Summary: A California appellate court has held that a lender that allegedly directed its borrower to default on her loan in order to qualify for a home mortgage modification may be held liable in tort for its mishandling of her application, because the lender exceeded the role of a conventional lender.  [Rossetta vs. CitiMortgage, Inc., 2017 Westlaw 6422567 (Cal.App.).]

Facts: A homeowner sought a home mortgage modification.  The lender allegedly made a variety of false and misleading statements.  At one point, the lender told the borrower that she was approved for a modification, only to later disapprove her application.  She was repeatedly forced to re-apply and was told at one point that she would not be considered for a modification until she had been at least three months behind in her payments.

Eventually, she brought suit, claiming (among other things) that the lender's handling of the modification process had been negligent.  The trial court sustained the lender's demurrer to her complaint.

Reasoning:The appellate court reversed, citing the familiar factors outlined in Biakanja v. Irving, 49 Cal.2d 647, 320 P.2d 16 (1958).  Those factors are used by the California courts to determine whether one party owes a duty of care to another.  The court noted a split of authority but held that this lender owed a duty of care to the borrower in its handling of the modification, under the narrow facts of this case:

[A] borrower and lender enter into a new phase of their relationship when they voluntarily undertake to renegotiate a loan, one in which the lender usually has greater bargaining power and fewer incentives to exercise care . . . .  We do not hold that a duty of care arises merely because a lender receives or considers a loan modification application. Nor do we hold . . . that a duty of care may arise solely by virtue of the parties' changing relationship. Rather, we conclude that the change in the parties' relationship can and should be factored into our application of the Biakanja factors. To this end, we find it significant that [the lender] allegedly refused to consider [the borrower's] loan modification application until she was three months behind in her mortgage payments. By making default a condition of being considered for a loan modification, [the lender] did more than simply enhance its already overwhelming bargaining power; it arguably directed [the borrower’s] behavior in a way that potentially exceeds the role of a conventional lender. . . .  At a minimum, the alleged policy of making default a condition of being considered for a loan modification informs our application of the Biakanja factors . . . .

Author's Comment: One may quibble with the court's characterization of the facts: if a lender has a policy of not granting modifications to borrowers unless they are three months in default, does that rise to the level of directing the borrower's behavior?  Or is that simply the even-handed application of a companywide policy?  If other companies have similar policies, does that then exceed the role of a conventional lender?  Or does that behavior become conventional because of its widespread adoption?

But the trend is obvious, even though we do not yet have California Supreme Court guidance on this precise issue:  the courts are heartily sick of the lending industry's handling of the modification process and will do whatever it takes to deliver a wake-up call to the banks.  Any lender that continues to play games with mortgage modifications does so at its peril.

For discussions of other cases involving harsh treatment of lenders in connection with mortgage modifications, see:

  • 2017-16 Comm. Fin. News. NL 32, Lender’s “Mortgage Modification Charade” Violates Automatic Stay, and Lender is Liable for $1 Million in Actual Damages and $45 Million in Punitive Damages.
  • 2017-12 Comm. Fin. News. NL 24, When Lender Encourages Borrower to Make Payments in Pursuit of Unavailable Mortgage Modification, Lender Has Engaged in Deceptive Practices.
  • 2017-5 Comm. Fin. News. NL 10, Borrower May Assert Common Law Negligence and Statutory Claims Against Loan Servicer That Delayed Approval of Modification Application While Pursuing Foreclosure.
  • 2016-19 Comm. Fin. News. NL 37, Borrowers May Assert Misrepresentation and Negligence Claims Stemming From Botched Loan Modification Against Loan Servicer and Against Indenture Trustee as Servicer’s Principal.
  •  2015-37 Comm. Fin. News. NL 74, Mishandling of Loan Modification Exposes Lender to Possible Liability for Punitive Damages, Since Employees’ Behavior Was Allegedly Ratified by Corporation.
  •  2015-09 Comm. Fin. News. NL 18, Homeowner May Assert Negligence Claim Against Loan Servicer for Mishandling of Application for Loan Modification.
  • 2013-06 Comm. Fin. News. NL 15,  Successor Bank May Be Held Liable to Commercial Borrower for Negligent Review of Failed Predecessor Bank's Loan Documents and for Fraudulent Misrepresentations Concerning Likelihood of Loan Modification.
  •  2012 Comm. Fin. News. 79, Mortgagor May Recover for Intentional Infliction of Emotional Distress from Mortgagee That Promises Loan Modification but Then Proceeds with Foreclosure.

These materials were written by Professor Dan Schechter of Loyola Law School, Los Angeles.