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Nutter Bank Report, May 2008

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1.  New Massachusetts Foreclosure Relief Law In Effect
2.  Overdraft Protection Rules May Be Tightened
3.  Risk-Based Pricing Notice Is Proposed
4.  Massachusetts Court Broadly Defines Guarantor’s “Default”
5.  Other Developments: Hybrid ARM Illustrations and Regulatory Relief

Full Reports

1.  New Massachusetts Foreclosure Relief Law In Effect

A new Massachusetts law that is designed to provide financially distressed homeowners with foreclosure relief went into effect on May 1.  The Act to Preserve Home Ownership was approved by the Massachusetts Legislature and signed by Governor Patrick in November 2007.  Under the new law, Massachusetts homeowners facing foreclosure are entitled to a 90-day right to cure a payment default.  A foreclosing lender must provide a notice of delinquency to the borrower and then provide 90 days to cure the delinquency.  The 90-day cure period applies to foreclosures initiated on or after May 1, 2008.  Previously, homeowners were only entitled to 30 days notice of foreclosure, and the lender did not have to give the homeowner an opportunity to pay the arrearage, cure the default, and avoid foreclosure.  Attorney General Coakley said that she hopes lenders “will use this cooling off period to engage borrowers, find solutions, and achieve loan modifications that make sense for homeowners, the Commonwealth, and the lenders and investors themselves.”  The new law broadens existing provisions of Massachusetts law that allow the terms of a mortgage loan to be revised by the lender, subject to certain conditions.  The new law specifically allows a variable rate loan to be modified to a fixed rate loan, subject to those conditions, and increases the fee a bank may receive for any revision to the terms of a mortgage loan, including a change from variable rate to fixed rate, from one-half of one percent of the loan amount to one percent of the loan amount. 

Nutter Notes:  In addition to requiring the new notice of delinquency and 90-day right to cure, the new law contains several other provisions designed to address the current foreclosure crisis and mortgage lending abuses that often result in foreclosures.  Among the more significant provisions of the law is a counseling requirement for first-time, sub-prime home loan borrowers.  The counseling requirement prohibits any lender, including a bank, from making a sub-prime home mortgage loan at a variable or adjustable interest rate to a first-time borrower without first obtaining certification from an approved counselor that the borrower has received counseling in person on the advisability of the transaction.  The lender is also prohibited from making a sub-prime home mortgage loan at a variable or adjustable interest rate to a first-time borrower unless the borrower opts in writing for the variable or adjustable rate loan.  Failure to comply with the new law will render the interest rate terms unenforceable and the lender will only be entitled to collect interest at the lesser of the initial interest rate, including any discounted rate, or the current adjusted rate for the life of the loan.  Division of Banks Regulatory Bulletin 1.3-104 provides guidance on how to determine whether a variable or adjustable rate mortgage loan to a first-time home loan borrower qualifies as “subprime” and implements the consumer counseling and affirmative opt-in provisions contained in the new law.

2.  Overdraft Protection Rules May Be Tightened

The Federal Reserve and OTS have jointly proposed rules that would prohibit banks from engaging in certain unfair or deceptive acts or practices in connection with overdraft protection programs.  The proposal published in the Federal Register on May 19 is intended to ensure that consumers understand overdraft protection services and have the choice to avoid the associated costs.  The proposal would make it an unfair act or practice for a bank to assess a fee or charge on a consumer’s account for paying an overdraft unless the bank provides the consumer with the right to opt out of the bank’s payment of overdrafts (including a reasonable opportunity to exercise the opt out), and the consumer does not opt out.  The proposed opt-out right would apply to all transactions that overdraw an account regardless of whether the transaction involves a check, an ATM withdrawal, a recurring payment, a debit card purchase at a point of sale or an automated clearing house transaction.  The proposed rules would also prohibit a bank from assessing an overdraft fee if the overdraft is caused solely by a debit hold placed on funds that exceeds the actual purchase amount of the transaction, unless the purchase amount alone would have caused the overdraft.  Comments on the proposal are due by August 4.

Nutter Notes:  The proposed regulations would require that the opt-out notice be provided to the consumer before the bank assesses any fees in connection with paying an overdraft, and subsequently during or for each statement period in which a fee is imposed (for example, on a notice sent promptly after an overdraft informing the consumer of that fact, or on each periodic statement reflecting an overdraft fee or charge).  The proposal would also require all banks, regardless of whether they promote the payment of overdrafts, to disclose the aggregate costs to the consumer of the overdraft service for the statement period and the calendar year to date.  Under current rules, banks that do not promote their overdraft service are not required to provide aggregate cost information.  Finally, the proposal would require that, when a balance inquiry is made, a bank generally disclose only the amount of funds available for a consumer’s immediate use or withdrawal, without including the amount of any overdraft protection.  This rule would apply to balance inquiries made through any automated system, including, but not limited to, an ATM, Internet web site, and telephone response system.  The bank would be permitted to provide a second balance that includes any additional funds that the bank may advance to cover an overdraft if this fact is also prominently disclosed to the consumer.

3.  Risk-Based Pricing Notice Is Proposed

The Federal Reserve and the Federal Trade Commission released a proposed rule implementing Section 311 of the Fair and Accurate Credit Transactions Act that would require a creditor to provide a consumer with a notice when the creditor engages in risk-based pricing in connection with a credit application.  According to the proposal, risk-based pricing occurs when a creditor uses a consumer’s credit report in setting or adjusting the terms of credit, including price, offered to a particular consumer.  Under the proposed rule, announced on May 8, a creditor would be required to provide a risk-based pricing notice if the creditor uses a consumer’s credit report in determining the material terms of credit offered or sold to a consumer and, based in whole or in part on the consumer’s credit report, offers or provides credit on terms that are materially less favorable than the most favorable terms available to a substantial portion of consumers served by the institution.  The rule would require that the notice contain a statement that the terms of credit offered have been set based on information from a credit report and that the terms may be less favorable than terms offered to consumers with better credit histories, identifying and providing contact information for the consumer reporting agency.  If required, the notice would need to be delivered to the consumer after the credit terms are determined but before the consumer is contractually obligated.  Comments on the proposal are due by August 18.

Nutter Notes:  The proposed rule contains several exemptions under which a creditor would not need to provide a risk-based pricing notice.  The most significant exemption would permit a creditor to avoid providing a risk-based pricing notice if the creditor delivers certain credit score information to all consumers in connection with credit applications, including their own credit scores, the date on which the score was created, the identity of the person who provided the credit score, key factors that adversely affected the consumer’s credit score, and the fact that the consumer’s credit score can affect whether the consumer can obtain credit and what the cost of the credit will be, among other information.  This would allow creditors to provide one form of notice to all consumers based on the type of credit for which they are applying rather than making a determination of whether or not the terms given to a particular customer are materially less favorable than terms given to its other customers.  A creditor would also be exempt from the risk-based pricing notice requirement under certain other situations, such as when the offer to extend credit is a prescreened solicitation and the material terms of the credit offer are fixed at the time the solicitation is made.

4.  Massachusetts Court Broadly Defines Guarantor’s “Default”

The Massachusetts Appeals Court recently required a contingent guarantor to pay the underlying obligation after the primary guarantor was determined to be legally prohibited from doing so.  The April 17 ruling came in a lawsuit brought by a bank to enforce personal guarantees made by the principals of a corporation to support a loan by the bank to the corporation.  The corporation later defaulted on the loan.  The loan documents provided that the loan would be guaranteed by the City of Springfield and by the president and treasurer of the debtor corporation.  The guarantee also stated that the personal guarantees of the corporation’s president and treasurer were “only to be binding if the City of Springfield defaults on its Guaranty and the liability of [the individuals] shall be limited only to the extent the City of Springfield defaults.”  The loan documents also provided that, in the event of a default by the debtor, the bank would proceed first against the city’s guarantee and secondly against the individual guarantors but only “if the City of Springfield is in default” of its guarantee.  When it was discovered that the city’s guarantee was unenforceable, the bank proceeded against the individual guarantors.  The trial court ruled that the bank could not recover from the individual guarantors because their liability was subject to a condition that had not been and could not be satisfied, namely the enforcement of the city’s invalid guarantee.  The Massachusetts Appeals Court reversed, ruling that nonpayment by the city constituted a “default” permitting the bank to proceed against the individual guarantors.

Nutter Notes:  The city’s guarantee was unenforceable because it was not executed in compliance with Chapter 43, Section 29 of the General Laws of Massachusetts, which requires the mayor to approve any contract involving more than $5,000, and a related Springfield city ordinance, which requires the city auditor’s approval of such contracts as well.  In this case, the city auditor had not approved the guarantee and, as a result, it was invalid.  The trial court reasoned that the liability of the individual guarantors was contingent on the city’s default, meaning “failure to perform an enforceable legal contractual duty.” Since the city’s guarantee had been determined to be unenforceable, the trial court concluded that the city could not be in default.  While the court of appeals agreed that the word “default” generally means a failure to perform a legal or contractual duty, the court of appeals held that, in this context, the term “default” may also have been intended to mean, more broadly, any failure to pay by the city as the primary guarantor.  The court of appeals’ decision to apply an alternative interpretation of the term “default” was based on a finding that the “‘chief design’ of the parties’ agreement was to provide additional incentive for the bank to make its loan . . . by imposing liability upon [the corporation’s] principals in the event that neither [the corporation] nor the city paid the full indebtedness.”

5.  Other Developments: Hybrid ARM Illustrations and Regulatory Relief

  • Final Illustrations of Consumer Information for Hybrid ARMS

The federal banking agencies on May 22 issued illustrations to help consumers understand certain hybrid adjustable rate mortgage products.  The illustrations include explanations of some key features of products covered by the agencies’ Statement on Subprime Mortgage Lending, and three charts with examples of the potential payment shock accompanying these types of loans.

Nutter Notes:  Banks are not required to use the illustrations.  Banks may use them, provide other information based on them, or provide consumers with information from the guidance in an alternate format.  The Statement on Subprime Mortgage Lending, which went into effect on July 10, 2007, recommended that banks provide clear, balanced and timely information to consumers about the relative benefits and risks of hybrid ARM products.

  • OCC Releases Final Rule Reducing Regulatory Burden

The OCC released a final rule on April 24 to reduce unnecessary regulatory burden and revise and update various OCC regulations.  The final rule includes alternative means for a national bank to establish control of an operating subsidiary and modifies the standards under which transactions to establish or acquire operating subsidiaries can qualify for after-the-fact notice procedures.  The rule goes into effect on July 1.

Nutter Notes:  The final rule also expands the list of operating subsidiary activities that are permissible upon the filing of an after-the-fact notice.  Other revisions reduce the burden associated with applications for fiduciary powers, intermittent branches, change in bank control notices, and requirements to make certain securities filings.

Nutter Bank Report

Nutter Bank Report is a monthly electronic publication of the Banking and Financial Services Group of the law firm of Nutter McClennen & Fish LLP.  Chambers and Partners, the international law firm rating service, has ranked Nutter’s Banking and Financial Services practice among the top banking practices in the nation in the 2007 Chambers and Partners U.S. rankings.  The “well known and well-versed” Nutter team “excels” at corporate and regulatory banking advice, according to the 2007 Chambers Guide.  Visit the 2007 U.S. rankings at  The Nutter Bank Report is edited by Matthew D. Hanaghan.  Assistance in the preparation of this issue was provided by Lisa M. Jentzen.  The information in this publication is not legal advice.  For further information, contact:

Gene A. Blumenreich 
Tel: (617) 439-2889 

Kenneth F. Ehrlich 
Tel: (617) 439-2989 

Michael K. Krebs
Tel: (617) 439-2288

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