Court Strikes Class Action in Option ARM Case

Chicago-The Seventh Circuit Court of Appeals has struck down the class certification in a closely watched lawsuit by a Wisconsin couple who maintained that they didn't understand the initial 1.95% teaser rate was only for one month when they took out a payment-option adjustable-rate mortgage from Chevy Chase Bank.

The decision is a significant win for lenders, according to Laurence Platt, a partner with the Washington law firm K&L Gates LLP. "Finally some good news for the mortgage industry," Mr. Platt told MSN.

"A contrary decision would have permitted borrowers to rescind their mortgages on a class-wide basis providing an economic windfall that is disproportionate to any actual harm and reeking economic havoc on the holders of the related mortgage-backed securities."

A U.S. District Court judge had formerly ruled in favor of Bryan and Susan Andrews in their request to rescind the loan under the Truth in Lending Act and certified a class-action lawsuit. But circuit judges reversed the class certification and said the right of rescission is an individual remedy and Congress did not intend to leave lenders exposed to class actions costing hundreds of millions of dollars. "Using a class action to resolve a multitude of individual, varied rescission claims is neither economical nor efficient in any sense of those terms," the opinion said.

The court found support for that conclusion in the text and history of the TILA statute, which limits the damages available in a class action.

Tom McCormick, executive vice president at the Maryland based-Chevy Chase Bank, said he does not think the ruling is necessarily a victory for lenders because it is not a loss for borrowers. "Borrowers have all the remedies that they are entitled to. Those are significant remedies, which they should have," he said. "This is a loss for plaintiff class-action lawyers looking for a windfall. This borrower had no actual damages, is paying an interest rate of 5.5%, lower than he'd get in a conventional mortgage, and did not allege that he in fact was misled." He said this case resulted from a printer problem in which documents had some words cut off on the printer when they were printed out at the closing office. "The words that were cut off allowed the plaintiff's lawyer to argue and the District Court's judge to agree that the loan was capable of being misunderstood to be one where the loan rate was locked for five years as opposed to the payment rate," he said.

For its own protection, Chevy Chase Bank provides borrowers a simple, one-page risk disclosure notice to make sure option ARM borrowers understand the product.

"I have no doubt that the Andrews understood the loan. They were sophisticated borrowers who had investment properties, option ARM loans, including one from us that was not the basis of this suit. The monthly bill that one gets under an option ARM has the four boxes for choices of the payments each month, the full interest payment, the full amortizing payment, the amortizing payment over 30 years and the minimum payment. The borrower has to check each month what they are inclosing. The Andrews had been making those bills and making those checks for over a year. The notion they misunderstood the loan is fiction." Chevy Chase offered to settle the case with the Andrews and give then a fixed-rate loan at a below-market interest rate. The couple's lawyer, on their behalf, refused, said Mr. McCormick.

"The Seventh Circuit concurred with the First Circuit, the Fifth Circuit and the California Court of Appeals and said as a legal matter, class actions for rescission, in other words, undoing the loan, were not available under Truth in Lending. This case only decided whether the plaintiff could have a class action. The court concluded 'no.'"

Lenders could still see class actions for statutory damages under Truth in Lending, he said. Any financial institution that gives out a TILA statement might make a mistake someday, and instead of dealing with that borrower, they have to deal with potentially thousands of borrowers, and it raises the stakes.

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