Predatory Servicing

For lenders that choose to manage portfolios of subprime credit quality loans, the rewards can be great. Servicing fees are higher. Many servicers have shied away from the subprime market, opening up opportunities for specialists to gain a competitive advantage.

But the risk of being dragged into predatory lending litigation is one drawback that servicers of subprime mortgages should factor into their business plans. It's no secret that class action lawyers who bring these suits are looking for deep pockets, such as large corporate parent companies that can be pressured into a settlement to avoid bad publicity. The broker who originated a loan may not have these deep pockets, but the servicer who ends up managing the loan probably does.

We have already seen efforts to hold investment banking firms that securitize subprime product responsible for predatory lending charges. Now, many attorneys and debtor activists are targeting loan servicers as well.

As Fitch Ratings recently warned, state and local legislation that is rapidly being enacted to combat predatory lending seems to be expanding the number of potential targets for litigation to include wholesale lenders, securitization conduits and, yes, servicers. The legislation being enacted by states and municipalities "significantly broadens the list of potential defendants" because of assignee liability provisions, Fitch Ratings said. In addition, many of the proposals expand the remedies available for violations of rules beyond the traditional remedies of rescission and forfeiture of interest - steep as those penalties were - to include payment of damages by the assignee, Fitch noted.

The prospect of damage awards creates an incentive for trial lawyers to pursue claims against lenders. It's only a matter of time before some company that innocently acquired loans through a servicing transfer gets stung by predatory lending accusations. And recent settlements involving companies such as Citigroup suggest that the scrutiny of lending practices will continue.

No doubt there have been abuses, mostly perpetrated by loan originators, that warrant attention to predatory lending.

Clearly the environment remains one where lenders and their "assignees" will be under increasing scrutiny for unfair lending practices.

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