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It's All About the Principal Preserving Consumers Right of Rescission Under the Truth in Lending Act

It's All About the Principal Preserving Consumers Right of Rescission Under the Truth in Lending Act

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Published by Foreclosure Fraud
Abstract:
This Article explores a significant market-based threat to the Truth in Lending Act’s right of rescission, a remedy that attempts to deter lender overreaching and fraud during one of the most complex financial transactions of a borrower’s lifetime. The depressed housing market has substantially impaired many borrowers’ ability to fulfill their responsibilities in rescission’s unwinding process: restoring the lender to the status quo ante by repaying the net loan proceeds of the mortgage transaction.

When a consumer is unable to finance her tender obligation, non-bankruptcy judges’ overwhelming response has been to protect the lender and deny rescission to the borrower. This Article argues that these courts, to fulfill TILA’s consumer-protective function, must take a different approach. Non-bankruptcy courts, which handle the vast majority of TILA rescission actions, should use their equitable authority under TILA to modify borrowers’ repayment obligations by allowing borrowers to tender in installments, over a period of years, and at reasonable interest rates. This approach both averts foreclosures that harm borrowers, lenders, and neighborhoods and ensures that TILA’s consumer-protective mandate will remain viable even in a depressed housing market.

This Article also considers an important aspect of TILA's rescission remedy that, while tacitly acknowledged by courts and commentators, has been insufficiently explored in the academic literature. There exists an uneasy tension between the goal of the Truth in Lending Act – informing consumers of the financial consequences of their mortgage loan transactions – and borrowers’ frequent use of TILA rescission: defending their homes from foreclosure actions that the lender’s disclosure violation may or may not have precipitated. The Article concludes that TILA rescission actions, albeit a blunt instrument in the consumer protection setting, must be preserved, particularly during periods of economic calamity, since it remains a singular source of borrower leverage in a legal and economic climate that remains generally inhospitable to homeowners.
Abstract:
This Article explores a significant market-based threat to the Truth in Lending Act’s right of rescission, a remedy that attempts to deter lender overreaching and fraud during one of the most complex financial transactions of a borrower’s lifetime. The depressed housing market has substantially impaired many borrowers’ ability to fulfill their responsibilities in rescission’s unwinding process: restoring the lender to the status quo ante by repaying the net loan proceeds of the mortgage transaction.

When a consumer is unable to finance her tender obligation, non-bankruptcy judges’ overwhelming response has been to protect the lender and deny rescission to the borrower. This Article argues that these courts, to fulfill TILA’s consumer-protective function, must take a different approach. Non-bankruptcy courts, which handle the vast majority of TILA rescission actions, should use their equitable authority under TILA to modify borrowers’ repayment obligations by allowing borrowers to tender in installments, over a period of years, and at reasonable interest rates. This approach both averts foreclosures that harm borrowers, lenders, and neighborhoods and ensures that TILA’s consumer-protective mandate will remain viable even in a depressed housing market.

This Article also considers an important aspect of TILA's rescission remedy that, while tacitly acknowledged by courts and commentators, has been insufficiently explored in the academic literature. There exists an uneasy tension between the goal of the Truth in Lending Act – informing consumers of the financial consequences of their mortgage loan transactions – and borrowers’ frequent use of TILA rescission: defending their homes from foreclosure actions that the lender’s disclosure violation may or may not have precipitated. The Article concludes that TILA rescission actions, albeit a blunt instrument in the consumer protection setting, must be preserved, particularly during periods of economic calamity, since it remains a singular source of borrower leverage in a legal and economic climate that remains generally inhospitable to homeowners.

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Published by: Foreclosure Fraud on Jun 21, 2010
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DRAFT VERSION 1.0 — Email comments to lkrivinskas@luc.edu1
It’s All About the Principal: Preserving Consumers' Right of Rescission Under the Truth in Lending Act
89 N
ORTH
C
 AROLINA 
L
 AW
EVIEW
__ (forthcoming 2010)Lea Krivinskas Shepard
 ABSTRACT
This Article explores a significant market-based threat to the Truth in Lending Act’s right of rescission, a remedy that attempts to deter lender overreaching and fraud during one of the most complex financial transactions of a borrower’s lifetime. The depressed housing market has substantially impaired many borrowers’ ability to fulfill their responsibilities in rescission’s unwinding process: restoring the lender to the status quo ante by repaying the net loan proceeds of the mortgage transaction.When a consumer is unable to finance her tender obligation, non-bankruptcy judges’ overwhelming response has been to protect the lender and deny rescission to the borrower. This  Article argues that these courts, to fulfill TILA’s consumer-protective function, must take a different approach. Non-bankruptcy courts, which handle the vast majority of TILA rescission actions, should use their equitable authority under TILA to modify borrowers’ repayment obligations by allowing borrowers to tender in installments, over a period of years, and at reasonable interest rates. This approach both averts foreclosures that harm borrowers, lenders, and neighborhoods and ensures that TILA’s consumer-protective mandate will remain viable even in a depressed housing market.This Article also considers an important aspect of TILA's rescission remedy that, while tacitly acknowledged by courts and commentators, has been insufficiently explored in the academic literature. There exists an uneasy tension between the goal of the Truth in Lending Act— informing consumers of the financial consequences of their mortgage loan transactions—and borrowers’ frequent use of TILA rescission: defending their homes from foreclosure actions that the lender’s disclosure violation may or may not have precipitated. The Article concludes that TILArescission actions, albeit a blunt instrument in the consumer protection setting, must be preserved, particularly during periods of economic calamity, since it remains a singular source of borrower leverage in a legal and economic climate that remains generally inhospitable to homeowners.
 
 
DRAFT VERSION 1.0 — Email comments to lkrivinskas@luc.edu2
It’s All About the Principal: Preserving Consumers' Right of Rescission Under the Truth in Lending Act
89 N
ORTH
C
 AROLINA 
L
 AW
EVIEW
__ (forthcoming 2010)Lea Krivinskas Shepard
*
 
I. Introduction: Underwater and Drowning................................................................3
 
II. The Truth in Lending Act: A Powerful and Controversial Disclosure Statute......12
 
 A. Why Congress Passed the Truth in Lending Act..........................................................................12 
 
B. TILA’s Right of Rescission: A Crucial Tool in Deterring Lender Overreaching.........................16 
 
1. Comparing TILA Rescission and Common Law Rescission........................................16
 
2. Conditional Rescission: A Reversion to the Common Law Rescission Sequence....20
 
a. Background....................................................................................................................................20
 
b. Courts’ Rationale for Ordering Conditional Rescission.........................................................22
 
III. When Consumers Cannot Afford to Tender: Choosing Between a Return to the
Status Quo Ante
and Meaningful Rescission-Based Protection................................24
 
 A.
Yamamoto
and its Progeny: Judicial Nullification of a Crucial Remedy.....................27
 
B. Other Circuits: Complete Adjudication, But Relief for Underwater BorrowersRemains Elusive........................................................................................................................32
 
1. Background....................................................................................................................................32
 
2. Illustrative Cases............................................................................................................................33
 
C. Alternative Approaches: Tendering in Installments......................................................36
 
1. Non-Bankruptcy Courts..............................................................................................................36
 
2. Bankruptcy Courts........................................................................................................................39
 
a. The Significance of Conditional Rescission in Bankruptcy Cases....................................39
 
b. Instructive Chapter 13 cases..................................................................................................42
 
IV. Why Installment Payments Make Sense..............................................................45
 
 A. Weighing the Equities........................................................................................................45
 
B. A Gradual Return to the
Status Quo Ante 
........................................................................49
 
C. Preserving Rescission as a Significance Source of Borrower Leverage.....................49
 
 V. Conclusion..............................................................................................................53
 
*
Assistant Professor, Loyola University Chicago School of Law. J.D., Harvard Law School; A.B., Duke University. I am deeply indebted to John Breen, John Bronsteen,Brett Frischmann, Cynthia Ho, Dan Krivinskas, Donna Krivinskas, David Leibowitz,Daniel Lindsey, Margaret Moses, Daniel Mulligan, Katherine Porter, Elizabeth Renuart, Arnold
 
Rosenberg, Pamela Simmons, Jeff Sovern, Diane Thompson, Jason Veloso,Spencer Weber Waller, Neil Williams, Mike Zimmer, and all attendees of the Teaching Consumer Law Conference and Loyola Half-Baked Workshop for their invaluablecomments and suggestions. Patricia Scott, Julia Wentz, Eric Shukis, and Aileen Che, and Yvette Le provided very helpful research assistance. I thank Spencer Shepard IV,Gezinus Hidding, Crisarla Houston, Cynthia Lepow, Aldona Krivinskas, MichaelKrivinskas, and Jolita Kavaliunas for their kindness and support.
 
89 N
ORTH
C
 AROLINA
L
 A
EVIEW 
__ (forthcoming 2010)DRAFT VERSION 1.0 — Email comments to lkrivinskas@luc.edu3
I. Introduction: Underwater and Drowning
 The Paxtins were in trouble. They knew it, and their creditors knew it. Twomonths behind on their mortgage payments and credit card bills, the couple, tired of dunning calls from debt collectors, cringed every time the phone rang, which seemedlike every hour. They knew they might lose their home.In the real estate section at the local Barnes & Noble, the couple learnedabout various “foreclosure defense” strategies.
1
Bankruptcy could help the couplereduce their credit card debt,
2
but didn’t provide a long-term solution for theirmortgage debt, which had grown out of control.
3
Under the Truth in Lending Act(TILA),
4
however, an expansive federal credit price disclosure statute,
5
if their lendermade a material error
6
in the paperwork it provided the couple two and a half yearsago when they refinanced their 30-year, 8 percent variable interest rate loan, the
1
See generally 
Ralph R. Roberts & Lois Maljak, F
ORECLOSURE
S
ELF
-D
EFENSE FOR 
D
UMMIES
(Wiley Publishing ed. 2008).
2
In either Chapter 7 or Chapter 13 bankruptcy, a consumer may discharge a sizeableportion of her unsecured debt.
See 
11 U.S.C. §§ 727(b); 1328(a);
see, e.g.
, Scott F. Norberg,
Consumer Bankruptcy's New Clothes: An Empirical Study of Discharge and Debt Collection in Chapter 13
, 7 Am. Bankr. Inst. L. Rev. 415, 430 (1999) (demonstrating in a late 1990ssample that unsecured creditors received only 15.2 percent of their claims in Chapter 13plans); Dalie Jimenez,
The Distribution of Assets in Consumer Chapter 7 Bankruptcy Cases 
, 83 A
M
.
 
B
 ANKR 
.
 
L.J. 795, 805-06 (2009) (in study of 2,500 Chapter 7 cases filed between2007 and 2009, only 11 percent of all general unsecured claims received any distribution whatsoever; of these, the average median distribution was eight percent).
3
Consumers may modify various debts in Chapter 13 bankruptcy by reducing interestrates, extending loan terms, changing amortization schedules, and limiting secured claimsto the value of the collateral.
See 
11 U.S.C. § 1322(b)(2);
see, e.g.,
 Adam Levitin
 , Resolving the Foreclosure Crisis: Modification of Mortgages in Bankruptcy 
, 2009 W 
IS
.
 
L.
 
EV 
.
 
565, 571(explaining that the bankruptcy system is generally unable to help reduce the damagefrom the current foreclosure crisis because of the protection it provides to most lenders who hold residential mortgage claims). The Bankruptcy Code, however, preventsborrowers from modifying mortgage loans secured only by the debtor's principalresidence. Instead, borrowers must cure defaults on residential loans and pay off theloans according to their original terms; otherwise, the bankruptcy court will lift the stay on collection actions and allow the mortgagee to foreclose on the property.
See 
11 U.S.C.§§ 1322(b)(5); 362(d)(1);
see 
Levitin
 , supra 
note 3
 ,
at 582.
4
15 U.S.C. §1601
et seq 
.
5
See generally 
D
EE
P
RIDGEN
&
 
ICHARD
M.
 
 A
LDERMAN
,
 
C
ONSUMER 
C
REDIT AND THE
L
 AW 
, § 14:17 (2008-09 ed.) [hereinafter P
RIDGEN
&
 
 A
LDERMAN
,
 
C
ONSUMER 
C
REDIT
 ].
6
TILA defines “material disclosures” as the annual percentage rate, the method of determining the finance charge and the balance upon which a finance charge will beimposed, the amount of the finance charge, the amount to be financed, the total of payments, the number and amount of payments, and the due dates or periods of payments scheduled to repay the indebtedness. 15 U.S.C. § 1602(u).

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