Watch for Possible Violations in Home Equity Loans

If you prosecute home equity loan foreclosures or defend insured lienholders against non-compliance complaints under Section 50(a)(6) of the Texas Constitution under a title insurance policy be careful once the borrower decides to file for bankruptcy protection to stop the foreclosure proceeding. The application of the four- year statute of limitations to cut off borrower complaints of non-compliance is in controversy due to conflicting bankruptcy court opinions.

Although the Texas Supreme Court has not ruled on the statute of limitations for a borrower to raise non-compliance complaints the Fifth Circuit and Texas state appellate courts have applied the four-year statute of limitations to cut off borrower complaints under Tex. Civ. Prac. & Rem.Code § 16.051. Priester v. JP Morgan Chase Bank, N.A., 708 F.3d 667 (5th Cir. 2013) cert. denied, 134 S. Ct. 196 (U.S. 2013).

After Priester, the Dallas Court of Appeals followed the Fifth Circuit’s ruling in Williams v. Wachovia Mortgage Corp., 2013 WL 3477570 (Tex. App. – Dallas 2013, pet. filed). The court agreed with Priester that the home equity loan was not void but voidable by the borrower. However, the borrower loses the ability to invalidate the loan if they wait more than four years after the closing to complain. Lenders and lienholders face settled rules in applying the statute of limitations in Texas state and federal courts because the courts are in agreement.

Bankruptcy Court Decisions In Conflict Over Texas Statute of Limitations

The situation changes in the bankruptcy arena because of two decisions from the Bankruptcy Court in the Eastern District of Texas. There the court held that a borrower could raise non-compliance complaints more than four years after the closing because of the creditor’s action in filing a proof of claim. In the case of In re Johnson, 2009 WL 2982783 (Bankr. E.D. Tex. 2009) the loan was closed in 2001 and the non-compliance complaint was made in 2007. In the case of In re Shankles, 2013 WL 5348879 (Bankr. E.D. Tex. Sept. 23, 2013) the loan was closed in July 2007 and the non-compliance complaint was made in September 2011. In both cases the court applied Section 16.051 of the Texas Civil Practices and Remedies Code and allowed the bankruptcy debytor to assert a counterclaim or cross claim if it arises out of the same transaction. Once the creditor filed a proof of claim, the court reasoned that the proof of claim was analogous to a lawsuit and the non-compliance complaints were “defenses” being raised by the debtor to the proof of claim that could be asserted because it was the creditor’s burden to establish a valid home equity lien.

The Johnson and Shankles cases are contrary to two other bankruptcy court decisions where the courts ruled that borrower complaints were cut off four years after the closing. See In re Ortegon, 398 B.R. 431 (Bank. W.D. Tex. 2008)(home equity loan made on April 16, 2003 and non-compliance complaint filed on July 6, 2007; complaint was time barred) and In re Chambers, 419 B.R. 652, 680 (Bankr. E.D. Tex. 2009) subsequently aff’d, 2013 WL 5915238 (5th Cir. May 3, 2013)(home equity loan made in 1999 and complaint filed in 2007; complaint was time barred and had to be filed in 2003).

Sigaran v U.S. Bank Nat.Ass’n

A new opinion from the Fifth Circuit in Sigaran v. U.S. Bank Nat. Ass’n, 13-20367, 2014 WL 1688345 (5th Cir. Apr. 30, 2014) casts doubt on the ability of borrowers to reframe their non-compliance complaints as defenses to the invalidity of the home equity lien at least in federal court. The borrowers contended that their non-compliance complaints were “cast primarily as defenses” to the bank’s foreclosure action and therefore the statute of limitations did not apply. The court disagreed and wrote:

The problem with these arguments, as the district court correctly noted, is that this Court has previously held the four-year residual statute of limitations applies to constitutional infirmities under section 50(a)(6) of the Texas Constitution. See Priester, 708 F.3d at 673–74. Like the Sigarans, the borrowers in Priester, in an attempt to avoid foreclosure, sought a declaratory judgment that the lien against their home was void because it was executed in violation of section 50(a)(6) of the Texas Constitution. Id. at 671–72. We “conclude[d] that a [four-year] limitations period applies to constitutional infirmities under Section 50(a)(6),” id . at 674, and we also held that the claim accrues at the time the loan is made, id. at 676.

Although Sigaran was not a bankruptcy case the court’s rationale appears applicable and could be argued if the debtor in bankruptcy raises the defensive use of non-compliance complaints based on Section 16.069 of the Texas Civil Practices and Remedies Code as was done in the Johnson and Shankles decisions.

Until the conflict in the bankruptcy courts in Texas is resolved, lenders and lienholders with home equity loans more than four years old should weigh carefully whether filing a proof of claim based on a non-recourse debt has any advantage. The result could mean the resurrection of time barred claims of non-compliance by the debtor or bankruptcy trustee.