Lenders Rattled By Class Action On Broker Fees

A class action filed with a federal court in Boston may be the first in a wave of suits that could significantly change the way the mortgage industry does business.

Contimortgage Corp., a subsidiary of Contifinancial Services of New York, was hit last week with a suit charging racketeering, commercial bribery, and mail fraud.

At issue are bonuses paid to brokers, who initiate one-third to one-half of home loans industrywide, for making loans above prevailing interest rates.

The suit alleges that Horsham, Pa.-based Contimortgage paid half a point to brokers - amounting to $500 on a $100,000 loan - for each quarter-point rate premium. Lawyers for the plaintiffs say Conti made anywhere from 1,000 to 30,000 premium-rate loans.

At the heart of the suit are questions of fiduciary duty - whether a mortgage broker must work solely in the interest of the borrower, and whether Conti induced brokers to do otherwise.

This is a potentially dangerous suit, said Joe Lefkoff, counsel for the National Home Equity Association, and there are 50 to 100 similar class actions floating around the country. "It comes down to a question of what the broker told the borrower," he said.

The Department of Housing and Urban Development's regulations do not help. "Part of the problem here is the confusion created by HUD's regulations," Mr. Lefkoff said.

Lenders, brokers, and consumer advocates agree that the Real Estate Settlement Procedures Act does not define the issue well.

Although HUD is expected to define regulations governing broker compensation under the act more strictly, "it may not be in time" to defuse the lawsuits, said Mr. Lefkoff.

Contimortgage plans to "vigorously defend the suit," said Conti's chief counsel, Alan Langus.

Edward K. O'Brien, one of the three lawyers for the plaintiffs and partner in the O'Brien Law Firm, said the action was the first of eight or 10 that his legal team planned to bring against major lenders who paid such bonuses, known in industry jargon as overages.

Lenders are worried that the string of lawsuits could tap them financially and hurt the market. "Suits like this reduce the availability of credit in the country," said Larry Platt, chief counsel for the National Association of Mortgage Brokers.

"If brokers know they won't be paid for their work, they leave the marketplace. Mortgage lenders don't have the capital to set up branches anymore."

Disclosure requirements under the Truth-in-Lending Act, regulations under the settlement procedures act, and guidelines of the Racketeer Influenced and Corrupt Organizations Act may form the legal framework for the suit, said John Roddy, another of the plaintiffs' lawyers and a partner at Grant & Roddy, Boston. But he added that the suit comes down to "a question of right and wrong."

"There's no borrower who's going to say, 'The broker and lender want more money, so they going to charge me 11% instead of 10% interest rate? Oh, O.K., I'll take it,'" said Mr. Roddy.

Since the institution of a 1992 rule under the settlement act that required lenders to disclose yield spreads made on loans, the payment of overages has dropped sharply.

Lawyers are said to be filing now to beat the four-year statute of limitations for RICO cases.

Mr. O'Brien, Mr. Roddy, and the third lawyer for the plaintiffs, Daniel Edelman of the firm Edelman & Combs, should be familiar figures. All three have been involved in other class actions, including suits against GE Capital, Fleet Financial, and Ford Consumer Finance.

To defuse the lawsuits, lenders are trying to step up their lobbying. In the past year alone, three trade associations have been formed to push for more lucid, lender-friendly legislation.

But some, like James E. Moore, president of Contifinancial Corp., say dealing with legislation has become "just a cost of doing business."

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