A series of events that could dramatically alter the way loan origination and other settlement services are priced in this country are in motion in the courts, The events, involving lender payments to mortgage brokers of yield-spread premiums (YSPs), began in June 2001 when the 11th Circuit Court of Appeals rejected the lenders' position in Culpepper v. Irwin Mortgage Corporation (Culpepper III).1The developments that followed are summarized in this article.
 
Background. Probably the most significant claim made in class-action lawsuits against residential mortgage lenders in recent years is that the lenders' practice of paying yield-spread premiums (YSPs) to mortgage brokers in amounts derived from rate sheets constitutes the payment of illegal referral fees under the Real Estate Settlement Procedures Act Section 8(a). Until June 2001 it appeared that lenders were well on their way to defeating these challenges, of which more than 150 were filed nationwide.2 Primarily, lenders were successful in arguing that the nature of these cases made them inappropriate for class treatment.
 
Culpepper III. The rosy outlook for lenders changed significantly on June 15, 2001, when the 11 th Circuit Court of Appeals issued its decision in Culpepper III. In this decision, the 11th Circuit upheld class certification of a YSP case based on its interpretation of the first part of the two-part test established by the Department of Housing and Urban Development in its March 1, 1999, Broker Fee Policy Statement (Policy Statement I) to determine the legality of YSP payments under RESPA.3 That interpretation was that a YSP is illegal if it can be demonstrated that the YSP, considered apart from any other compensation the broker might receive in the transaction, was not paid specifically in return for service. Because plaintiffs were then able to convince the court that such a result could follow from evidence - common to all class members - suggesting that whether a YSP is paid and how much of a YSP is paid depends entirely on whether the loan is above par and by how much, the court concluded that class treatment was appropriate.
 
HUD Policy Statement II. All was not lost for lenders, however, as HUD subsequently issued a new policy statement "correcting" the 11th Circuit's misinterpretation of HUD's two-part test (Policy Statement II).4 This clarification by HUD may prove to be the silver bullet lenders have needed to shoot down plaintiffs' YSP class-action challenges for good. The 11th Circuit read Policy Statement I to mean that each component of broker compensation (including a YSP) must be tested separately to determine (1) whether it was paid in return for some specific service and (2) whether it was reasonable in amount in relation to that specific service. In Policy Statement II, HUD now confirms that the 11th Circuit's approach was incorrect; rather, a YSP is not illegal under Section 8 of RESPA if it can be shown that (1) (at least a threshold level of) services were performed in return for the total compensation received by the broker from all sources and (2) the total compensation was reasonable in relation to those services.
 
HUD's position is that in order to discern whether a yield-spread premium was for goods, facilities, or services under the first part of the HUD test, it is necessary to look at each transaction individually, including examining all of the goods or facilities provided or services performed by the broker in the transaction, whether the goods, facilities, or services are paid for by the
borrower, the lender, or partly by both.
 
[N]either Section 8(a) of RESPA nor [Policy Statement I] supports the conclusion that a yield-spread premium can be presumed to be a referral fee based solely upon the fact that the lender pays the broker a yield-spread premium that is based upon a rate sheet, or because the lender does not have specific knowledge of what services the broker has performed.
 
Recognizing, however, that in certain circumstances - particularly in noncompetitive markets - YSPs can be used in a way that is harmful rather than helpful to consumers' interests, HUD specifically recommends in Policy Statement 11, as a "best practice," that meaningful disclosure concerning YSP payments be given to borrowers before they apply for loans. HUD further indicates that it will consider such disclosures favorably when determining whether or not to pursue enforcement action in cases involving mortgage broker fees.
 
What is "meaningful disclosure" concerning YSPs? In HUD's view, meaningful disclosure includes disclosure of the specific services the broker will perform, the amount of the broker's total compensation for performing those services (including any YSP to be paid by the lender), whether or not the broker has an agency or fiduciary relationship with the borrower, and an explanation of the borrowers' options vis-d-vis paying less to the broker up front in exchange for a higher interest rate on the loan and vice versa.
 
Eighth Circuit follows HUD's lead. When Culpepper III was decided, a similar appeal from a federal district court grant of class certification in a YSP matter was pending in the 8th Circuit Court of Appeals. To the great relief of those in mortgage loan origination business, that appeal (Glover v. Standard Federal Bank) was finally decided on March 21, 2002, and reached the opposite conclusion of the 11 th Circuit in Culpepper 111.'
 
The first issue of importance addressed by the 8th Circuit was whether and how much deference it should afford HUD's interpretation of RESPA Section 8(a) in the context of YSPs as set forth in Policy Statement II. Finding both RESPA Section 8(a) and Regulation X ambiguous concerning the legality of YSPs, the 8th Circuit determined that it must give controlling weight to HUD's interpretation of its own regulation "unless it is plainly erroneous or inconsistent with the regulation."6 It then concluded that the policy statements (both I and II) were neither plainly erroneous nor inconsistent with the regulation, and, even if they should have been afforded less deference, nevertheless "pack sufficient power to persuade [that HUD's two-part test is fully consistent with RESPA] given HUD's specialized mission, experience, and broad investigation into the consumer lending market."7
 
Of particular importance is the court's unqualified statement that
 
[A] lender's reliance on a rate sheet to uniformly offer and calculate a YSP payable to a broker does not, without more, mean that class certification is appropriate. Nor does it mean that you can presume that each payment reflects payment of a prohibited referral fee simply because the lender does not have specific knowledge of the nature and amount of service the broker performs in conjunction with a particular loan or group of loans.8
 
Finally, the court rejected the notion that the HUD test leaves plaintiffs unprotected. The court observed that if plaintiffs can establish that the broker provided no compensable services, a violation is probably made out-, if not, plaintiffs can still establish entitlement to damages if they can show that any part of the total payment to the borrower, including the YSP, is excessive. As
stated by the court:
 
if total compensation paid by the tender to the broker in a given transaction exceeds a reasonable amount for the goods, services, and facilities provided, it is likely that a RESPA violation has been established. American courts have accurately and fairly determined reasonability in similar situations since their inception, and they will do so in the Glovers' case, if necessary.9
 
The court added that the availability of class actions is not necessary to protect consumers because RESPA gives them a right to collect not only damages but attorney's fees and court costs as well.
 
The Bjustrom variation. A variation on the typical YSP allegation, which was first raised in a class-action lawsuit filed in Washington federal district court, presents a slightly different problem for lenders. In Bjustrom v. Trust One Mortgage Corp.,10 the plaintiff alleged that the defendant, Trust One Mortgage Corp., violated RESPA by charging closing fees in excess of 1 percent on Federal Housing Administration mortgage loans. The plaintiff provided evidence in the form of regulations, directives, and other authority that supported the plaintiff's assertion that the total fees that a tender can charge and collect on an FHA loan may not exceed I percent of the principal amount of the loan.11 In granting class certification (prior to Culpepper III), the district court acknowledged that most courts interpreting the HUD policy statement had concluded that claims of RESPA violations for paying YSPs were no longer susceptible to classwide certification. The court believed that this case was distinguishable because none of the plaintiffs in those cases challenged the YSPs on the grounds that they violated the FHA 1 percent limitation or argued that the charging of a YSP was unreasonable because the aggregate fees charged exceeded the 1 percent limitation.
 
Despite losing this battle, Trust One eventually won the war when, on October 26, 2001, it obtained summary judgment in its favor.12 The district court found that, based on HUD's tacit accepLance of YSPs disclosed over many years on millions of HUD-1 Uniform Settlement Statements, the FHA 1 percent origination fee cap was not intended to include back-end compensation, such as YSPs. The court therefore dismissed the previously certified contract class, as well as the RESPA subclass, but implored HUD/FHA to issue an official statement on the issue (presumably a mortgagee letter) and suggested that the court of appeals immediately review its ruling.
 
Looking at the larger issue concerning the legality of YSPs generally the court expressed skepticism on HUD's position in Policy Statement II:
 
By effectively closing off class-action litigation, HUD forces potentially thousands of consumers to individually litigate their claims regarding a few thousand dollars, an unlikely proposition.13
 
Nevertheless, the court was compelled to defer to that position as a permissible interpretation of RESPA Section 8(a).
 
Discounted Packages/Upcharges
 
The 11th Circuit's decision in Culpepper III and the ensuing pressure on HUD to remedy the situation had another quite different impact on the mortgage lending industry. This impact concerns some settlement service providers' practice of "upcharging" for settlement services obtained from third parties. To put this in context, several court challenges to such a practice have been raised, the most recent of which was rejected by the 7th Circuit Court of Appeals in Echevarria v. Chicago Title and Trust Company, decided shortly after Culpepper Ill.14
 
In Echevarria, the plaintiffs alleged a violation of RESPA Section 8(b) because the defendant, Chicago Title & Trust Company (Chicago Title), collected recording fees in excess of the charge imposed by the county recorder's office and pocketed the difference. The 7th Circuit Court of Appeals affirmed the lower court's decision, dismissing plaintiff's RESPA, as well as state law, claims. Despite opinion letters and other informal statements issued by HUD to the contrary (which the court said it was "extraordinarily reluctant" to follow),15 the court concluded that for a violation of Section 8(b) to occur, a third party must share in the unearned fee. The court then found that Chicago Title did not share the unearned fee with a third party.
 
Other courts have struggled with this issue before Echevarria. For example, late last year in Christakos v. Intercounty Title Company,16 an Illinois district court granted class certification in an upcharge case. Plaintiffs alleged in Christakos that their duplicate payment of a fee to both Intercounty Title and Mellon Mortgage Company (Mellon) to record the cancellation of their
paid-off mortgage violated Section 8 of RESPA. (Intercounty never recorded the release of the Mellon mortgage and refunded only the amount it collected from the plaintiff after the plaintiff had initiated the action.) The court determined that while Mellon may have "unwittingly" shared in the total charge paid by the plaintiff, that charge represented a fee to Mellon for recording of
the release and a fee to Intercounty in return for no services actually performed. The court viewed the plain language of RESPA as being broad enough to cover a situation in which a borrower pays two amounts to two parties for the exact same service, one of whom performs the service, and the other of whom receives the unearned fee while providing no service whatsoever.
 
With the Echevarria decision clearly stuck in its craw, HUD used Policy Statement II as a vehicle to officially weigh in on the upcharge issue. In Policy Statement II, therefore, in addition to restating its position on YSR HUD took the opportunity to state that in its view Section 8(b) prohibits all unearned fees, including where (1) two or more persons split a fee for settlement services, any portion of which is unearned; (2) one settlement service provider marks up the cost of the services performed or goods provided by another settlement service provider without providing additional "actual, necessary, and distinct" services, goods, or facilities to justify the additional charge-, and (3) one settlement service provider charges the consumer a fee for no, nominal, or duplicative work or that exceeds the reasonable value of the goods or facilities provided or the services performed.17
 
Bank regulators recognize Echevarria. In January 2002 the federal bank regulators issued "Inter-Agency Examiner Guidance on Settlement Service MarkUps Under [RESPA]" (guidance) to assist examiners in determining whether the institutions they are examining are violating Section 8(b) of RESPA in connection with upcharges on settlement services obtained from third parties.
 
In the guidance, the federal bank regulators directed their examiners not to cite an institution for a Section 8(b) RESPA violation where a consumer is charged more for a settlement service provided by a third party than is actually paid to the third party, provided that third party is not involved in the mark-up and the underlying real estate is in Illinois, Indiana, or Wisconsin,
which make up the 7th Circuit (if the underlying real estate is in states other than one of these three, ostensibly, the examiner should give the institution a Section 8(b) citation). This guidance was given after - and despite - HUD's issuance of Policy Statement II stating HUD's interpretation that the Echevarria decision was wrong and that mark-ups without additional work being performed were RESPA violations.
 
Institutions doing mortgage lending in Illinois, Indiana, or Wisconsin and engaging in the practice of upcharging should not take too much comfort from the guidance because the guidance warns that this supervisory policy will not insulate an institution from the risk that individual or class-action lawsuits could be filed against it, even if the underlying property is located in one of those three states. The basis for any such actions could be Section 8(b) of RESPA (with the intent to take the issue to the U.S. Supreme Court), state unfair and deceptive trade practice acts, principles of common law fraud or misrepresentation, and/or the Truth in Lending Act (if the amount of the upcharge on a nonfinance charge item is not disclosed as a finance charge).
 
HUD strikes back in Boulware. Not content with expressing its views on upcharging in Policy Statement II, HUD sought and obtained an ally to its cause - the U.S. Department of justice. HUD and the DOJ discovered a case on appeal before the 4th Circuit Court of Appeals (Boulware v. Crossland Mortgage Corporation, No. 01-2318) in which a mortgage lender was being sued for having allegedly paid $15 each for credit reports for which it charged consumers $65. The district court dismissed the case, following the 7th Circuit's reasoning in Echevarria. HUD, acting through the DOJ, has now filed a friend of the court appellate brief supporting the plaintiffs' assertion that this upcharge is a violation of Section 8(b) of RESPA. Clearly, this is an attempt to obtain a split in the circuits, which HUD could then petition the U.S. Supreme Court to resolve.
 
Section 8(b) of RESPA provides that "[n]o person shall give and no person shall accept any portion, split, or percentage of any charge made or received for the rendering of a settlement service ... other than for services actually performed." In Echevarria, the 7th Circuit reasoned that for a violation of Section 8(b) to have occurred, a portion of the upcharge must have been paid to or received from a third party (The only payment to or from a third party in Echevarria was the payment from Chicago Title to the county recorder, which was entirely for services rendered.) However, in their amicus brief, HUD and the DOJ argue that Crosslands Mortgage did in fact violate Section 8(b) on its face because it accepted "a portion" of the upcharge (for which it performed no services) - namely, all of it. The 4th Circuit's deliberations are likely to focus on two areas: (1) the legislative history of RESPA (and which side's version of that history is most persuasive) and (2) the effect of HUD's recent "official" pronouncement on this issue in Policy Statement II. The outcome appears far from certain.
 
To The Court?
 
What role the U.S. Supreme Court will play, if any, in these companion dramas remains to be seen. But with the existence now of two circuit court YSP decisions coming down on opposite sides (although one was issued before and the other after Policy Statement II) and the possibility of a similar scenario regarding upcharges, the prospect of our highest court weighing in on one or both of these issues has certainly been enhanced.
 
Footnotes
 
1. 253 F3d 1324(11th Cir. June 15,2001), cert denied Irwin Mortg. Corp. v. Culpepper, 151 L.Ed. 2d 893, 122 S.Ct. 930, 2002 U.S. LEXIS 588, 70 U.S.L.W. 3464 (2002).
 
2. Bjustrom v. Trust One Mortgage, No. COO1166P (W.D. Wash. Oct. 26, 2001), slip.op.at p. 11, citing Robert M. Jaworski, RESPA 8: The YSP Waiting Game Continues, 56 Bus. Law. 1207, 1208 (May, 2001).
 
3. 64 Fed. Reg. 10080 (Mar. 1, 1999).
 
4. 66 Fed. Reg. 53052 (Oct. 18, 2001).
 
5. 2000 U.S. App. LEXIS 4557 (8th Cir. Minn. March 21,2002).
 
6. Id. at *21.
 
7. Id. at *22.
 
8. Id. at *28.
 
9. Id. at *30.
 
10: 199 F.R.D. 346 (W.D. Wash. Feb. 21, 2001).
 
11. See, e.g, 24 C.F.R. sec203.17-203.25(2001).
 
12. No.C00-1166P (W.D. Wash. 26, 2001).
 
13. Id. slip op. at p. 16.
 
14. 256 F. 3d 623 (7th Cir., Ill. July 5, 2001).
 
15. Id. at 629.
 
16. 196 F.R.D. 496 (N.D. Ill. Aug. 25, 2000).
 
17. 66 Fed. Reg. 53052 (October 18, 2001).
 
Sidebar:
 
Update

 
New Developments Affecting RESPA
 
Recent judicial and regulatory developments have affected yield spread premiums (YSPs) and upcharges. These developments are discussed below.
 
YSPs. Two more circuit courts have now ruled in lenders' favor. First, on June 10, 2002, the 9th Circuit, in Schuetz v. Bank One Mortgage Corporation,1 upheld an Arizona district court's decision refusing class certification in a YSP case and granting summary judgment to the defendant-lender In doing so, the court deferred to the Department of Housing and Urban Development's Statement of Policy 2001-1 (Policy Statement 11),2 finding it consistent with the general intent of Congress in enacting the Real Estate Settlement Procedures Act to foster home ownership.
 
Second, on September 18, 2002, the 11th Circuit decided Heimmermann v. First Union Mortgage Corporation,3 which was one of several YSP cases argued at the same time as Culpepper III In Heimmermann, the 11th Circuit somewhat surprisingly reversed the course on which it had embarked in Culpepper III by vacating the lower court's grant of class certification. It did so primarily because it felt compelled to give deference to Policy Statement II.
 
Recognizing that the 11th Circuit has been the sharpest thorn in lenders' sides throughout the YSP controversy, and that most of the YSP cases were filed in that circuit, the Heimmermann decision likely represents the proverbial Final nail in the coffin on this issue.
 
Upcharges. The Fourth Circuit in Boulware v. Crossland Mortgage4 had no trouble in quickly affirming the lower court's dismissal of plaintiffs' claims that lender upcharges (for credit reports) violated Section 8(b) of RESPA. The 4th Circuit looked at the legislative history of RESPA and concluded that Section 8(b) was a prohibition on kickbacks rather than a "broad price control provision." As a result, the court held that a party which merely marks-up the price of a third-party settlement service and pockets the difference cannot be found to have violated Section 8(b) of RESPA.
 
Despite having now gone 0-2 in the circuit courts on this issue, HUD has not given up. Instead, it has filed yet another amicus (friend of the court) brief in an 8th Circuit case, Haug v. Bank of America, N.A.5
 
RESPA reform. Finally, HUD has recently interjected itself in an even more direct way into both of these controversies as a result of its publication of a comprehensive proposal to overhaul Regulation X (proposal).6
 
With respect to YSPs, the proposal would require that any YSPs be disclosed on the HUD-1 Uniform Settlement Statement (HUD-1) and the Good Faith Estimate (GFE) as payments from the tender to the borrower. Brokers would thus no longer be able to collect indirect fees from the lender, only direct fees from the borrower. As a result, if a broker wished to receive some or all of a YSP to be paid by the lender, it would have to include that amount in its direct charge to the borrower. (The proposal would also require that additional disclosures be given to borrowers concerning the nature of the broker's services and the broker's relationship to the borrower, as well as the options available to the borrower to pay closing costs, including the ability to finance them over the life of the loan by paying a higher rate.)
 
The proposal would also impact the upcharge issue. Briefly, it would dramatically change the GFE, from a detailed cost estimate of all settlement charges the borrower is likely to incur, to something more akin to a fixed-offer sheet, in which many of the fee estimates may not vary, either at all or by more than 10 percent, until closing. This fixed-offer sheet would remain open, to be accepted by the customer, for up to 30 days, during which the customer could shop elsewhere for better terms. The proposal would also allow lenders to offer customers a "guaranteed mortgage package" (GMP) of settlement services embodied within a prescribed form of GMP agreement (GMPA). Basically, the GMPA would set the interest rate, points and total closing costs (for services within the package) that the borrower would pay at settlement. Borrowers could use the GMPA to shop for better packages. The trade-off for lenders (and other "packagers") is that the proposal would also exempt from scrutiny under Section 8 of RESPA any payments between settlement service providers within a package, thereby freeing the tender (or packager) to enter into referral arrangements with participating service providers.
 
Although one might expect that because these changes are principally designed to promote competition by facilitating customer shopping, HUD might have altered its view with respect to upcharging - the opposite is the case. HUD specifically indicates in the proposal that originators may not mark up on the new GFE their estimates of charges for lender-required third-party services, title services, and title insurance, government charges, escrow reserves, per them interest, hazard insurance, or optional owner's title insurance.
 
The comment deadline was October 28. Largely because the comments are expected to be numerous and detailed, action by HUD to finalize the proposal is not expected any time soon.
 
1. 292 F. 3d. 1004 (9th Cir. Ariz. June 10, 2002).
 
2. 66 Fed. Reg. 53052 (Oct. 18, 2001).
 
3. 2002 U.S. App. LEXIS 19596 (11th Cir. Ala. Sept. 18, 2002).
 
4. 291 F. 3d 261 (4th Cir. Md. May 22, 2002).
 
5. No. 02-2458 (8th Cir. appeal granted June 6, 2002).
 
6. 67 Fed. Reg. 49134 (July 29, 2002).