This is the next in a continuing series of articles reprinted from the manuscript of the author's article published by Westlaw Publishing Co., "Force-placed, Lender-placed Insurance Class Actions: Is the Lender Placement of Insurance Authorized by Law, Or Simply Beyond the Reach of the Courts?", 35 Insurance Litigation Reporter 221 (2013) © 2013 Thomson Reuters. Installments in this series will alternately be presented here and on Insurance Claims and issues Blog. Permission to reprint from the author's manuscript is given by John K. DiMugno, Esquire, Editor-in-Chief of ILR, by Thomson Reuters Westlaw, and by the author.
2. The Three Most Commonly Alleged Clusters of Fact in Force-Placed Insurance: Kickbacks, purchasing unnecessary policies, and backdating.
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b. Purchasing unnecessary insurance policies and coverage. This set of allegations is self-explanatory. The borrowers-plaintiffs generally allege that the defendant lenders use their contractual authorizations to force the placement of insurance when it was not needed, or in amounts that are greater than necessary to protect their interests in the secured property.[1]
This set of allegations is deceptively easy to understand. This is the central question among many issues involved in presenting and defending claims spawned by the forced placement of insurance: What amount of money is "necessary to protect the lender's interest" in the secured property?
The decided cases settle between majority and minority answers to this question. The majority view is the settled view. District Courts holding this view are of the opinion that "[t]he purpose of a force-placement clause is to protect the lender's interest in the property securing the mortgage loan."[2] The lender's interest in the property securing the mortgage loan is nothing more than what the contract documents protect, i.e., the amount remaining on the balance of the loan extended to the borrower including accumulated interest and authorized charges.[3] "The question, of course, is not what amount of flood [or other] insurance a lender reasonably could require, but what this particular HUD [or any] mortgage provision in fact permits the lender to demand."[4]
The minority view appears to be more recent. It holds that the lender's interest in the secured property can increase as the value of the secured property increases. Magistrate Judges and District Judges following this view have found no actionable conduct, therefore, in a lender forcing the placement of insurance in an amount that reflects the "replacement value" of the secured property.[5]
The rationale behind the minority view is not so much a rationale as received doctrine replacing traditional legal concepts of a "security interest" in the secured property. The established legal concepts of security include the idea that the Courts protect security interests in order to secure the repayment of loans. "'Security interest' means an interest in personal property or fixtures which secures payment or performance of an obligation."[6] This is the clear understanding of the term to date, both in the law and among the population at large.[7] Current lenders may wish to have the Courts enforce a different understanding. However, the long-established majority view of a security interest is that the Courts protect security interests in order to secure the repayment of loans.
In contrast, the minority doctrine or contrary view has it that instead it is in the lender's best interest for the loan not to be repaid; the longer the loan is outstanding and unpaid, the more money the lender can make with its investment, and the property exists for the purpose of providing the lender with a return on its investment paid for by the borrower in addition to the loan amount plus interest for which the lender and borrower contracted. This position was advanced and quoted at great length in a fairly recent decision, for which we are indebted to the U.S. Magistrate Judge who took the time to quote this lengthy passage from Wells Fargo's Reply in Support of Defendants' Motion to Dismiss in the case of McKenzie v. Wells Fargo Home Mortgage, Inc.[8]:
[1] E.g., Lass v. Bank of America, N.A., 695 F.3d 129, 138-39 & 39 n.19 (1st Cir. 2012); Lane v. Wells Fargo Bank N.A., 2013 WL 269133 *1 (N.D. Cal. January 24, 2013); Hofstetter v. Chase Home Finance, LLC, 2010 WL 3259773 * 3 (N.D. Cal. August 16, 2010). This is not the same thing as saying merely that the lenders and insurance companies have increased the financial burden faced by borrowers, an argument which has not fared very well in the Courts. However, without proof that increased cost has been the result, in April, 2013 a Federal agency settled with four mortgage insurance companies over charges that the companies chose to incur a charge -- which was apparently added to the borrowers' costs -- for "captive reinsurance" offered at higher prices than the reinsurance market would ordinarily bear for comparable reinsurance, allegedly because the reinsurance they chose was offered through a "captive" company affiliated with the given lender, i.e., that the mortgage insurance companies were paying kickbacks to lenders in exchange for customers. See, e.g., Press Release, "The CFPB Takes Action Against Mortgage Insurers to End Kickbacks to Lenders" (Consumer Financial Protection Bureau, April 4, 2013); Jim Puzzanghera, "Regulators Probing Alleged Mortgage Insurance Kickback Scheme" (Los Angeles Times Online at www.latimes.com, posted April 4, 2013).
[2] Montanez v. HSBC Mortgage Corp., 876 F. Supp. 2d 504, 513 (E.D. Pa. 2012).
[3] E.g., Lass v. Bank of America, N.A., 695 F.3d 129, 135-36 (1st Cir. 2012)(case involved Massachusetts substantive law); Kolbe v. BAC Home Loans Servicing, LP, 695 F.3d 111, 120 (1st Cir. 2012)(observing in case involving New Jersey substantive law: "We acknowledge that lenders may have good reason to require replacement coverage. Nonetheless, ... Congress in the NFIA [National Flood Insurance Act] appears to have incorporated the assumption that, at times, a more limited amount of flood insurance may be reasonable and appropriate."); see, e.g., McNeary-Calloway v. JP Morgan Chase Bank, N.A., 863 F. Supp. 2d 928, 935, 955-56 (N.D. Cal. 2012)(Spero, USMJ; California plaintiffs and New Jersey plaintiff stated claims for breach of contract, with allegations that in part the defendants JPMorgan Chase and Chase Bank breached their mortgage contracts by force-placing "duplicative" insurance); Hofstetter v. Chase Home Finance, LLC, 2010 WL 3259773 *10 (N.D. Cal. August 16, 2010)("Since plaintiff owed the bank nothing and could not draw any funds on the line (and would have had to file and prevail on a written appeal with the bank to have her credit limit reinstated), the bank faced zero risk that it would incur uninsured losses under the loan due to flooding.... The bank nevertheless purchased a $175,000 flood insurance policy through an affiliate--likely earning a commission in the process--and billed plaintiff for the trouble. This maneuver was not required under the NFIA [National Flood Insurance Act].") [Emphasis by the Court.]
[4] Kolbe v. BAC Home Loans Servicing, LP, 695 F.3d 111, 121 (1st Cir. 2012)(case involved New Jersey substantive law).
[5] The most recent exposition of this view came in the case of Cannon v. Wells Fargo Bank N.A., 2013 WL 132450 (N.D. Cal. January 9, 2013). The District Judge in that case relied on two opinions in previously decided cases -- one by U.S. Magistrate Judge Spero in California, and one by appellate judge Boudin dissenting in a case from Massachusetts -- to hold that a lender was authorized by standard mortgage contract provisions to force the placement of insurance with policy limits at replacement value, not merely with the policy limits necessary to pay off the loan. "The Court agrees with Judge Spero and Judge Boudin that a lender's interest is not limited to the outstanding principal." Cannon v. Wells Fargo Bank N.A., 2013 WL 132450 *12 (N.D. Cal. January 9, 2013).
The Alabama Supreme Court's decision in Custer v. Homeside Lending, Inc., 858 So. 2d 233 (Ala. 2003) is often cited as being in accord with this minority view. However, the Alabama Supreme Court actually split its votes. For all that appears from the reported decision, four Alabama Supreme Court Justices decided this putative class action case in which, again, the issue of class action certification was not reached. Three Justices voted to affirm the dismissal of mortgagors'-borrowers' alleged breach of contract cause of action on the ground that as to the flood insurance at issue, the mortgagee could require that the flood insurance policy limits be obtained by the borrower in excess of the remaining mortgage loan balance; one Justice concurred in part in the rationale but wrote to expressly leave open "the question whether the NFIA [National Flood Insurance Act] affirmatively authorizes a mortgage lender to force-place flood insurance in an amount greater than the lender's exposure in a mortgage," id. at 249, while also concurring in the result; and the five (5) remaining Alabama Supreme Court Justices on the Court at the time, do not make an appearance in the decision with a record of their votes nor any opinions in dissent.
[6] U.C.C. § 1-201(37).
[7] See, e.g., Black's Law Dictionary 1217 (Special Deluxe 5th ed. 1979)("A form of interest in property which provides that the property may be sold on default in order to satisfy the obligation for which the security interest is given.... The term 'security interest' means any interest in property acquired by contract for the purpose of securing payment or performance of an obligation or indemnifying against loss or liability."); Merriam Webster Dictionary Online, definition of "security interest," found at http://www.merriam-webster.com/dictionary/security%20interest; "security interest" definition, Webster's Ninth New Collegiate Dictionary p. 1062 (1987); Wikipedia Encyclopedia definition of "security interest," at www.wikipedia.org. According to both Merriam Webster Dictionary Online and Webster's Ninth New Collegiate Dictionary, the term first came into use in 1951 with this understanding.
[8] McKenzie v. Wells Fargo Home Mort., Inc., 2012 WL 5372120 *11-*12 (Spero, USMJ, October 30, 2012)(quoting Wells Fargo's Reply in Support of Defendants' Motion to Dismiss). [Emphasis added.] Authorship of the quoted passage has been attributed to the U.S. Magistrate Judge instead of to the Wells Fargo Memorandum. Cannon v. Wells Fargo Bank N.A., 2013 WL 132450 *12 (N.D. Cal. January 9, 2013).
To be continued ....
