BILL ANALYSIS Ó
SENATE COMMITTEE ON
BANKING AND FINANCIAL INSTITUTIONS
Senator Marty Block, Chair
2015 - 2016 Regular
Bill No: SB 736 Hearing Date: April 29,
2015
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|Author: |Vidak |
|-----------+-----------------------------------------------------|
|Version: |February 27, 2015 |
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|Urgency: |No |Fiscal: |Yes |
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|Consultant:|Eileen Newhall |
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Subject: Escrow agents: loss of trust fund obligations
SUMMARY Provides two additional sources of money for use by the
Commissioner of Business Oversight to hire private individuals
to conserve or liquidate failed escrow agents or act as
receivers for failed escrow agents placed into receivership, and
adds a statement of Legislative intent to the section of
California law that establishes the Escrow Agents' Fidelity
Corporation.
DESCRIPTION
1. States the intent of the Legislature that:
a. Persons who entrust their money to escrow agents
licensed by the Department of Business Oversight (DBO)
are entitled to full compensation for any loss of trust
fund moneys they experience due to loss, theft, or
misappropriation by a licensed escrow agent; and
b. Escrow Agents' Fidelity Corporation (EAFC) undertake
its responsibilities under the California Escrow Law in a
manner that supports and enhances preservation of the
public's trust in licensed escrow agents.
2. Authorizes the Commissioner of Business Oversight
(commissioner) to increase the minimum bond required of an
escrow agent by up to 100 percent of its face value, if the
commissioner reasonably believes, based on an examination of
SB 736 (Vidak) Page 2
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that escrow agent, that conservation or liquidation of that
agent may become necessary for the protection of the public.
3. Makes the full amount of any penalty revenue collected by
DBO from persons who are found to have violated the Escrow
Law available to the commissioner to compensate a person
hired to conserve or liquidate a failed escrow agent or act
as a receiver for a failed escrow agent placed into
receivership.
EXISTING LAW
4. Provides for the Escrow Law (Financial Code Section 17000
et seq.), administered by DBO.
5. Requires each Escrow Law licensee (i.e., escrow agent) to
maintain a surety bond equal to $25,000, $35,000, or
$50,000, depending on the size of its prior year's average
annual trust fund obligations. The surety bond must be
taken out in the name of the state and be available for use
by the state or any person who has cause against the
licensee. Licensees are authorized to obtain an irrevocable
letter of credit or place a deposit with DBO in lieu of
obtaining a bond (Section 17202).
6. Authorizes the commissioner to take possession of the
property and business of an escrow agent, as specified, when
it appears to the commissioner that an escrow agent is in an
insolvent condition; is conducting escrow business in an
unsafe or unauthorized manner; has violated its charter or
any law of the State of California; refuses to submit its
books, papers and affairs for inspection by an examiner;
neglects or refuses to observe any order of the commissioner
made pursuant to the Escrow Law or its regulations, as
specified; or any officer, director, stockholder, trustee,
or attorney of an escrow agent has embezzled, sequestered,
or willfully diverted the assets or trust funds of such
escrow agent, has permitted its tangible net worth to be
lower than the minimum required by law, or has failed to
comply with the bonding requirements of the Escrow Law
(Section 17621).
SB 736 (Vidak) Page 3
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7. Requires escrow agents to maintain a tangible net worth of
at least fifty thousand dollars ($50,000), including liquid
assets of at least twenty-five thousand dollars ($25,000) in
excess of current liabilities (Section 17210).
8. Establishes the Escrow Agents' Fidelity Corporation (EAFC;
Fidelity Corporation; Section 17300), establishes the
purpose of EAFC as indemnifying its members against loss, as
specified (Section 17310), and requires each person licensed
as an escrow agent to participate as a member in Fidelity
Corporation (Section 17312). Requires EAFC to provide
fidelity coverage to its members based on their monthly
average escrow liability per licensed location. The minimum
coverage that must be provided by EAFC for each licensed
location is $1,000,000, and the maximum coverage for each
licensed location is $5,000,000 (Section 17314).
9. Provides that the General Fund consists of money received
into the Treasury and not required by law to be credited to
any other fund (Government Code Section 16300). Because of
this rule, penalty revenue collected by DBO and other state
departments and agencies reverts to the General Fund, if not
otherwise redirected to a specific use.
COMMENTS
1. Purpose: SB 736 is sponsored by its joint authors to
improve the outcomes for individuals who unknowingly place
their trust and money with DBO-regulated escrow companies
that ultimately fail. Two of this bill's changes are
intended to increase the likelihood that DBO can afford to
hire private individuals as conservators, liquidators, and
receivers of failed escrow companies, rather than having to
rely on its own employees to perform these functions. The
third change clarifies the role of EAFC, the entity which
was created by the Legislature to ensure that escrowed trust
fund monies are insured against theft or loss due to
malfeasance.
2. Background: SB 736 is a response to a problem that was
brought to the Legislature's attention during the fall of
2014, when a real estate broker named David Lawrence
contacted several legislative offices, expressing great
dissatisfaction with the way in which DBO and EAFC had
SB 736 (Vidak) Page 4
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handled a matter involving two of his former real estate
clients. Mr. Lawrence's clients were an older couple that
placed their home on the market in October of 2010 and
entered into a sales agreement that would have netted them
$154,000 in profit - money they planned to use in their
retirement. Unbeknownst to Mr. Lawrence or his clients, the
company selected to handle the real estate escrow by the
purchaser of his clients' home was about to fail, and the
owners of that company were about to flee the country with
an unknown amount of client money. The first indication Mr.
Lawrence's clients had that anything was amiss was when the
check for $154,000 that they had received from First
Southwestern Escrow (FSE) bounced due to insufficient funds
in the escrow company's account.
Existing California law contains a number of provisions, which
are intended to help prevent the loss of escrow trust funds
following the failure of an Escrow Law licensee. Among
these provisions: authority for DBO to conserve (wind down)
and liquidate a failed escrow company; authority for DBO to
petition a court to place a failed escrow company into
receivership; authority for DBO to appoint a conservator,
liquidator, or receiver; a requirement that every company
licensed under the Escrow Law obtain a surety bond, to
ensure that money is available with which to compensate DBO
and its conservator/liquidator/receiver in the event it must
place an escrow company into conservatorship or
receivership; a requirement that every company licensed
under the Escrow Law obtain a fidelity bond, to provide
insurance against theft of trust funds; and language
creating and establishing the rules EAFC, a private entity
created by the Legislature, which serves as the fidelity
insurer for Escrow Law licensees.
Unfortunately, all of these protections failed to work as
designed in the FSE case. The conservator appointed by DBO
(a DBO employee who worked as an examiner within the Escrow
Law program) failed to submit a proof of loss claim to EAFC
within the statutorily prescribed deadline for submitting
such claims. EAFC rejected the claim. DBO prepared to
appeal the rejection, believing that its submission was
timely, but ultimately opted to settle with EAFC in lieu of
challenging the rejected claim before an administrative law
judge. The settlement netted Mr. Lawrence's clients, and
SB 736 (Vidak) Page 5
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all others with claims against the roughly $700,000 in trust
funds with which FSE's owners absconded, $0.41 on the
dollar. To add insult to injury, not only did the claimants
receive less than half of the money they lost, but they had
to wait nearly a year to receive their payouts after the
settlement, due to rules which must be followed when a state
department or agency (in this case DBO) makes payments to
private individuals.
After selling their home in October of 2010, Mr. Lawrence's
clients received their 41% payout in October of 2014.
Although a criminal case alleging eleven felony counts
against FSE's principals was opened in the matter by the
Alameda County Real Estate Fraud Unit within the Alameda
County District Attorney's Office, prosecution of FSE's
owners will be impossible, unless those individuals can be
compelled to return to the United States to face the charges
against them.
When contacted by legislative offices, both DBO and EAFC
insisted that they had each followed the law in the FSE
case, and explained away the FSE case as a one-time event
that was unlikely to re-occur. Both entities also suggested
that existing law was sufficient to protect individuals who
place their money with Escrow Law licensees. This bill is
premised on the assertion that existing law is insufficient
to protect individuals who place their trust and money with
Escrow Law licensees. If existing law was followed in the
FSE case, yet several hundred thousand dollars of stolen
escrow trust funds were never returned to their rightful
owners, this bill's authors assert that existing law
requires change.
3. Areas of Agreement: Much of the fault in the FSE case
traces back to lack of effective communication between DBO
and EAFC and a general lack of agreement over the procedures
that must be followed when filing a proof of loss claim.
Although both organizations disagree on a great many things
involved in the FSE case, they do agree on one key point:
namely that the conservation and receivership process works
more smoothly if a private individual is appointed as
conservator or receiver, rather than a DBO employee.
Private conservators/receivers do not have to juggle multiple
SB 736 (Vidak) Page 6
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jobs when serving as conservator/receiver (DBO employees
appointed as conservator/receiver have to continue to do
their regular DBO jobs as escrow examiners while also acting
as conservators/receivers); private conservators/receivers
may have specialized expertise in winding down failed
entities; and money paid out by EAFC to private
conservators/receivers can be paid out to claimants far
faster than it can if a DBO employee is appointed as
conservator/receiver (a function of State Administrative
Manual rules which apply to the payment of money by state
departments and agencies to private individuals).
DBO staff has informed Committee staff that the Department
always tries to hire a private conservator/receiver for
failed Escrow Law licensees when possible. However, if
there are insufficient funds available with which to
compensate a qualified private individual, DBO appoints one
of its own employees to perform these tasks. Money to
compensate conservators and receivers comes from the surety
bonds that Escrow Law licensees must maintain, as well as
from any money remaining in the escrow company after all
creditors and claimants have been paid. Sometimes the sum
of these amounts is insufficient to attract a qualified
private individual to take a case.
This bill would increase the amount of money available to DBO to
compensate private conservators/liquidators/receivers. It
does so by authorizing DBO to utilize penalty revenue
collected from Escrow Law licensees who have violated the
law for the purpose of hiring private
conservators/liquidators/receivers. It also authorizes DBO
to increase the surety bond required to be posted by an
Escrow Law licensee, if DBO concludes, following an
examination of that licensee, that the licensee may require
conservation or liquidation in the future. These changes do
not impact Escrow Law licensees in good standing; they are
focused on Escrow Law licensees that are failing to uphold
their duties to the public.
The bill also adds legislative findings and declarations to the
provisions of law governing EAFC. While EAFC may have
followed the strict letter of the law in the FSE case, it
appeared to give no weight to the consequences of its denial
of DBO's claim on the private individuals who lost money at
SB 736 (Vidak) Page 7
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the hands of FSE. This bill contains findings and
declarations that persons who entrust their money to escrow
agents are entitled to full compensation for any loss of
trust fund moneys they experience due to loss, theft, or
misappropriation by a licensed escrow agent. It also states
the intent of the Legislature that EAFC undertake its
responsibilities in a manner that supports and enhances
preservation of the public's trust in licensed escrow
agents.
4. How Large Is the Gap, and Will This Bill Fill It? The
following table summarizes the total number of Escrow Law
conservatorships and receiverships during each of the last
ten calendar years, together with how many of those
conservatorships or receiverships were handled by private
individuals, and how many were handled by DBO employees. As
shown below, there were twenty instances during the past ten
years in which an Escrow Law licensee was conserved or
placed into receivership. Private individuals handled
fifteen of those cases; DBO employees handled five.
-------------------------------------------
| | Number of |
| | Conservatorships and |
| Calendar Year | Receiverships (Private |
| |Individual/DBO Employee) |
|-----------------+-------------------------|
| 2005 | 0 (0/0) |
|-----------------+-------------------------|
| 2006 | 0 (0/0) |
|-----------------+-------------------------|
| 2007 | 2 (1/1) |
|-----------------+-------------------------|
| 2008 | 1 (1/0) |
|-----------------+-------------------------|
| 2009 | 4 (2/2) |
|-----------------+-------------------------|
| 2010 | 3 (2/1) |
|-----------------+-------------------------|
| 2011 | 4 (4/0) |
|-----------------+-------------------------|
| 2012 | 2 (2/0) |
|-----------------+-------------------------|
| 2013 | 3 (2/1) |
SB 736 (Vidak) Page 8
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|-----------------+-------------------------|
| 2014 |1 |
| |(1/0) |
| | |
-------------------------------------------
Revenue obtained from escrow-related penalties is quite
variable, as shown below: However, it appears that if
penalty revenue had been available for use by DBO to
compensate private conservators in the five instances where
DBO employees were used in lieu of private individuals, an
additional $444,000 would have been available to DBO with
which to attract qualified private individuals to perform
the conservation or receivership activities (approximately
$90,000 per case).
----------------------------------------
| Fiscal Year | Escrow Penalties |
| | Collected |
|-----------------+----------------------|
| 2008-09 | $133,311 |
|-----------------+----------------------|
| 2009-10 | $119,386 |
|-----------------+----------------------|
| 2010-11 | $ 67,523 |
|-----------------+----------------------|
| 2011-12 | $ 99,863 |
|-----------------+----------------------|
| 2012-13 | $ 5,731 |
|-----------------+----------------------|
| 2013-14 | $ 17,943 |
|-----------------+----------------------|
|Total |$443,757 |
| | |
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5. Summary of Arguments in Support: None received.
6. Summary of Arguments in Opposition: None received.
7. Amendments: The authors of this bill have engaged in
extensive discussions with the Escrow Institute of
California and the Escrow Agents' Fidelity Corporation
SB 736 (Vidak) Page 9
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regarding the bill's provisions. The authors plan to offer
the following amendments in Committee to address concerns of
both organizations. Although neither organization is
expected to take a formal position on the amendments prior
to the Committee hearing, representatives of both
organizations have expressed support in concept for the
amendments below.
a. Delete Section 1 of the bill, relating to surety
bond requirements.
b. Modify Section 2 of the bill, relating to the intent
of the Legislature around EAFC, as follows:
Section 17310. (a) The Legislature finds and declares
that persons who entrust their money to escrow agents
licensed under this division are entitled to full
compensation for any loss of trust fund moneys they
experience due to loss, theft, or misappropriation by a
licensed escrow agent . It is the intent of the
Legislature that Fidelity Corporation undertake its
responsibilities under this division in a manner that
supports and enhances preservation of the public's trust
in licensed escrow agents.
c. Add new language to the bill, as follows:
Section 17630. (a) If any facts occur which would entitle
the commissioner under Section 17621 to take possession
of the property, business, and assets of a licensee, the
commissioner may appoint a conservator of a licensee and
require of him such bond as the commissioner deems
proper. The commissioner may also, upon the request of
the board of directors of a licensee, appoint a
conservator of such licensee and require of him such bond
as the commissioner deems proper. The conservator, under
the direction of the commissioner, shall take possession
of the property, business and assets of the licensee and
take such action as he may deem necessary to conserve the
assets of such licensee pending further disposition of
its business. The conservator shall retain such
possession until the property, business and assets of the
licensee are returned to the licensee or until further
order of the commissioner.
SB 736 (Vidak) Page 10
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(b) Whenever possible, the commissioner shall utilize the
services of one or more qualified private individuals
with prior escrow or escrow conservation experience to
act as conservator .
Section 17635. (a) If at any time after taking possession
of the property and business of a licensee it shall
appear to the commissioner that it would be futile to
proceed as conservator with the conduct of the business
of such person, he may apply to the superior court of the
county in which is located the principal office of such
person in this State for an order to liquidate and wind
up the business of said person. Upon a full hearing of
such application, the court may make an order directing
the winding up and liquidation of the business of such
person by the commissioner, as liquidator.
(b) If the commissioner appoints a representative to act on
his behalf as liquidator, he shall, whenever possible,
utilize the services of one or more qualified private
individuals with prior escrow or escrow liquidation
experience to act in this capacity.
Section 17636. (a) Whenever the commissioner has taken
possession of the property and business of a licensee, he
may petition the superior court for the appointment of a
receiver to liquidate the affairs of the licensee.
(b) Whenever possible, the commissioner shall utilize the
services of one or more qualified private individuals
with prior escrow or escrow receivership experience to
act as receiver .
d. Amend Section 3 of the bill, as follows:
17665. (a) Except as provided in subdivision (b), the The
full amount of any penalty revenue collected from persons
who are found to have violated any provision of this
division shall be available for use by the commissioner
to compensate a conservator appointed pursuant to Section
17630, a liquidator appointed pursuant to Section 17635,
or a receiver appointed pursuant to Section 17636.
(b) The maximum amount of penalty revenue available for use
by the commissioner at any one time to compensate
conservators, liquidators, or receivers pursuant to
subdivision (a) shall not exceed $125,000. Any amounts
SB 736 (Vidak) Page 11
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above $125,000 shall revert to the General Fund.
(c) The commissioner may utilize all or a portion of the
bond or other obligations required pursuant to Section
17202, and all or a portion of a licensee's assets
remaining following conservation, liquidation, or
receivership to compensate conservators, liquidators, or
receivers.
(d) It is the intent of the Legislature that the
commissioner utilize the services of private third
parties with prior escrow or escrow conservation,
liquidation, or receivership experience , who are
independent of the department, to perform conservation,
liquidation, and receiver functions, when ever possible.
1. Prior and Related Legislation:
a. AB 1679 (Harkey), 2013-14 Legislative Session:
Sponsored by EAFC. Would have applied when a DBO
employee was appointed as an escrow agent's successor in
interest following a conservation or liquidation
proceeding, and when EAFC denied a proof of loss claim
submitted by that successor in interest. In these
instances, the bill would have eliminated the
commissioner's ability to rule on the appeal by the
successor in interest, and would have instead required
the appeal to be decided by a superior court. Never
taken up by the author in the Senate Banking and
Financial Institutions Committee.
SB 736 (Vidak) Page 12
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LIST OF REGISTERED SUPPORT/OPPOSITION
Support
None received
Opposition
None received
-- END --