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2.4.1 Misapplication of Payments

The misapplication of payments can arise from a servicer’s sloppy procedures or purposeful efforts to generate more revenue. Unfortunately, the misapplication of a single payment can have a snowballing effect that leaves homeowners fighting foreclosure and struggling to repair their credit.34 In many cases, borrowers attempting to correct errors are met with the servicer’s callous indifference, compounding the problem.

One common issue is the servicer’s failure to apply funds in the order specified by the security instrument.35 This occurs most often when the servicer credits funds to various fees before interest, principal, or escrow amounts. In other cases, the servicer may apply funds to escrow amounts due before interest and principal. The security instrument usually specifies the payment application order.36 For example, since 2001, the Fannie Mae/Freddie Mac uniform security instruments provide that payments are applied in the following order: interest, principal, escrow items, late charges, and any other amounts due.37 Take note of the reference to amounts “due.” That means payments made on interest-only or option-ARM loans may be credited to interest, escrow amounts, and fees before principal when principal amounts are not yet due under the note.38

For delinquent loans, the uniform instrument is somewhat confusing as to whether late fees may be paid if principal and interest payments remain outstanding. One view is that funds may not be applied to late fees if principal, interest, and escrow amounts remain outstanding. The language of the contract, however, states that the servicer may apply funds received to any late charges after crediting one or more full payments of interest, principal, and escrow. This language could be construed as permitting the application of funds to a late charge associated with a full periodic payment. Alternatively, the language could be read to allow for payment of all the late charges once funds are credited to a single full periodic payment. To the extent the terms of the contract are subject to more than one meaning, the language should be construed against the servicer (as the agent of the drafter or drafter’s successor).39

No such ambiguity exists with respect to other fees. The language of the uniform instrument clearly states that servicers may not credit amounts to “other fees,” such as property inspection fees or foreclosure fees, unless monthly payments are current and no late fees are outstanding. A quick review of the loan payment history often reveals the improper payment of these other fees.

Servicers may also fail to timely apply funds or fail to credit entire payments.40 Because delays in processing payments can result in unwarranted late fees and unjustified claims of borrower default, the Dodd-Frank Act mandates that servicers credit periodic payments on consumer credit transactions secured by a consumer’s principal dwelling as of the date of receipt.41

Improperly rejecting a payment and returning it to the borrower is a related problem that often arises after a servicer incorrectly declares a borrower in default. Doing so has been held to be a breach of contract.42

Missing or misapplied payments often occur after servicing rights are transferred from one servicer to another.43 Account information may not be accurately transferred, or payments may be misapplied by the old or new servicer. Payment application problems can also occur during the modification process. Trial modification payments are typically held in a suspense account44 until a full contractual payment under the original agreement is accumulated. Payments made after the trial period, but before conversion to a permanent modification, are treated similarly. However, sometimes these funds are not properly transferred out of suspense and applied to the account.45 Many servicers have trouble properly applying payments for borrowers in bankruptcy.46

Servicers frequently compound payment application problems by then making incorrect reports to the credit rating agencies.47

A range of legal claims are available to challenge the misapplication of payments, including:

  • • Breach of contract;
  • • Breach of the implied covenant of good faith and fair dealing;
  • • Unjust enrichment;
  • • Negligent and intentional infliction of emotional distress;
  • • Negligent credit reporting;
  • • Defamation, to the extent not preempted by the Fair Credit Reporting Act;
  • • Negligent servicing;
  • • Negligent accounting;
  • • Conversion;
  • Tortious interference with credit expectancy;
  • • State unfair and deceptive acts and practices statutes (UDAP);
  • • Fair Credit Reporting Act (FCRA);
  • • Fair Debt Collection Practices Act (FDCPA);
  • • Truth in Lending Act (TILA); and
  • • Real Estate Settlement Procedures Act (RESPA).

Discussion of these claims against servicers is provided in detail in Chapters 3, 4, and 5, infra.

Footnotes

  • 34 {33} See, e.g., Wintz v. JPMorgan Case Bank, 185 F. Supp. 3d 1140 (D. Minn. 2016) (prior servicer incorrectly applied payment to principal only, causing loan to constantly be one month behind); Shedd v. Wells Fargo Home Mortg., Inc., 2015 WL 6479537 (S.D. Ala. Oct. 26, 2015) (denying motion to dismiss RESPA, FCRA, FDCPA, and wanton servicing claims); Roche v. Bank of Am., 2013 WL 3450016 (S.D. Cal. July 9, 2013) (borrower alleged multiple instances of failure to properly credit payments; denying motion to dismiss breach of contract, state debt collection, fraud, RESPA, and UDAP claims); Hukic v. Aurora Loan Services, Inc., 2006 WL 1457787 (N.D. Ill. May 22, 2006) (borrower’s payment of $1335 erroneously credited as $1135; denying motion to dismiss claim for tortuous interference with credit, allowing tort claim for negligent credit reporting pending a new definite statement, dismissing claims for negligent and intentional infliction of emotional distress and credit defamation as untimely, and dismissing FCRA claim for lack of private right of action against furnisher), aff’d, 588 F.3d 420 (7th Cir. 2009).

  • 35 {34} See, e.g., Weiner v. Ocwen Fin. Corp., 2015 WL 4599427 (E.D. Cal. July 29, 2015) (allegation that transferee servicer applied payments to escrow despite escrow waiver sufficiently stated a breach-of-contract claim); Kapsis v. Am. Home Mortg. Servicing Inc., 923 F. Supp. 2d 430 (E.D.N.Y. 2013) (servicer allegedly misapplied loan payments, failed to correct errors following plaintiff’s qualified written requests, failed to properly credit accounts, issued misleading monthly statements, refused to provide detailed accountings to both plaintiff and class members, and improperly withheld insurance funds); Blackburn v. BAC Home Loans Servicing, L.P., 914 F. Supp. 2d 1316 (M.D. Ga. 2012); Ortega v. Wells Fargo Bank, 2012 WL 275055 (N.D. Ohio Jan. 31, 2012) (servicer allegedly charged unauthorized late fees and misapplied plaintiff’s payments in order to accrue interest charges); Armeni v. America’s Wholesale Lender, 2012 WL 253967 (C.D. Cal. Jan. 25, 2012) (servicer allegedly miscalculated and misapplied payments under the deed of trust, resulting in improper fees and taxes); In re Tolliver, 2012 WL 2952239 (Bankr. E.D. Ky. July 19, 2012) (servicer improperly applied funds to unauthorized fees and expenses); In re Mattox, 2011 WL 3626762 (Bankr. E.D. Ky. Aug. 17, 2011) (alleged misapplication of payments to “corporate advances” ahead of principal and interest); Dollen v. Wells Fargo Bank, 356 P.3d 531 (N.M. Ct. App. 2015) (servicer failed to apply insurance proceeds in accordance with mortgage).

  • 36 {35} The payment application provision is usually found in the security instrument—mortgage or deed of trust—not the note.

  • 37 {36} See Single-Family Fannie Mae/Freddie Mac Uniform Instrument ¶ 2 (Jan. 2001). Pre-2001, the application of payments in the Single-Family FNMA/FMLMC Uniform Instrument was prepayment charges, escrow amounts, interest, principal, and late charges. Single-Family Fannie Mae/Freddie Mac Uniform Instrument ¶ 3 (Sept. 1990).

  • 38 {37} See In re Rivera, 2016 WL 5868693 (B.A.P. 9th Cir. Oct. 2, 2016) (principal not due on pick-a-payment loan for first five years; holding servicer did not incorrectly apply payments).

  • 39 {38} See McAdams v. Citifinancial Mortg. Co., 2007 WL 141128 (M.D. La. Jan. 16, 2007) (ambiguity should be resolved in homeowner’s favor when lender has prepared mortgage loan contract); In re Romano, 174 B.R. 342 (Bankr. M.D. Fla. 1994) (construing loan note’s ambiguous attorney fee provision against the lender/drafter); Hungate v. Law Office of David B. Rosen, 391 P.3d 1 (Haw. 2017) (ambiguity in mortgage power-of-sale clause construed against lender); Fed. Nat’l Mortg. Ass’n v. Hafer, 351 P.3d 622 (Idaho 2015) (trial period plan, as contract of adhesion, construed against the drafter); CitiMortgage, Inc. v. Wiley, 2016 WL 5118138 (Ohio Ct. App. Sept. 20, 2016) (co-mortgagor status ambiguous under loan documents and ambiguity construed against lender).

  • 40 {39} See Fridman v. NYCB Mortg. Co., 780 F.3d 773 (7th Cir. 2015) (servicer required to credit online payment on the date authorization received, rather than on date of payment of actual funds); Mendez v. Selene Fin., L.P., 2017 WL 1535085 (C.D. Cal. Apr. 27, 2017) (allegation that prior servicer failed to credit payment in excess of $23,000 stated claim for negligence); Kin Chun Chung v. JP Morgan Chase, 975 F. Supp. 2d 1333 (N.D. Ga. 2013) (servicer applied payments to wrong account); Montgomery v. CitiMortgage, Inc., 955 F. Supp. 2d 640 (S.D. Miss. 2013) (servicer allegedly failed to apply $2800 payments made during trial modification process); Allen v. Bank of Am. Corp., 933 F. Supp. 2d 716 (D. Md. 2013) (error in servicer-sponsored automatic payment program caused payments not to be credited to borrowers’ account); Holt v. Ocwen Loan Servicing, L.L.C., 2013 WL 7211759 (S.D. Tex. Dec. 12, 2013) (alleging servicer failed to credit payments, declared loan in default, and attempted to foreclose; denying motion to dismiss breach of contract, state debt collection, and defamation claims); Baehl v. Bank of Am., 2013 WL 1319635 (S.D. Ind. Mar. 29, 2013) (alleging failure to properly credit payments, instead posting them as “miscellaneous”); Bergdale v. Countrywide Bank, 2013 WL 105295 (D. Ariz. Jan. 9, 2013) (servicer allegedly failed to credit payment, demanded second payment, and then processed both payments, resulting in overdraft fees); Hukic v. Aurora Loan Services, Inc., 2006 WL 1457787 (N.D. Ill. May 22, 2006) (borrower’s payment of $1335 erroneously credited as $1135); Johnson v. Citimortgage, Inc., 351 F. Supp. 2d 1368 (N.D. Ga. 2004) (alleging servicer failed to credit payment to account after repeated demands to correct account; denying motion to dismiss conversion, defamation, negligence, breach of contract, and breach of implied covenant of good faith and fair dealing claims); In re Bryce, 491 B.R. 157 (Bankr. W.D. Wash. 2013) (servicer improperly credited monthly loan payments for $5 less than was actually made).

  • 41 {40} 15 U.S.C. § 1639f(a). See also § 4.2.4, infra (discussing prompt-application-of-payments rule).

  • 42 Saccameno v. Ocwen Loan Servicing, L.L.C., 372 F. Supp. 3d 609, 626 (N.D. Ill. 2019) (collecting cases and stating “Courts have recognized that returning mortgage payments, or otherwise failing properly to apply them, may indeed constitute a breach of a mortgage agreement.”), remanded on other grounds, 943 F.3d 1071 (7th Cir. 2019).

  • 43 {41} See § 2.13, infra.

  • 44 {42} See § 2.4.2, infra.

  • 45 {43} See Montgomery v. CitiMortgage, Inc., 955 F. Supp. 2d 640 (S.D. Miss. 2013) (servicer allegedly failed to apply $2800 payments made during trial modification process); Gladstein v. Aurora Loan Services, L.L.C., 2013 WL 637040 (N.D. Ga. Jan. 18, 2013) (mag.; after loan modification, defendants placed plaintiff’s timely and full payments in suspense account; summary judgment motions under RESPA, wrongful foreclosure, and breach of the covenant of good faith and fair dealing claims denied), adopted by 2013 WL 632259 (N.D. Ga. Feb. 20, 2013); Barnett v. BAC Home Loan Servicing, L.P., 772 F. Supp. 2d 1328 (D. Or. 2011) (borrower alleged servicer placed payments under loan modification agreement in suspense and then initiated foreclosure).

  • 46 {44} See § 2.18, infra.

  • 47 {45} See § 2.14, infra.