Wednesday, November 30, 2005

ARM Litigation

Well, that was fast.  Last month I had a post in which I suggested that interest-only ARMs would be the source of the next class action boom.  Yesterday's Wall Street Journal had a story by Ruth Simon (subscription required) on what may be the first of many such class actions involving option ARMs, a similar type of mortgage that used a teaser rate to keep payments low in the first year:

In a lawsuit seeking class-action status filed in U.S. District Court in Milwaukee earlier this year, the Andrews allege that their lender, Chevy Chase Bank, violated the federal Truth-In-Lending Act by misleading borrowers into thinking they were getting rates lower than those actually charged. There are "deceptive disclosures," says Kevin Demet, an attorney representing the Andrews.

In a written response to questions about the lawsuit, Robert D. Broeksmit, president and chief executive of Chevy Chase Bank's mortgage lending unit, says the company offers option ARMs "only to affluent borrowers who use its various payment features to manage their cash flow intelligently." He says the bank makes "every effort to ensure that all of our customers understand the loan product they choose." This includes providing a "one page, large print, plain English flyer, which the borrower signs, which clearly states that the loan has a monthly adjustable interest rate," he says.

Other lawsuits are likely, particularly if interest rates rise and housing values level off or fall, says Paul F. Hancock, a partner with the Miami office of law firm Hogan & Hartson. "The most likely claim will be a consumer-protection claim ... [that borrowers] weren't properly informed or were sold a product that wasn't suited to them," he says. Mr. Hancock says the risks of option ARMs and other exotic loan products are getting more attention both from lenders and consumer advocates.

Ben Barros

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I am sticking with my comment from the previous post:

Second, the title of your article suggests that the problem is IO mortgages, but your example is an ARM. These products have been on the market for years, and have not yet resulted in the type of litigation predicted. I am skeptical that a lending institution that made the required TILA disclosures could be mulcted for having failed to disclose more.

Posted by: Robert Schwartz | Nov 30, 2005 6:04:49 PM

Again, fair enough. But my point was that the interest-only feature makes an ARM much more risky. Same thing with an option ARM. I'm not sure the required disclosures cover the lenders from the obligation to disclose this additional risk. Perhaps the reason these haven't yet resulted in a lot of lawsuits is due to a combination of (a) declining, not increasing, interest rates; (b) increasing, not decreasing, housing prices and (c) the fact that these hybrid mortgages have only become popular in the last few years. My original post was motivated by my perception that some lenders are selling interest-only ARMs to people who should have another type of mortgage. The issue of whether the required disclosures will protect the lenders is an interesting one. But I represented a lot of clients who made what appeared to be good technical disclosures but who ended up paying out a lot of money. It sucks being a corporate defendant in a consumer class action.

Posted by: Ben Barros | Dec 1, 2005 6:55:42 AM

Mr. Schwartz writes "These products have been on the market for years, and have not yet resulted in the type of litigation predicted."

His statement is correct, however payment option ARMs were previously offered exclusively as 'executive loans' to self employed individuals with good, but sporadic cash flow. Now lenders are offering IO loans to average Joe. While I cannot speak to the potential for litigation, I can say that in the last two years, originations of this loan type grow by orders of magnitude. Interest only loans are analogous to fast food; it serves the purpose as food, but is wholly unhealthy for the individual and the public in general. I am a former mortgage executive check out my blog on this topic.

Posted by: Renegade Banker | May 21, 2006 12:43:50 PM

To discuss your TILA cause of action, I can be reached at:

Kevin J. Demet
Attorney at Law
Demet & Demet SC
815 North Cass Street
Milwaukee, Wisconsin 53202
414-291-9560 fax

At a minimum, I will need to see your Truth in Lending Disclosure Statment and your adjustable rate note.

Posted by: Atty. Kevin Demet | Aug 1, 2006 2:12:41 PM

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