December 2009

I have conducted several workshops at PSAR now. If you have attended one of my workshops you know that the leading reason for a client suing the licensed professional assisting them with their mortgage distress is a "surprise". The client is led to believe that things will work out one way, and instead, they work out another. The purpose of this article is to assist you in avoiding a client’s surprise as it relates to claims made about a client’s credit.

What impact does a short sale have on a client’s credit?

Responding to a client about the impact their mortgage distress (or short sale) will have on their credit is speculative at best. The answer to this question varies from household to household. There is no uniform answer that applies equally to everyone. So be careful in what you tell your clients. The bottom line is this: If a client does not have command and control over their financial world then the destruction of their credit is likely a foregone conclusion. Conversely, if the client does have command and control over their finances then their credit will likely take care of itself.

A judgment lien, a tax lien (which are both known to result when people do not have command and control over their finances — as well as experiencing mortgage distress) can have a devastating impact on a client’s credit. An unsecured creditor, such a credit card company or a lender on a foreclosed out junior lien previously encumbering their home, can sue your client and obtain a civil judgment against them resulting in a derogatory mark on your client’s credit bureau. Which mark on your client’s credit is worse? A civil judgment? A Judgment lien? A tax lien? Or a foreclosure appearing on your client’s credit?

When clients think about their credit they generally think about their credit score (frequently referred to as a FICO score) and credit scores vary between the different credit bureaus. Each of the three largest credit bureaus (Experian, Equifax, Trans Union) have their own calculations for their respective credit scores. These formulas are proprietary. It is for this reason that you will frequently see the exact same client have different credit scores from bureau to bureau.

The speculative nature of predicting the impact of a short sale on a client’s credit is compounded by the law that applies to credit reporting. Lenders, collection outfits and debt buyers are the largest purchasers of credit bureaus. These organizations contribute more to the revenue of the credit bureaus than any other segment of society. The credit bureaus have contracts with these organizations and these contracts are governed by contract law. Moreover, the Fair Credit Reporting Act (FCRA) also influences what information is reported on a consumer’s credit bureau.

The speculative nature of predicting the impact of a short sale on a client’s credit is compounded by the law that applies to credit reporting. Lenders, collection outfits and debt buyers are the largest purchasers of credit bureaus. These organizations contribute more to the revenue of the credit bureaus than any other segment of society. The credit bureaus have contracts with these organizations and these contracts are governed by contract law. Moreover, the Fair Credit Reporting Act (FCRA) also influences what information is reported on a consumer’s credit bureau.

Lenders use credit bureaus to assess the likelihood of a prospective borrower repaying a loan. If a client or his agent were capable of freely manipulating credit reporting then what value would these credit bureaus have to a lender? If the integrity of the information contained in credit bureaus is lost, then in turn, lenders’ demand for credit bureaus will likewise be lost resulting in the credit bureau companies suffering severe financial detriment. It is therefore in the credit bureau companies’ best interest and the best interest of the lenders that accurate information appears on your client’s credit bureau.

Any representation that any particular transaction or event will have a specific impact on a client’s credit rating is nothing more than speculation. In this setting fraud and deceit become a concern for the person making the representation.

Using credit as the carrot to induce the short sale

Be careful here. The Credit Repair Organization Act ("CROA") may apply to your client’s transaction if credit is being used as the proverbial carrot to induce the client to agree to short sale their home. CROA was enacted to address abuses associated with credit repair organizations. However, the Act goes well beyond credit repair organizations. CROA contains an exceptionally broad definition of the credit repair organizations that are subject to its requirements. A credit repair organization means any person who performs or offers to perform any service, in return for the payment of money or other valuable consideration, for the express or implied purpose of: (i) improving any consumer’s credit record, credit history, or credit rating; or (ii) providing advice and assistance to any consumer with regard to any activity or service described in clause (i). USCA §1679a(3)A). Please note that the courts disfavor narrow construction of consumer protection statutes. To the contrary, consumer protection statutes tend to be liberally construed by the courts. Placing a disclaimer in a contract that you make no claims to improve or remove any credit reference on the consumer report is ineffective if you have promised credit repair or amelioration.

If an entity is offering or providing services, for a fee, for the express or implied purpose of improving a consumer’s credit rating, it meets the statutory definition of a "credit repair organization". When you use credit as the carrot to induce a client to short sale their home, is credit ancillary to the transaction or the subject of the transaction? Arguably, it is the subject of the transaction and CROA may apply.

What can you say to a client about their credit?

For the aforementioned reasons any statement to a client about their credit is purely speculative. So, stay away from any specific representations. Also, keep in mind that you have a fiduciary duty to disclose any information to the client that may affect their decision to short sell or not short sell their home. Be truthful with your clients and disclose to them both verbally and in writing that: (i) The impact a short sale will have on their credit is extremely speculative and any statements made by you concerning credit are statements of opinion only; (ii) none of your statements are to be construed as a specific representation of fact nor are they to be construed as an express or implied warranty as to the impact the short sale will have on their credit.

Tread these credit waters delicately. As with most consumer protection statutes, CROA has both a statutory attorneys’ fee provision and damages provision which make CROA violations attractive cases for consumer protection attorneys. I hope you found this article helpful and I wish you all the best of luck in your short sale endeavors.