Challenging Reduction Of Home Equity Lines Of Credit

    Reprinted with permission from Law360.

    Authors: Thomas J. Cunningham; Simon A. Fleischmann; John F. Kloecker; Sally W. Mimms; Robert T. Mowrey; Julie Webb

    Related Practices: Class Actions; Business Litigation and Arbitration

    Law360, New York (March 23, 2010) -- In the last few months, borrowers have filed a number of lawsuits throughout the country challenging the reduction of the limits on their Home Equity Lines of Credit, or “HELOCs.”

    Typically, borrowers assert causes of action for violation of the federal Truth in Lending Act, as well as state law claims for breach of contract, unjust enrichment and violation of the forum state’s unfair practices act. Many of these borrowers seek to bring their claims on behalf of a national class of similarly situated borrowers.[1]

    Creditors and their assignees who are sued in these actions have moved to dismiss the complaints in nearly every case. Courts are just beginning to rule on the creditors’ motions to dismiss and lay out what is required to state a claim in these types of actions. Only a handful of decisions have been issued thus far. The early results are somewhat of a mixed bag for creditors.

    Regulations Governing Reductions in Home Equity Lines of Credit

    The administration of HELOCs is governed by the Truth in Lending Act, 15 U.S.C. §§ 1601, et seq. (“TILA”), and its implementing regulation known as Regulation Z.

    In addition, the Federal Reserve Board of Governors has issued binding commentary on the provisions of Regulation Z. See 12 C.F.R. Part 226, Supp. I; see also Ford Motor Co. v. Milhollin, 444 U.S. 555, 565 (1980) (holding that “Federal Reserve Board staff opinions construing [TILA and its implementing regulations] should be dispositive” unless “demonstrably irrational”).

    TILA and Regulation Z allow creditors to reduce a borrower’s credit limit when a significant decline in the value of the property securing the line of credit has occurred. 15 U.S.C. §§ 1647(c)(2)(B), (C); 12 C.F.R. §§ 226.5b(f)(3)(vi)(A), (B). What constitutes a significant decline for purposes of the statute and regulations “will vary according to individual circumstances.” 12 C.F.R. Part 226, Supp. I, cmt. 5b(f)(3)(vi)-6.

    While this is necessarily an ambiguous standard, the commentary provides a safe harbor for creditors: Where a borrower’s available equity in a property has declined by 50 percent, the decline is significant and the credit limit may be reduced. Id.

    This means that although declines of 50 percent or more are significant as a matter of law, a decline of less than 50 percent may also be significant depending on the “individual circumstances.”

    Because the significant decline inquiry focuses on a borrower’s available equity rather than the value of the property alone, even small reductions in the value of the property may constitute significant declines under TILA if the borrower’s available equity was not very large to begin with.

    Notably, TILA “does not require a creditor to obtain an appraisal before suspending credit privileges” based on a significant decline in the value of the property. 12 C.F.R. Part 226, Supp. I, cmt. 5b(f)(3)(vi)-6.

    In fact, guidelines issued by the Federal Deposit Insurance Corporation regarding the handling of reductions in credit limits expressly contemplate a creditor’s use of automated valuation models, or “AVMs,” in determining whether a significant decline has occurred. See FDIC FIL-58-2008, “Home Equity Lines of Credit Consumer Protection and Risk Management Considerations When Changing Credit Limits,” 2008 WL 2552743, *3, 5 (June 26, 2008).

    Creditors are required to notify a borrower in writing within three business days when they decide to reduce the borrower’s credit limit. 12 C.F.R. § 226.9(c)(3).

    The written notice must state the reason for the deduction. Id. “If the creditor requires the consumer to request reinstatement of credit privileges, the notice shall also state that fact.” Id. If and when a borrower requests reinstatement, the creditor is required to “promptly investigate to determine whether the condition [that justified the reduction] ... continues to exist.” Id.

    Under TILA, creditors are specifically permitted to collect reasonable fees for any appraisals and credit reports required before a HELOC can be reinstated. See 12 C.F.R. Part 226, Supp. I, cmt. 5b(f)(3)(vi)-3 and 5b(f)(3)(vi)-4.

    Claims Asserted in Recent Lawsuits

    Most of the cases filed so far include claims for violation of TILA, breach of contract, violation of a state consumer fraud act, breach of the implied covenant of good faith and fair dealing, and unjust enrichment. Plaintiffs also generally include a separate claim for a declaratory judgment. These claims are supported by several different theories.

    The core claim is that the plaintiff’s property did not actually experience a significant decline in value. Borrowers contend that creditors’ valuations are either erroneous or unreliable, and that therefore they were not entitled to terminate, suspend, or reduce credit limits on HELOCs.

    Some plaintiffs allege that they obtained an appraisal showing a higher value than the AVM used to justify the action taken by the creditor, but in many cases plaintiffs simply fail to allege any facts to support the conclusion that the value of their equity did not significantly decline. Borrowers often challenge the use of AVMs per se, alleging that they are either unreliable or not permissible under TILA.

    Borrowers also frequently contend that they received insufficient notice of the reduction of their HELOC limit. In some cases, borrowers have argued that simply informing them that the action is being taken due to a substantial decline in value of the property securing the account is not a sufficiently “specific reason.” They contend that additional information, such as the value of the property and how that value was determined, should be included in the notice.

    Some borrowers have also argued that their mortgage agreement prohibits the creditor from charging them a set annual fee for the HELOC during any period in which their credit limit is reduced or suspended.

    Early Decisions on Motions to Dismiss

    Although only a small number of courts have ruled on motions to dismiss in this type of litigation, the few decisions that have emerged make it clear that individual circumstances and particular factual allegations play a large role in determining whether a plaintiff has stated a claim.

    In nearly half of the early opinions on motions to dismiss, borrowers’ TILA claims were dismissed because they failed to adequately allege that the HELOC at issue was obtained primarily for “personal, family, or household purposes” such that TILA would even apply to the loan.

    See Walsh v. JP Morgan Chase Bank, No. 09-04387 RGK, Docket No. 26 at 3 (C.D. Cal. Dec. 8, 2009); Wilder v. JP Morgan Chase Bank NA, No. 09-0834 DOC, Docket No. 26 at 4 (C.D. Cal. Nov. 25, 2009); Schulken v. Washington Mutual Bank, No. 09-02708 JW, Docket No. 30 at 6-7 (N.D. Cal. Nov. 19, 2009).

    At least one court has held that a borrower must specifically allege that they have made all of their payments and are not in default in order to bring a breach of contract claim. See Schulken, No. 09-02708 JW, Docket No. 30 at 8.

    Notably, the court in Wilder held that the borrower’s allegation that he had obtained an appraisal that conflicted with the creditor’s valuation of his property was essential to the survival of his breach of contract claim. See Wilder, No. 09-0834 DOC, Docket No. 26 at 4-5.

    In addition, independent claims for breach of the implied covenant have been rejected as duplicative of claims for breach of contract. See Levin v. Citibank NA, No. 09-00350 MMC, Docket No. 57 at 1 (N.D. Cal. Sept. 17, 2009); Schulken, No. 09-02708 JW, Docket No. 30 at 9-10.

    In Hickman v. Wells Fargo Bank, the court definitively rejected a number of theories typically asserted in these types of actions, rather than dismissing claims without prejudice and with leave to amend, which had been the standard practice prior to the Hickman decision.

    Compare Hickman, --- F. Supp. 2d ---, 2010 WL 345962 (N.D. Ill. Jan. 26, 2010) with Levin, No. 09-00350 MMC, Docket No. 57; Schulken, No. 09-02708 JW, Docket Nos. 30, 43; Walsh, No. 09-04387 RGK, Docket No. 26; Wilder, No. 09-0834 DOC, Docket No. 26.[2]

    Relying on a recent Seventh Circuit interpretation of Iqbal and Twombly, the court held that Hickman’s mere allegation that he did not believe the value of his property experienced a significant decline was sufficient to state a claim for violation of TILA and breach of contract because plaintiffs need only give the defendant “sufficient notice” of the claim. Hickman, 2010 WL 345962 at *4, 10 (citing Brooks v. Ross, 578 F.3d 574, 580 (7th Cir. 2009)).

    The court also held that Hickman’s allegation that Wells Fargo intentionally used a faulty and unreliable AVM in determining that a significant decline occurred stated a claim for unfair and deceptive business practices under the Illinois Consumer Fraud Act. Id. at *14.

    Most of Hickman’s other claims, however, were dismissed with prejudice.[3] As the court explained:

    The notice of the reduction sent to Hickman by Wells Fargo, informing Hickman that his credit limit was being reduced “due to a significant decline in value of the property securing the account,” was sufficient as a matter of law under TILA. See id. at *5-6, 8 (dismissing claims for violation of TILA and for declaratory relief, and finding that TILA did not require any of the information Hickman set out in his complaint).

    • Wells Fargo was specifically authorized by TILA to require a borrower seeking reinstatement to pay for an appraisal. Id. at *6-8, 15 (dismissing claims for violation of TILA, declaratory relief, and violation of the ICFA, and noting that Hickman’s claim challenging the fee was also subject to dismissal because Hickman did not allege that he had actually been charged the fee or sought reinstatement of his initial credit limit).
    • Hickman’s HELOC agreement “expressly indicates” that he would be responsible for paying an annual fee even if his credit limit was reduced. Id. at *11 (dismissing breach of contract claim).
    • Where a plaintiff “has alleged an independent cause of action for breach of contract based on the same allegations,” a separate claim for breach of the implied covenant of good faith and fair dealing is not available. Id. at *11-12 (dismissing claim for breach of the implied covenant).
    • “[A] cause of action for unjust enrichment is unavailable where, as here, the parties have entered into a contract which governs the dispute.” Id. at *15-16. (dismissing claim for unjust enrichment).

    Although the court allowed Hickman to proceed past the pleadings stage on his core legal theory — that his HELOC limit should not have been reduced because his property did not significantly decline in value – the court enforced the plain language of TILA and the HELOC agreement in dismissing the majority of Hickman’s claims with prejudice.

    More Recent Developments in HELOC Litigation

    Recently courts have begun issuing opinions on the second rounds of motions to dismiss in the HELOC class action cases. In both Schulken and Walsh, courts granted in part and denied in part the creditor’s motion to dismiss the borrower’s First Amended Complaints.

    The court in Schulken held once again that the plaintiff had not stated a claim under TILA because he had failed to sufficiently allege that the loan was for consumer, rather than business, purposes. Schulken, No. 09-02708 JW, Docket No. 43 at 5-6 (N.D. Cal. Mar. 3, 2010) (also dismissing derivative claims for breach of contract and violation of California’s Unfair Competition Law).

    The court declined to dismiss Schulken’s claims alleging that the creditor had breached the contract by suspending his HELOC before its own deadline for submitting financial information. Id. at 6-7 (finding that Schulken had adequately alleged his own performance).

    In Walsh, the court found that the borrower, who alleged specific values for his property and his available equity at relevant times, had stated a claim under TILA based on wrongful reduction of the credit limit. Walsh, No. 09-04387 RGK, Docket No. 37 at 2-3 (C.D. Cal. March 5, 2010) (declining to dismiss derivative claims for breach of contract and unfair practices.

    The court in Walsh did, however, dismiss the borrower’s TILA claim based on inadequate notice for the same reasons expressed in Hickman. Id. at 3, 5 (dismissing derivative unfair practices claim as well).

    Finally, the court dismissed the borrower’s claim for breach of the implied covenant as duplicative of the breach of contract claim. Id. at 4-5. Unlike Hickman, however, the courts in Schulken and Walsh declined to dismiss borrowers’ claims with prejudice.


    The legal theories advanced in the HELOC class action cases continue to make their way through the courts. Courts are generally dismissing claims but allowing plaintiffs leave to amend.

    Core claims that property values did not actually significantly decline are beginning to move past the pleading stage, but peripheral theories related to the content of notices, charging of annual fees and the like are being disposed of. Motions to dismiss are currently pending in at least six similar cases.[4]

    Both creditors and borrowers will be watching intently as the legal landscape surrounding the reduction of Home Equity Lines of Credit continues to develop and evolve, and move toward the issue of whether classes can be certified with respect to any of the borrowers’ claims that survive motions to dismiss.

    -By Thomas J. Cunningham, Simon A. Fleischmann, John F. Kloecker, Sally W. Mimms, Robert T. Mowrey and Julie Webb, Locke Lord Bissell & Liddell LLP

    Locke Lord Bissell & Liddell and its attorneys authoring this article represent Wells Fargo Bank NA in the Hickman action discussed above.

    Thomas Cunningham is a partner in Locke Lord's litigation department in the firm's Chicago office and leader of the firm's class action practice group. Robert Mowrey is a partner with the firm in the Dallas office and co-chair of the firm's litigation department. Simon Fleischmann and John Kloecker are both partner in the firm's litigation department in the Chicago office. Sally Mimms is an associate in the business litigation and arbitration practice group and class action practice group of Locke Lord's Chicago office. Julie Webb is an associate in the business litigation and arbitration practice group and class action practice group of the firm's Chicago office.

    The opinions expressed are those of the authors and do not necessarily reflect the views of Portfolio Media, publisher of Law360.

    [1] These purported class actions include: Boyden v. Harris NA, No. 09-06415 (N.D. Ill.); Falahati v. JP Morgan Chase Bank, No. 09-06012 RGK (C.D. Cal.); Hackett v. JP Morgan Chase Bank NA, No. 09-07986 (N.D. Ill.); Hamilton v. Wells Fargo Bank NA, No. 09-04152 CW (N.D. Cal.); Hickman v. Wells Fargo Bank NA, No. 09-05090 (N.D. Ill.); Kimball v. Washington Mutual Bank, No. 09-01261 MMA (S.D. Cal.); Levin v. Citibank NA, No. 09-00350 MMC (N.D. Cal.); Majon v. Washington Mutual Bank, No. 09-05118 (N.D. Ill.); Malcolm v. JP Morgan Chase Bank NA, No. 09-04496 JF (N.D. Cal.); Ostrow v. JP Morgan Chase & Co., No. 09-01445 MMA (S.D. Cal.); Schulken v. Washington Mutual Bank, No. 09-02708 JW (N.D. Cal.); Walsh v. Washington Mutual Bank, No. 09-04387 RGK (C.D. Cal.); Wilder v. JP Morgan Chase Bank NA, No. 09-00834 DOC (C.D. Cal.); Winkler v. Citigroup Inc., No. 10-00572 (N.D. Cal.); Yakas v. Chase Manhattan Bank USA NA, No. 09-02964 WHA (N.D. Cal.); Yellin v. Wells Fargo Bank NA, No. 09-07135 PA (C.D. Cal.).

    [2] One court has dismissed a borrower’s claim challenging the creditor’s ability to continue to charge an annual fee after reducing the credit limit with prejudice, but that case did not involve any other claims typical of these actions. See Falahati v. JP Morgan Chase Bank, No. 09-06012 RGK, Docket No. 16 (C.D. Cal.).

    [3] The court also dismissed two claims without prejudice: one claim for declaratory judgment and one claim under the ICFA. See id. at *8-9 (dismissing claim for declaratory judgment because “TILA presents comprehensive remedies to [Hickman] and the class”); id. at *13-14 (dismissing ICFA claim based upon alleged deceptive “statements regarding the availability of credit through HELOCs” because the claim was not pled with the particularity required for allegations of fraud pursuant to Federal Rule of Civil Procedure 9(b)).

    [4] See, e.g., Hamilton, No. 09-04152 CW; Kimball, No. 09-01261 MMA; Malcolm, No. 09-4496 JF; Ostrow, No. 09-01445 MMA; Wilder, No. 09-00834 DOC; Winkler, No. 10-00572 MEJ.

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