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WHAT LEVEL OF FIDUCIARY DUTY SHOULD MORTGAGE BROKERS OWE THEIR BORROWERS
Cite as 75 Wash. U. L.Q. 1737
The majority of borrowers purchasing or refinancing a home today obtain their
mortgage loans through a mortgage broker.
Within the last decade, mortgage brokers have
surpassed the traditional mortgage lenders as
the main providers of residential mortgage services. Although reasons cited for the recent increase in the
mortgage broker's market share vary, this
expansion will undoubtedly result in increased litigation by borrowers against
mortgage brokers. Such litigation could carry
potentially grave consequences for mortgage brokers because many courts have
imposed a general fiduciary duty on a
mortgage broker's dealings with its borrowers, but have not required such a
duty of mortgage lenders. The result of this discrepancy is that mortgage
brokers face potentially greater liability than mortgage lenders for conducting
essentially the same mortgage transaction.
Part II discusses the components of agency and fiduciary duty, and explores
situations in which courts have held mortgage brokers liable for a breach of a
general fiduciary duty. Part III analyzes the inequity of imposing a general
fiduciary duty on mortgage brokers in light of most courts' unwillingness to
impose a similar duty not only on mortgage lenders, but also on other brokers
possessing characteristics and responsibilities similar to mortgage brokers. In
addition, Part III analyzes current regulation of mortgage brokers at the
federal and state level. Finally, Part IV proposes that courts should refrain
from imposing a general fiduciary duty on mortgage brokers. Instead, courts
should rely on existing regulations and market forces to insure that mortgage
brokers deal fairly with their borrowers. This Note argues that state
legislatures that have imposed a general fiduciary duty on mortgage brokers
should, at the very least, permit borrowers and mortgage brokers to contract
around the duplicative requirements of a general fiduciary duty.
II. FIDUCIARY DUTY AND MORTGAGE BROKERS
A. Overview of Fiduciary Duty
Analysis of fiduciary duty "comprises two fundamental issues: first, whether
the relationship is fiduciary or not; and second, if it is, whether the
resulting fiduciary duties were breached." In
addressing the first issue, courts must determine whether a fiduciary
relationship exists between the parties involved in a specific transaction.
Courts typically find "there are two types of fiduciary relationships: (1)
those specifically created by contract or a formal legal relationship, such as
principal and agent . . . and (2) those implied in law due to the
factual situation surrounding the transactions and relationships of the parties
to each other and to the questioned transactions." This first type of fiduciary relationship, based upon the
formal legal status of the parties involved, is termed "agency." Agency is defined as the "fiduciary
relation which results from the manifestation of consent by one person to
another that the other shall act on his behalf and subject to his control, and
consent by the other so to act." This
manifestation may be written (i.e., contract) or may be inferred from the
relationship of the parties. Within the agency relationship, the agent becomes
a fiduciary of the principal and must act for the principal's benefit as to
matters within the scope of the agency.
For the purpose of this Note, it is the agency relationship that gives rise to
a "general fiduciary duty." The second
category of fiduciary relationships involves a "specific" fiduciary
relationship that arises as a result of circumstances specific to the parties'
transaction. Therefore, even though
general fiduciary duties may not arise at the outset of a transaction, the
particular circumstances of the transaction may give rise to specific fiduciary
After determining that a fiduciary relationship has arisen, a court must then
determine whether the actions of the fiduciary breached the duties imposed by
the fiduciary relationship. Although courts do not apply a uniform standard to
determine which specific duties are encompassed within "fiduciary duty," the
following duties are generally included: duty of loyalty, duty of good faith, duty of due care and duty of disclosure. Therefore, an agent breaches her fiduciary duty to her
principal when she violates a duty within the scope of the fiduciary
B. The Fiduciary Duties of Mortgage Brokers
Many authorities hold that agency law generally applies to the relationship
between a broker and her customer. Within the agency relationship, the broker
acts as an agent of her principal/customer and owes certain fiduciary duties to
Some courts hold that mortgage brokers do not owe their borrowers a general
fiduciary duty, reasoning that the loan transaction is conducted at arm's
length, and is similar to the loan transaction between a mortgage lender and
her borrower. In contrast, other courts
have held that a general fiduciary relationship does arise between a mortgage
broker and a borrower. Typically, courts base this relationship on agency, rather than contract principles. Where courts have imposed this general
fiduciary duty, mortgage brokers have typically breached this duty to their
borrower in one of three scenarios: failure to disclose loan terms; failure to
disclose loan fees; and failure to provide the most favorable loan terms or
lowest loan fees.
1. Breach of Fiduciary Duty by Failure to Disclose Loan Terms
In Wyatt v. Union Mortgage Company,
a mortgage broker orally misrepresented certain mortgage terms to the borrower and failed to call the borrower's
attention to the "true" terms buried in the loan documents. The Supreme Court
of California affirmed the borrower's breach of fiduciary duty claim, holding
that "a mortgage broker is customarily retained by a borrower to act as the
borrower's agent in negotiating an acceptable loan." The court reasoned that agency principles combine with
California real estate law to "impose upon mortgage 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." Other recent California decisions suggest that a mortgage
broker's general fiduciary obligation to disclose loan terms continues to be
2. Breach of Fiduciary Duty by Failure to Disclose Loan Fees
In Rushing v. Stephanus, a mortgage
broker required a borrower to sign mortgage-related documents, leaving several
sections blank. Unbeknownst to the
borrower, the mortgage broker increased the agreed-upon amount of the loan by
$1600 to cover undisclosed loan costs and broker's commissions. The Supreme Court of Washington held that the mortgage
broker, as an agent of the borrower,
breached his fiduciary duty to "reveal the nature and extent of his fees to the
client for whom he acts."
3. Breach of Fiduciary Duty by Failure to Provide Best Possible Loan
In Realty Projects, Inc. v. Smith,
a mortgage broker persuaded prospective borrowers to increase their loan amount
so that it would exceed the statutory limits for regulated loans under state
law. Because the borrower's loan amount
exceeded the statutory limits, the mortgage broker could charge a higher broker
commission. The California Court of
Appeals held that the mortgage broker breached his fiduciary duty to the
prospective borrowers, because "[m]ortgage loan brokers . . . hold themselves
out to prospective borrowers as loan experts who will endeavor to obtain for
prospective borrowers . . . a loan adequate for their needs and at the
lowest practicable cost."
This theory has found broad application in connection with recent litigation
alleging that mortgage brokers breach their general fiduciary duty to borrowers
when they accept "yield-spread premiums"
from mortgage lenders. Yield-spread premiums are defined as "any compensation
received by a mortgage broker . . . for originating a loan at [an interest]
rate and/or points above that which the
lender would otherwise agree to make the loan." Two recent Virginia cases, Byrd v. Crosstate Mortgage
and Inv., Inc. and Archer v.
Sterling, analyze whether mortgage
brokers breach a general fiduciary duty to borrowers by accepting undisclosed
yield-spread premium payments from third-party lenders. Although the mortgage brokers argued that they had no
fiduciary duty to their respective borrowers, the court summarily declared that
the "defendants' assertions that they are not fiduciaries are utterly without
merit." The court reasoned that the
mortgage brokers breached their fiduciary duty to disclose "all facts within
the broker's knowledge which may be material to the transaction" when the
brokers did not disclose all fees--including those paid by third parties--that
were paid to the mortgage brokers at closing.
A. General Fiduciary Duty of Mortgage Lenders
As a general rule, courts do not impose a general fiduciary duty on mortgage
lenders. Most courts hold that mortgage
loan transactions between mortgage lenders and their borrowers are arms-length
transactions between creditors and
debtors. Because a mortgage lender (unlike
a mortgage broker) is the actual provider of the mortgage funds, most courts
reason that the borrower's interests are protected by the process of
arms-length bargaining between adverse parties. Although many courts hold that subsequent circumstances
may give rise to a specific fiduciary relationship between a mortgage lender
and a borrower, this Note focuses on
whether a fiduciary duty arises solely by virtue of the legal status of the
particular mortgage provider.
B. General Fiduciary Duty and Other Brokers
All brokers do not attain the same fiduciary relationship with a customer;
rather, the level of duty a broker owes a client depends on the extent of the
parties' relationship. Therefore, in order
to compare the degree of general fiduciary duty required of brokers, this Note
analyzes other broker/client relationships that closely resemble the
relationship between mortgage brokers and borrowers. These examples clearly
indicate that other brokers, acting in a capacity and under circumstances
similar to a mortgage broker, typically owe a very limited general fiduciary
duty to their clients, if any. Although real estate brokers do owe a general
fiduciary duty to their principals, the duties and responsibilities of mortgage
brokers and real estate brokers are readily distinguishable.
1. Consumer Loan Brokers
A consumer loan broker is a non-lender, such as a car dealer, that serves as an
intermediary between a purchaser of consumer goods (e.g., car purchaser) and a
potential lender. In Blon v. Bank One, Akron, N.A., a car dealership failed to disclose a "finder's fee" paid to them by Bank One "for preparing and
placing the Blons' loan with Bank One."
The court held that neither Bank One nor the car dealership was under a
fiduciary duty to disclose this fee because the car loan "was nothing more than
an ordinary arm's-length transaction." The
court reasoned that:
a creditor and consumer stand at arm's-length in negotiating the terms and
conditions of a consumer loan and, absent an understanding by both parties that
a special trust and confidence has been reposed in the creditor, the creditor
has no duty to disclose to the consumer the existence and details of a finder's
fee or similar arrangement with a credit arranger.
Similar to a consumer loan broker, a mortgage broker serves only as an
intermediary between the borrower and the ultimate provider of funds.
Therefore, as long as the mortgage broker makes all the proper disclosures to
the borrower, the broker should not be held to a higher standard.
2. Stock Brokers
Although the stockbroker/customer relationship is governed primarily by
agency and securities laws, stockbrokers also may be liable to their customers based
on a breach of fiduciary duty. Because stockbrokers provide their customers
with a wide variety of services, ranging from simply executing a customer's
purchase or sales orders to exercising complete management control over a
customer's portfolio, courts typically consider the circumstances surrounding
the alleged wrongdoing. In determining whether a stockbroker owes his customer
a fiduciary duty, courts give considerable weight to whether the stockbroker
managed a discretionary account or a
non-discretionary account on behalf of her
customer. Courts that make this
distinction typically hold that a stockbroker who manages a discretionary
account for a customer incurs a general fiduciary duty to the customer, whereas a stockbroker managing a
non-discretionary account does not.
Similar to stockbrokers managing non-discretionary accounts, a mortgage broker
does not possess the discretionary authority to bind a borrower to loan terms
and fees without the borrower's approval. Federal law requires that all
mortgage providers must provide a Good Faith Estimate to the borrower within three business days of the loan
application. Based upon this Good Faith
Estimate, the borrower possesses the ability to compare loan terms and fees
with those offered by other lenders well in advance of the loan closing.
3. Real Estate Brokers
In a typical real estate transaction, the real estate broker creates an agency
relationship with the seller by means of a
written agreement, known as a listing agreement. Under this agreement, the real estate broker ("listing
broker") enters into a listing agreement with the seller, and contracts to act
as the seller's exclusive agent for the sale of seller's home. Within the
listing agreement, the listing broker typically agrees to accept offers from
other real estate brokers who represent potential purchasers. These other real
estate brokers ("selling agents") become subagents of the seller by virtue of
the listing agreement. Once this agency relationship is established, the real
estate broker owes certain fiduciary duties to her principal: good faith,
loyalty, due diligence and disclosure.
Significant differences between the powers and duties held by real estate
brokers and mortgage brokers allow the latter to be easily distinguished from
the former. First, unlike real estate brokers, mortgage brokers rarely contract
in writing to act as a borrower's agent. In order to impose an agency
relationship on mortgage brokers, courts must usually infer the agency
requirements from the intentions of the parties, a process far more susceptible
to error than that of real estate brokers, whose agency agreement is in
writing. Second, the real estate agent is in a much greater position to
influence or bind her principal than a mortgage broker. In order for a real
estate broker to procure prospective buyers (either by herself or with the
assistance of a selling broker), a real estate broker must perform certain acts
that influence or bind her principal, including making representations
regarding the property to all potential buyers and negotiating the sales
contract terms on behalf of the seller. Both of these actions give a real
estate broker the opportunity to speak for or influence the principal. In
contrast, the mortgage broker's ability to influence the borrower's actions are
limited to presenting the terms upon which the mortgage lender will provide the
mortgage funds. The borrower alone is able to bind herself to any terms and
conditions of the subsequent agreement with the mortgage lender. Additionally,
the listing agreement usually requires a seller to agree to use one real estate
broker exclusively. This fact places a higher degree of responsibility upon the
listing broker selected because the seller cannot unilaterally cancel this
contract or rely on any other persons to provide these same services.
Conversely, a borrower is free to make a loan application with more than one
mortgage broker, which insures that the borrower can switch to the services of
a different mortgage broker if her current broker is not performing his duties
Regardless of the inherent differences between real estate brokers and mortgage
brokers, four states disregard these differences and maintain laws that
statutorily impose the identical agency responsibilities on mortgage brokers
that exist for real estate brokers. In
these states, mortgage brokers are deemed to have entered into an agency
relationship with their borrowers and, as a result, acquire general fiduciary
duties to their borrowers.
C. Regulation of Mortgage Brokers
In the past, it appears that courts imposed a fiduciary duty of disclosure on
mortgage brokers in large part to protect unwitting borrowers from the lax or non-existent regulation of mortgage
brokers at the state and federal level.
Continued judicial regulation of mortgage brokers via a general fiduciary duty
is unnecessary, based upon existing and proposed laws at the state and federal
level that require the disclosure of loan terms and all loan fees and provide
for adequate enforcement mechanisms.
1. State Regulation of Mortgage Brokers
States currently possess several methods for regulating mortgage brokers.
First, states may impose licensing requirements on mortgage brokers. Currently,
thirty-nine states require some level of licensing for mortgage brokers. Twenty-nine states require the payment of a
fee and proof of a minimum net worth and/or pledge of a surety bond in order to
receive a license. Six states require
proof of the person's competence as a mortgage broker (written test/prior
lending experience) in addition to other monetary requirements. Four states impose an even greater requirement on
mortgage brokers by subjecting them to the licensing requirements imposed on
real estate brokers.
In addition to licensing requirements, states can regulate the activities of
mortgage brokers through various types of consumer protection laws that permit
borrowers to sue mortgage providers for certain violations. These laws
typically require lenders (including mortgage brokers) to disclose all relevant
loan terms and fees, including any yield-spread premiums.
2. Federal Regulation of Mortgage Brokers
In addition to these state laws, two relatively recent statutes provide comprehensive regulation of mortgage
providers at the federal level: the Real Estate Settlement Procedures Act
("RESPA") and the Truth In Lending Act
("TILA"). These statutes regulate mortgage
providers in their disclosure of all direct and indirect fees assessed to the
Direct fees are those fees paid by the borrower in connection with the
processing or closing of the mortgage loan. Under RESPA, all mortgage providers
must disclose to borrowers an estimate of each charge "that the borrower will
normally pay or incur at or before settlement based upon common practice in the
locality of the mortgage property,"
including any mortgage broker fees paid to mortgage brokers. In addition, mortgage providers must calculate the
mortgage loan's Annual Percentage Rate ("APR") based on the total finance
charges the borrower will pay in connection with the loan. TILA appears to require mortgage brokers to include any
broker fees they assess borrowers in the calculation of the finance charge. Therefore, the APR that the mortgage broker
discloses to the borrower is an accurate calculation of all direct fees the
borrower will pay in connection with their loan, allowing the borrower to
compare the loan's total "sticker price" with loans offered by other mortgage
providers. RESPA and TILA, with their explicit disclosure requirements, are a
much more effective method for ensuring the correct disclosure of loan terms
and fees than the imposition of a general fiduciary duty.
Indirect fees are all fees paid to mortgage brokers by parties other than the
borrower in connection with the processing or closing of the borrower's
mortgage loan. In 1992, HUD adopted the position that mortgage brokers are required to disclose all indirect fees
received in connection with a borrower's mortgage loan. After mortgage brokers complained that this requirement
"placed mortgage brokers on an unequal footing with other mortgage loan
providers and that information on indirect fees was confusing to borrowers,"
HUD engaged in rulemaking activities on this topic. The result of these rulemaking activities is a proposed
rule, whereby mortgage brokers would be ensured that "direct fees received from
the borrower, as well as the indirect fees paid to the broker from a lender for
the transaction, will be covered by a `qualified safe harbor' and presumed
legal and permissible under section 8 of RESPA." This presumption of legality may be rebutted if the
mortgage broker does not meet the criteria of the safe harbor which includes
disclosing to borrowers whether the mortgage broker will receive any indirect
fees from mortgage lenders. The final rule
that emerges from these rulemaking activities will continue to require
disclosure of all fees, both direct and indirect, earned by mortgage
brokers in connection with the mortgage transaction.
In addition to these existing and proposed laws, there currently is a very
compelling monetary disincentive for third-party mortgage lenders to pay
indirect fees, such as yield-spread premiums, to mortgage brokers. An
increasing number of mortgage lenders are finding themselves the object of
class-action lawsuits based upon their payment of overages to mortgage
brokers. Although the legal grounds for
these lawsuits vary, the likely outcome of
this litigation is that mortgage lenders will be much less likely to pay
overages unless they can be assured that they will not incur liability to
mortgage brokers for this payment. In
addition, mortgage brokers may be less likely to accept overages for these very
The previous section illustrates that state and federal regulation currently
require mortgage brokers to disclose loan terms and loan fees, including all
direct and indirect fees earned by the mortgage broker. These regulations
essentially eliminate the need to impose a general fiduciary duty on mortgage
brokers to ensure disclosure of these loan terms or loan fees. In spite of this
fact, some critics still contend that a general fiduciary duty should be
imposed to ensure that mortgage brokers provide the best possible loan terms
and lowest fees to the borrower.
First, this requirement would impose a discriminatory standard upon mortgage
brokers that is not required of all other mortgage providers. The line that
distinguishes mortgage brokers from banks and mortgage bankers is far from
clear, and extracting a higher degree of
duty from mortgage brokers has no practical basis.
Second, a mortgage broker should not be legally required to provide the lowest
possible price to its borrowers. This very issue is at the center of the
current debate over the payment of yield-spread premiums by mortgage lenders to
mortgage brokers. Critics who advocate
requiring brokers to provide the lowest possible rates and fees to borrowers
ignore the fact that a borrower seeking to purchase or refinance a home is only
concerned with the "bottom-line" cost that he or she must pay for the mortgage
funds, and this "bottom line" cost will reflect any yield-spread premium
payments received by the mortgage broker. Because current federal regulations have standardized
the manner in which a mortgage provider must disclose interest rates and loan
fees, a borrower is free to compare the total cost a mortgage broker will
charge with the total cost of any other mortgage provider. Also, the argument that mortgage brokers must provide
the lowest cost, fees and services disregards the simple fact that a mortgage
broker can still act in the best interest of the borrower without providing the
lowest priced services. Most mortgage providers are responsible for
coordinating the services of several different entities on behalf of their
borrowers for the processing and closing of the mortgage loan. Such services
include: the credit report, appraisal and private mortgage insurance. In
addition, mortgage providers are often directed by the borrower to procure
other necessary items, including title insurance, survey and pest inspection. In many instances, the lowest-priced
service provider may not necessarily be the one ultimately most beneficial to
the borrower, possibly because the mortgage broker knows that the lowest-priced
service provider may be unreliable and may jeopardize the entire loan
transaction. Therefore, requiring mortgage brokers to provide the lowest-priced
loan transaction not only imposes an extreme hardship on the mortgage broker,
but it also might work against the borrower's best interest. Instead, the borrower should decide the issue of
"bottom line" cost herself, using the APR disclosed by the mortgage broker to
"shop around" for the lowest overall price.
Finally, states that impose a general fiduciary duty on mortgage brokers
statutorily by requiring that they be licensed as real estate brokers possess
two alternatives. First, these states' legislatures could repeal the provisions
requiring mortgage brokers to be licensed as real estate brokers. When most of these special licensing
requirements were enacted, the level of state and federal regulation of
mortgage brokers was minimal. Even if
these four states eliminated their special licensing requirement, they could
still maintain the requirement that mortgage brokers continue to receive the
education required of real estate brokers. Second, if states do not want to
repeal the requirement that mortgage brokers must also be licensed as real
estate brokers, the legislature could allow the resulting general fiduciary
duty created by this requirement to be a "default rule" that the mortgage
broker and borrower could contract around. In a recent article, Professor Tamar Frankel argues that most fiduciary duty
rules are default rules only. Professor
Frankel proposes allowing entrustors, in this case borrowers, to waive any
fiduciary duty owed them if (1) they are "put on clear notice that, with
respect to the particular duties that they waive, they can no longer rely on
their fiduciaries" (in this case, mortgage brokers) and (2) fiduciaries
"provide entrustors with information . . . to enable entrustors to make an
informed independent decision regarding the waiver."
The adoption of this rule would not place an undue burden on the borrower.
Borrowers do not benefit from a general fiduciary duty in their dealings with
all mortgage providers because the law does not impose such a duty on mortgage
lenders. Moreover, state and federal regulation sufficiently protect borrowers
from the danger of non-disclosure of loan terms and fees. Furthermore, the
wealth of information currently available to borrowers who wish to compare
interest rates and fees eliminates the need for mortgage brokers to provide the
best possible terms and fees. Thus, current state and federal regulation of
mortgage brokers, in conjunction with market forces, permit courts to withhold
imposition of a general fiduciary duty upon mortgage brokers.
[1.] For the purpose of this Note, the term
"mortgage broker" refers to any entity that solicits, processes and/or places a
mortgage loan with a third-party mortgage lender on behalf of a borrower.
Because a mortgage broker does not provide the actual funds for the loan, she
acts only as an intermediary between a borrower seeking funds for the purchase
or refinance of a home and the mortgage lender who ultimately provides these
[2.] See George A. Platz, Avoiding
and Defending Residential Mortgage Litigation Involving Loan Broker
Compensation, Release Fees, and Defective Home Improvements, in FINANCIAL
SERVICES LITIGATION: NEW PRODUCTS, HOT ISSUES, HIGH EXPOSURE-COMMERCIAL
INVESTMENT ISSUES, CONSUMER CREDIT ISSUES 737 (Practicing Law Institute ed.,
1996) ("Whereas only a small minority of residential mortgage loans involved a
mortgage broker less than ten years ago, broker loans today comprise the
majority"); John Manners, How You Can Save With a Mortgage Broker,
MONEY, Feb. 1994, at 183 ("[T]he number of brokers has nearly tripled to 18,500
in the past six years. They now arrange nearly half the 700,000 mortgage loans
issued each month").
[3.] For the purpose of this Note, the term
"mortgage lender" refers to any entity that provides mortgage loans using their
own funds. Mortgage lenders are comprised of three principal types of lending
institutions: banks, insurance companies and mortgage bankers. A "bank" is the
generic term used for any depository institution that, in addition to other
banking services, places or refinances mortgage loans using depository funds.
After funding the mortgage loan, a bank may either retain the mortgage loan in
its own loan portfolio, or may resell the loan on the secondary mortgage
market. Because banks possess this dual ability, they are usually willing to
make both conforming loans (i.e., loans that meet the necessary requirements to
be eligible for sale on the secondary market) and non-conforming loans (i.e.,
loans that do not meet the requirements of the secondary market and must be
retained in the lender's portfolio). The term "bank," therefore, refers both to
commercial banks as well as thrift institutions, such as savings banks, savings
and loans, and credit unions.
Insurance companies fund mortgage loans from the insurance premiums paid to
them by their policy holders. Because insurance companies retain these
mortgages in their loan portfolio, they do not need to satisfy the requirements
of the secondary market. As a result, most insurance companies focus their
lending in the area of non-conforming loans. A mortgage banker is a
non-depository entity whose sole function is to place or refinance mortgage
loans using its own funds. After closing the mortgage loan, a mortgage banker
resells the mortgage loan on the secondary mortgage market, recouping the funds
it lent, and re-lending these funds to future borrowers. Because mortgage
bankers must meet the requirements of the secondary market, they typically
limit their lending to conforming loan programs. Mortgage bankers are not
depository institutions themselves, so most mortgage bankers are affiliated
with or owned by an institution that is able to provide the mortgage broker
with the money necessary to fund their mortgages.
[4.] Most authorities agree that mortgage
brokers currently originate at least half of all residential home mortgages.
See, e.g., Kenneth R. Harney, Bias in Pricing of Mortgage Fees Cuts
Across Lines of Race, Sex, Age, WASHINGTON POST, Sept. 14, 1996, at F01,
available in 1996 WL 12393515 ("[I]ndependent mortgage brokers . . .
[are] the source of 40 percent to 50 percent of all new home loan originations
nationwide"); H. Jane Lehman, HUD Re-Examines Law Designed to Protect
Borrowers, ORLANDO SENTINEL, Jan. 14, 1996, at J1, available in 1996
WL 2578857 ("[M]ortgage brokers . . . originated 65 percent of the residential
mortgage business [in 1995]"); John Manners, How You Can Save With a
Mortgage Broker, MONEY, Feb. 1994, at 183 ("[Mortgage brokers] now arrange
nearly half the 700,000 mortgage loans issued each month").
[5.] Any number of factors have contributed to
the increased market share of mortgage brokers, including: the ability of
mortgage brokers to offer a greater variety of loan programs than single
mortgage lenders; the ability of mortgage brokers to secure approval of certain
types of mortgage loans that conventional mortgage lenders cannot; the demise
of savings and loan institutions in the 1980s; and the increased reliance of
banks on independent mortgage brokers in order to eliminate the bank's cost of
maintaining their own branch lending offices. See Earl C. Gottschalk,
Jr., Picking the Wrong Mortgage Broker Can Become a Homeowner's
Nightmare, WALL ST. J., Mar. 26, 1992, at C1, available in 1992
[6.] Mary Burt and Christian Jones note that
the potential for litigation by borrowers against mortgage brokers exists
because of the great variation in state legislation governing mortgage
The retail mortgage lending industry is subject to great variations in state
regulation. There is little agreement both inside and outside of the industry
as to its legal duties. It is not even clear how participants-- particularly
mortgage brokers--should be classified . . . It is not hard to predict that
this legal uncertainty under state law will likely focus first on mortgage
brokers, as it did in the RESPA rulemaking proceedings. Because brokers
interact directly with consumers, they can be expected to be one of the first
objects of scrutiny. Further, we believe that scrutiny will largely involve the
duty owed to borrowers by mortgage brokers. This theme is already being played
out in the media, the legislatures, and the courts. The legal question being
asked is: Does a mortgage broker owe a fiduciary duty to an applicant for a
Mary J. Burt & Christian T. Jones, Comment, Clearer State, Federal Laws
Crucial to Disclosure Talks Series: 16, AM. BANKER, May 31, 1996, at 9,
available in 1996 WL 5565402.
[7.] See infra notes 9-15 and
accompanying text for a discussion of the differences between a general and a
specific fiduciary duty.
[8.] See Theodore H. Hellmuth, Lender
Liability and Fiduciary Obligation: Dentures for a "Toothless Lion," 3
PROB. & PROP. 20, 22 (1989) ("The lender who acts as a fiduciary to the
borrower is liable for almost anything; the lender who does not is liable for
almost nothing. This is not simply hyperbole. The average borrower must fend
for himself or herself when negotiating the average loan. To the contrary, when
a lender who is a fiduciary gains an advantage over the borrower, there is a
presumption of unfairness").
[9.] Niels B. Schaumann, The Lender as
Unconventional Fiduciary, 23 SETON HALL L. REV. 21, 26 (1992).
[10.] Production Credit Ass'n v. Croft, 423
N.W.2d 544, 546 (Wis. Ct. App. 1988).
[11.] Relationships that fall under this
category of fiduciary relations are fairly easy to detect, mainly because the
legal status of the parties to a transaction, or the legal documents that
provided the basis for the transaction, are usually incontrovertible. The most
common legal relationships that give rise to general fiduciary duties are: (1)
principal-agent; (2) attorney-client; (3) trustee-beneficiary;
(4) partner-partner; (5) escrowee-beneficiary; and (6) guardian-ward.
Denison State Bank v. Madeira, 640 P.2d 1235, 1241 (Kan. 1982).
[12.] RESTATEMENT (SECOND) OF AGENCY § 1
[13.] See id. § 13 ("An agent is
a fiduciary with respect to matters within the scope of his agency").
[14.] This Note uses the terms "general" and
"specific" to distinguish the two different manners in which a fiduciary duty
may arise, not the degree to which this fiduciary duty controls the
relationship between the parties. Therefore, a "general fiduciary duty" is one
that generally arises at the outset of a transaction based upon the status of
the parties to the transaction, without requiring any showing that the
fiduciary performed any specific acts which would create a fiduciary duty
[15.] The difficulty in determining whether
or not a fiduciary relationship arises within this second category is evident
from the laundry list of factors that the Kansas Supreme Court cites as
possible indicia of a "specific" fiduciary relationship:
[T]he acting of one person for another; the having and the exercising of
influence over one person by another; the reposing of confidence by one person
in another; the dominance of one person by another; the inequality of the
parties; and the dependence of one person upon another. In addition, courts
have considered weakness of age, mental strength, business intelligence,
knowledge of the facts involved or other conditions giving to one an advantage
over the other.
First Bank v. Moden, 681 P.2d 11, 13 (Kan. 1984).
Ironically, only six years earlier, the Kansas Supreme Court appeared to have
conceded that it could not enumerate every possible factor a court could rely
on to determine the existence of a specific fiduciary relationship. See
Curtis v. Freden, 585 P.2d 993, 998 (Kan. 1978) ("Whether or not a
confidential or fiduciary relationship exists depends on the facts and
circumstances of each individual case. This court has refused, for that reason,
to give an exact definition to fiduciary relations").
[16.] A discussion about the creation of
specific fiduciary duties in the lending relationship is beyond the scope of
this Note, therefore the following discussion will focus solely on general
fiduciary duties created by a court's determination that a mortgage broker
becomes the agent of a borrower based solely upon her status as a "broker." For
a thorough analysis of the creation of specific fiduciary duties within the
lender-borrower relationship, see Cecil J. Hunt, II, The Price of Trust: An
Examination of Fiduciary Duty and the Lender-Borrower Relationship, 29 WAKE
FOREST L. REV. 719 (1994).
[17.] See Guilderland Reins. Co. v.
Gold, 642 N.Y.S.2d 99, 100 (N.Y. App. Div. 1996) ("A licensed real estate
broker is a fiduciary for his client, and must exercise the utmost good faith
and loyalty in his performance").
[18.] See Kahler, Inc. v. Weiss, 539
N.W.2d 86, 92 (S.D. 1995) ("A real estate agent owes the principal a fiduciary
duty to use reasonable care, skill and diligence").
[19.] See Faron v. Waddell & Reed,
Inc., 930 S.W.2d 508, 511 (Mo. Ct. App. 1996) ("Implicit in [a stockbroker's
fiduciary obligations to his customer] is a duty to disclose to the customer
[20.] Authorities disagree on the breadth of
the scope of an agent's fiduciary relationship. Some legal analysts advocate a
broad scope of ficuciary obligation, as enunciated by Professor DeMott: "The
fiduciary's duties go beyond mere fairness and honesty; they oblige him to act
to further the beneficiary's best interests. The fiduciary must avoid acts that
put his interests in conflict with the beneficiary's." Deborah A. DeMott,
Beyond Metaphor: Analysis of Fiduciary Obligation, 1988 DUKE L.J. 879,
Other analysts conclude that the scope of fiduciary obligation should be
defined in a narrower fashion. Under this "hypothetical bargaining" approach, a
court decides the scope of fiduciary obligation based upon what the parties
would have agreed to, had they bargained over the particular matter in
question. See Jordan v. Duff & Phelps, Inc., 815 F.2d 429 (7th Cir.
[21.] Courts generally define a broker as "an
agent who bargains or carries on negotiations in behalf of his principal as an
intermediary between the latter and third persons in transacting business
relative to the acquisition of contractual rights, or to the sale or purchase
of any form of property, real or personal, the custody of which is not
entrusted to him for the purpose of discharging his agency." City of Chicago v.
Barnett, 88 N.E.2d 477, 480 (Ill. 1949).
[22.] See 12 C.J.S. Brokers
§ 25 (1953) ("The primary and essential feature underlying the relation of
customer and broker is that of agency"); City of Chicago, 88 N.E.2d at
481 ("The essential and basic feature underlying the relation of a broker to
his employer is that of agency, and the principles of law applicable to the
principal and agent govern their respective rights and obligations throughout")
(quoting 8 AM. JUR. Brokers § 14 (1937)); Brown & Zortman Mach.
Co. v. City of Pittsburgh, 100 A.2d 98, 101 (Pa. 1953) ("Agency is one of the
chief characteristics of a broker"). But see Carr v. Cigna Sec., Inc.,
95 F.3d 544, 547 (7th Cir. 1996) ("The general rule, however, is that a broker
is not the fiduciary of his customer unless the customer entrusts him with
discretion to select the customer's investments").
[23.] See 12 C.J.S. Brokers
§ 56 (1955) ("[A] broker when acting as an agent for a principal occupies
a fiduciary relation, in all his dealings affecting the subject matter of his
agency, [and] must act with the utmost good faith and loyalty in his interest
of his principal").
[24.] In Cooper v. Burby, No. 387563,
1992 WL 97044, at *4 (Conn. Super. Ct. Apr. 29, 1992), the court noted that the
mortgage broker and borrower "stand at arm's length" and that a mortgage broker
"has a right to further its own interest in a mortgage transaction and is under
no duty to represent the customer's interest." In Bank of Red Bay v.
King, 482 So. 2d 274, 285 (Ala. 1985), the court did not distinguish any
underlying fundamental difference in the mortgage broker-borrower relationship,
holding that "[w]hen both parties are intelligent and fully capable of taking
care of themselves and dealing at arm's length, with no confidential relations,
no duty to disclose exists when information is not requested, and mere silence
is then not a fraud."
[25.] See Gorbach v. Trupin, 254 A.2d
583, 586 (Conn. Cir. Ct. 1968) ("The rights and duties of a broker employed to
secure a loan depend on the same principles as those which govern the broker
who undertakes to find a purchaser of the property").
[26.] Mortgage brokers, unlike other
potential fiduciaries, do not typically incur fiduciary duties through express
contractual agreements with their customers. This can be attributed to the fact
that most mortgage brokers, unlike real estate brokers, do not expressly
contract to act as the borrower's agent. Some courts, however, have held that
the loan application between the borrower and the mortgage broker itself
constitutes a contractual creation of a fiduciary relationship between the
mortgage broker and borrower. In Langer v. Haber Mortgages, Ltd., N.Y.
L.J., Aug. 2, 1995, at 26, col. 4, the borrower applied with a mortgage broker,
Haber Mortgage, Ltd. ("Haber"), to refinance an existing mortgage loan, and
executed a written agreement naming Haber as his agent. The borrower
subsequently signed an interest rate agreement with a third-party mortgage
lender located by Haber, ARCS Mortgage, Inc. ("ARCS"). Pursuant to this
agreement, ARCS would "lock" the borrower into a specific interest rate for the
duration of the loan processing period. Although ARCS denied the borrower's
application, Haber misrepresented to the borrower that ARCS had approved the
loan. The court held that the loan application agreement naming Haber as the
borrower's agent established a fiduciary relationship, reasoning that "by their
very nature, contracts between mortgage brokers and their clients generally
create a fiduciary duty . . ." Id. Cases in which a fiduciary
relationship is created contractually appear to be the exception, not the rule.
A written agreement between a borrower and mortgage broker whereby both parties
agree that the mortgage broker is not the agent of the borrower appear to
prevent a fiduciary relationship from arising contractually. However, it is
unclear whether such a disclaimer would be sufficient to prevent a fiduciary
relationship from arising under agency principles.
[27.] 598 P.2d 45 (Cal. 1979) (en banc).
[28.] Union Mortgage informed the borrowers
that they had a 10-day grace period after the payment was due before it would
be considered late, whereas the true grace period was five days. In addition,
Union Mortgage disclosed that the annual percentage rate ("APR") was
approximately between seven and eight percent, when in reality, the true APR
was 10%. Finally, Union Mortgage indicated that a small balloon payment would
be due in the 37th month, but the true balloon provision permitted the
unreduced loan principal to be deferred, resulting in a balloon payment $1340
more than the original loan principal. See id. at 48-49.
[29.] Id. at 50.
[30.] Id. But cf. Mitchell v.
Aames Home Loan Co., No. B021272, 1987 WL 13307, at *5 (Cal. Ct. App. May 21,
1987) (holding that "although [a] mortgage broker certainly has a fiduciary
duty of oral disclosure as to certain matters," this duty does not require a
mortgage broker to make the borrower aware of the existence of an arbitration
clause on the rear page of the loan instructions).
[31.] See Munday v. Real Estate
Advisors, Inc., No. C-95-20143-JW, 1995 WL 549015, at *2 (N.D. Cal. Sept. 12,
1995) (citing Wyatt for favorable support that a mortgage broker
breached its fiduciary duty to a borrower by failing to disclose that the
non-recording of certain documents is not the custom in the real estate
industry and could give rise to fraud); Umet Trust v. Santa Monica Med. Inv.
Co., 140 Cal. App. 3d 864, 866 (Cal. Ct. App. 1983) (holding that the mortgage
broker breached his fiduciary duty to a borrower by misrepresenting or failing
to disclose the negative legal consequences of sale leaseback financing).
[32.] 393 P.2d 281 (Wash. 1964).
[33.] The borrower signed the following forms
in blank: a loan application, a note, a mortgage, and a hold-harmless
agreement. See id. at 282.
[34.] See id.
[35.] The court did not explain its reasons
for applying agency principles to this transaction. Instead, the court merely
stated that the mortgage broker's actions were "a breach of the duty of loyalty
which an agent has to his principal." Id. at 283.
[36.] Id. at 284. The court proceeded
to hold that "[w]here there has been a breach of the fiduciary relationship in
addition to the partial concealment of fees," the mortgage broker must forfeit
his compensation for the disobedient conduct. Id.
[37.] 108 Cal. Rptr. 71 (Cal. Ct. App.
[38.] See id. at 73.
[39.] See id. At the time the loans in
this case were made, California's Necessitous Borrower's Act applied to first
mortgages under $10,000 and junior liens under $5000. See 1961 Cal.
Stat. ch. 886, s. 24, p. 2339. The Necessitous Borrower's Act regulated the
maximum commission a lender could charge a borrower. The law, however, did not
limit the amount of commission a lender could charge on loan amounts greater
than these statutory limits. See id.
[40.] Realty Projects, 108 Cal. Rptr.
at 75-76 (emphasis added). The court held that the mortgage broker possessed no
economic justification for inducing the borrower to take a loan amount in
excess of the statutory limits. The court concluded that the amount of each
loan was determined solely by the fact that commissions could be charged
"substantially in excess of those permitted on regulated loans." Id. at
[41.] This Note uses the term "yield-spread
premium" to describe payments a mortgage broker receives from a mortgage
lender, but it is not uncommon for the term "overage" to be used
interchangably. See Neal Gendler, "Yield Spread Premium" Suits Prompt
Questions About Broker Business, MINNEAPOLIS-ST. PAUL STAR TRIB., Feb. 15,
1997, at 04H, available in 1997 WL 7554523. The practice of using these
two terms interchangably is technically incorrect, because "overage" refers to
any discount points charged that are in excess of the amount of discount points
a mortgage provider must charge.
[42.] Discount points are prepaid interest on
the mortgage loan paid at the time of the loan closing. Each point is equal to
one percent of the loan amount.
[43.] Robert M. Jaworski, Overages: To Pay
or Not to Pay, That Is the Question, 113 BANKING L.J. 909, 910 (1996). The
investor essentially pays the mortgage broker a fee representing a portion of
the additional interest she will collect as a result of the mortgage broker
charging the borrower a higher-than-market interest rate or greater upfront
fees (i.e., discount points).
[44.] 34 Va. Cir. 17; Case No. LW-3263-4
[45.] 34 Va. Cir. 17; Case No. LW-3264-4
[46.] Because the facts and issues presented
in both of these cases were virtually identical, the court ruled on both cases
in one opinion. In Byrd v. Crosstate, 34 Va. Cir. 17; Case No. LW-3263-4
(1994), a mortgage broker collected a total of $1251.57 in connection with the
plaintiff's mortgage loan. This amount consisted of $220 in discount points and
service charges paid by the borrower to the broker, a $280 broker fee paid by
the borrower to the broker and $551.57 in yield-spread premium paid by the
third-party lender to the broker. Only the broker fee was disclosed to the
borrower prior to closing. See id. In Archer v. Sterling, 34 Va.
Cir. 17; Case No. LW-3264-4 (1994), a mortgage broker collected $1146.41 in
connection with the plaintiff's mortgage loan. This amount consisted of $494 in
discount points and service charges paid by the plaintiff to the broker, a $198
broker fee paid by the plaintiff to the broker, and $354.41 in yield-spread
premium paid by a third-party lender to the broker. Once again, the broker only
disclosed the broker fee to the plaintiff prior to closing. See id.
[47.] 34 Va. Cir. 17, 21 (1994).
[48.] Id. at 20.
[49.] See Mid-America Nat'l Bank v.
First Sav. & Loan of South Holland, 515 N.E.2d 176, 181 (Ill. App. Ct.
1987) ("[T]he conventional mortgagor-mortgage relationship . . . , standing
alone, is insufficient to sustain an allegation of a fiduciary or special
relationship"); Vacinek v. First Nat'l Bank of Pine City, 416 N.W.2d 795, 799
(Minn. Ct. App. 1987) ("A bank is generally not its customer's fiduciary unless
the bank knows or ought to know its customer is placing confidence in the
bank"); UT Communications Credit Corp. v. Resort Dev., Inc., 861 S.W.2d 699,
710 (Mo. Ct. App. 1993) ("As a matter of law, absent some other evidence of a
fiduciary relationship, there is no such relationship between a bank as lender
and its customer as borrower"); Production Credit Ass'n v. Croft, 423 N.W.2d
544, 546 (Wis. Ct. App. 1988) ("[T]he mere existence of a
lender-borrower-customer relationship does not create a fiduciary
[50.] See Stone v. Davis, 419 N.E.2d
1094, 1098 (Ohio 1981) ("[A] bank and its customer may be said to stand at
arm's length in negotiating the terms and conditions of a mortgage loan").
[51.] See Bank of Red Bay v. King, 482
So. 2d 274, 285 (Ala. 1985) ("[T]he relationship between a bank and its
customers has been traditionally viewed by courts as a creditor-debtor
relationship which does not impose a fiduciary duty of disclosure on the
bank"); Dolton v. Capitol Fed. Sav. & Loan Ass'n, 642 P.2d 21, 23 (Colo.
Ct. App. 1981) ("In the absence of special circumstances, the legal
relationship between a lending institution and its customer is that of debtor
and creditor"); Deist v. Wachholz, 678 P.2d 188, 193 (Mont. 1984) ("The
relationship between a bank and its customer is generally described as that of
debtor and creditor and as such does not rise to fiduciary responsibilities")
(citation omitted); Umbaugh Pole Bldg. Co., Inc. v. Scott, 390 N.E.2d 320, 321
(Ohio 1979) ("The relationship of debtor and creditor without more is not a
fiduciary relationship. A fiduciary relationship may be created out of an
informal relationship, but this is done only when both parties understand that
a special trust or confidence has been reposed").
[52.] See Weinberger v. Kendrick, 698
F.2d 61, 79 (2d Cir. 1982) ("[I]t would be anomalous to require a lender to act
as a fiduciary for interests on the opposite side of the negotiating
[53.] See Union State Bank v. Woell,
434 N.W.2d 712, 721 (N.D. 1989) ("Some courts have recognized that a fiduciary
relationship may arise under circumstances which reflect a borrower's reposing
of faith, confidence and trust in a bank with a resulting domination, control
or influence exercised by the bank over the borrower's affairs"). Professor
Cecil J. Hunt has categorized the special circumstances that courts look at in
determining whether a lender-borrower relationship extends beyond the normal
arms-length relationship between a mortgage lending institution and a borrower.
Three categories of factors cited for "special circumstances" are: (1) the
borrower reposes special trust and or confidence in the lender; (2) the
borrower receives and relies on advice rendered by the lender; and (3) the
lender gains superiority, influence, dominion or control over the borrower.
See Hunt, supra note 16, at 740-41.
[54.] For the purpose of this Note, the term
"mortgage provider" refers to both mortgage brokers and mortgage lenders,
[55.] See Fey v. Walston & Co.,
Inc., 493 F.2d 1036, 1049 (7th Cir. 1974) (holding that the "mere existence of
a broker-customer relationship is not proof of its fiduciary character").
[56.] 519 N.E.2d 363 (Ohio 1988).
[57.] Bank One paid West Chevrolet, the car
dealer, a fee of three percent of the loan amount pursuant to a sliding fee
schedule agreement between Bank One and West Chevrolet. See id. at
[59.] Id. at 368. Another recent case
which arrives at a similar decision is Perino v. Mercury Fin. Co. of
Ill., 912 F. Supp. 313 (N.D. Ill. 1995). In this case the plaintiff
purchased a used car from Mancari's Chrysler Plymouth, Inc. ("Mancari
Chrysler"). See id. at 314. Mancari Chrysler agreed to arrange financing
for the plaintiff through MFC Illinois, a "`sales finance agency' whose primary
business included purchasing individual installment sales contracts from
automobile dealers and retail vendors." Id. Mancari Chrysler executed a
retail installment contract with the plaintiff at an APR of 41.04%. MFC
Illinois subsequently purchased the plaintiff's installment contract from
Mancari Chrysler at an APR lower than 41.04%, crediting part of the difference
between the two rates back to Mancari Chrysler. See id. The plaintiff
claimed that MFC's undisclosed payment of this money to Mancari Chrysler
"induced the dealer to breach the duty it owned [the plaintiff] as his agent
and that MFC Illinois' conduct is explicitly illegal." Id. at 318. The
court held that "the alleged failure to disclose this discount does not violate
either federal or state law" because MFC Illinois "made all required
disclosures under the federal Truth-In-Lending Act." Id.
[60.] Blon, 519 N.E.2d at
[61.] But see Robert A. Cook,
Yield-Spread Premiums Come Under Attack, 48 CONSUMER FIN. L.Q. REP. 94,
96 (Winter 1994) (asserting that mortgage brokers are distinguishable from
consumer loan brokers because it is "reasonable for borrowers to expect that
[mortgage] brokers with whom they have entered into a contractual relationship
owe some duty to them to obtain the best loan possible"). Cook's attempt to
differentiate these two types of brokers is incorrect. While a borrower may pay
a mortgage broker a broker fee, this fee is not paid to secure the best terms
for the borrower. Rather, this fee covers the broker's costs in processing and
placing the mortgage loan. Unlike mortgage brokers, consumer loan brokers
typically incur only nominal costs in connection with processing the loan
financing because the costs of processing the consumer loan applications are
borne by the provider of the funds.
[62.] For a brief discussion of the
application of agency law to the stockbroker/customer relationship, see Carol
R. Goforth, Stockbrokers' Duties To Their Customers, 33 ST. LOUIS U.
L.J. 407, 409-12 (1989).
[63.] For a brief discussion of the
application of securities laws to the stockbroker/customer relationship, see
id. at 412-17.
[64.] A discretionary account is one in which
the stockbroker, rather than the customer, decides which purchases and sales to
[65.] A non-discretionary account is one in
which the customer, rather than the stockbroker, decides which purchases and
sales to make. The stockbroker simply executes purchase or sales contracts on
behalf of the customer.
[66.] See Goforth, supra note
62, at 422 ("A number of courts have held that the decision to impose fiduciary
obligations upon a broker turns on whether the account handled by the broker
was discretionary or non-discretionary").
[67.] See Ohio Co. v. Nemecek, 886 F.
Supp. 1342, 1346 (E.D. Mich. 1995) ("A fiduciary relationship arises between a
broker and his customer when the broker is handling a discretionary account");
Leib v. Merrill Lynch, Pierce, Fenner & Smith, Inc., 461 F. Supp. 951, 953
(E.D. Mich. 1978) ("Unlike the broker who handles a non-discretionary account,
the broker handling a discretionary account becomes the fiduciary of his
customer in a broad sense"); Rupert v. Clayton Brokerage Co. of St. Louis,
Inc., 737 P.2d 1106, 1109 (Colo. 1987) (en banc) ("Where a customer
relinquishes practical control over his brokerage account to a stockbroker, the
broker owes wide-ranging fiduciary duties to the customer to manage the account
in accordance with the customer's needs and objectives").
[68.] See Greenwood v. Dittmer, 776
F.2d 785, 788 (8th Cir. 1985) ("[N]o fiduciary duty arises between a broker and
his client in relation to a non-discretionary commodity trading account");
Shearson Hayden Stone, Inc. v. Leach, 583 F.2d 367, 371-72 (7th Cir. 1978)
("Although in some circumstances a broker would stand in a fiduciary
relationship to its customer, those circumstances are not present . . . [with]
a `nonsupervised' . . . account"); Merrill Lynch, Pierce, Fenner & Smith,
Inc. v. Boeck, 377 N.W.2d 605, 609 (Wis. 1985) ("[A] broker does not owe a
fiduciary duty to an investor-customer who makes all of the investment
decisions, unless there is an express agreement placing a greater obligation on
the broker or other special circumstances").
[69.] If the mortgage broker is an exclusive
agent of the mortgage lender, then either the mortgage lender or the mortgage
broker must provide a Good Faith Estimate. If the mortgage broker is not an
exclusive agent of the mortgage lender, the mortgage broker must provide the
Good Faith Estimate to the borrower. See 24 C.F.R. § 3500.7(a)
(1997) ("Regulation X").
The Good Faith Estimate provides the borrower with the mortgage provider's
estimate of the cost of each of the following fees: loan origination fee; loan
discount points; appraisal; credit report; lender inspection fee; mortgage
broker fee; prepaid interest; mortgage insurance premium; hazard insurance
premium; settlement fee; title insurance; document preparation; notary fee;
attorney fee; recording fee; survey; pest inspection; commitment fee; and tax
stamps. See 24 C.F.R. § 3500 app. A (1977).
[70.] See Real Estate Settlement
Procedures Act of 1974 (RESPA) § 2604(d), 12 U.S.C. § 2601
[71.] A real estate broker may also create an
agency relationship with a home purchaser through an express written agreement,
known as a buyer's brokerage agreement. Situations may also arise in which a
real estate agent owes certain fiduciary duties to a home seller or purchaser
that arise outside of any agency relationship. See Brett L. Hopper,
Comment, The Selling Real Estate Broker and the Purchaser: Assessing
the Relationship, 1992 BYU L. REV. 1135 (1992).
[72.] Although the written listing agreement
usually serves as the basis of the agency relationship between a real estate
broker and a home seller, courts have inferred this agency relationship from
parties' oral statements or conduct. See Miller v. Boeger, 405 P.2d 573,
576 (Ariz. Ct. App. 1965) (holding that a "limited agency relationship [was]
initiated at the time the [sellers] gave to the real estate agent an oral
listing"); Anderson v. Thacher, 172 P.2d 533, 541 (Cal. Dist. Ct. App. 1946)
("An agency may be created not only by written instrument or word of mouth, but
also may be implied from the conduct of the parties").
[73.] See Wegg v. Henry Broderick,
Inc., 557 P.2d 861 (Wash. Ct. App. 1976).
[74.] See Veach v. Meyeres Real
Estate, Inc., 599 P.2d 746 (Alaska 1979).
[75.] For a list of these states, see
infra note 81.
[76.] Often, where a mortgage broker is
deemed to have breached a general fiduciary duty of disclosure, courts have
justified their decisions in part based upon the financial naiveté of
the borrower. See, e.g., Wyatt v. Union Mortgage Co., 24 Cal. 3d 773,
783 (Cal. 1979) (stating that borrowers "were persons of modest means and
limited experience in financial affairs"); Rushing v. Stephanus, 64 Wash. 2d
607, 608 (Wash. 1964) (stating that the borrower "is a side-sewer contractor,
and has only a fifth grade education. His wife's formal education ended in the
10th grade. Both were found to have a limited ability to read and understand
[77.] Although Professor Frankel argues that
"the decline of legal and social controls over those who offer services"
increases the importance of fiduciary obligations, this is certainly not the
current trend within the mortgage industry. Tamar Frankel, Fiduciary
Law, 71 CALIF. L. REV. 795, 802 (1983). In addition to extensive federal
regulations of mortgage providers, there are currently 39 states that regulate
mortgage brokers through the licensing process. See infra notes 79-81
and accompanying text for a complete breakdown of these regulations.
[78.] The 11 states that do not regulate
mortgage brokers through the licensing process are: Alaska, Colorado, Maine,
Montana, Nevada, North Dakota, Oklahoma, Texas, Vermont, West Virginia and
[79.] The following states only impose
minimal monetary requirements for procuring a mortgage broker's license:
Alabama: ALA. CONST. Amend. no. 154 (requiring payment of a $100 occupational
license tax for license); Arkansas: ARK. CODE ANN. § 23-39-301 et
seq. (Michie 1987) (requiring payment of $250 fee, proof of $25,000 net
worth, and pledge of surety bond for license); Connecticut: CONN. GEN. STAT.
§ 36a-486 et seq. (West 1996) (requiring payment of $200 fee and
pledge of surety bond for license); Delaware: DEL. CODE ANN. tit. 5, §
2102 et seq. (1974) (requiring payment of $250 fee and pledge of $25,000
surety bond for license); Georgia: GA. CODE ANN. § 7-1-1000 et seq.
(West Supp. 1996) (requiring payment of investigation fee and pledge of
$25,000 surety bond or proof of $50,000 net worth for license); Hawaii: HAW.
REV. STAT. § 454-1 et seq. (1985) (requiring payment of $100 fee
and pledge of $15,000 surety bond for license); Illinois: 250 ILL. COMP. STAT.
635/2-1 et seq. (West 1992) (requiring payment of $1000 fee, pledge of
$100,000 fidelity bond, and proof of $35,000 net worth for license); Indiana:
IND. CODE ANN. § 23-2-5-5 et seq. (West Supp. 1996) (requiring
payment of $250 fee and pledge of $25,000 surety bond for license); Iowa: IOWA
CODE ANN. § 535B.4 et seq. (West 1997) (requiring payment of $500
and pledge of $15,000 surety bond for license); Kansas: KAN. STAT. ANN. §
50-1003 et seq. (1994) (requiring payment of $250 fee and pledge of
$25,000 surety bond for license); Kentucky: KY. REV. STAT. ANN. § 294.030
et seq. (Michie 1988) (requiring payment of $150 investigation fee,
payment of $300 licensing fee, and pledge of $5,000 surety bond for license);
Louisiana: LA. REV. STAT. ANN. § 6:1083 et seq. (West Supp. 1997)
(requiring payment of $100 fee for license); Maryland: MD. CODE ANN. [FIN.
INST.] § 11-504 et seq. (1993) (requiring payment of $100
investigation fee, payment of $500 license fee, and pledge of $12,500 surety
bond for license); Massachusetts: MASS. GEN. LAWS ANN. ch. 255E, § 2 et
seq. (West Supp. 1997) (requiring payment of an investigation fee for
license); Michigan: MICH. COMP. LAWS ANN. § 445.1652 et seq.
(West Supp. 1997) (requiring payment of an investigation fee of at least $400
(but not more than $1000) and proof of $25,000 net worth for license);
Mississippi: MISS. CODE ANN. § 81-19-9 et seq. (1972) (requiring
payment of $300 fee and pledge of $25,000 surety bond for license as "consumer
loan broker"); Missouri: MO. ANN. STAT. § 443.800 et seq. (West
Supp. 1997) (requiring payment of fee and pledge of surety bond for license);
Nebraska: NEB. REV. STAT. § 45-191.02 et seq. (1993) (requiring
payment of $50 filing fee to file a copies of disclosure statement); New
Hampshire: N.H. REV. STAT. ANN. § 397-A:3 et seq. (1996)
(requiring payment of $250 fee and pledge of $20,000 surety bond for license);
New Mexico: N.M. STAT. ANN. § 58-21-3 et seq. (Michie 1978)
(requiring payment of $400 fee and pledge of $25,000 surety bond for
registration certificate); North Carolina: N.C. GEN. STAT. § 53-235 et
seq. (1996) (requiring payment of $250 fee for license); Ohio: OHIO REV.
CODE ANN. § 1322.02 et seq. (Anderson Supp. 1996) (requiring payment of
$350 fee and proof of $25,000 net worth for certificate of registration);
Pennsylvania: PA. STAT. ANN. tit. 63, § 456.03 et seq. (West
1992) (requiring payment of $500 fee and pledge of $10,000 bond for license);
South Carolina: S.C. CODE ANN. § 40-58-30 et seq. (Law. Co-op.
1976) (requiring payment of $500 fee and pledge of $10,000 surety bond for
registration); Tennessee: TENN. CODE ANN. § 45-13-103 et seq.
(1993) (requiring payment of $100 investigation fee, payment of $500 license
fee, pledge of $25,000 surety bond, and proof of $25,000 net worth for
license); Utah: UTAH CODE ANN. § 70D-1-10 et seq. (1953) (requiring
payment of $200 fee for license); Virginia: VA. CODE ANN. § 6.1-410 et
seq. (Michie 1950) (requiring payment of $500 fee and pledge of $5000 bond
for license); Washington: WASH. REV. CODE ANN. § 19.146.205 (West Supp.
1997) (requiring pledge of $60,000 bond for license); Wisconsin: WIS. STAT.
ANN. § 224.72 et seq. (West Supp. 1996) (requiring pledge of
$25,000 surety bond and proof of $100,000 net worth for "loan solicitor"
[80.] The following six states impose
educational or experience requirements in addition to other monetary
requirements: Arizona: ARIZ. REV. STAT. ANN. § 6-903 et seq. (West
Supp. 1996) (requiring, in addition to payment of a fee and pledge of a bond,
(1) three years experience in mortgage lending, (2) completion of a designated
course of study, and (3) passing a standardized mortgage broker's test within
one year of licensing); Florida: FLA. STAT. ANN. § 494.0033 et seq.
(West 1997) (requiring 24 hours of classroom education and passing a written
test for license); Idaho: IDAHO CODE § 26-3108 (1990) (requiring, in
addition to payment of $200 fee, proof of three years experience in lending for
license); New Jersey: N.J. STAT. ANN. § 17:11B-1 et seq. (West
1984) (requiring, in addition to payment of fee not to exceed $1,000 and bond
not less than $25,000, successful completion of examination aproved by
commissioner or demonstration that applicant has five years experience as a
mortgage broker or mortgage banker); New York: N.Y. [BANKING] LAW
§ 592-a (McKinney Supp. 1997) (requiring, in addition to payment of
$500 fee, proof of experience or educational background in lending for
license); Oregon: OR. REV. STAT. § 59-845 et seq. (1995)
(requiring, in addition to payment of fee and pledge of $10,000 surety bond,
proof of three years experience in lending).
[81.] The following four states require
mortgage brokers to be licensed as real estate brokers: California: CAL. [BUS.
& PROF.] CODE § 10131(d) (West 1987) (stating that a real estate
broker includes a person who "solicits borrowers or lenders for or negotiates
loans . . . secured directly or collaterally by liens on real property");
Minnesota: MINN. STAT. ANN. § 82.17, subd. 4, (b) (West Supp. 1997)
(stating that a real estate broker includes any person who "for another and for
commission, fee or other valuable consideration or with the intention or
expectation of receiving the same, directly or indirectly negotiates or offers
or attempts to negotiate a loan, secured or to be secured by a mortgage or
other encumbrance on real estate"); Rhode Island: R.I. GEN. LAWS §
5-20.5-1(4) (1956) (stating that a real estate broker includes all persons who
"negotiate or attempt to negotiate a loan secured or to be secured by mortgage
or other encumbrance upon a transfer of any real estate"); South Dakota: S.D.
CODIFIED LAWS ANN. § 36-21A-6(11) (Michie 1994) (stating that a real
estate broker includes any person who "[a]cts as a mortgage broker").
[82.] See Smith v. First Family Fin.
Servs., Inc., 626 So. 2d 1266 (Ala. 1993) (holding that Alabama Consumer Credit
Act's requirement of disclosure of all finance charges includes disclosure of
yield-spread premiums paid to mortgage brokers); Cullen v. Investment
Strategies, Inc., 911 P.2d 936 (Or. Ct. App. 1995) (holding that Oregon's
Unlawful Trade Practices Act requires mortgage brokers to disclose yield-spread
premiums paid to a mortgage broker by an investor).
[83.] Both of these statutes were enacted in
[84.] 12 U.S.C. §§ 2601 et seq.
(1994) RESPA regulates all "federally regulated mortgage loans" including both
purchase money mortgages and refinance mortgages.
[85.] 15 U.S.C. §§ 1601 et
[86.] Regulation X, 24 C.F.R.
§ 3500.7(c)(2) (1997).
[87.] The 1992 Revised Regulation X
specifically added "mortgage broker fees" to the list of fees requiring
[88.] See 15 U.S.C. § 1606 (1994)
("Determination of annual percentage rate").
[89.] Section 1605 of TILA ("Determiniation
of finance charge") requires that "the amount of the finance charge
. . . shall be determined as the sum of all charges, payable directly
or indirectly by the person to whom the credit is extended." 15 U.S.C.
§ 1605(a) (1994). Examples of charges that are included in the
finance charge include "[b]orrower-paid mortgage broker fees, including fees
paid directly to the broker or the lender (for delivery to the broker) whether
such fees are paid in cash or financed." 15 U.S.C. § 1605(a)(6)
[90.] The amended Regulation X defined
mortgage broker for the first time: "mortgage broker means a person (not an
employee of a lender) who brings a borrower and lender together to obtain a
federally related mortgage loan." 24 C.F.R. § 3500.2(b) (1997).
[91.] "[A]ny other fee or payment received by
the mortgage broker from either the lender or the borrower arising from the
initial funding transaction, including a servicing release premium or yield
spread premium, is to be noted on the Good Faith Estimate." 24 C.F.R.
§ 3500, app. B, Fact Situation 13 (1997). These disclosure
requirements, however, do not apply to mortgage brokers who fund mortgage loans
either with their own funds or with a warehouse line of credit. The reason for
this exception is that RESPA does not require disclosure of fees paid in
secondary market transactions. See 24 C.F.R. § 3500.5(b)(7)
[92.] See Real Estate Settlement
Procedures Act (RESPA) Disclosure of Fees Paid to Mortgage Brokers: Proposed
Rule and Notice of Proposed Information Collection Requirements, 62 Fed. Reg.
53,912, 53,913 (1997).
[93.] Id. at 53,912.
[94.] See id. Although the criteria
for the safe harbor will be finalized in the final rule, a number of tests have
been recommended that would allow mortgage brokers to establish "with certainty
whether total compensation to a broker is or is not legal." Id.
[95.] See Heather Timmons, Lenders
Rattled by Class Action On Broker Fees, AM. BANKER, Apr. 12, 1996, at 1,
available in 1996 WL 5563218 (quoting Joe Lefkoff, counsel for the
National Home Equity Association, as stating that there were between fifty and
one hundred overage class-action lawsuits filed against mortgage lenders across
the country in 1996).
[96.] Two recent lawsuits demonstrate the
most popular legal bases for these class-action suits: discrimination and
breach of fiduciary duty. A class-action suit brought by the Department of
Justice against Long Beach Mortgage Co. alleged that employees of the mortgage
lender (including the mortgage brokers with whom Long Beach corresponded)
"routinely charged minorities, women and elderly applicants significantly
higher fees, or `overages,' than they charged white male applicants." Kenneth R
Harney, Bias in Pricing of Mortgage Fees Cuts Across Lines of Race, Sex,
Age, WASH. POST, Sept. 14, 1996 at F01, available in 1996 WL
12393515. Another class-action suit brought in 1995 against GE Capital Mortgage
Services, Inc. alleged that GE Capital "`bribed [mortgage] brokers to breach
their statutory, contractual, and fiduciary duties to borrowers' . . . by
paying mortgage brokers a reward for jacking up interest rates on borrowers."
Jonathan S. Hornblass, Lawsuit Says General Electric Unit Bribes Loan
Brokers to Hike Rate, AM. BANKER, May 16, 1995, at 8, available in
1995 WL 6915230.
[97.] The following are examples of
class-action suits settled by mortgage lenders who paid yield-spread premiums
to mortgage brokers and demonstrate the grave risks associated with this
Fleet Finance, Inc. settled a class-action suit for approximately $2.25
million in refunds and penalties in 1994. See Kenneth R. Harney,
`Overage' Settlement Raises Question: Must Loan Brokers Seek Best Rate?,
WASH. POST, Oct. 29, 1994, at F03, available in 1994 WL 2448250.
Long Beach Mortgage Co. settled a class-action suit brought by the Department
of Justice for approximately $4 million. See Kenneth R. Harney, Bias
in Pricing of Mortgage Fees Cuts Across Lines of Race, Sex, Age, WASH.
POST, Sept. 14, 1996, at F01, available in 1996 WL 12393515.
[98.] See Harney, supra note
97, at F03. ("The [class-action settlement against Fleet Mortgage] also opens
the door to further legal challenges to mortgage brokers on the grounds that
they breach their fiduciary duties to customers when they pocket overages.
Under some interpretations of common law, mortgage brokers could be construed
as having the primary duty to their clients of obtaining the most favorable
terms and rates available").
[99.] In its most recent revision to the
settlement cost booklet that all borrowers receive at the loan application, HUD
explicitly states that a "mortgage broker may operate as an independent
business and may not be operating as your `agent' or representative." Real
Estate Settlement Procedures Act; Notice of Revision of Special Information
Booklet, 62 Fed. Reg. 31982, 31990 (1997). This language suggests that mortgage
brokers, similar to mortgage lenders, stand at arm's length from their
borrowers in the mortgage transaction.
[100.] For a detailed discussion of the
debate over payment of yield-spread premiums, see supra notes 41-48,
[101.] Because mortgage lenders only pay
mortgage brokers yield-spread premiums if they can convince borrowers to accept
higher-than-market interest rates or loan fees, these higher interest rates or
loan fees will result in a higher APR.
[102.] It is logical that mortgage brokers
who receive yield-spread premiums from mortgage lenders for charging higher
interest rates or loan fees can still be competitive with mortgage lenders who
charge their standard rates and fees. The reason for this is that mortgage
lenders who rely on mortgage brokers to originate the mortgage do not incur the
direct costs of operating a retail lending office and, as a result, can offer
mortgage brokers a lower interest rate than if the mortgage lender originated
the loan through its own retail lending office. Therefore, even though the
mortgage brokers may be charging their borrowers higher interest rates or loan
fees than the mortgage lenders require, these higher rates and fees may still
be equal to (or even less than) the interest rates and loan fees that mortgage
lenders who must bear the cost of maintaining a retail lending office would be
able to offer. See Kenneth R. Harney, Mortgage Brokers Earning
Premiums at Buyer's Expense, WASH. POST, Aug. 5, 1995, at E01, available
in 1995 WL 9255587 (quoting Mary Burt as saying that the payment of
yield-spread premiums "actually allows [national] lenders to deliver more
competitive prices to consumers because they don't need to set up expensive
retail branches of their own everywhere").
[103.] A mortgage provider is often
directed to procure these services at the request of the borrower or the
borrower's attorney because the mortgage provider may receive a discounted
price from these service providers based on the volume of business a mortgage
provider may refer to these businesses. In some instances, the mortgage
provider may also have a "wash agreement" with these businesses, which allows
the mortgage provider to cancel the transaction with minimal or no cost to the
borrower. The borrower or her attorney does not usually enjoy these same
advantages, and therefore would want the mortgage provider to order these
services on her behalf.
[104.] If mortgage brokers are required to
provide the lowest-price loan package to borrowers, one option would be for
mortgage brokers to furnish their borrowers with a list of all service
providers acceptable to the mortgage broker, allowing borrowers to contact
these service providers and arrange for these services themselves. However,
this solution has potential drawbacks because it deprives borrowers of the
broker's expertise in selecting the service provider the mortgage broker feels
will perform the best given the borrower's individual circumstances.
[105.] Much of the recent literature on
securing a home mortgage emphasizes comparing interest rates and fees with
several different mortgage providers. See Amy Dunkin, In the Market
for a House? You're in Luck, BUS. WK., June 5, 1995, at 131
("Comparison-shop for a mortgage: Lenders and mortgage brokers are in hot
competition and will sometimes shave points or whittle down the interest
rate"). There are currently many opportunities for a borrower to do this
recommended comparison shopping. A borrower can secure the necessary
Newspapers: Most major newspapers provide weekly updates on local
mortgage providers' interest rates and loan terms. If this information is
unavailable in a particular area, HSH Associates, a national company which
monitors the mortgage industry, can provide a listing of all the lenders in a
particular region (800-873-2837).
Real estate agents: Because real estate agents must work with mortgage
providers who secure financing for their customers, real estate agents can
often provide referrals to reputable mortgage providers.
Internet: Increasingly more mortgage providers provide computer access
to their interest rates and terms via the Internet. See Elizabeth Razzi,
House Hunting on the Internet, KIPLINGER'S PERS. FIN. MAG., July 1,
1995, at 96, available in 1995 WL 10021735.
Telephone: If a borrower has the time (and does not mind the occasional
high-pressure sales pitch), the most reliable source of information on a
mortgage provider's interest rates and loan fees is the mortgage provider
itself. The Yellow Pages provide an excellent source of the mortgage providers
in one's area.
[106.] North Dakota has taken this
approach. Effective December 1, 1995, North Dakota repealed their previous
requirement that mortgage brokers be licensed as real estate brokers.
Previously, North Dakota required that "no person shall act as real estate
broker, real estate salesperson or mortgage broker . . . without a
license issued by the real estate commission." N.D. CENT. CODE
§ 43-23-05 (1991). The 1995 amendment deleted all references to
"mortgage broker" within this section.
[107.] California enacted its requirement
in 1959 (Stats. 1959, c. 2117, p. 4939, § 4) and Rhode Island enacted
its requirement in 1973 (P.L. 1973, ch. 215 § 2). RESPA and TILA were
enacted in 1974.
[108.] See Tamar Frankel,
Fiduciary Duties As Default Rules, 74 OR. L. REV. 1209 (1995).
[109.] See id. at 1211.
[110.] Id. at 1212.
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