April 2018 Legal Briefs

•  Watch that tax advice!
• Credit reports are changing again
• Telephone Consumer Protection Act – Update
• Sellers’ cost on borrowers’ closing disclosures

Watch that tax advice!

By Andy Zavoina

When it comes to tax deductibility, “watch that tax advice.” Let’s get straight to the point, considering it is April and income taxes are due. I want to caution banks, and especially their marketing departments and lenders about providing any tax advice, implied or express. “Sure, we can hook you up with a home equity loan, and the interest you pay is all deductible, so you get that added benefit” are words that should never be spoken by your bankers or seen in your advertisements.

That said, I am not a tax adviser and am not providing any tax advice in this article. As a non-expert on taxes, I am providing information based on what I have read and understand. Banks should consult their own tax advisers to better understand the implications of the changes to the tax laws.

Let’s first revisit § 1026.16(d)(4) of Regulation Z, which addresses advertising requirements for home equity plans in Reg Z and in particular, any mention of the tax implications. The regulations states:

An advertisement that states that any interest expense incurred under the home-equity plan is or may be tax deductible may not be misleading in this regard. If an advertisement distributed in paper form or through the Internet (rather than by radio or television) is for a home-equity plan secured by the consumer’s principal dwelling, and the advertisement states that the advertised extension of credit may exceed the fair market value of the dwelling, the advertisement shall clearly and conspicuously state that:

(i) The interest on the portion of the credit extension that is greater than the fair market value of the dwelling is not tax deductible for Federal income tax purposes; and

(ii) The consumer should consult a tax adviser for further information regarding the deductibility of interest and charges.

The commentary to this section (16(d)-3) goes on to say:

An advertisement that refers to deductibility for tax purposes is not misleading if it includes a statement such as “consult a tax advisor regarding the deductibility of interest.” An advertisement distributed in paper form or through the Internet (rather than by radio or television) that states that the advertised extension of credit may exceed the fair market value of the consumer’s dwelling is not misleading if it clearly and conspicuously states the required information in §§ 1026.16(d)(4)(i) and (d)(4)(ii).

This is more important now than ever, even though this language has been in Reg Z for many years, and here is why. On December 22, 2017, the president signed the Tax Cuts and Jobs Act (TCJA), the first piece of major tax legislation in over 30 years. The $1.5 trillion tax code rewrite was described as “historic” and about jobs. Soon after the Act was signed into law, many companies, including banks, were announcing bonuses for employees. But even if some tax programs are helpful, you can bet there is another side that is detrimental to some folks. Interest deductions will likely be a part of this balance sheet – in the detrimental column.

While the tax code changed, interpretations are still based on defined terms and many of those terms remained the same. In Section 163(h) of the Internal Revenue Code it says that no deduction for personal interest is allowed to an individual. But there are some exceptions to this rule that have been unofficial selling points for home ownership and equity loans. For many years interest paid for a “qualified residence” was an allowable federal income tax deduction. What is considered “qualified residence interest” includes the interest expense for the acquisition of a qualified residence and interest paid on a home equity loan. For married taxpayers there was an aggregate limitation of $1,000,000 of debt for deductibility. A reduced limitation of $100,000 applied to home equity indebtedness.

So, now we also need to define “acquisition indebtedness” which is the debt incurred to acquire, construct or substantially improve any qualified residence when the loan is secured by that residence. Further, a “qualified residence” is the principal residence of the taxpayer and one other residence. Home equity indebtedness is any debt (other than the already defined acquisition indebtedness) secured by a qualified residence.

Again, there are specific limitations in the prior tax code allowing a married couple to have $1,100,000 in qualified residence interest debt of which $100,000 could be used for purposes other than acquisition indebtedness, commonly an equity loan. Acquisition indebtedness includes refinanced debt, but only to the extent of the debt prior to the refinance.

You may recall hearing some commenters on the TCJA say it was good for now, when the companies were announcing bonuses, but watch out for the future. The reason the numbers above for debt and interest qualifications are important is because there are two key areas that are changing. These changes are temporary for now and will be in effect through 2025.  The limitation on the amount of acquisition indebtedness that qualifies for the deductibility of interest for married taxpayers is now $750,000. The limitation applies for 2018 and beyond and is applied to acquisition indebtedness incurred after December 14, 2017. Acquisition indebtedness incurred before December 15, 2017, continues to be capped at $1,000,000.

Another change applies to those home equity loans. Originally interest on home equity indebtedness was thought to be non-deductible beginning in 2018. But on March 19, 2018, the IRS issued a statement that interest paid on home equity loans is still deductible under the new tax law if it is used for home improvements. Emphasis is on the “if it is used for home improvements” part of that statement.

The Tax Cuts and Jobs Act of 2017, enacted December 22, suspends from 2018 until 2026 the deduction for interest paid on home equity loans and lines of credit, unless they are used to buy, build or substantially improve the taxpayer’s home that secures the loan,” according to the IRS statement. “Under the new law, for example, interest on a home equity loan used to build an addition to an existing home is typically deductible, while interest on the same loan used to pay personal living expenses, such as credit card debts, is not.

And this is exactly why borrowers need to see or hear “You should consult a tax adviser for further information regarding the deductibility of interest and charges” when you advertise your mortgage and equity loans. Failure to qualify any indication of deductibility in your ads may be considered a deceptive practice.

As the new rule is understood, an equity loan used for a qualified purpose still enjoys a tax deduction. There is no grandfathering, however, meaning that your home equity borrowers writing off interest as they file their returns for last year, may not be able to do so again.

Here is a question that banks should begin to consider, and ask of the IRS and elected officials, because clarification will be needed. Let’s assume you have a borrower with a home equity loan now. Will there be changes in Form 1098 reporting for 2018 interest? Will borrowers have to indicate what portion of their home equity loans represent home acquisition costs, and lenders report deductible and non-deductible interest? Or will we stick with the current practice of reporting all the interest paid on equity loans, with the responsibility on the taxpayer to determine how much can be deducted? I do not believe many core systems will compute the interest separation based on the purpose now, meaning major work could be required. Answers will be needed before any new coding is done.

More questions: Will borrowers even want home equity loans when deductibility is no longer an advantage? Will they begin paying down home equity loans faster than they have historically, and how will you factor these considerations into your next budget forecasts? Your home and home equity borrowers may also want answers if they are not aware of the changes when they file next year. How will you respond?

Takeaways:

Advertisements – State something to the effect of “You should consult a tax adviser for further information regarding the deductibility of interest and charges.”

Training – To respond to customer’s questions with “The tax laws have changed, and you should consult a tax adviser for further information regarding the deductibility of interest and charges.”

Considerations – Does the bank want to urge banking associations and elected officials to seek out answers on the tax reporting requirements that may be changed in nine short months?

Budget – Determine through internal and external resources what the bank projects as to the future of home equity products currently offered. Will they rise, fall, need adjusting for maximum appeal, etc.?

 

Credit reports are changing again

By Andy Zavoina

The National Consumer Assistance Plan (NCAP) is an initiative of the big three credit reporting agencies, Equifax, TransUnion and Experian. It was launched in 2015. The NCAP’s goals include improving data accuracy and quality and making it easier for consumers to understand their credit information. Several of the current goals coincide with the multistate investigation and subsequent legal agreement in 2015 between the three credit reporting agencies and 31 state attorneys general. Four of the accomplishment listed on the NCAP website include:

1. Allowing consumers who obtained a free report and challenged entries to obtain another free report sooner than waiting a year to see the effects of any adjustments.
2. Having a 180-day waiting period before medical debt information is reported, allowing time for insurance companies to remit payments
3. Omitting debts from credit reports which were not a result of a contract or other agreement (such as parking tickets or traffic fines)
4. Paying special attention to the credit report files of victims of fraud who have items reported against them that are not theirs, and improving communications about credit disputes.

It was also NCAP which just over a year ago established new standards for the reporting of public records information on consumers’ credit files. Effective July 2017, civil judgments and tax liens require at least the consumer’s name, address and Social Security number or date of birth to be considered sufficiently verified and identified to be placed on a consumer’s credit report, and the data furnisher of that public record information must visit the applicable courthouse at least once every 90 days to obtain newly filed and updated public records so that it is known the data is current.  Early estimates were that 95 percent of the civil judgments and more than 50 percent of tax liens were going to be dropped for failing to meet these new standards and that credit scores could increase as a result. It was later believed that essentially all civil judgments were removed but that when these problems existed on a credit report, there were other problems on the credit report and credit scores would increase minimally.

The Consumer Financial Protection Bureau released a study entitled “Public Records” in February 2018 that stated, “when all judgments were eliminated from records in July, the credit scores of consumers with active civil judgments increased. For those with an active judgment (about 8 million consumers), 65 percent experienced an increase in credit score greater than 5 points. For those with only inactive judgments (about 2 million consumers), 46 percent experienced such an increase in credit score. The score changes for both civil judgments and tax liens show that consumers with these public records generally experienced score changes that were either around zero or 15 points.” The CFPB put consumer credit scores in five categories: deep subprime, subprime, near prime, prime and super prime. After studying credit reports over a four-month period, it found 75 percent did not move up a category as a result of the data exclusions. Of consumers who did see an improvement in their credit scores, particularly those in the deep subprime to subprime category, about 6 percent saw an increase to near prime or above from June until September as the omissions took effect. Only 0.24 percent of ALL consumers with credit reports saw an increase.

Phase two of NCAP is about to take effect. Equifax, Experian, and TransUnion will stop reporting tax lien data and all tax liens will be removed from consumer credit reports in April 2018. That will remove an estimated 5.5 million tax liens and more consumers’ credit scores may creep up another few points. Bankruptcy reports are the public records that will remain and those have basically been unchanged.

 

Telephone Consumer Protection Act – Update

By Andy Zavoina

The Telephone Consumer Protection Act (TCPA) is in the news again. There was a court ruling last month that can affect your bank. Unfortunately, the ruling prompted more questions than it answered. Here’s a little background on both the TCPA and the ACA International case.

The TCPA applies to your bank when it makes calls to consumers. The TCPA regulates and restricts the use of artificial or prerecorded voice calls to make unsolicited telemarketing calls or faxes to residential telephone lines, or to call or text cell phones. It also prohibits the making of any non-emergency call using an automatic dialing telephone system (ADTS) without prior express consent. Keep reading because how an ADTS has been defined may surprise you (and we all know that definitions can make all the difference in the world)!

The Federal Communications Commission (FCC) is not a government agency that bankers routinely follow. The FCC is, however, the agency with “ownership” over the TCPA. Under Chairman Tom Wheeler, the policies of the FCC expanded the reach of the TCPA to the point that the judge in the ACA International case concluded that by definition, the FCC had made every smartphone in the country a federally-regulated autodialer.

The TCPA defined an “automatic telephone dialing system” (the ATDS or an autodialer) as “equipment which has the capacity to store or produce telephone numbers to be called, using a random or sequential number generator, and, to dial such numbers.” That definition appears specific, but the FCC interpreted much more broadly.

In 2003, the FCC ruled that “predictive dialers” include equipment that can dial numbers, and when attached to certain software, assist in connecting an available agent to the calls. They concluded predictive dialers were autodialers under the TCPA because such equipment “had the capacity to dial numbers without human intervention.” In 2015 the FCC’s TCPA Declaratory Ruling and Order attempted to update its interpretations of the TCPA, which were technologically obsolete. It redefined which equipment fell within the definition of “autodialer,” specified liability for calls to reassigned telephone numbers, and provided consumers with a right to revoke consent by any reasonable means. The definition created by this ruling expanded the reach of the TCPA to regulate virtually any software-enabled dialing device and a cell phone meets the 2015 description. The FCC’s rulings defining a vague term like ATDS, were given deference by courts and are used by those suing a company accused of violating the TCPA.

The FCC’s goal in using these definitions was to give itself the ability to enforce the law against unscrupulous telemarketers. But it opened the door for private TCPA lawsuits against companies that were trying to discuss products and services with their customers at phone numbers they had been provided.

The TCPA is also intended to prevent calls to cell phones without the express consent of the “called party.” If you violate that restriction, recipients of unlawful calls or texts may seek injunctive relief in a private action, but most likely will go for the wallet. Liability for a violation is the greater of actual damages or statutory damages of $500 per violation or treble damages, $1,500, for willful or knowing violations.

As to violations, an FCC ruling stated the, “TCPA requires the consent not of the intended recipient of the call, but of the current subscriber.” This meant that if the bank had permission to call Customer A’s cell phone, and the number is now reassigned to someone else without the bank’s knowledge, that “someone else” should not be called. If they are called, the FCC said a caller — the bank in this example — has one chance to get it right; “callers who make calls without knowledge of reassignment and with a reasonable basis to believe that they have valid consent to make the call should be able to initiate one call after reassignment as an additional opportunity to gain actual or constructive knowledge of the reassignment and cease future calls to the new subscriber… If this one additional call does not yield actual knowledge of reassignment, we deem the caller to have constructive knowledge of such.” Even with permission, frequent reassignment of cell phone numbers made lawsuits too big a risk for some banks

ACA International represents third-party collection agencies, law firms, asset buying companies, creditors and vendor affiliates. A number of companies including ACA International petitioned the FCC for clarification and to draw differences between autodialers and predictive dialers. That did not happen, and a lawsuit was initiated. In the ACA International v. FCC suit the concern was the over-reaching definitions and rulings concerning autodialers, reassigned numbers, and revocation of consent.

After a lengthy court battle, the U.S. Court of Appeals for the District of Columbia Circuit overturned two controversial portions of the FCC’s 2015 Telephone Consumer Protection Act Order.

The definition of an ATDS and the provision on calls to reassigned numbers are of particular concern to bankers, because they hobble a bank’s ability to send time-critical, non-marketing messages to customers, including alerts concerning suspicious activity, data security breach warnings, low balance alerts, etc., using cell phone calls or text messages.

The court set aside the FCC’s definition of an ATDS because of its “unchallenged assumption that a call made with a device having the capacity to function as an autodialer can violate the statute even if autodialer features are not used to make the call.” The court found the FCC’s interpretation that all smartphones qualify as autodialers is unreasonably and impermissibly expansive. This will offer some protection to your bank’s legitimate marketing efforts with customers through traditional calling methods which do not actually use auto-dialers.

The other critical issue concerns reassigned numbers and consent. The court eliminasted the FCC’s treatment of reassigned numbers in its entirety, finding it could not, without consequence, void the one-call safe harbor, but leave in place the FCC’s interpretation that the “called party” refers to the current subscriber, and not the intended recipient.

The court upheld the FCC’s ruling that a person can revoke consent through any reasonable means by clearly expressing a desire to receive no further calls or texts.

The court’s ruling does not replace the FCC’s definition of an autodialer or the treatment of reassigned numbers, but essentially voided the interpretations and requires the FCC to issue new ones.

The setting aside of “reassigned numbers” will have at least short-term relief, although the FCC likely will take this issue up again, and could adopt a strict-liability standard. In addition, the ongoing ability for consumers to use “reasonable” opt-out methods will likely continue to be litigated. TCPA compliance remains important and high-risk, with a private right of action and statutory damages. Accordingly, all text message campaigns should be carefully vetted for full compliance.

 

Sellers’ costs on borrowers’ closing disclosures

By John S. Burnett

When a specific question becomes a “trending” topic in our work, it often becomes the basis of one of our monthly Legal Briefs articles. This month, we take on the question of who gets which information as part of the closing disclosures that are issued under the TRID rules in Regulation Z when the loan is financing the purchase of the property securing the loan. From what we have read, there is more than a little confusion about who gets disclosures of what costs, and about disclosing at all certain seller and third-party costs.

More than just the loan costs

To begin with, when it first introduced the TRID rule in Boston in 2013, the Bureau said that, in addition to combining the early and closing disclosures required by Regulation X under the Real Estate Settlement Procedures Act (RESPA) and by Regulation Z under the Truth in Lending Act (TILA), the TRID disclosure requirements would expand the scope of the disclosures to include the costs involved in not only the loan, but also the other costs involved when the loan is a consumer transaction financing the purchase of real estate.

So, what are the options for providing all this information, and to whom? The CFPB’s rule provides for three ways to deliver the closing disclosure.

Option 1: Same disclosure for borrower and seller

The most basic closing disclosure option is to create a single form that includes the disclosures for both the consumer/borrower/buyer and the seller. This option has its origins in the combined buyer/seller Settlement Statement on the old HUD-1 form. This format, using Regulation Z Model Form H-25(A) without any of the modifications permitted in section 1026.38(t), includes all the required disclosures on a single five-page form, revealing the particulars of the loan transaction and the costs of the underlying real estate purchase transaction to both the buyer and the seller of the property and to any other person entitled to a copy of the disclosures.

Option 2: Standard disclosure, with portions blank

Under § 1026.38(t)(5)(v) Separation of consumer and seller information, a creditor can use the standard disclosure forms for transactions involving a seller, but withhold selected information from the copy provided to the consumer/borrower/buyer and from the copy for the seller, in the interests of confidentiality.

Specifically, separate copies of page 3 of the closing disclosure can be issued to the borrower and seller, omitting the seller’s transaction information on the right side of the Summary of Transactions table from the copy given to the borrower/consumer (this is the only part of the seller’s information that can be omitted from the borrower’s closing disclosure). The borrower’s transaction information on the left side of the Summary of Transactions table can be omitted from the copy given to the seller. You can also leave blank the Calculating Cash to Close table on the seller’s copy of page 3.

On page 2 of the closing disclosure, the information on costs paid by the consumer/borrower can be left blank on the seller’s copy of the page. The borrower’s copy, however, must show costs paid by the borrower, the seller and third parties.

On page 1 of the seller’s copy of the closing disclosure, you can omit the statement “This form is a statement of final loan terms and closing costs. Compare this document with your Loan Estimate.” You can also leave blank the name of the lender in the Transaction Information box and all of the Loan Information box. The rest of page 1 (Loan Terms, Projected Payments and Costs at Closing) can also be left blank on the seller’s copy.

Page 4 of the Closing Disclosure can be eliminated altogether from the seller’s copy.

Page 5 of the seller’s copy can be left blank except for the large question mark and the paragraph about questions adjacent to it, and the Contact Information for the real estate broker(s) and settlement agent (the columns for the lender and mortgage broker can be left blank).

Not surprisingly, this option isn’t used by many lenders.

Option 3: Modified seller’s closing disclosure

Many, if not most, lenders use a third option permitted by § 1026.38(t)(5)(vi) that uses a modified closing disclosure form (Model form H-25(I)) for a seller or third party that omits unused portions of the standard form, rather than simply leaving those portions blank.

Costs disclosed on page 2

We’ve already seen that nothing gets omitted from page 2 of the form. There don’t appear to be many problems with where to report the loan-related costs found in sections A, B and C, or what gets included there.

As for sections E, F, G and H in the Other Costs part of the page, here’s what § 1026.38(g) has to say, in its introductory paragraph (emphasis added):

(g) Closing cost details; other costs. Under the master heading “Closing Cost Details” disclosed pursuant to paragraph (f) of this section, with columns stating whether the charge was borrower-paid at or before closing, seller-paid at or before closing, or paid by others, all costs in connection with the transaction, other than those disclosed under paragraph (f) of this section, listed in a table with a heading disclosed as “Other Costs.” [Sections E, F, G and H are in this table.]

When we get to section H, some lenders have been persuaded, incorrectly, that only the borrower’s costs are recorded here. In § 1026.38(g)(4), we find instructions for this section of the form:

(4) Other. Under the subheading “Other” and in the applicable column as described in paragraph (g) of this section, an itemization of each amount for charges in connection with the transaction that are in addition to the charges disclosed under paragraphs (f) and (g)(1) through (3) for services that are required or obtained in the real estate closing by the consumer, the seller, or other party, the name of the person ultimately receiving the payment, and the total of all such itemized amounts that are designated borrower-paid at or before closing.

Clearly, the rule requires that all parties’ costs, not only those of the borrower, are to be disclosed.

As always, when it comes to the TRID rules, you have to look to the Commentary for many of the details involved in compliance with the regulation. Here are comments 38(g)(4)-1 and -4 on that paragraph of the rule:

1. Costs disclosed. The costs disclosed under § 1026.38(g)(4) include all real estate brokerage fees, homeowner’s or condominium association charges paid at consummation, home warranties, inspection fees, and other fees that are part of the real estate closing but not required by the creditor or not disclosed elsewhere under § 1026.38.
2. Real estate commissions. The amount of real estate commissions pursuant to § 1026.38(g)(4) must be the total amount paid to any real estate brokerage as a commission, regardless of the identity of the party holding any earnest money deposit. Additional charges made by real estate brokerages or agents to the seller or consumer are itemized separately as additional items for services rendered, with a description of the service and an identification of the person ultimately receiving the payment.

Note the underlined text in comment 1, which indicates these are costs that are part of the real estate closing, which is broader than the costs involved with the loan itself, carrying out the statements made in Boston in 2013. Taken with the wording of § 1026.38(g)(4), the requirement includes all parties’ costs relating to the real estate closing, and finally, comment 4 makes it clear that those costs include real estate commissions paid by all parties to the transaction.