BILL ANALYSIS SB 660 Page 1 Date of Hearing: June 29, 2009 ASSEMBLY COMMITTEE ON BANKING AND FINANCE Pedro Nava, Chair SB 660 (Wolk) - As Amended: June 23, 2009 SENATE VOTE : 23-15 SUBJECT : Reverse Mortgages. SUMMARY : Provides that any lender, broker, person or entity who recommends the purchase of a reverse mortgage in anticipation of financial gain owes the borrower a duty of honesty, good faith, and fair dealing. Specifically, this bill : 1)Specifies that the duty shall not be deemed to have been breached based on actions or omissions of a counseling agency used by the borrower to fulfill the mandatory counseling requirement. 2)Prohibits the acceptance of a reverse mortgage application by a lender unless the lender provides the prospective borrower with a check list that alerts the prospective borrower to the following: a) How unexpected medical or other events that cause the prospective borrower to move out of the home earlier than anticipated will impact the total loan cost; b) The extent to which the prospective borrower's financial needs would be better met by options other than a reverse mortgage, including, but not limited to, less costly home equity lines of credit, property tax deferral programs, or governmental aid programs; c) Whether the prospective borrower intends to use the proceeds of the reverse mortgage to purchase an annuity or other insurance products and the consequences of doing so; d) The effect of repayment of, or inability to repay, the loan on residents who are not borrowers after all borrowers have died or permanently left the home; e) The prospective borrower's ability to finance routine or SB 660 Page 2 catastrophic home repairs, especially if maintenance is a factor that may determine when the mortgage becomes payable; f) The impact that the reverse mortgage may have on the prospective borrower's tax obligations, eligibility for government assistance programs, and the effect that losing equity in the home will have on the borrower's estate and heirs; and, g) The ability of the borrower to finance alternative living accommodations such as assisted living or long-term care nursing home residency, after the borrower's equity is depleted. 3)Requires that the checklist must be signed by the counselor and the prospective borrower and returned to the lender with a certification of counseling. EXISTING FEDERAL LAW 1)Define a reverse mortgage as a nonrecourse consumer credit obligation in which a mortgage, deed of trust, or equivalent consensual security interest securing one or more advances is created in the consumer's principal dwelling, and any principal, interest, or shared appreciation or equity is due and payable (other than in the case of default) only after the consumer dies, the dwelling is transferred, or the consumer ceases to occupy the swelling as a principal dwelling (Truth in Lending Act, 12 CFR 226.33); 2)Require a creditor who issues a reverse mortgage to provide specified disclosures to the borrower, informing the borrower that he or she is not obligated to complete the reverse mortgage transaction merely because he or she has received the disclosures required by federal law or has signed an application for a reverse mortgage loan; providing the borrower with a good-faith projection of the total cost of the credit to him or her, as specified; and itemizing pertinent information about the loan, including the loan terms, charges, the age of the youngest borrower, and the appraised property value (12 CFR 226.33); 3)Provides consumers with a three-day right to rescind a consumer credit transaction, other than a residential SB 660 Page 3 mortgage, in which a security interest is or will be retained or acquired in a consumer's principal dwelling, as specified (12 CFR 226.23); 4)Establishes, within the United States Department of Housing and Urban Development (HUD), the Home Equity Conversion Mortgage (HECM) program to provide federal insurance for reverse mortgages that meet HUD requirements. Makes the HECM loan available to persons 62 years of age and older and provides that the loans, made against home equity, shall not come due until the borrower(s) dies, moves out of the home permanently, or sells the home. Provides, however, that loan may become due earlier if the borrower(s) fails to pay property taxes or to maintain the home, as specified in the loan agreement. Provides that at the time the loan comes due, the property shall be sold to retire the loan amount with any residue returning to the estate or heirs of the borrower. Requires any prospective heir to satisfy the lender's lien before taking title to the property (12 USC Section 1715z-20 et seq.; 12 CFR Section 226.33.); 5)Requires that all applicants for an insured HECM loan receive adequate counseling from an independent third party that is not, either directly or indirectly, associated with or compensated by the lender, loan originator, or loan servicer, or by any party associated with the sale of annuities, investments, long-term care insurance, or any other type of financial or insurance product. Requires the lender, at the time of initial contact, to provide the borrower with a list of approved HUD counseling agencies (12 USC Section 1715z-20; 24 CFR 206.41); 6)Requires all HECM loan counselors to be approved by HUD and meet HUD standards, as specified. Further requires the Secretary of HUD to develop uniform counseling protocols by July 30, 2009. Requires that the protocols require a qualified counselor to discuss, generally, financial options other than a reverse mortgage, the financial implications of reverse mortgages, including any tax consequences, or the affect of the loan on eligibility for government assistance programs (12 USC 1715z-20; 24 CFR Section 214.103); 7)Prohibits the lender or any person involved in the origination of the HECM from participating in, being associated with, or employing any party that participates in the sale of other SB 660 Page 4 financial or insurance products, unless the lender or originator maintains firewalls and other safeguards designed to ensure that individuals participating in the origination of the HECM loan shall have no involvement with, or incentive to provide the borrower with, any other financial or insurance product. Specifies that a prospective borrower shall never be required to purchase any other financial or insurance product as a condition of obtaining a reverse mortgage. (12 USC 1715z-20) EXISTING STATE LAW 1)Defines a reverse mortgage as a nonrecourse loan secured by real property, which meets all of the following criteria [Civil Code Section 1923]: a) The loan provides cash advances to a borrower based on the equity or value in a borrower's owner-occupied principal residence; b) The loan requires no payment of principal or interest until the entire loan becomes due and payable; and, c) The loan is made by a lender licensed or chartered pursuant to California or federal law. 2)Specifies several conditions which must be satisfied by lenders who make reverse mortgage loans, and several prohibitions that apply to those lenders, and includes among those rules, the following [Civil Code Section 1923.2]: 3)Before a lender may accept a final and complete application for a reverse mortgage loan or assess any fees, that lender must: a) Refer the prospective borrower to a housing counseling agency approved by the United States Department of Housing and Urban Development (HUD); b) Provide the borrower with a list of at least five housing counseling agencies approved by HUD, including at least two agencies that can provide counseling by telephone; and c) Receive a certification from the applicant or the SB 660 Page 5 applicant's authorized representative that the applicant has received counseling from a HUD-approved counseling agency. The counseling is required to meet the standards and requirements established by HUD for reverse mortgage counseling. The certification must be signed by the borrower and the agency counselor, and must include the date of counseling, and the name, address, and telephone numbers of both the counselor and the borrower. 4)No lender may make a reverse mortgage loan without first complying with, or in the case of brokered loans, ensuring compliance with, the requirements of Civil Code Section 1632, relating to the translation of loan documents; 5)Prohibits a reverse mortgage lender from requiring an applicant for a reverse mortgage to purchase an annuity as a condition of obtaining a reverse mortgage loan, and provides that a reverse mortgage lender or broker arranging a reverse mortgage loan may not offer an annuity to the borrower or refer the borrower to anyone for the purchase of an annuity, before closing the reverse mortgage, or before the borrower's right to rescind the mortgage contract has expired [Civil Code Section 1923.2]; 6)Provides that, to the extent that the following rules do not conflict with federal law and result in the loss of federal funding, reverse mortgage loan payments made to a borrower must be treated as proceeds from a loan, and not as income, for the purpose of determining eligibility and benefits under means-tested programs of aid to individuals, as specified [Civil Code Section 1923.9]; 7)Imposes a special duty of honesty, good faith, and fair dealing on an insurer, broker, agent, and all others engaged in the transaction of insurance with a prospective insured who is 65 years of age or older, as specified (Insurance Code Section 785), and establishes several requirements that must be followed and prohibitions that must be observed when seniors age 65 or older are marketed or sold insurance policies [Insurance Code Sections 785 et seq.]; 8)Authorizes the Insurance Commissioner to assess an administrative penalty for the violation of the duty immediately above and other provisions relating to the sale of insurance to seniors; authorizes actions for injunctive SB 660 Page 6 relief, penalties, damages, restitution, and all other remedies in law for violating the sections of law relating to the sale of insurance products to seniors to be brought in superior court by the Attorney General, a district attorney, or city attorney; and authorizes the court to award reasonable attorney's fees and court costs to the prevailing plaintiff [Insurance Code Sections 789 and 789.3]; 9)Requires financial institutions, as defined, and their officers and employees, from January 1, 2007 until January 1, 2013, to report suspected financial abuse of an elder or dependent adult, as defined, and makes failure to report suspected financial abuse a violation of the law, subject to a civil penalty up to $1,000 ($5,000 if failure to report is willful), paid by the financial institution to the party bringing the action [Welfare and Institutions Code Section 15630.1]. FISCAL EFFECT : None COMMENTS : Need for the bill . According to the author, reverse mortgages are loans that allow senior homeowners to convert a portion of their home equity into cash. They are complex and expensive loans with potentially devastating financial consequences. Yet they are being marketed with impunity to thousands of seniors in California for whom they may or may not be suitable. If the senior borrower is unable to maintain the home or keep up with insurance or tax payments, or is unable to remain at home, the loan becomes due and the senior will end up losing a majority of the equity. When the equity is exhausted, the senior may lose the ability to move into an independent or assisted living community and otherwise provide for long-term care. Existing law has applied the standard of "honesty, good faith, and fair dealing" to the sale of insurance products to seniors for 20 years. The standard is also implicit in common law with regards to contracts and is found in numerous others places in statute. However, existing law is silent on duties for lenders, brokers, or others who recommend or sell reverse mortgages; existing law does not establish a duty to the borrower; and there are no remedies for breach of a duty when a SB 660 Page 7 reverse mortgage is recommended that is clearly unsuitable. The number of federally insured reverse mortgages issued nationwide has skyrocketed in recent years, growing 116% between 2005 and 2008. Coupled with media reports of sub-prime lenders moving into the reverse mortgage market and evidence that the list of seniors suffering from the negative effects of these loans is growing, SB 660 is not only appropriate, but essential. SB 660 will heighten the standard of behavior required by lenders, helping to provide seniors with maximum information about reverse mortgages and protect seniors from those who would take financial advantage of them. On May 4, 2009, this committee heard AB 329 (Feuer) also relating to reverse mortgages. SB 660 overlaps with AB 329, as it relates to items that should be disclosed on the written check-list of items to discuss with a counselor. However, AB 329 contains several items that are not included in AB 329, such as: 1)Prohibits a lender or any other person that participates in the origination of a reverse mortgage from doing either of the following: a) Participate in, be associated with, or employ any party that participates in or is associated with any other financial or insurance activity, unless the lender maintains firewalls and other safeguards designed to ensure that individuals participating in the origination of the mortgage shall have no involvement with, or incentive to provide the prospective borrower with, any other financial or insurance product; and, b) Refer the prospective borrower to anyone for the purchase of an annuity or other financial or insurance product. 2)Provides that prior to accepting a final and complete application for a reverse mortgage the lender shall provide the borrower with a list of not fewer than 10 counseling agencies that are approved by the United States Department of Housing and Urban Development (HUD) to engage in reverse mortgage counseling. Provides further that the counseling agency shall not receive any compensation, either directly or indirectly, from the lender or from any other person or entity SB 660 Page 8 involved in originating or servicing the mortgage or the sale of annuities, investments, long-term care insurance, or any other type of financial or insurance product, except as specified. To provide further background on this issue, it is worth restating the Senate Judiciary Committee analysis on this issue. Duty of honesty, good faith, and fair dealing To further protect seniors, this bill would state that any person who recommends the purchase of a reverse mortgage in anticipation of financial gain would owe the prospective borrower a duty of honesty, good faith, and fair dealing. Questions have been raised regarding what those duties, in fact, would entail. UCC definition of good faith With regards to contracts covered by the Uniform Commercial Code (UCC), "good faith" has been generally defined as "honesty in fact and the observance of reasonable commercial standards of fair dealing." (U.C.C. Sec. 1-201(20.) Similarly, the Restatement Second of Contracts states: The phrase "good faith" is used in a variety of contexts, and its meaning varies somewhat with the context. Good faith performance or enforcement of a contract emphasizes faithfulness to an agreed common purpose and consistency with the justified expectations of the other party; it excludes a variety of types of conduct characterized as involving "bad faith" because they violate community standards of decency, fairness or reasonableness. The appropriate remedy for a breach of the duty of good faith also varies with the circumstances. In the present case, all of the three proposed duties (honesty, good faith, and fair dealing) are found in the broad definition of "good faith" under the UCC. Thus, the proposed standard essentially adopts the broad definition of "good faith" under SB 660 Page 9 the UCC, but does not provide guidance for those who must comply with the duties imposed. Violation of duties Although the bill imposes a broad duty of good faith on individuals who would recommend the purchase of a reverse mortgage, the bill does not detail what specific actions would constitute a violation of that duty. Despite that lack of specificity, this would not be the first time that California has statutorily imposed a duty of honesty, good faith, and fair dealing without detailing the specific acts that violate those duties. (See e.g. Ins. Code Sec. 785.) As noted above, those duties are also inherent in contracts themselves (although the duties may be narrower in some contexts, and parties may specify what constitutes a breach of the duties). Questions and Issues for discussion. 1)What do these duties provide to a consumer that is not available under current law? If these duties are inherent under most contracts then is it necessary to put them in statute without clear guidance on what the terms mean, or the minimum actions required to comply with the standard. Additionally, with the various prohibitions and requirements that are contained in AB 329 (Feuer), such as the prohibition on cross-selling of insurance products, and the prohibition on the lender and counselor having a financial relationship, do the duties proposed in this bill provide any additional consumer protections? Furthermore, do these duties provide anything more for consumers in exchange for the additionally liability placed upon lenders.? 2)In relation to the previous point, what do these duties require of lenders, brokers and others that outside the services they would provide as part of the transaction. For instance, if the transaction complies with all state and federal legal requirements, has the lender or broker met the standard of good faith, fair dealing and honesty. 3)Are these duties an attempt to require a suitability standard for reverse mortgages? Do these duties put lenders in a position of deciding if a product is the best option for a borrower when they may not have access to all of the borrower's personal circumstances to make that determination? SB 660 Page 10 4)Current federal law for HECMs mandates independent counseling that is intended to make borrowers aware of the potential pitfalls and disadvantages of a reverse mortgage. Furthermore, AB 329 clarifies state law to ensure that borrowers who may apply for non-HECM loans still have the same counseling requirements. In light of a process that is designed to raise red flags with consumers, are additional requirements necessary? Do these duties imply that counseling is insufficient? 5)Currently, mortgage brokers owe a common law fiduciary duty, For example, the California Supreme Court in Wyatt v. Union Mortgage Company (1979) 24 Cal.3d 773 stated that existing provisions of California law "impose upon mortgage loan brokers an obligation to make a full and accurate disclosure of the terms of a loan to borrowers and to act always in the utmost good faith toward their principals." This duty has never applied to lenders or their employees. While this bill does impose a fiduciary duty (A previous version did require a fiduciary duty), the elements of good faith, fair dealing, and honesty are implicit elements in a fiduciary duty standard. Arguments in support. The California Advocates for Nursing Home Reform, sponsor, states: Reverse mortgages are being aggressively marketed to seniors. They are being touted as the smart way to improve the quality of life with suggestions that they can be used for things such as vacations and gifts. This claim is very irresponsible on the part of the industry. What is not stressed is that these are very expensive loans that will, in a relatively short amount of time, strip the home of its net worth. . . . The state of California has an interest in assuring that only suitable reverse mortgages are sold to seniors. Low-wealth seniors who become involved with unsuitable reverse mortgage loans run the ultimate risk of becoming a financial burden to the state. Seniors with reverse mortgages may find themselves unable to move into assisted living, as these SB 660 Page 11 types of facilities require private pay. As a result, seniors who are no longer capable of living independently and who cannot afford private pay may have no option other than to move into a nursing home that accepts Medi-Cal. California cannot afford to pick up the pieces for the thousands of seniors who will be forced to depend on Medi-Cal for their expensive nursing home care. . . . SB 660 offers a reasonable approach to protect seniors from becoming involved with unsuitable reverse mortgage loans that may have devastating financial consequences to the senior borrowers and ultimately to the State of California. Arguments in Opposition. The California Bankers Association, California Financial Services Association, California Independent Bankers Association, and California Mortgage Bankers Association write the following in opposition: State law currently provides comprehensive consumer protections for reverse mortgage applicants. Reverse mortgages insured by the Federal Housing Administration (FHA) under the Home Equity Conversion Mortgage (HECM) program sponsored by the U.S. Department of Housing and Urban Development (HUD) are covered by federal requirements that provide strong consumer protections. State law for reverse mortgages and federal requirements (for HECM's) mandate that reverse mortgage applications receive independent third party HUD approved counseling prior to completing a reverse mortgage transaction? Due to the significant ambiguities in this bill it is unclear how the new duty of honestly, good faith, and fair dealing applies to the reverse mortgage transaction?Further, it is uncertain what legal exposure exists for a violation of this duty and what the reverse mortgage lender can rely on in order to satisfy the duty of honestly, good faith and fair dealing. Absent guidance, there is no clear way for a lender to take steps to ensure that they SB 660 Page 12 are in compliance with the new duty. Give the unanswered legal questions and ambiguities this measure would have a chilling effect on reverse mortgage sales. Amendments. This bill is also going to be heard in Assembly Judiciary Committee. Any amendments that the committee may wish to offer would be taken in Judiciary Committee. Related Legislation 1)AB 329 (Feuer), as amended April 16, 2009: Contains the provisions described immediately above, and also prohibits a lender or any other person who originates a reverse mortgage from participating in, being associated with, or employing any party that participates in or is associated with any other financial or insurance activity; prohibits these entities from referring a prospective borrower to anyone for the purchase of other financial or insurance products; requires the lender to provide the prospective borrower with a list of at least 10 HUD-certified housing counseling agencies; and provides borrowers with a 30-day right to rescind a reverse mortgage contract into which they enter. Pending in the Senate Judiciary Committee. 2)SB 1609 (Simitian), Chapter 202, Statutes of 2006: Added the language prohibiting lenders from making a reverse mortgage until it receives a signed certification that the borrower received independent counseling about the transaction, prohibited lenders from requiring a borrower to purchase an annuity as part of the reverse mortgage transaction, and added the reverse mortgage translation requirement summarized above. 3)SB 192 (Scott), 2005-06 Legislative Session: Would have required a life agent, or an insurer, where no agent was involved, to have reasonable grounds for believing that the sale of an annuity to a senior was suitable, on the basis of facts disclosed by the senior, as specified. Passed the Senate, never taken up by the author in the Assembly Insurance Committee. 4)AB 2316 (Chan), Chapter 835, Statutes of 2004: Created a Life and Annuity Consumer Protection Program, dedicated to SB 660 Page 13 protecting consumers of life insurance and annuity products in California. 5)SB 620 (Scott), Chapter 547, Statutes of 2003: Prohibited the sale of annuities to seniors in certain circumstances; required training for life agents as a condition of selling annuities, as specified; enacted additional restrictions on advertising practices that target senior citizens; imposed restrictions on the sale of life insurance policies and annuities in a senior citizen's home; and enacted other changes intended to protect senior consumers who are being marketed life insurance policies or annuities. REGISTERED SUPPORT / OPPOSITION : Support Aging Services of California California Advocates for Nursing Home Reform California Alliance for Retired Americans California Association of Mortgage Brokers Consumer Attorneys of California Opposition California Bankers Association California Financial Services Association California Independent Bankers Association California Mortgage Bankers Association Analysis Prepared by : Mark Farouk / B. & F. / (916) 319-3081