Commonwealth of Massachusetts v. FHFA: Fremont Meets The Federal Government

By: Irene C. Freidel

On June 2, 2014, the Commonwealth of Massachusetts sued the Federal Housing Finance Agency (FHFA), Fannie Mae, and Freddie Mac in state court, under Massachusetts’ consumer protection statute (“Chapter 93A”) to force them to sell foreclosed properties to non-profit organizations at fair market value, so that the properties can then be re-sold or leased back to the former homeowner. See Commonwealth of Massachusetts v. Federal Housing Finance Agency, et al., C.A. No. 14-1763 (June 2, 2014). Among other things, the lawsuit seeks a declaration that the GSEs’ current anti-fraud guidelines violate Massachusetts foreclosure law (M.G.L. c. 244, § 35C(h)), an order requiring property sales to non-profits in specific transactions, an injunction to prevent the GSEs from refusing to adhere to Massachusetts law, and an award of penalties of up to $5,000 for each transaction that the court determines constituted an unfair and deceptive practice under state law. The lawsuit follows a series of communications between the Massachusetts Attorney General and FHFA beginning in 2012 in which the state has demanded that FHFA direct the GSEs to change their anti-fraud “arms-length” requirements that apply to short sales and REO transactions.

Under Massachusetts law, when a non-profit makes an offer to purchase a residential property, a creditor-seller may not require as a condition of the sale an agreement limiting ownership or occupancy of the residential property by the borrower. M.G.L. c. 244, § 35C(h). In other words, a creditor may not refuse to sell a property to a non-profit if the organization intends to sell or lease the property back to the borrower. A “creditor” is expressly defined to include Fannie Mae and Freddie Mac. M.G.L. c. 244, § 35C(a). Through the Massachusetts buy-back initiative, a non-profit purchases the REO property at current market value, underwrites a new 30-year fixed loan to the former borrower, and finances the resale. The immediate impact to the borrower — and a presumed goal of the buy-back program — is a new loan with a substantially reduced principal balance. To date, close to 500 foreclosed Massachusetts borrowers have repurchased their properties with new financing supplied by BCC and others.

GSE anti-fraud guidelines, however, condition short sales and sales of foreclosed REO properties on proof that the transaction is “arms-length.” The guidelines require REO purchasers to attest that “there are no agreements, understandings or contracts” that the borrower will remain in the property as a tenant or “later obtain title or ownership” of the property. See Freddie Mac B65.40: Short sale transaction and processing requirements (11/01/12); Fannie SVC 2012-19. Accordingly, in conflict with Massachusetts law, the GSE guides effectively prevent a post-foreclosure GSE property sale to a non-profit buyer if the non-profit intends to immediately re-sell or rent the property back to the borrower.

In addition, the GSEs, under FHFA direction, adhere to a “make whole” policy, which requires the GSEs to recover the outstanding loan amount if an REO property is being re-purchased by the former borrower. Massachusetts claims that this alleged “refusal to deal” prevents non-profits from buying back loans at fair market value.

The Complaint references, for support, the U.S. District Court’s decision in Suero v. Freddie Mac, C.A. No. NO. 13-13014-JGD (D. Mass. December 17, 2013) in which the federal court sitting in Boston granted a preliminary injunction enjoining Freddie Mac from selling the plaintiff’s property, or from evicting the plaintiff while litigation seeking to enforce M.G.L. c. 244, § 35C(h) was pending. There, Freddie Mac had refused multiple offers from BCC to purchase the property for re-sale to the borrowers, arguing that it could not accept any offer that would not cover the amount of the prior mortgage debt.

In Suero, the Court noted that whether M.G.L. c. 244, § 35C was intended to apply to purchase transactions post-foreclosure is not clear. While the language of the statute speaks in terms of preventing foreclosures, the Attorney General has asserted that the law was intended to address both pre and post-foreclosure events. Nonetheless, the Court cited Commonwealth v. Fremont Invest. & Loan, 452 Mass. 733, 749, 897 N.E.2d 548, 560 (2008), for the proposition that even if the state foreclosure law did not expressly apply, the plaintiff could still pursue claims under Massachusetts’ consumer protection statute because foreclosure law could be read to “establish a concept of unfairness that may apply in similar contexts.” (In Fremont, the state court relied on Chapter 93A to hold that certain subprime mortgage loans were “presumptively unfair” and restricted the defendant’s ability to foreclose because of the predictable consequence of default and foreclosure at the time of origination. Id.)

In finding that Freddie Mac’s refusal to allow a repurchase of the borrower’s home through a non-profit third party was likely a violation of Chapter 93A, the Suero Court rejected Freddie Mac’s argument that it was not engaged in “trade or commerce” — a threshold element of any Chapter 93A claim — by doing nothing more than filing litigation to evict the borrowers.  According to the Court, the purpose of the litigation was to enable Freddie Mac to sell the property, which was clearly a commercial activity.  Ultimately, state public policy was a significant factor in the Court’s decision: “The clear intent of the Massachusetts statutory scheme was to stabilize communities and to allow homeowners in financial difficulties to remain in their homes. … [T]he Massachusetts Legislature has determined that allowing the sale of property to third-parties for resale to the defaulting home owner is in the best interest of the Commonweath.”

The defendants’ response to the Commonwealth of Massachusetts v. FHFA complaint has not yet been filed, but it will likely focus on whether the GSEs and FHFA, as federally-related entities in conservatorship, may be subject to broadly-applied Massachusetts law when it conflicts with their own internal guidelines and directives and whether a state court even has jurisdiction to direct a conservator under federal law to act in any particular way. These issues were not addressed in the Suero litigation. Accordingly, it remains to be seen whether a court sitting in Massachusetts will determine that FHFA’s federal interest is greater than the state’s, particularly when the ultimate economic outcome for the GSEs from most REO property sales — whether sold to a non-profit or a private entity at fair market value — is the same.