Because of the fierce protection Texas has always accorded homesteads, home-equity lending came late to this State, arriving in 1997 via a lengthy amendment to our constitution. The Texas Supreme Court has previously described that 6000-word governing provision—Article XVI, § 50 of the Texas Constitution—as “by far the longest, most complex section” of the constitution. It is dense, arcane, and difficult to navigate. In two recent decisions, the Supreme Court clarified how certain of those provisions should be interpreted and applied, although both majority opinions met with persuasive dissents. In Garafolo v. Ocwen Loan Servicing, LLC, the Court held the constitution establishes no right of action or remedy other than “freedom from forced sale” for a home-equity mortgage that doesn’t comply with § 50: “Section 50(a) simply has no applicability outside foreclosure.” In Wood v. HSBC Bank USA, N.A., the Court ruled home-equity mortgages that do not comply with § 50(a) are “invalid” unless and until cured, and therefore there is no statute of limitations for a borrower’s assertion of that invalidity through an equitable action to quiet title or, by implication, as a defense in a judicial foreclosure action. Each of these decisions is discussed in more detail below.

Garafolo v. Ocwen Loan Servicing, LLC

Justice Brown (Opinion), Justice Boyd (Dissent)

Section 50 provides that a borrower’s homestead is protected from foreclosure for non-payment of loans that fail to comply with that section’s requirements and prohibitions. But subsection 50(a)(6)(Q)(x) appears to go further, stating that “the lender or holder of the [home-equity] note … shall forfeit all principal and interest” if the lender or holder fails to comply its obligations in connection with the loan and fails to timely “correct the failure” through one of six prescribed measures after receiving notice of the defect from the borrower—in other words, some have said, the borrower gets a free house. Garafolo was an attempt to exploit this “Draconian” penalty.

Section 50(a)(6)(Q)(vii) directs that a lender must promise that, upon payment in full, it will return the original note to the borrower along with a release of lien in recordable form. Garafolo paid off her loan. The then-holder of her note recorded a release of lien in the property records, but failed to send Garafolo her own release in recordable form and then failed to “correct the failure” after being given notice. Even though her loan had been paid and her lien released, Garafolo sued for forfeiture of all principal and interest.

In response to certified questions from the Fifth Circuit, the Texas Supreme Court held that § 50(a)(6)(Q)(x) does not establish a constitutional cause of action or prescribe a constitutional sanction for non-compliant loans; instead, it merely states one potential remedy for a breach-of-contract claim if the loan documents contain the prescribed provisions. Section 50(a)(6)(Q), the Court explained, requires only that a home-equity loan be “made on the condition that” it comply with the various provisions of that subsection, including the right to forfeiture in limited circumstances. “[F]orfeiture is available only if one of the six specific constitutional corrective measures would actually correct the lender’s failure to comply,” and the lender “fails to timely perform the corrective measure following proper notice from the borrower.” “[T]he constitution insists not on technical compliance with a corrective measure but on actually fixing the problem.” Here, the Court said, none of the six remedial measures of § 50(a)(6)(Q)(x) would “correct the failure” identified by Garafolo, and so she could not pursue forfeiture even as a remedy for breach of contract. The dissent agreed § 50(a)(6)(Q)(x) creates neither a constitutional right of action nor remedy, but diverged from the majority’s refusal to approve forfeiture as a breach-of-contract remedy unless one of the six constitutionally prescribed remedial measures would “actually correct” the lender’s failures. Specifically, the dissent noted that the last of these six measures— § 50(a)(6)(Q)(x)(f), which allows a lender to pay the borrower $1,000 and offer to refinance the remaining term of the loan—is expressly designed as a “catch-all” that a lender can perform “if the failure to comply cannot be cured” by any of the five preceding measures. Even if performing this “catch-all” would not “actually correct” the alleged defect here (or in any case), the dissent said, the constitution and loan documents require the lender or holder to do it to avert forfeiture.

Wood v. HSBC Bank USA, N.A.
Supreme Court of Texas (May 20, 2016)
Justice Lehrmann (Opinion), Chief Justice Hecht (Dissent)

In Wood, the borrowers argued their home-equity loan violated § 50(a)(6)(E), which proscribes fees totaling more than 3% of the principal. But the Woods waited almost eight years after closing their loan to give the lender notice of this alleged defect. When the lender didn’t cure, the Woods filed suit, seeking to quiet title through a finding the lien on their homestead was invalid, because the loan failed to comply with § 50. The trial court granted summary judgment to the lender, which had argued the Woods’ claims were barred by limitations. The court of appeals affirmed.

Much of the argument focused on whether and how the common-law doctrine of void-versus-voidable acts applied to this dispute. Because, as discussed in Garafolo and in prior cases, a defective home-equity loan can be “cured,” the lenders argued such loans must be merely voidable and therefore (i) valid until proven not to be, and (ii) subject to the bar of limitations, which begins to run from the time of the voidable act. But, the Supreme Court held, “the plain language of the Constitution … defies common-law categorization.” Section 50 doesn’t describe home-equity mortgages as “void” or “voidable.” Instead, § 50(a) provides that a homestead is “protected from forced sale” unless the home-equity mortgage complies with a variety of requirements. And § 50(c) “dictates that no lien on a homestead ‘shall ever be valid’ unless it secures a debt that meets section 50(a)(6)’s requirements.” Therefore, the Court concluded, (i) a defective home-equity lien is “invalid” and unenforceable from the outset, unless and until cured, (ii) “the borrower has no … deadline by which it must request cure” under the constitution, and (iii) no statute of limitations applies to a borrower’s right to pursue an action to quiet title based on the invalidity of the lien.

The dissent reminded the majority that “every appellate court that has considered the matter” had reached the opposite conclusion, finding limitations does apply. And it argued the majority’s decision will play havoc with future disputes brought to court long after the events at issue, and will “inject[] instability into land titles.” But the majority deflected this last criticism, pointing out that subsequent purchasers are protected by § 50(i) of the constitution, which provides that, under appropriate conditions, a “purchaser for value without actual knowledge [of a defect] may conclusively presume that a lien securing a [home-equity loan] was a valid lien ….”

Although Garafolo and Wood answered some of the questions surrounding the operation and application of § 50, many more remain. This is not the end of litigation involving this difficult, complicated provision.