The following article is reprinted from Basis Points® , Vol. 1, Issue 7, Copyright © 2002, with the permission of CounselorLibrary.com, LLC. All Rights Reserved. Further reproduction is prohibited without permission.

Once upon a time, a lender took an application for a mortgage loan and ordered a credit report. The credit reporting company charged $15 for the report. The lender paid the company its $15. The lender approved the application and the loan closed. At closing, the lender charged the applicant $75 for the credit report. After the loan closed, the borrower looked at the credit report fee and noticed the mark-up. The borrower sued the lender.

The borrower argued that the mark-up violated Section 8 of RESPA and its implementing provisions in HUD's Regulation X. The borrower argued that RESPA prohibits any person from pocketing a fee for a settlement service unless that person actually contributes something toward the performance of that settlement service. So, said the borrower, the lender violated RESPA by marking up the cost of the credit report by $60.

The lender agreed that RESPA prohibits payment of referral fees and kickbacks in return for the referral of a settlement service. RESPA may also prohibit someone from collecting a share or split or a percentage of a fee in return for an agreement to refer business. But Section 8 of RESPA does not prevent a lender from unilaterally deciding to mark up the cost of third party charges.

The Fourth Circuit Court of Appeals agreed with the lender. It relied on a number of arguments for its reasoning. First, precedent was on its side. The Seventh Circuit had come out the same way in the Echevarria case.

Second, the Court decided that the statute was clear on its face and that HUD did not have the authority to read more into the statute than the Congress had written. According to the Court, Section 8(a) of RESPA prohibits one person from paying another a fee for referring settlement service business its way. Section 8(b) of RESPA prohibits those same two parties from agreeing to compensate the referral agreement by splitting fees paid by the borrower. So, 8(a) and 8(b) differ as to the source of the payment that results from an unlawful agreement between two parties. Under 8(a), the party making the referral is paid directly by the party who gets the referral. Under 8(b), the party making the referral is paid a split or portion or percentage of a fee paid directly by the consumer. But, in either case, the borrower must show two parties acting in concert to refer business in return for unearned fees.

HUD and the Justice Department argued that Regulation X does not require two parties acting in concert. They argued that HUD clarified the meaning of Section 8(b) of RESPA when it adopted Section 14(c) of Regulation X (the regulation that implements RESPA). That section includes the following statement:

A charge by a person for which no or nominal services are performed or for which duplicative fees are charged is an unearned fee and violates this section.

The Court dismissed that argument. The Court found that HUD had no authority to issue that part of the regulation because the statute is clear on its face and the regulation is inconsistent with the clear meaning of the statute. In effect, the regulation creates a new category of prohibited conduct. According to the Court, an administrative agency, such as HUD, has the authority to expand the types of conduct prohibited by statute where the statute authorizes the agency to do so or where the statute is vague and the agency is simply providing a reasonable meaning to messy statutory language. The Court found that RESPA does not expressly authorize HUD to expand the scope of prohibited conduct. And, as discussed above, it concluded that the statute is not vague and does not need help from HUD to express its meaning.

The Court also took note of certain themes in the legislative history that spawned RESPA Section 8. Specifically, the Court found that the legislative record indicates that Congress considered two paths to protect consumers from unreasonable settlement service shenanigans. First, Congress considered and rejected a model of direct price controls. Under that model, HUD and the courts would have broad powers to set prices in the settlement service industry. Instead, Congress elected a structure that allows the free market to determine the price of settlement services, with HUD and the courts left with a limited role to intervene when two or more persons collude to pay unlawful referral fees.

Remarkable stuff. It will be interesting to see how HUD and the Justice Department respond. Note that there are few issues currently being litigated that could have a graver impact on the mortgage industry. Taken to its logical conclusion, HUD's reading of Section 8 would allow HUD to become the ultimate arbiter of high cost lending claims. Instead of having to show fraud or unfair or deceptive acts and practices, a consumer could simply claim that the combination of rate and fees charged on a transaction exceed the reasonable value of the loan. No alleged kickback. No alleged fee split. Just a simple allegation that the lender or broker marked up the rate and fees too high. The consequence? You will be required to refund three times the amount of interest/fees collected and/or go to jail. Watch these cases. Your liberty may be at stake.

If you are keeping score, HUD's defeat in the Fourth and Seventh Circuits affects business conducted in Illinois, Indiana, Maryland, North Carolina, South Carolina, Virginia, West Virginia and Wisconsin.

For more information, look for Boulware v Crossland Mortgage Corp., 2002 WL 1025101 (4th Cir. (D. Md.) May 22, 2002).

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