The Texas Constitution establishes requirements for homestead secured home equity loans. The constitutional provisions also provide a stiff penalty of forfeiture of all principal and interest paid for any violation that is not cured by the holder of the loan. However, there was uncertainty on the application of the forfeiture penalty. Texas appellate courts and federal district courts issued split decisions concerning whether a suit alleging a violation could be brought at any time or whether such suit was subject to a 4-year limitations period. The Fifth Circuit Court of Appeals tried to resolve the split in its 2013 Priester v. JP Morgan Chase Bank decision that found a 4-year limitations period.
The Texas Supreme Court settled the issue definitively in its May 2016 decision in Wood v. HSBC Bank USA, N.A., holding that no statute of limitations exists for a constitutional violation. The Supreme Court further held that the lien on a home equity loan is invalid until the violation is cured. On the same day, the Supreme Court issued its decision in Garofolo v. Ocwen Loan Servicing, L.L.C. that holds that the only constitutional right for a non-compliant loan is protection from foreclosure. However, a borrower can file a breach of contract suit to obtain forfeiture for any violation that can be cured by a corrective measure stated in the constitution. Here is how the Texas Supreme Court reached those conclusions.
Wood v. HSBC Bank USA, N.A. Alice and Daniel Wood obtained a home equity mortgage loan secured by their homestead in 2004. Eight years later, the Woods realized the loan violated the constitutional home equity loan requirement that closing fees not exceed 3% of the loan amount and notified the loan's current holder, HSBC Bank USA, N.A., and mortgage servicer, Ocwen Loan Servicing, LLC, of the violation. Neither party cured the violation. The Woods sued HSBC and Ocwen to quiet title and to obtain a declaratory judgment that the lien securing the home equity loan is void due to the constitutional violation, entitling them to forfeiture of all principal and interest paid on the loan, and also asserted claims for breach of contract, fraud, and forfeiture due to the constitutional violation. The Woods moved for summary judgment. HSBC and Ocwen also moved for summary judgment, arguing that the lien was voidable and not void, so the claims were barred by the 4-year statute of limitations. The trial court denied the Woods' motion and granted HSBC and Ocwen's motion after holding that the lien was voidable and thus the claims were time barred. The Woods appealed the application of the statute of limitations to the quiet title and forfeiture claims. The Woods argued that the lien of a noncompliant loan is invalid, until the violation is cured, and their lien became void upon the failure to cure after notice, so there is no statute of limitations. The intermediate appeals court affirmed the trial court's decision.
The Woods then appealed to the Texas Supreme Court. The state high court affirmed in part and reversed in part the trial court's decision. The high court first held that a noncompliant home equity loan is invalid until cured. The high court then held that, based on its first holding, there is no statute of limitations applicable to a violation of the constitutional home equity loan provisions. This second holding was supported by the fact that the constitutional home equity loan provisions do not impose a statute of limitations and a separate constitutional provision provides protection to bona fide purchasers. Finally, the high court held that the Woods were not entitled to forfeiture for the constitutional claim based on its holding in Garofolo v. Ocwen Loan Servicing, LLC below.
Garofolo v. Ocwen Loan Servicing, LLC. Teresa Garofolo paid off her home equity loan with Ocwen Loan Servicing, LLC. Ocwen recorded a release of lien, but failed to send Garofolo a release in recordable form, as required by the loan agreement and the home equity loan provisions in the Texas Constitution. Garofolo notified Ocwen of the failure, but Ocwen did not send the document. Garofolo sued Ocwen for violating the home equity loan provisions in the Texas Constitution and for breach of contract. Garofolo argued that she was entitled to the constitutional remedy of forfeiture of all principal and interest paid on the loan. Garofolo also argued that she was entitled to forfeiture for breach of contract because the loan agreement included the remedy for any violation. The trial court dismissed Garofolo's claims. Garofolo appealed.
The appellate court certified the following questions to the Texas Supreme Court:
- Does a lender or holder violate Article XVI, Section 50(a)(6)(Q)(vii) of the Texas Constitution, becoming liable for forfeiture of principal and interest, when the loan agreement incorporates the protections of Section 50(a)(6)(Q)(vii), but the lender or holder fails to return the cancelled note and release of lien upon full payment of the note and within 60 days after the borrower informs the lender or holder of the failure to comply?
- If the answer to Question 1 is "no," then, in the absence of actual damages, does a lender or holder become liable for forfeiture of principal and interest under a breach of contract theory when the loan agreement incorporates the protections of Section 50(a)(6)(Q)(vii), but the lender or holder, although filing a release of lien in the deed records, fails to return the cancelled note and release of lien upon full payment of the note and within 60 days after the borrower informs the lender or holder of the failure to comply?
The Texas high court answered both questions in the negative. The state high court relied on the plain language of the constitutional home equity loan provisions to conclude that the only constitutional rights they provide are protection from foreclosure to satisfy the obligation upon default when the provisions are not followed. Thus, a holder's failure to comply with a constitutional home equity loan provision is not a constitutional violation that would entitle the borrower to forfeiture. However, a borrower can pursue a breach of contract action to obtain the forfeiture remedy. The high court then held that the forfeiture remedy is only available when one of the six corrective measures in the home equity loan provisions can actually cure the holder's failure. The failure to send the release of lien in recordable form could not be corrected by any of the corrective measures, including the catch-all provision, because that provision assumes the loan is still in existence. Thus, Garofolo was not entitled to forfeiture for the breach of contract claim.
In light of these decisions, mortgage holders and servicers need to be vigilant and cure violations of the home equity loan constitutional provisions upon receipt of notice from a borrower or after any compliance review identifying a violation. Failure to do so could result in forfeiture in a breach of contract suit brought by a borrower. Documentation of the cure must be maintained over the life of the loan in case of suit.
Some uncertainty remains on the effect of these decisions on foreclosures. For any noncompliant loan, the foreclosure was improper so the borrower could be entitled to forfeiture. Foreclosed property held by a mortgagee may also have title issues as these properties are not protected by the bona fide purchaser provision in the Texas Constitition.
Wood v. HSBC Bank USA, N.A., 2016 Tex. LEXIS 383, 2016 WL 2993923 (Tex. May 20, 2016).
Garofolo v. Ocwen Loan Servicing, LLC, 2016 Tex. LEXIS 391, 2016 WL 2986237 (Tex. May 20, 2016).