Recent Developments RESPA Section (8) and The Hidden Tiger in the Lighthouse Matter

The anti-kickback provisions of RESPA’s Section 8 have traditionally lived in an opaque, murky pool deep within a dangerous underworld of mortgage lending compliance. Containing a broadly-worded ban on paid referrals, RESPA(8) was purportedly designed to protect the consumer from artificially-inflated closing costs that could exist if settlement service providers were allowed to cross-compensate themselves for referrals of customers for real estate settlement services.

Thus, RESPA(8)(a) states a simple concept: a person or entity may not give, accept, or transfer a fee, kickback, payment, commission, gift, tangible item, special privilege, or any other thing of value to any other person in exchange for a referral of business in a real estate settlement transaction. 12 U.S.C. 2607(a). For similar reasons, RESPA(8)(b) also conveys a prohibitions against sharing in a consumer’ fee unless goods or services of an equal value are provided to the consumer, and prevents one from accepting a fee where no bona fide services are actually performed.

What appears to be a simple matter is deeply complicated, however, by (1) the vague and pliable language of the statute, and (2) the conflicting reasoning of multiple regulators who have issued interpretations of RESPA(8), and (3) the past acts of the industry in hiding bad acts behind creative interpretations of the law, and (4) a series equally vague rulings and enforcement standards announced by a variety of regulators over time – CFPB, HUD, FTC, the Federal Reserve, FDIC, and even state regulators whose offered interpretations of federal laws based upon state-based anti-kickback laws. What has emerged from uncoordinated and overlapping enforcement is a patchwork of interpretations that invites disingenuous attempts to subvert the intent of the statute and its regulation through dangerously myopic interpretations and practices.

The Consumer Financial Protection Bureau announced its primary control of RESPA(8) when it republished Regulation X in 2012, thus taking on jurisdiction for its enforcement in the finance industry. Until recently, that jurisdiction was not regularly invoked, and RESPA(8) appeared to be a topic that was going to remain static under past HUD interpretations.  In 2013, however, the CFPB began winding up to tackle RESPA(8) head on, and since that time the Bureau has become a very active but unpredictable enforcer. As of Q2-2015, nearly 35% of all reported CFPB mortgage-related enforcement actions have focused on RESPA(8), and its overall tally of penalties has swelled significantly as a result.

Nevertheless, the Bureau has yet to provide a comprehensive discussion of its expectations in regard to RESPA(8). Instead, the CFPB has regulated through enforcement, and thereby created its own patchwork of rules that, while consistent in their disdain for transactions between settlement service providers, falls far short of meaningful guidance that the industry may rely upon. The lack of guidance is an unmistakable diversion from the Bureau’s traditional approach, which combines written rulemakings with practical assistance for consumers and the industry. Among the CFPB’s most valued innovations has been its clear and focused methods of communication, which has provided all participants with meaningful advance notice of the consumer’s rights and the Bureau’s expectations, yet that approach was been noticeably abandoned where RESPA(8) is concerned.

In fact, the Bureau has been relatively silent on RESPA(8) until it has detected a violation.  What follows, reportedly, is an intense investigation and discussion period.  Ultimately, the Bureau has typically issued a consent order, some with significant fines – well past $20 million in one case – that could yet prove lethal.  This approach, according to some critics, has created an atmosphere of intimidation and fear in the industry that is inconsistent with the Bureau’s past practices and may be fueling sharp and avoidable criticism of the Bureau. With high-dollar enforcement activities, personal liability for management, and a dearth of regulatory guidance, RESPA(8) is a potential minefield for compliance-minded lenders, Realtors, title companies, and others in the financial services field.

The industry itself is not without blame in this regulatory mire. Increased competition and rampant, uncontrolled growth in a highly lucrative field placed a higher value on production than on ethical conduct. Through misguided creativity and human ingenuity, some participants expended considerable resources to find innovative schemes to disguise referral fees as innocent arms-length transactions. The potential for extra income through improper fee splits and unconscionable profit via the former yield spread premium put active minds to work on engineering marketing services agreements, sham business partnerships, disguised lease agreements, and any number of other vehicles whose primary function was to transmit value between settlement service providers in exchange for referrals. Aided by non-existent, careless, or suppressed compliance standards, some in the industry presented regulators with an endless array of arrangements that were widely varied and very unpredictable.  Thus, the regulators were discouraged from defining the parameters of Section 8 for fear of creating a new bounty of exceptions and loopholes for exploitation.

 

Historical Treatment of Kickbacks; Uncertain Standards and Evasive Activities.

The practice of paying for referrals is common in many less-regulated industries, so it is not surprising that the practice arose in the mortgage services industry fairly early-on. At the root of the arrangement are concepts that are neither surprising nor unique: competition and profit. In a competitive and lucrative industry where the consumer’s choice determines which participants will prosper, the battle for the consumer’s attention is intensified, and the importance of a referral becomes undeniable.

Unlike some other services industries, however, the fungible nature of a single family residential mortgage renders it more susceptible to referral-based business strategies and intensifies the need for a meaningful referral.  Many factors work to flatten the consumer’s perspective of the mortgage industry: the standardization of mortgage terms under the GSE’s and MERS; the low variance among rates and terms among lenders; standardized forms and disclosures under state and federal laws; incessant copt-cat advertising; and the unification of underwriting guidelines under the GSE’s.  As early as the 1960’s, but no doubt by the 1990’s, the mortgage process began to look very much alike from lender to lender.

With less differentiation among products, processes and terms, a consumer’s ability to compare lenders is limited. Even the most seasoned home buyers would typically have less than ten experiences mortgage lenders, thus limiting their pool of knowledge and facilitating discussions from “those in the know,” such as a Realtor or builder, who had more experience and knowledge of lenders and their practices. Not surprisingly, these potential resources knew the value of the referral and could demand compensation for it.

Moreover, market consolidation into the larger lenders led to a further flattening of the landscape, and the resulting consolidation of the daily servicing duties into fewer providers leveled-off the consumer’s ability to ascertain peaks and valleys in the industry.

Lenders who were not rate-and-cost competitive were less able to compete …. unless they were able to form a relationship with someone who could introduce them to the borrower as early (and as persuasively) as possible. Lenders began to build relationships with professionals who encountered the consumer early in the origination cycle – Realtors, builders, relocation experts, large employers, and others who encountered the mortgage-hunting consumer much earlier than the lender – and the paid referral system therefore had a lucrative place in the process.

One step further removed from the consumer was the title agent and title insurer.  These parties, typically engaged only after the lender’s duties were nearing completion, were even further removed from the consumer’s knowledgeable and even more dependent upon a meaningful referral.

According to the regulators’ traditional analysis, an undisclosed referral constitutes a cost to the paying party, which is passed on to the borrower in the form of higher fees, rates, or costs.  Since a referral is typically not disclosed to the buyer but transferred behind the scenes or through vague methods, the regulator’s ability to discover and sanction the arrangement is hindered.  Thus, the legislature and the regulators have taken a hard approach to enforcement by strict enforcing a prohibition on all paid referrals.  RESPA(8) attempts to extinguish the paid referral fee, therefore eliminating the possibility that it would pass to the consumer[1].

Its terms are stated in very broad, expansive terms:

(a) Business referrals. No person shall give and no person shall accept any fee, kickback, or thing of value pursuant to any agreement or understanding, oral or otherwise, that business incident to or a part of a real estate settlement service involving a federally related mortgage loan shall be referred to any person.

(b) Splitting charges

No person shall give and no person shall accept any portion, split, or percentage of any charge made or received for the rendering of a real estate settlement service in connection with a transaction involving a federally related mortgage loan other than for services actually performed.

Despite the simple phrasing of the statute, there has always been a lack of clear, concise regulatory guidance and an inconsistent application of the few standards that have existed. Perhaps this could be attributed to the fact that RESPA was initially interpreted by HUD and enforced by the prudential regulators, a system that would only foster uneven detection standards and varying enforcement results. Regardless, the broad wording of RESPA(8) allows regulators to shoehorn virtually any activity into a violation. Some regulators applied very aggressive standards while others applied none at all. Enforcement of the few existing standards has been scattershot, with regulatory action seemingly occurring at random or worse, being targeted to specific lenders. Those in the industry observed that federally-regulated banks were held to far looser standards than state-regulated non-banks, thus granting a competitive edge to the large banking institutions. The transition of enforcement power from the HUD to the CFPB was designed to bring consistency and clarity to RESPA(8) by consolidating its enforcement into the CFPB, but it has not been that simple.

Defining the Elements of a Violation

The term “thing of value” has been the focus of a peculiar version of statutory construction. Initially interpreted as any “payment, advance, funds, loan, service or other consideration,” the concept was broadened steadily to include virtually any tangible, intangible, actual or theoretical asset of any nature whatsoever. Earlier this year, the Bureau issued the broadest interpretation of “thing of value” yet when it stated that the mere execution of an agreement – not just the performance of it, but its mere execution – was a “thing of value” under RESPA(8). See, CFPB v. Lighthouse, discussed in detail infra.

The term “agreement or understanding” has also had a broad treatment. For there to be an “agreement or understanding,” the regulator need only show the effect of an agreement, and then it may infer that an agreement exists – and thereafter also infer the terms of the agreement. The agreement need not be in writing, need not be formalized, and need not even be verbal. An agreement or understanding can be established by conduct, practice, or effect that occurs at once or over a long period of time.

Settlement service providers have attempted to limit the interpretation of what constitutes a “referral” to no avail. Arguing that the regulator should focus on whether a person “affirmatively influenced” another person to utilize a service, the industry attempted to require regulators to show an actual act that motivated a consumer. Regulators were not moved, however, and found that the mere use of a settlement service provider would be sufficient if the regulator could draw a connection, however tenuous, between the payor and the payee. And that connection did not need to be contemporaneous with the consumer’s choice.

 Foreshadowing the Future – CFPB Treatment of RESPA(8) Diverges from HUD’s Approach

Although the Bureau has been remarkably clear on its expectations in other areas, the CFPB has remained relatively silent on RESPA(8) until very recently. Unfortunately, the Bureau has not set industry expectations, but has advised the industry that it may not rely upon past interpretations of RESPA issued by HUD or other entities.

At the same time, the Bureau has announced the results of enforcement actions conducted confidentially and over long periods of time, thus leaving the industry very uncertain as to RESPA(8). Without advance notice of the Bureau’s intentions or interpretations, and with HUD guidance being tossed out, the industry is left wondering how the Bureau perceives the scope and intent of RESPA(8), how it intends to construe its broad terms in regard to specific activity, and how the Bureau will determine which activities are offensive and which are not.

Further, the [potential parties to the violation include anyone involved in the transaction, even if indirectly. Unlike HUD, the Bureau is prone to naming owners and control personnel as defendants in RESPA(8) actions. Nearly one-half of the RESPA(8)-based enforcement actions have involved claims against those parties (Paul Taylor, Fidelity Mortgage, Amerisave, Borders & Borders and Wells Fargo/Chase, which involved an employee/wife).

This chills lenders, Realtors and others from engaging in otherwise legal marketing and advertising activities on the mere possibility that those activities could be at issue under RESPA(8), increases market consolidation, reduces competition, and leaves the consumer without the ability to poll his/her closest advisors – typically the Realtor – for an opinion on lenders. Highly prudent lenders, Realtors, and builders prohibit all activity and communication abut mortgage lenders, and don’t appear to be willing to advise consumers due to this uncertainty. This leaves the consumer ill-advised, or frequently without advice at all.

It also puts prudent lenders at a distinct disadvantage. The scattershot enforcement of RESPA(8) without an underlying set of expectations creates a “catch me if you can” attitude among unscrupulous lenders. Prudent and compliant, lenders, then, are placed at a significant disadvantage.

Marketing Service Agreements

Marketing service agreements are widely used in the mortgage lending industry, and take a wide variety of forms. Ranging from web banner advertisements, signage, share lead referral arrangements, and the inclusion of the lender in a Realtor’s home buying guide, these marketing services are intended to be a means of putting the lender’s information in from of the consumer in exchange for a fair and reasonable services fee. The fee paid is purportedly based upon the market value of the services actually performed, and is not based upon the value of business that may be referred between the parties.

Although these agreements are widely used in the industry, they are not contemplated by RESPA and are not specifically treated anywhere in the statute, the regulation, the official commentary, or the legislative history. Thus, industry participants relying on marketing service agreements have traditionally done so with very thin support for the concept.

In 2010, HUD issued guidance confirming that a lender does not violate RESPA(8)(c)(2) by paying a potential business referral source for advertising and marketing services that do not involve direct-to-consumer solicitations, provided that the payment is reflective of fair market value of the services actually performed.   This announcement ratified a long-held belief that RESPA (8)(c)(2) did not intend to prohibit bona fide payments between parties for non-referral-based business.

Although the CFPB has not issued much guidance concerning its intentions with RESPA(8), the Bureau has been extremely active with its enforcement activities. The CFPB’s activity in this area has created considerable confusion – and even more considerable danger – in regard to all MSA’s. In sum, the CFPB has indicated that it will not necessarily follow the interpretations issued by HUD. Until such time as the CFPB issues guidance in regard to which interpretations it agrees with, settlement service providers relying on the HUD rulings do so at their own peril. Moreover, settlement service providers transferring value to any other settlement service provider under any circumstances are at risk of finding themselves on the wrong side of a CFPB inquiry.

Lighthouse.

On September 30, 2014, the CFPB announced a Consent Order in an ongoing investigation into the MSA’s of Lighthouse Title, Inc., a Michigan-based title insurance company.

According to the Consent Order, Lighthouse entered into at least one marketing service agreement that operated as a disguised arrangement to transfer value to a referred of title insurance business. The Consent Order went to unusual lengths to express the attitude of the Bureau in regard to marketing service agreements (“MSA’s”) in a manner that was curiously generic for a Consent Order that applied only to a single entity.

In light of the fact that the Bureau did not refer to any prior HUD rulings on MSA’s, the Bureau implied that it would create its own interpretation of RESPA(8) without reliance on HUD’s interpretive rules. This leaves settlement service providers in a dangerous spot. On the one hand, the Bureau has made it clear that it will judge activity as either appropriate or inappropriate and issue significant fines, but the Bureau has not published a revised Proposed Rule or meaningful guidance on the limits of RESPA(8). At the same time, the Bureau has cleared the slate of any past guidance that the industry had relied upon for decades, leaving RESPA(8) in a state of flux. Lenders cannot know whether the Bureau will agree with their interpretation of the terms of RESPA(8), and runs a tremendous risk of a heavy fine for every business-to-business marketing activity that they undertake.

In Lighthouse, the Bureau did not agree with Lighthouse’s interpretation of RESPA(8), and the title company paid a heavy price for it. The consent order states that Lighthouse maintained MSA’s that were entered into with the implied or unwritten “agreement or understanding” that that the party being paid for the marketing services would refer closings and title insurance business to Lighthouse once it entered into the MS and began making payments. Reasoning that referrals would go to the highest bidder, Lighthouse entered into an MSA with the intention of capturing all of the referrals emanating from that referral source.

The parties did not determine a fair market value of the marketing services, and did not document how the parties arrived at the monthly amounts paid under the agreements other than to take into account the number of referrals that Lighthouse expected to receive from the referrer once the payments began, and (2) the amount that other title agencies were willing to pay for the ability to enter into the marketing agreement in the place of Lighthouse. To make matters worse, the parties did not follow up to document the services that were actually performed but instead made equal monthly payments to the other parties without any supporting documentation. Finally, the Bureau found that Lighthouse received more referrals from the counterparties after the MSA’s were executed, and cited this as evidence that payments for referrals were actually occurring[2].

The CFPB found this arrangement to be a sham. Because the true purpose of the payment was to provide value in exchange for referrals, the Bureau applied a “substance over form” analysis to look past the ostensible quid pro quo arrangement and instead found a cover-up of illegal activity.

The Bureau issued a low fine ($200,000) in light of the fact that Lighthouse self-reported the activity to the Bureau.   Lighthouse also agreed to document all exchanges of value in excess of $5 with persons in a position to refer settlement service business, and to terminate all MSAs, and to never again engage in an MSA. Finally, Lighthouse agreed to maintain records demonstrating compliance with the consent order for a five-year period, and agreed to submit to ongoing compliance monitoring by the CFPB.

Even under the old HUD interpretive rules, the activities of Lighthouse would have been highly suspect. But the CFPB’s Consent Order did more than just ignore the HUD interpretive rules: it went so far as to conflict with the HUD rules without a discussion as to how, why or to what extent the Bureau was changing the HUD Interpretive Rules.

For example, would Lighthouse’s activities been permissible if it had valued the assets and paid true value for goods or services actually obtained? The CFPB did not address this question or analyze any of the exceptions in RESPA(8)(c). Nor did the CFPB provide any guidance as to how any lender could conceivably document “fair market value”[3].

What the CFPB did address in the Consent Order is as disturbing as whet it did not address. The Bureau classifies a contract as a “thing of value” that would support a RESPA(8) violation “even if the if the fees paid under that contract are fair market value for the goods and services actually rendered and performed.” Thus, the mere entry of an agreement will trigger RESPA(8) concerns, regardless of the terms of the agreement.

If the mere entering of a contract triggers a RESPA(8) violation, then one could easily argue that all MSA’s are per se illegal and may not exist under the statute. If that was the Bureau’s intent, then legal scholars would raise great issue with that ruling (see, Phillip L. Schulman, CFPB Weighs In on Marketing Service Agreements, K&L Gates 2015), and suggest that it eviscerates the meaning and intent of the regulation by turning it into a strict liability statute. Further, the exceptions of RESPA(8)(c) would be rendered useless by this interpretation, something that would not follow basic rules of statutory construction.

Under RESPA 8(c), parties may exchange value for goods and services actually received, and doing so requires a contract. In fact, without a contract, the parties are unable to show that actual value was exchanged on an even basis because the contract will state all of the terms of the exchange, including value and consideration. Yet under the Bureau’s ruling, the mere act of documenting an 8(c) exemption automatically voids the 8(c) exemption and requires liability under the statute.

Lighthouse, for its sake, recently stated that it believed that it had complied with the HUD rulings throughout the affair and should therefore be insulated from an enforcement action that announces new rules.  The matter is pending on appeal, but what is clear from Lighthouse is that the title company failed to meet the unwritten and unknonw standards of the CFPB:

  1. Failure to Document Fair Market Value. Lighthouse’s failure to determine the value of the services being performed meant, per se, that any payment made for those services could not be reflective of the value of the services. If a lender or other settlements service provider is a party to any MSA, they should ensure that the services are valued and that payment reflects the value.
  2. Failure to Document Methodology. The Order made it clear that the documentation of what constitutes fair market value will mean little to the Bureau unless it contains the parameters that the parties used to determine “market value.” Merely stating an opinion is insufficient, and the parties will need to provide some level of objective measurement that does not take into account the value or number of referrals or what other settlement service providers would be willing to pay.
  3. Settlement service providers must measure the services actually being performed and adjust monthly payments based upon the actual services. An MSA that obligates one party to pay a “flat fee” for marketing services would be immediately suspect, and the parties would be under a burden to prove that the exact same marketing services were performed every month, and that the value of those services did not fluctuate at all throughout the month. Such a showing would be difficult at best.

Shared advertising is a concept similar to that of a MSA, and was allowed by HUD under limited circumstances. In a non-binding FAQ document, HUD advised that RESPA will allow joint advertising so long as each party pays a pro-rata share of the costs. HUD provided the example of a brochure produced to feature a lender and a Realtor. If the Realtor occupied the front page and the lender occupied the back page, then the parties would be allowed to share the cost 50-50.

As yet, the CFPB has not provided its interpretation of this concept, but given the strict standards employed in Lighthouse, one can easily surmise that the Bureau will not treat shared advertising lightly. Should the Bureau even allow the advertising costs to be shared, lenders and Relators should be prepared to meticulously document the manner in which the pro-rata share was determined and show that each party paid exactly their share – not a penny more or less. Parties who do not have clear and meticulous documentation can expect severe fines and penalties from the Bureau.

What then of the popular Zillow and related referral-based websites? Again, the CFPB has not issued an opinion or brought an enforcement action, but it has been widely acknowledged that some parties have used Whistleblower protections to report that lenders have habitually paid a larger portion of the costs than would be allowed under the HUD interpretation, and are unable to show that they have received – much less made us of – the referrals and other benefits of the Zillow system.

 

Brief Survey of Other RESPA(8) Actions

Wells Fargo/Chase

In an action against two major mortgage lenders, the CFPB alleged that a third party title company sold leads to the banks’ loan officers at a discount, and then defrayed the marketing expenses of those loan officers by sending mailers and creating flyers on their behalf. In exchange, the loan officers are alleged to have directed referrals to the title company.

The activity was widespread – over 100 loan officers in 18 Maryland/Virginia branches engaged in the practice. Wells Fargo turned a blind eye to the activity and ignored multiple reports from third parties. Further, the bank failed to install a compliance management tool that would detect, report and remediate the activity.

One loan originator received marketing materials in exchange for referrals, and cash payments were made to his girlfriend in an effort to disguise the kickback nature of the payment.

On the surface, this is a classic RESPA(8) action. Even prior to the HUD interpretive rulings, the industry was settled on the concept that a settlement service provider may not provide discounts or defray the expenses of other settlement service providers in exchange for referrals. What is unusual is the extent of the CFPB’s retributory actions:

  • Joint enforcement action with State of Maryland
  • $10.8M in restitution – Wells
  • $24M in Civil Money Penalties – Wells
  • $300,000 Restitution – Chase
  • $600,000 Civil Money Penalties – Chase
  • $30,000 restitution & penalties – Loan officer from Chase and his girlfriend
  • Two year ban from mortgage industry – Loan Officer
  • Third mortgage lender who self-reported conduct and terminated loan officers not prosecuted

AmeriSave

The lender’s late disclosure of its affiliation with a settlement service provider resulted in a $14.8M refund to consumers, a $4.5M civil money penalty, and a $1.5M civil money penalty against managers who were responsible for the conduct.

RealtySouth / Title South

Realtor brokerage encouraged or required consumers to use its affiliated closing agent, TitleSouth. The real estate contract provided to consumers contained language that did not offer consumers a choice as to the closing agent. Finding this to be a deceptive practice and a RESPA(8) violation, the CFPB issued a $500,000 civil money penalty.

New Day Financial.

On February 10 2015, the CFPB announced a new Consent Order involving RESPA(8)’s prohibition against kickbacks and unearned fees. In that matter, mortgage lender New Day Financial, LLC paid a $2,000,000 penalty for entering into an agreement to pay “licensing fees” and “lead generating fees” to a nonprofit organization in exchange for that organization’s referral services.

 

HUD’s Reversal

In September of 2014, it was revealed that HUD had changed its interpretation of RESPA(8) to come closer to that of the CFPB. A report of from the HUD OIG revealed that HUD had found Cornerstone Mortgage guilty of a RESPA(8) violation for operating under a MSA that required a Realtor to provide brochures, flyers and other marketing materials at the Realtor’s office. The report focused on four key elements:

  1. The arrangement was exclusive to the lender
  2. The Realtor was asked to direct potential clients to the lender’s on-site staff
  3. Payments actually made to the Realtor were higher than that called for in the agreement, and
  4. The lender had a variety of these agreements which were treated inconsistently.

The OIG found that these agreements operated to restrict the consumer from exercising free choice and shopping rights, and recommended that the lender, its owner, and its managers be disqualified from conducting future mortgage origination activity. The OIG also recommended that the Realtors involved be barred from activity in the real estate market.

Fidelity Mortgage Corp.

Prior to the rise of MSA’s, many lenders rented office space from Realtors, purportedly to make themselves convenient for any consumer who might happen to need mortgage services when in the Realtor’s offices. In exchange for market rate rental payments, lenders would obtain an office and related equipment in a scenario that appeared to be a landlord-tenant arrangement. In a non-binding interpretive letter, HUD advised that the leases would be appropriate under RESPA(8) if they reflected true market value for the premises.

CFPB agreed when it examined Fidelity Mortgage Corporation. In that case, a St. Louis settlement service provider agreed to rent space inside a bank. Rent was based upon revenues received from the bank, and did not actually occupy the space at the bank on a regular basis. Rent fluctuated as referrals did, but averaged $1,350 per month.

The Bureau determined that fair market rent for the premises would be only $600 to $900 per month, and the excess was a disguised referral fee. Because the payor self-reported the activity, the CFPB issued a reduced fine of $27,076 in refunds and $54,000 in civil money penalties, and held the owner of the company liable for the situation as well.

Lingering Dangers for Nondepositories

While the Consent Orders examined above are limited to the investigations of the Bureau and the fines paid to the Bureau, the effects of these investigations can be wide-ranging and devastating upon mortgage lenders, especially non-depositories. The non-depository, without deposits or other customer assets against which to leverage mortgage funding, is dependent upon their relationships with warehouse lenders for the lines of credit necessary to fund loans. They are equally reliant on third party investors or GSE’s for sale and delivery of their loans on the secondary market.

The non-depository that is found to have engaged in illegal, deceptive, wrongful or improper activity typically finds itself in breach of its warranties and covenants to these business partners when illegal activity is determined to have occurred, and not when the ruling was issued. In order to continue the relationships that keep its business alive and avoid a potential avalanche of claims related to breaches of warranties/representations, the non-depository on the wrong end of a RESPA(8) violation must justify its business ethics and rehabilitate its reputation in the face of a damaging finding that touches on criminal liability and deecptive practies. The loss of any one of these relationships could be lethal to the business, and therefore a RESPA(8) sanction could end the existence of an unprepared nondepository.

Community lenders who rely heavily on their local relationships and reputations may suffer irreparable damage when found to have engaged in nefarious activity that RESPA(8) implies. At the very least, they hand their competitors tools to differentiate themselves from the lenders who has been found guilty of a RESPA(8) violation.

Further, a fine – even one that is “relatively light” at $200,000 – has a far greater impact on the non-depository than other lenders. With the exception of a few years between 2011 and 2013, the mortgage market has been depressed since 2009, and non-depositories are having to exist without the same level of savings to act as a sinking fund or safety net.

And what of other regulators? As yet, there has been no known state or federal regulatory investigation conducted on the heels of a CFPB Consent Order, but the possibility for a “pile on” exists by virtue of the numerous statutes and regulations calling for ethical and honest conduct. These rules, which are in addition to and not in substitution of, RESPA, would provide the states, among others, with the opportunity to eliminate a license in the event that the licensee presents a significant danger to the state’s consumers.

An Order that places the licensee in the position of conducting potentially felonious activity conceivably triggers these rules. If the licensee does not engage the state regulators and other parties who may have an interest in the matter (FTC, HUD, Departments of Insurance, Attorneys General, etc.), there is a possibility that the licensee could satisfy the Bureau and yet still face significant fines and penalties from these other entities. In the case of a Consent Order, the licensee has admitted to the activity, which might relieve these other entities from even having to conduct an investigation.

 

Will The Courts Intervene?

Even if the CFPB eventually fulfills its mission of bringing uniformity and certainty to the regulatory landscape, the Courts may nevertheless change the playing field. In November of 2014, the U.S. Supreme Court denied Certiorari in a case that sought to address a conviction under a provision of the Securities and Exchange Act of 1934 that was very much like RESPA(8). In Whitman v. United States, 574 U.S. __, 135 S. Ct. 352 (2014) 574 U.S. __, 135 S. Ct. 352 (2014), the Court was asked to review a conviction under Section 10(b) of the Act, which makes it unlawful to “use or employ, in connection with the purchase or sale of any security …, any manipulative or deceptive device or contrivance in contravention of such rules or regulations” that the SEC issues as “necessary or appropriate in the public interest or for the protection of investors.”

Like RESPA(8), Section 10(b) carries both civil and criminal penalties, and is written in exceedingly broad terms. Also like RESPA(8), Section 10(b) has a long history of vague standards, unequal enforcement, and conflicting standards that are allowed to exist due to the broad wording of the statute. The long-standing Chevron doctrine of judicial deference to agency interpretations of the laws under their jurisdiction would typically prevent courts from a deep review of those interpretations, or to issue their own guidance. See, Chevron U. S. A. Inc. v. Natural Resources Defense Council, Inc., 467 U. S. 837 (1984).

But Whitman suggests that even Chevron may have its limits, especially where broad statutes contain both civil and criminal penalties. Pointing out that a vague statute or regulation may allow regulators to create or extinguish crimes based upon their varying interpretations, Justice Scalia stated that regulators, as “unelected officials,” lack the power to regulate in a manner that expands the scope or reach of a statute:

With deference to agency interpretations of statutory provisions to which criminal prohibitions are attached, federal administrators can in effect create (and uncreate) new crimes at will, so long as they do not roam beyond ambiguities that the laws contain. Undoubtedly Congress may make it a crime to violate a regulation, see United States v. Grimaud, 220 U. S. 506, 519 (1911), but it is quite a different matter for Congress to give agencies— let alone for us to presume that Congress gave agencies— power to resolve ambiguities in criminal legislation, see Carter v. Welles-Bowen Realty, Inc., 736 F. 3d 722, 733 (CA6 2013) (Sutton, J., concurring).

 

In other words, the regulator that defines and enforces illegal activity is the first-last-and-only voice in determining what is prohibited, and eschews the checks-and-balances system of our federal government. The danger of an unchecked system is enhanced exponentially when the regulator refuses to clearly define the limits of allowable activity and leaves citizens guessing as to whether their activities are compliant.

It can be no accident that Justice Scalia relied upon Carter when requesting a case involving vague statues that allow regulators to define and apply the vague terms of a statute. In Carter, the Sixth Circuit held that

Thusly, Justice Scalia has clearly invited mortgage industry compliance officers to the Supreme Court. Those compliance officers have struggled for decades with uncertain guidance in regard to RESPA(8), as well as varying standards, changing regulators, and a void of If the Bureau (or HUD, or the states) may define the limits of RESPA(8) and then have the authority for enforcing RESPA(8), and then enforce its provisions, and yet may enforce its civil and criminal provisions of RESPA(8) with, how may a compliance-oriented citizen be certain that any activity is safe?

Until the regulators clarify the limits of RESPA(8), or until Supreme Court is presented with a challenge to RESPA(8)’s framework, compliance officers will deal with the patchwork of interpretive authority and the uncertainty that comes with it. The implicit overturning of the prior HUD interpretive provisions sends this issue back more than 30 years, and leaves the industry with only one certainty: The Bureau will “know a violation when it sees it.”

 

For Further Discussion:

 

What of the PHH Case and the Director’s decision to not only reject the findings of the oversight team, but then to substantially increase the fine as a result? Does this activity run contratry to the concept of transparency and openness in our industry, or does it “punish” a lender for exercising its legal rights?

What is the proper course of the Bureau to charter when enforcing RESPA(8)?

Should the Bureau be required to show an injury the consumer, such as increased cost or suppressed choice, before a RESPA(8) violation can be found?

Do the recent changes in the mortgage market effectively address the concerns of RESPA(8), or do the market changes increase the need for RESPA(8)?

Is there data to show that referral fees necessarily lead to increased costs or market manipulation in a marketplace that is consolidating and as reduced opportunities for competition?

Has the Bureau’s past practice of “regulation by enforcement” provided the industry with adequate tools with which to analyze their activity?

Is the Bureau’s treatment of RESPA(8) inconsistent with its treatment of other important regulations, or should the Bureau issue more thorough interpretive guidance?

 

Has the Bureau successfully brought certainty to the regulatory framework where RESPA(8) is concerned?

Does the Bureau have the last word in defining the limits of civil or criminal activity that would be implicated under RESPA(8)?

 

——————–

Footnotes

——————–

[1] FN: This writing does not tackle the issue of whether the paid referral necessarily results in tangibly increased consumer costs, a fact that seems to be commonly accepted by rarely proven or shown in measurable terms. Should the reader desire to explore this issue, I would be very interested in assisting the study.

[2] The Bureau did not consider this to be evidence that actual marketing services were being performed effectively.

[3] Perhaps the Bureau did not bother to provide this analysis because it believes that the practice cannot be justified under RESPA and therefore defining the limits of an exception would be pointless.