Courts are Speaking on using MLOs and others as "Fronts"

[Ken Rishel]

Here on Bigger Pockets it is very popular to suggest that one can make loans through MLOs and avoid any responsibility for licensure and compliance. I have held that since January of 2014 that that is likely a very dangerous path in part because most MLOs do not know what they need to know to assume that role (even before 2014) and that since the rule changes it is all but impossible to do correctly.

In fairness, until 2013 our consultancy was doing a lively business in training MLOs how to do it correctly. We stopped doing so when it became clear to us that the CFPB was going to institute new rules regarding servicing in 2014 that would make it very difficult for a mortgage broker and investor to work together legally.

I have repeatedly warned people on Bigger Pockets of this problem, but have been pretty much ignored by many who want to continue to do business that way and they have been sticking their heads in the sand and covering their eyes and ears. Now a court has spoken, and I want to share what has happened to try to protect readers here from the same issue.

Citation: United States District Court, E.D. Pennsylvania. Slip Copy. 2016 WL 183289

The First Bank of Delaware partnered with various debt buyers, investors, and sellers to shield them from the need to be licensed or regulated as lenders. The bank acted as the nominal lender while the non-bank entity was the de facto lender – marketing, funding, and collecting the loan. This partnership took advantage of federal bank preemption doctrines to insulate the Defendants from state regulations.

The Court found there was sufficient evidence that the bank was not the true lender.

The Court also found that even though the complaint contained state usury claims, that there were no claims made against a bank was sufficient to avoid preemption. The complaint alleged that the Defendants, not the bank, were the real parties in interest and the Defendants were not closely tied to the bank. (Note: Rishel Consulting Group does advocate a program it teaches to both community owners and depositories that would meet the burden of "closely tied" as defined by the courts.)

The Court rejected the Defendants’ attempt to characterize this case as one about mere disagreement about a law. The complaint alleged that the Defendants specifically approached the bank in order to circumvent state and federal lending regulations and law.

Defendants’ motions to dismiss denied. The decision came down January 14, 2016 opening up the Defendants to both criminal and civil prosecution at both state and federal levels. Fines and penalties are expected to exceed $1,000,000.00 to the defendants, and there are numerous felony charges being considered at the state level. The CFPB has a copy of all court filings and are expected to take federal action as a result. FinCEN, OFAC, the FBI, the FTC, and the IRS also have jurisdiction over certain aspects of the operation and may pursue their own independent actions as well.