Toppling reverse mortgage abuse
December 2017 - Ingrid Evans and Daniel Oren
More baby boomers are turning to these high-cost, risky mortgages as they reach retirement. But hidden fees and deceptive practices could jeopardize their financial futures.
The Home Equity Conversion Mortgage (HECM) program is the Federal Housing Administration’s reverse mortgage program, and it generates about 90 percent of reverse mortgages in the United States.1 HECM reverse mortgages are federally insured loans available exclusively to people who are over 62, own their home outright or have a small mortgage balance, and occupy the property as their principal residence.2 Many senior consumers are particularly vulnerable in these transactions.
In one sadly common case, the borrowers were an elderly couple, one of whom suffered from Alzheimer’s and the other was dying of cancer. They had agreed that their daughter, who took care of them, would inherit their house. But a reverse mortgage broker misled the couple into a costly reverse mortgage, and they ended up spending tens of thousands on closing costs and heavily encumbered their home with debt. The broker and lender knew the couple had children but never asked the children if their parents had the capacity to enter into the agreement. Nor did the broker inform the caregiver daughter about how the reverse mortgage would impact inheriting her parents’ home.
In general, reverse mortgages may not be suitable for any seniors on a tight budget: They are high-cost loans in a market rife with abusive practices. Understanding the fundamentals of how these loans work and what you need to examine before filing a claim will help you represent vulnerable elderly consumers.
These mortgages are called “reverse” because the borrower receives cash from the lender based on the home’s equity, and repayment is deferred to the lender until the borrower sells, dies, or moves out. Reverse mortgages were purposely designed for elderly homeowners who have few liquid assets, intend to remain in their home, and are unconcerned about passing the home on to their heirs—who would have to pay off the loan balance to keep the property. Some lenders even encourage borrowers to use reverse mortgages to fill the gap for living expenses before claiming Social Security benefits because the longer you wait to claim them, the higher the benefits.3
Borrowers can choose to receive a lump sum or periodic payments, a standby line of credit, or some combination of upfront payments and a credit line. Adjustable rates can go up within the first few months of the loan. Origination fees and mortgage insurance premiums can run as high as 2 percent. Borrowers are also responsible for service release premiums, loan correspondent fees, recording fees, and appraisal fees in addition to property taxes, homeowners insurance, homeowners association fees, and property repairs.4 Thus, before factoring in the interest on the borrowed money, the cost of the reverse mortgage may easily exceed 10 percent or more of the borrowed amount.
These costs force seniors to take out even larger loans to obtain the amount they need. The loan terms are so unfavorable that only borrowers with no heirs and in dire need of funds for medical expenses or other emergencies should be advised to take out a reverse mortgage. Even then, they should know that cheaper loan alternatives, such as a conventional second mortgage or home equity line, may be available.
Common Unlawful Practices
The federal government and some state legislatures have enacted laws to protect seniors from predatory practices. For example, borrowers must “participate in a consumer information session given by an approved HECM counselor” before a lender accepts the borrower’s completed loan application.5
When representing a borrower, always find out first whether such counseling took place. Historically, government programs sponsored these counseling sessions, but funding has now been pulled back. That may result in no counseling or perfunctory sessions that inadequately advise the borrower. If the counseling session will be paid for out of loan proceeds, an obvious conflict of interest arises.6 Attorneys must closely review every aspect of the mandatory counseling sessions to determine whether the counseling agency, originator, lender, and client followed statutory requirements.
Federal and state regulations specify the timing, content, and compensation for mandatory counseling.7 For example, California mandates a seven-day “cooling off” period between the borrower’s counseling session and the assessment of any fees by the lender.8 Also consider whether the client had the mental capacity to enter into a contract at the time he or she agreed to the reverse mortgage.9
You should review what written information was disclosed to your client. Most important, perhaps, federal law requires lenders to disclose in writing to the prospective borrower “a good faith estimate of the projected total cost of the mortgage to the consumer expressed as a table of annual interest rates” no less than three days before closing.10 If the lender has not adequately disclosed borrowing costs, there may be grounds for rescinding the loan during the contractual period for rescission (typically three business days) or later in litigation.
Beginning in April 2015, lenders must conduct a suitability analysis for prospective borrowers—assessing a borrower’s income, cash flow, and credit history as part of the loan screening and application process.11 Find out whether this type of mandatory analysis occurred. Often, reverse mortgage advertising fails to disclose these screening hurdles. Many reverse mortgage lenders work with brokers or marketing entities that engage in false advertising—a major problem with reverse mortgages.12
A particularly egregious practice involves selling reverse mortgages, paying out a lump sum to the borrowers, and then selling them an insurance product, such as an annuity that locks up their money and penalizes them if they need to access it for health care or other emergencies. This is a red flag for elder abuse—these already cash-strapped seniors are paying two sets of fees for essentially the same service, and they are paying more on loan interest than they could hope to gain from the investment in the insurance product. The federal government and California have banned this practice, but it still occurs frequently.13
In one instance, an insurance company sales manager in Maine arranged for a large reverse mortgage lender to speak with his sales agents, who then referred 14 clients to the reverse mortgage lender. All of them obtained reverse mortgages. One 81-year-old widow reportedly was sold a deferred annuity that earned only 3.25 percent, purchased with her reverse mortgage, which charged 4.12 percent.14
Causes of Action
Once you determine that your client has a case, what are your options?
Financial elder abuse. Plaintiffs alleging elder abuse in most states must be over 65, so almost every action arising from the sale of reverse mortgages should include a cause of action for financial elder abuse. Every state has laws that protect senior citizens, but not every state may allow for a private right of action in a civil case.15
Many legislatures have expanded definitions of elder abuse to the point where financial or business transactions that may ultimately disadvantage a senior can be the basis of claims brought under the elder abuse statute.16 California has an expansive interpretation: Essentially, any “taking” of a senior’s property for a “wrongful use” constitutes financial elder abuse.17 Others have far less expansive definitions of elder abuse.18 And some state laws refer to “exploitation” of protected people, such as by the “unjust or improper use” of another’s resources without consent.19
You should allege that each cost your client incurred constitutes an unlawful taking. “Property” taken should include every expense in a reverse mortgage transaction, including application fees, appraisal fees, origination fees, counseling costs, recording fees, mortgage insurance premiums, closing costs, taxes, and interest payments. In addition to out-of-pocket damages, include the lost investment opportunity on the money expended toward the loan. You can calculate this based on the S&P 500 or another suitable index.
Always consider a client’s physical and mental capacity at every stage of the underlying transaction, initiation of suit, discovery (including your client’s deposition testimony), and trial. You may need to rely on the client’s power of attorney or have a guardian ad litem or conservator appointed to initiate litigation. Finally, plaintiffs may also recover damages for pain and suffering depending on what your statute allows.20
Negligence. Any action arising from a reverse mortgage transaction may also include a negligence claim.21 Be especially alert to all the specific statutory disclosures, steps, and timing. Missed steps, deficient disclosures, or botched or insufficient timing may all be incidents of negligence, negligent training, negligent supervision, and negligence per se. Look closely at every aspect of the underlying transaction during all relevant time periods: before, during, and after closing.
Establishing that a duty of care exists is usually the most difficult hurdle. Lenders and brokers will deny that they owe the borrower-client any duty of care. Be prepared for a demurrer or motion to strike from the beginning. Examine the relationship between the lender, reverse mortgage broker, or other originator and your client. Some factors to consider are the foreseeability of harm, the connection between the defendant’s actions and your client’s injury, and the moral blame attached to the defendant’s conduct.22
Show that the lender acted beyond the scope of its conventional role as a money lender and actively participated in some other capacity—such as a financial adviser or even a fiduciary to your client. Generally, look for facts showing that the borrower placed his or her confidence and trust in the broker, the relative equality or inequality of the parties when it comes to financial matters, and whether the borrower relied on the broker for knowledge and information that the borrower did not have.
Establish, for example, whether the broker/adviser had a preexisting relationship with the borrower, whether the broker/adviser counseled the borrower on general financial affairs, or whether the broker/adviser held him or herself out as a financial adviser or fiduciary.
Fraud. Evidence of false advertising may be part of any fraud claim.23 Whether your facts may support a fraud allegation and the best way to plead fraud are complicated questions. You can be almost certain that you will face a motion to dismiss or motion to strike right off the bat and most likely a motion for summary judgment shortly down the road.
Of the elements of a fraud claim, reliance, materiality, knowledge, and intent are usually challenging to prove.24 Reliance and materiality typically are the most difficult to establish, so review the facts with your client with extreme precision. Determine exactly what was said, what materials were delivered, when and where all meetings occurred, and whether any third-party witnesses were at the meetings. All of this will be more challenging if your client suffers from any cognitive impairment.
Sometimes, the borrower may already be deceased, raising even thornier issues of provability. Without ample documentation of the loan process, a fraud claim will be much less likely to succeed. But bear in mind that a showing of fraud will entitle your client to punitive damages.25
Issues to Consider Before Filing
Once you’ve investigated the facts surrounding your client’s claim and determined that there is enough evidence to move forward, consider a few issues that commonly arise in this type of litigation before filing the complaint.
Preemption. The federal government heavily regulates reverse mortgages, so any litigation invariably involves preemption questions, and lenders generally prefer federal court. One way for plaintiffs to avoid removal is by not pleading violations of federal law but instead framing the case as primarily that of fraud, negligence, and financial elder abuse.
The law on preemption is all over the place, but in general, there is particular deference to federal law in cases involving the banking and lending industries.26 Federal statutes such as the National Bank Act, the Home Owners’ Loan Act, and the Truth in Lending Act are just a few that you need to consider before bringing an unfair competition law claim against a bank for false advertising, misrepresentation, or failure to disclose, among others.
State law allegations should be pleaded with overlapping federal regulations in mind. You may be able to deflect preemption by pleading state law claims consistent with case law that indicates there is no preemption in that situation. There is ample case law on the subject.27
Defendants and venue. Whether bringing the action in state or federal court, the complaint will need to properly allege the basis for venue in the selected court. Your case most likely will involve claims against multiple defendants: the bank or lending agent, the reverse mortgage broker, the sales or insurance company, and the company’s agent who had personal contact with the client. Anyone receiving a commission or split fees also should be considered as a defendant. Naming a local defendant, possibly the agent, might also prevent removal to federal court by destroying diversity.28
Discovery and trial. After carefully considering preemption and venue, look at the cost of litigating a case against defendants that have seemingly limitless resources. The costs of obtaining discovery and hiring banking experts will run very high. While litigating these cases can be expensive, juries are apt to be sympathetic: The plaintiffs are seniors who have had their retirements taken from them, and the defendants are insurance brokers and private banks, which have had their abusive practices widely reported over the past decade.
As the baby boomer generation ages, the reverse mortgage industry will grow. Extended life expectancy and increasing health and living expenses may leave more elderly people strapped for cash later in life and far worse off than they expected when planning for retirement. Financial exploitation of seniors through reverse mortgage marketing and sales is likely to increase too. Stay informed so you can successfully represent seniors who fall victim to these largely predatory products.
- Debra Pogrund Stark et al., Complex Decision-Making and Cognitive Aging Call for Enhanced Protection of Seniors Contemplating Reverse Mortgages, 46 Ariz. St. L.J. 299, 301 (2014).
- U.S. Dep’t of Hous. & Urban Dev., FHA Reverse Mortgages (HECMs) for Seniors, www.hud.gov/program_offices/housing/sfh/hecm/hecmabou.
- Mark Miller, Using a Reverse Mortgage to Delay Social Security: Does It Make Sense?, Reuters (Sept. 28, 2017), https://tinyurl.com/y8pxb3gg.
- Consumer Fin. Prot. Bureau, Reverse Mortgages: Report to Congress, 14 (June 28, 2012), https://tinyurl.com/y9zno4lc. (hereinafter CFPB Report to Congress).
- FHA Reverse Mortgages (HECMs) for Seniors, supra note 2. See, e.g., 24 C.F.R. §206.41 (2017); Cal. Civ. Code §1923.2(j) (2017) (lender must provide borrower with a list of no fewer than 10 HUD-approved counseling agencies) and §1923.5 (mandatory counseling worksheet); 765 Ill. Comp. Stat. 945/15 (2017); N.Y. Real Prop. Law §280(2)(g) (2012).
- See CFPB Report to Congress, supra note 4, at 9.
- See 24 C.F.R. §214.100 (2017); Cal. Civ. Code §1923.5(b) (2017). You may also want to do some discovery to determine who funded the mandatory counseling in case the lender did so.
- Cal. Civ. Code §1923.2(k) (2017).
- See, e.g., In the Matter of Doar, 900 N.Y.S.2d 593 (N.Y. Sup. Ct. 2009). We have seen many instances of abuse when the lender has entered into a loan with a person with Alzheimer’s or other forms of dementia who clearly did not have the capacity to enter into the contract. For these situations, if you do not have an elder financial abuse or unfair practices statute in your state, you should consider common law contractual claims.
- 15 U.S.C.A. §1648(a) (2014).
- Donna Rosato, Reforms Come to Reverse Mortgages, Consumer Rep. (Apr. 4, 2016), www.consumerreports.org/personal-finance/reverse-mortgage-reforms/.
- See CFPB Report to Congress, supra note 4, at 8.
- See 12 U.S.C. §1715z-20(n)(1) (2013); Cal. Civ. Code §1923.2(i) (2017); U.S. Dep’t of Justice, Elder Justice Financial Exploitation Statutes, https://tinyurl.com/ycjvjqu6.
- Ray Fazzi, Unsuitable Annuities Tied to Reverse Mortgages, Financial Advisor (July 10, 2009).
- Note that many elder abuse statutes do not include elder financial abuse.
- See, e.g., Colo. Rev. Stat. §26-3.1-101 (2017); Fla. Stat. Ann. §415.102 (2015).
- Cal. Welf. & Inst. Code §15610.30(a), (b) (2017).
- See, e.g., Tex. Hum. Res. Code §48.002(a)(3) (2017) (“Exploitation” means the illegal or improper act or process of a caretaker, family member, or other individual who has an ongoing relationship with an elderly person.”) (emphasis added).
- See, e.g., Ala. Code §38-9-2 (2017); Idaho Code Ann. §39-5302 (2017); Md. Code Ann., Fam. Law §14-101 (2017); N.J. Stat. Ann. §52:27D-407 (2017); S.C. Code Ann. §43-35-10 (2017); Tex. Hum. Res. Code Ann. §48.002; Wash. Rev. Code §74.34.020 (2017).
- See, e.g., Ariz. Rev. Stat. §46-455 (2017); Cal. Welf. & Inst. Code §§15657.5, 15610.30 (2017); Fla. Stat. Ann. §415.1111 (2017).
- See, e.g., Osei v. Countrywide Home Loans, 692 F. Supp. 2d 1240, 1250 (E.D. Cal. 2010) (finding a negligence claim based on lender’s duty of care to make the disclosures required by the Real Estate Settlement Procedures Act).
- See, e.g., MSA Tubular Prods., Inc. v. First Bank & Trust Co., 869 F.2d 1422 (10th Cir. 1989) (lender liable when it negligently handled a credit inquiry concerning a borrower); Nymark v. Heart Fed. Savings & Loan Assn., 283 Cal. Rptr. 53, 58 (Cal. Ct. App. 1991). Those factors may also allow for a breach of good faith claim. See, e.g., KMC Co. v. Irving Trust Co., 757 F.2d 752 (6th Cir. 1985); Wells Fargo Realty Advisors Funding, Inc. v. Uioli, Inc., 872 P.2d 1359 (Colo. Ct. App. 1994).
- See, e.g., Meridian Project Sys., Inc. v. Hardin Constr. Co., LLC, 404 F. Supp. 2d 1214, 1219 (E.D. Cal. 2005) (“It is well-settled in the Ninth Circuit that misrepresentation claims are a species of fraud, which must meet Rule 9(b)’s particularity requirement.”).
- The elements of fraud are misrepresentation (false representation, concealment, or nondisclosure); knowledge of falsity (scienter); intent to defraud (i.e., to induce reliance); justifiable reliance; and resulting damage. Alliance Mortg. Co. v. Rothwell, 44 Cal. Rptr. 2d 352 (Cal. Ct. App. 1995).
- Cal. Civ. Code §3294 (2017); Flores v. CNG Fin. Corp., 45. F. App’x 771 (9th Cir. 2002).
- William L. Stern, Business & Professions Code Section 17200 Practice: Defending Claims Brought Under California’s Unfair Competition and False Advertising Laws (The Rutter Group 2017 Update).
- See, e.g., Williams v. First Gov’t Mortg. & Investors Corp., 176 F.3d 497, 500 (D.C. Cir. 1999); In re First Alliance Mortg. Co., 280 B.R. 246 (C.D. Cal. 2002); Chanoff v. U.S. Surgical Corp., 857 F. Supp. 1011 (D. Conn. 1994); Heastie v. Cmty. Bank of Greater Peoria, 690 F. Supp. 716 (N.D. Ill. 1988); cf. Silvas v. E*Trade Mortg. Co., 514 F.3d 1001, 1008 (9th Cir. 2008).
- There still may be federal question jurisdiction, as discussed in the preemption section.