In ruling that could be to the benefit of banks, lenders and mortgage servicers, the Third Circuit Court of Appeals ruled last week that the "tolerances for accuracy" provision of the Truth in Lending Act (TILA), 15 U.S.C. Sec. 1605(f), did not have to be alleged as an affirmative defense. The provision, added to TILA in 1995, excuses creditors from liability under the Act for minor undisclosed finance charges if they are below a specific range. The case is Sterten v. Option One Mortgage Corporation, No. 07-2237 (available here).
In February 2001, Gayle Sterten obtained a loan from Option One to refinance a second mortgage on her home and consolidate other debts. Two years after the closing, Sterten wrote Option One claiming that the loan violated TILA and requesting the loan be rescinded.
Sterten alleged in a lawsuit against Option One, filed as part of Sterten's Chapter 13 bankruptcy, that the finance charges for the loan were not accurately disclosed to her. Option One answered the complaint with the general denial that it "acted at all times relevant hereto in full compliance with all applicable laws and/or acts," but it did not expressly invoke the "tolerances for accuracy" provision. The parties later stipulated that ten different fees, totaling roughly $2,000, that were listed on the HUD-1 settlement statement had not been included as a "Finance Charge" disclosed in the TILA disclosure statement. The bankruptcy judge concluded that the disclosure statement violated TILA because two of the fees -- a $25 "mark up" in the appraisal fee and $32 for notary services -- met the definition of "finance charges."
Option One had not previously defended itself by saying that any undisclosed fees were so minor that they fell within the tolerances for accuracy provision. However, the trial judge concluded on his own that the undisclosed finance charges were within the tolerance range and therefore the disclosure was "accurate as a matter of law."
Not so fast, said Sterten -- Option One had never raised the tolerances for accuracy provision in its prior pleadings or even at trial. The trial judge reversed course, and agreed with Ms. Sterten that Option One waived this argument because it failed to specifically assert it earlier. The court permitted Ms. Sterten to rescind the loan, granted her $2,000 statutory damages and granted her $19,500 in attorneys' fees.
Although the case is important because the Third Circuit decided what a lender had to plead in order to invoke the tolerances for accuracy provision, the actual legal issue centers around the Federal Rules of Civil Procedure, and what is required by Rule 8(c) to be pleaded as an affirmative defense. The Third Circuit noted that the reason a defendant must plead certain defenses affirmatively, is to prevent unfair surprise to the plaintiff, and that Sterten would not suffer any unfair surprise by allowing Option One to invoke the tolerances for accuracy provision at any time:
We see no reason to think that Sterten suffered any "unfair surprise" as a consequence of Option One's failure to plead specifically the tolerances for accuracy defense. The analysis a plaintiff must undertake to show any undisclosed finance charges under the Truth in Lending Act -- that there were discrepancies between what was charged and what was disclosed in the Truth in Lending Disclosure Statement, and that those undisclosed fees fall within the Act's definition of a "finance charge" -- is the same analysis required to show that the undisclosed charges exceeded Sec. 1605(f)'s range of error.
Although the court acknowledged that "the most prudent course" was for Option One to argue specifically that if it made any disclosure errors, those errors fell within the tolerance range (which it should be noted goes down to only $35 if a borrower asserting the TILA violation has also been foreclosed on). However, Option One did not "forfeit" the defense by failing to raise it. Upon receiving the decision, a deep sigh of relief was heard by Option One (and its lawyers).