01 Jun Bank Loan Modifications and FDIC Traps For the Unwary
A couple common scenarios could combine these days to harm consumers if they are not prepared for them. Borrowers trying to get reasonable mortgage modification arrangements should be wary of their lenders being taken over by the FDIC also.
Many mortgages are held as part of a bank’s portfolio. Sometimes you are dealing with the bank and sometimes you are dealing with a servicer who just manages the loan on behalf of an investor, which might be a bank. So even if you don’t pay your mortgage to a bank, it might be held by one ultimately.
And banks are failing at an alarming rate. When a bank is taken over by the FDIC, the FDIC is protected by law from “side deals” made with borrowers which might tend to reduce the value of your loan to them. What does this mean? It means that some deals made with banks to help modify a mortgage to save your home could be in jeopardy.
Under federal law, the FDIC is formally only “on the hook” for a deal made with you — where the deal tends to reduce the ultimate value of an asset, as a reduction in interest or principal in your loan might — if several (potentially impossible) steps are taken.
Section 1823(e) of the FDIC’s law provides that to bind the FDIC in the event it takes over your lender, the deal must be (a) in writing, (b) executed by both parties (often simultaneously with the bank taking on the loan), (c) approved by the board of directors of the bank with such approval reflected in the corporate minutes, and (d) continuously appearing in the records of the bank. Many of those requirements are out of the control of the typical consumer.
The goal of these regulations — often referred to as the D’Oench Dhume doctrine — is to protect the FDIC fund from unknown risks and losses hidden off-the-books by failing banks and their insiders. The public and the government have a right to believe that truthful — and complete — information about the financial condition of banks is being disclosed to bank regulators. And this means all their assets and liabilities are completely reflected on their books.
This does not mean that the FDIC taking over your lending bank is automatically rejecting deals you have worked out with the bank though. For example, the FDIC was and is one of the more aggressive agencies encouraging mortgage modifications to slow the foreclosure tide.
The FDIC has a detailed Statement of Policy which outlines numerous instances where the FDIC either will not rely on this statutory protection and will honor the contracts or where the FDIC officials have to get authority from their national office in order to invoke this protection. In general, the FDIC has made efforts to avoid the application of these rules to innocent borrowers, customers and service vendors. However it is something most people — and indeed most lawyers — are not familiar with.
A huge hat-tip to Montana Attorney James Cossitt for the invaluable lesson in FDIC regulations. Thanks, Jim!
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