A RESPA reform road map. (Legal).

THE WORD STRIKES FEAR INTO LENDERS. It is confusing. It's ambiguous Expert attorneys don't even agree on what it says. The Department of Housing and Urban Development (HUD), which has responsibility for the Real Estate Settlement Procedure Act (RESPA), can't seem to bring this nearly 30-year-old law into conformity with modern mortgage lending practices. The courts haven't helped, either. Such has been the complaint for years. But now all this is changing HUD has issued two Statements of Policy clarifying RESPA treatment of mortgage broker compensation and one policy statement expressing its opinion on markups of third-party charge. Three recent federal circuit court decisions have upheld the legality under RESPA of marking up the cost of certain settlement services, such as credit reports and appraisals. Meanwhile, four circuit courts have denied class certification in lawsuits contesting the legality under RESPA of the payment of yield spread premiums (YSP) to mortgage brokers. Now HUD has proposed a massiv e overhaul of RESPA disclosures and the introduction of an entirely new way of pricing and offering mortgages and it seems determined to complete this sweeping and controversial regulatory change soon.

A close look at recent case law highlights where final rules on the Real Estate Settlement Procedures Act (RESPA) are likely to survive court challenge. Here's a guided tour through the relevant decisions.

The court decisions represent a significant clarification by the courts of RESPA Section 8's meaning. Yet, we believe equally as important, the decisions represent clarification of HUD's authority to interpret the RESPA statute. We think these court decisions, taken together, can be viewed as a road map for both the industry and HUD, particularly as HUD completes its overhaul of RESPA.

The reform proposal is opposed by significant segments of the settlement services industry. Once a final rule is published some of these industries are expected to file legal challenges to it. This article reviews the two HUD policy statements; examines the courts' views of the statements and HUD's authority to interpret RESPA; and considers the deeper meaning of the decisions for potential legal challenges to HUD's RESPA reform.

HUD Statements of Policy 1999-1 and 2001-1

In the 1990s, a huge number of class-action suits were brought against mortgage lenders, contending that YSPs paid by lenders to mortgage brokers are referral fees that violate Section 8 of RESPA. This litigation explosion, which threatened the viability of the entire mortgage market, was the direct result of the ambiguity of RESPA Section 8 and of uncertainty about its applicability to the modern wholesale mortgage market.

Congress stepped in to address the crisis in 1998, directing HUD to clarify the treatment of YSPs. Following weeks of negotiation with several industry groups and consumer advocates, HUD issued Statement of Policy 1999-1 in March 1999, establishing a two-part test for determining the legality of mortgage broker compensation.

The industry felt the class-action crisis was over, but the issue reared its head again in June 2001 with the decision of the 11th Circuit in Culpepper v. Irwin Mortgage Co., 253 F.3d 1324. The infamous "Culpepper III" decision found HUD had the authority to issue the 1999 policy statement and the statement deserved deference by the court, but the court found an ambiguity in the statement and upheld the certification of the class.

HUD disagreed with the Culpepper III decision and realized that further clarification was necessary. At the same time, HUD was becoming increasingly concerned about reports of abuses of YSPs in the wholesale market. So HUD issued a new Statement of Policy 2001-1 in October 2001, further clarifying the two-part test for mortgage broker compensation and removing the ambiguity found by the 11th Circuit in Cul pepper III.

HUD also included in the statement a commitment to issue regulations in the near future that would reform RESPA disclosure requirements--in particular, the disclosure of mortgage broker compensation. When the 2001 policy statement was released, HUD Secretary Mel Martinez emphasized this commitment to further reform mortgage disclosures.

The 2001 policy statement also stated HUD's views about the legality of marking up third-party settlement service charges. HUD also disagreed with court decisions on this issue, notably Echevarria v. Chicago Title & Trust Co., 256 F.3d 623 (7th Cir. July 2001). In this case, the Seventh Circuit found that the "plain words" of RESPA Section 8(b) "support the proposition that the statute is only violated where there is a charge for a real estate settlement service that is split or kicked back, not simply where there has been an overcharge," and thus defendant Chicago Title & Trust did not violate RESPA when it marked up a county recording fee. The court also stated, however, that it was issuing its opinion "absent a formal commitment by HUD to an opposing position."

HUD disagreed with this decision and decided to take a more formal position on the markup issue. HUD included in its Statement of Policy 2001-1 a statement that it is HUD's "longstanding" interpretation that RESPA Section 8(b) does prohibit a single settlement service provider from either marking up a third-party charge or from charging a fee for which no, nominal or duplicative work is done.

HUD claimed in the policy statement that its previous guidance and regulations consistently express this position, citing an older version of the Settlement Costs Booklet, informal opinion letters and the preamble to HUD's last major RESPA rule change in 1992. HUD issued this part of the 2001 policy statement without any direction from Congress and without any advance notice or consultation with the industries involved.

The YSP cases--HUD's interpretation is upheld

Following the issuance of Statement of Policy 2001-1, the first decision reached by a circuit court was in Glover v. Standard Federal Bank, 283 F.3d 953 (8th Cir. March 2002). The Eighth Circuit Court found that the new HUD policy statement did, in fact, remove the ambiguity found by the 11th Circuit in Culpepper III and reversed the class certification granted by the district court prior to the issuance of the 2001 statement.

The court further held that, under a variety of established cases concerning judicial deference to agency interpretations of regulations and statutes, both policy statements deserved deference by the court. This was so, the court maintained, because they "reflect a reasoned view of a responsible agency which is consistent with the statute and the regulation and which constitutes a body of experience and informed judgment that this court may look to as determinative authority."

This is significant because the court found that at least some provisions of RE SPA do not specifically speak to the realities of today's marketplace (e.g., wholesale lending), and that HUD alone has the expertise to interpret these provisions in light of market realities.

The Glover decision is also important because the Eighth Circuit significantly clarifies RESPA Section 8 as it applies to YSP payments that are based on rate sheets--the common method of determining YSP. The court said 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 group of loans."

This contrasts with the Culpepper III decision, in which the 11th Circuit suggests that a YSP based only on a rate sheet could be a referral fee if the lender does not know exactly what services are performed by the mortgage broker.

The next significant decision came in Schuetz v. Bank One Mortgage Corporation, 292 F.3d (9th Cir. June 2002). The Ninth Circuit Court upheld a denial of class certification by the district court, based on deference to both the 1999 and 2001 HUD policy statements. The court also disagreed with the Culpepper III decision.

The court undertook a detailed analysis of the policy statements and RESPA Section 8, finding that the language of RESPA Section 8(c)(2) does not unambiguously forbid HUD's interpretation, and thus HUD's guidance must be given deference. This decision further defined HUD's authority as set forth in Glover. (Note: The Ninth Circuit recently reaffirmed its views on the HUD Policy Statement in Bjustrom vs. Trust One Mortgage Corporation, denying an appeal of summary judgment granted by the district court in a suit alleging that a YSP collected by a mortgage broker violated a Federal Housing Administration [FHA] cap on origination fees.)

Finally, in Heimmermann v. First Union Mortgage Corporation, 305 F.3d (11th Cir. Sept. 2002), the Eleventh Circuit Court reversed class certification granted in the district court, relying as did the other circuits on the 2001 policy statement. This is perhaps the most significant of the three circuit decisions, because the Eleventh Circuit is the court that heard the Culpep per cases, and this decision therefore required the court to effectively reverse itself.

The court rejected plaintiff's argument that the 2001 policy statement is inconsistent with clear congressional intent in RESPA and therefore not entitled to deference. It also said that the 2001 statement does, in effect, overrule Culpepper III.

We believe the consensus of three circuits, and especially the reversal by the Eleventh Circuit of its own Culpepper III decision, strongly suggests the law is becoming settled using HUD's 2001 policy statement, with its clarified two-part test, in determining the legality of mortgage broker compensation. The payment of YSP, even if based on rate sheets, can continue so long as the broker is providing goods, services and facilities for the compensation and the total compensation is reasonably related to the goods, services and facilities actually provided by the broker.

The markup cases--HUD's interpretation is rejected Another set of important RESPA cases has been decided in the last two years concerning the legality of marking up settlement service charges. Two circuit courts have ruled that HUD's interpretation in its 2001 policy statement is incorrect.

In Boulware v. Crossland Mortgage Corporation, the Fourth Circuit reiterated the finding of the Seventh Circuit in Echevarria ruling that defendant Crossland Mortgage did not violate RESPA when it marked up a credit reporting charge.

The court also found that RESPA is not a price-controlling statute, and thus any attempt by HUD to interpret it in such a way is in clear contravention of the statute. The court did not directly address deference to the policy statement, but effectively overruled it by stating that the language of the statute is not ambiguous. (A determination of statutory ambiguity is generally considered a prerequisite for any analysis of judicial deference to agency interpretation.)

In Krzalic v. Republic Title Co., the Seventh Circuit does directly address the policy statement concerning markups, and rejects it as contravening the plain language of the RESPA statute and thus not entitled to deference. The court reaffirms its own decision in Echevarria, echoes Boulware in finding that RE SPA is not a price-setting statute and makes an additional finding of interest. It extends the rationale for deference to the 2001 YSP policy statement. It does so by saying that because that statement was a clarification of the 1999 statement, which was issued at the express direction of Congress and which involved extensive consultation with interested parties, it is very close to a rule-making with notice and comment, and thus demands a higher level of deference than a simple policy pronouncement.

On the other hand, the court harshly criticizes HUD for issuing the policy statement on markups with no advance notice or opportunity for comment, no instruction from Congress and no consultation with interested parties. The court says such a ruling "is too far removed from the process by which courts interpret statutes to earn deference." Although RESPA does give specific authority to HUD to issue statements of policy, this court, at least, strongly suggests that HUD must either issue regulations with notice and comment or at least notify and consult interested parties before issuing a policy statement if it wants its interpretations of RE SPA to be upheld by the courts.

Most recently, in Haug v. Bank of America, N.A., the Eighth Circuit again rejected HUD's interpretation of RESPA. This case is significant because the circuit court reversed a district court order denying defendant's motion to dismiss, and the district court did give deference to HUD's 2001 policy statement.

The court looked to the legislative history of RESPA and found that Congress considered, and expressly rejected, proposals to make RESPA a price-setting statute and instead chose only to prohibit kickbacks and fee-splitting. The court held that the district court erred in not even making a finding that RESPA Section 8(b) is ambiguous before relying on the 2001 policy statement. Another important aspect of this ruling is that the Eighth Circuit was asked by plaintiffs to extend its own previous ruling in Glover to the policy statement concerning markups. It refused, and in so doing reaffirmed Glover. This further reinforces the courts' determination that the YSP policy statement is valid and must be given deference.

So it appears that this area of RESPA is being clarified as well. Courts are reaching a consensus that RESPA is not a price-setting statute, and that ordinary markups of settlement service charges do not violate RESPA.

HUD's RESPA reform initiative

HUD is currently engaged in a sweeping reform of RESPA regulations, as it announced in the 2001 policy statement. Its proposed rule, issued in July 2002, would dramatically change the Good Faith Estimate (GFE) disclosure, require mortgage originators to guarantee their compensation on the GFE, recharacterize YSP as a "lender payment to the borrower" and effectively limit YSP to an offset of the borrower's total costs. It would also exempt from Section 8 a new form of mortgage called a Guaranteed Mortgage Package (GMP), in which a single, guaranteed price would be offered that covers all known lender and third-party charges required to make the loan. This option would not be a requirement, thus lenders would be free to offer it or not as they see fit.

Legal challenges to the new rules can be expected from several settlement service industry segments. Prospective challengers fear that the new rules will allow competition and/or alter RESPA disclosures in a way that will decrease their income, limit their access to the consumer or otherwise disadvantage them compared with other market actors.

Overall, the various camps seem to break down along the following lines. Mortgage brokers, in particular, object to the recharacterization of YSP. Lenders object to the proposed requirement to guarantee their charges on the GFE and to the establishment of a 10 percent tolerance for other charges. Title insurers, Realtors, appraisers and other settlement service providers object to the GMP proposal because they believe it will give lenders unwelcome leverage over their charges. They also object to HUD's proposed requirement that the "package" of services must be offered along with an interest rate.

What do the recent court decisions mean in predicting the likely success of such legal challenges? The courts have very consistently given deference to HUD's interpretation of RESPA treatment of YSP. They have just as consistently refused to give deference to HUD's opinion on markups of third-party charges. The clear implication is HUD will be deferred to in interpreting and applying the more ambiguous provisions of RESPA to market realities that may not have been contemplated when RESPA was enacted in 1974, but not when the statutory language is clear and unambiguous.

The Krzalic decision, in particular, further suggests that challengers will face a high threshold to show that the court should not give deference to HUD on regulations that are promulgated with ample public notice and opportunity for comment and consultation of affected parties.

We believe these rulings have great implications for any legal challenges to HUD's new RESPA regulation, should it become final as expected. In any such challenge, the court will first examine whether the provision of the statute in question is unambiguous. In the case of the YSP provisions, we believe a challenge is unlikely to be successful, as numerous courts have now found RESPA ambiguous in this area, and HUD has clearly been granted deference in defining the legal parameters for the use of YSP.

A challenge to the Guaranteed Mortgage Package provision is unlikely to succeed as well. Although some have suggested this provision is outside HUD's authority to establish, RESPA clearly states that "[T]he Secretary is authorized to prescribe such rules and regulations, to make such interpretations, and to grant such reasonable exemptions for classes of transactions, as may be necessary to achieve the purposes of this Act."

Guaranteed Mortgage Package loans, as envisioned in the proposed rule, can be shown to constitute a discrete and well-defined class of transactions. In addition, it certainly can be said the mortgage market has changed dramatically since the enactment of RESPA in 1974. Advancing technology, consolidation and nationalization of the lending industry suggest that offering GMP loans is practical today, though not when RESPA was enacted. In fact, several national lenders are already offering GMP-type loans under current rules, although other lenders believe that current RESPA rules present too many practical impediments to offering such loans.

Because HUD is simply applying RESPA to changing market realities, as it did in defining the two-part test for examining mortgage broker compensation, and using its clear and unambiguous exemption authority, we believe the courts would uphold HUD's authority in both granting the Section 8 exemption and defining the parameters of the GMP loan.

We believe a legal challenge to a HUD requirement that lenders guarantee their charges up front on the Good Faith Estimate is more likely to succeed.

This change would effectively turn RESPA into a price-setting law regarding mortgage originators' charges. The decisions in the markup cases indicate that courts believe RESPA is not a price-setting statute, and there is legislative history suggesting Congress expressly rejected requiring firm cost quotes at the application stage.

Although HUD apparently believes that because lenders today know their likely costs at or soon after application, and therefore providing only an estimate of those costs is not really acting in "good faith," the words "estimate of likely charges" in RESPA Section 5 are likely to be viewed as unambiguous and prohibitive of HUD requiring anything other than an estimate.

The introduction of tolerances on the Good Faith Estimate, however, will likely withstand a legal challenge. The term "Good Faith Estimate" has never been defined, and a tolerance is likely to be viewed by the courts as a reasonable definition that is not outside the scope of the statute.

In addition, under Krzalic, HUD regulation in this area is entitled to deference because it was promulgated with ample notice and opportunity for comment. We suggest that if HUD removes the requirement for originators to guarantee their charges on the GFE, and includes them in a tolerance with the other settlement service charges, the important provisions of the rule concerning YSP and introducing Guaranteed Mortgage Packages are likely to survive legal challenge.

Conclusion

After years of confusion and seemingly endless litigation, both the courts and HUD are finally clarifying RESPA in many ways. Despite the concerns of lenders and others in settlement service industries about the particulars of HUD's reform proposal, the ultimate clarification of RESPA will be beneficial to all involved-easing compliance burdens and costs, limiting future litigation and allowing the marketplace to decide whether a guaranteed, single-price mortgage is desirable to consumers.

The many recent court decisions have given the industry and HUD a road map concerning HUD's authority to interpret RESPA. Should HUD use this map properly, we believe its final rule will likely survive legal challenges. MB

Robert Lotstein is managing partner and Kay Kinney is director of government relations at Lotstein Buckman LLP, a Wasington, D.C., mortgage banking law firm.