic stay.11
There is, however, a growing awareness that mortgage service providers are having a very difficult time dealing with chapter 13. Where a mortgage service provider sought to include attorneys' fees as part of its proof of claim without obtaining bankruptcy court approval, its actions violated Rule 2016 F.R.B.P.12 This has precipitated a number of class actions relative to the manner in which proofs of claim are prepared in chapter 13 cases. In Slick v. Norwest Mortgage Inc. (In re Slick),13 the failure of Norwest to disclose attorneys' fees added for preparation of proofs of claim subjected it to $2 million in punitive damages. In Harris v. First Union Mortgage Corp. (In re Harris),14 a similar fate befell First Union when it too was sanctioned with punitive damages of $2 million and an award of attorneys' fees for the failure to disclose the attorneys' fees included in its arrearage proofs of claim. There is apparent difficulty for mortgage service providers to accommodate the tasks of filing claims for pre-petition arrearages, adequately disclosing fees and costs in the proof of claim or by separate application.
There also appears to be great difficulty in simply applying the receipts from trustees. More and more chapter 13 trustees are being required by the terms of confirmed plans to make not only the arrearage payments to mortgagees, but also the payments to maintain the regular monthly payments.15 This difficulty has been apparent for some time, with an early recognition in the case of In re Ronemus,16 where Judge Akard, after considering the testimony of the witnesses for the mortgage servicing companies, held:
The only conclusion the court can draw from the testimony and the evidence presented is that FTB's records were in disarray... [T]he extract contained errors which bring its accuracy into question.... The court cannot place any credibility in FTB's records or in its testimony (at 459).
To solve the problem of the mortgagee's deplorable records, Judge Akard ordered FTB to "draw a line and start over," giving the mortgage loan a new number and deeming the mortgage current and all defaults cured.
More recently, in In re Maxwell,17 Judge Feeney was equally disturbed by the quality of the mortgage service provider's records:
"I go off whatever that computer has for me...because that's all the information that we would have..." In view of the fact that Fairbanks did not have the debtor's payment history and did not have the note executed by the debtor, its utilization of wholly unsupported figures in demand letters sent to the debtor cannot be viewed as unintentional.... Its conduct violated the FDCPA and was egregious and inexcusable.
Trustees and debtors have begun to search for ways to correct the records of a mortgage service provider at the end of a plan. New tools to help secure the correction of records include the Home Ownership and Equity Protection Act (HOEPA), Truth in Lending Act (TILA),18 The Real Estate Settlement Procedures Act (RESPA),19 and various state statutes. One tool now being used is the submission of a qualified inquiry under RESPA. Another is motions and adversaries against mortgagees to determine the status of the claim at the conclusion of a chapter 13 case. It has become regular procedure for debtors' counsel or trustees to seek such determination as part of the closing of a case. Presumably, where a court determination is made that the mortgage is current and all defaults are or have been cured by a completed chapter 13 plan, the order would preclude any foreclosure activity post-discharge as a result of alleged defaults that occurred during the pendency of the case.
What is next for the mortgage service provider industry is fairly clear. As long as they have been insulated by the relative inability of debtors to challenge or even review the status of their mortgage obligations at the conclusion of a chapter 13 case, both through a lack of understanding, the unique posture of the mortgage obligation as non-dischargeable, lack of resources to raise the issues and a lack of bankruptcy court jurisdiction after the closing of a chapter 13 case, there has been little need for the service providers to accommodate chapter 13 practice and process. Now, with new tools for trustees and debtors to protect against inaccurate records by the mortgage service providers, the industry must retool and modify its records to conform with the plans themselves.
4 See In re Morgan, 225 B.R. 290 (Bankr. E.D.N.Y. 1998). "Our client is Litton Loan Servicing, but it may be also State Street Bank and Trust. We get our directions from Litton, who gets their direction from State Street." Or, in the same case dealing with another service provider, "Great Financial's primary duties are collecting monthly payments from the mortgagor debtor. Because the mortgagor was in bankruptcy, Great Financial retained a law firm to appear in that proceeding.... Freddie Mac makes all the decisions regarding compromising its claims, approving plans of reorganization or other issues before the bankruptcy court." Return to article
5 11 U.S.C. §1322(b)(5) makes specific reference to the existence of two claims, both the "regular payment" and the arrearages on any long-term debt. This curing of the default is the exception to the rule of mortgage non-modification contained within §1322(b)(2). Return to article
7 See, e.g., Willis v. Chase Manhattan Mortgage Corp., 2001 WL 1079547 (E.D. Pa. Sept. 14, 2001). After the debtors received a discharge in their chapter 13 case, the bankruptcy court was deprived of jurisdiction to determine if the fees and costs that were added to their mortgage obligation, even though they were current in mortgage payments when they initially filed for chapter 13 relief. State court action was the proper venue to raise the question of improper charges. Return to article
8 The author has been advised of a practice among several "securitizers" of mortgage obligations‹to "sell" the mortgage obligations out of the pool when the mortgagee files bankruptcy. This assignment of claim may or may not be adequately disclosed pursuant to Rule 3001(e), F.R.B.P., leaving the trustee and the debtors to guess as to the identity of the mortgage creditor. In fact, at the recent annual conference of the National Association of Chapter Thirteen Trustees, several horror stories included trustees making disbursements to mortgage service providers and having the funds returned with the notation that the mortgage debt was "paid in full." The problem was that the original creditor was "paid" by the transferee of the obligation. Return to article
9 See In re Viencek, 273 B.R. 354 (Bankr. N.D.N.Y. 2002) (mortgage servicer has standing to file a proof of claim). Return to article
13 Case No. 98-14378-MAM, Adv. No. 99-1136 (Bankr. S.D. Ala. May 10, 2002). The author can only find this decision on the Southern District of Alabama web site at http://www.alsb.uscourts.gov. Return to article
15 In an article prepared for the ABI Law Review to test whether education programs promote successful completion of chapter 13 cases, Prof. Jean Braucher discovered that one factor that may contribute to completion rates is where the trustee is responsible for making all mortgage payments, both pre-petition arrearages and ongoing monthly payments. See ABI Law Review, Vol. 9 No. 2, Winter 2001 at fn. 99. Return to article
19 12 USC §2601, et seq. In one case, In re Tomasevic, 279 B.R. 358 (Bankr. M.D. Fla. 2002), the court held that the failure to correct records by a mortgagee could subject it to sanctions, but because the payments on the mortgage were paid directly by the debtor, the court lacked even "related to" jurisdiction to consider a RESPA action. Return to article