Today's Trends in Credit Regulation

Vague Regulatory "Guidance" Doesn't Pass Muster
By Robert A. Cook

Perhaps you get as frustrated as I do when you read vague regulatory pronouncements that you know someday, someone will use to determine whether you have complied with the law. For me, the HUD Statement of Policy 1996-2 Regarding Sham Controlled Business Arrangements ranks as one of the worst examples of regulation by ambiguity.

Section 8 of RESPA prohibits the payment of referral fees by settlement service providers. Initially Section 8 caused concern for affiliated companies that might refer settlement services to each other. Even if no referral fee is paid, the joint companies would profit from the referral through increased profits. Was this meant to be prohibited? Congress clarified the problem by adding an exception to Section 8 for "affiliated business arrangements" (formerly called "controlled business arrangements"). Under the exception, an affiliated business arrangement does not violate RESPA if:

1. The person making the referral to an affiliated business discloses the arrangement to the consumer being referred;

2. The consumer has the option to reject the referred affiliated service provider; and

3. The person making the referral does not receive any "thing of value" other than "a return on the ownership interest or franchise relationship."

HUD decided to issue "guidance" that imposes conditions on affiliated business arrangements that goes beyond these three requirements. HUD's Policy Statement does not tell us what constitutes an acceptable affiliated business arrangement, but rather lists ten factors that HUD "will consider" in determining whether an affiliated business arrangement qualifies for the statutory exemption.

The Policy Statement does not tell us how many of the factors we must satisfy, or which factors are more important than others. I assume we are safe if we satisfy all ten factors, but what if we only hit on nine, or eight, or six? Who knows? One day, the CFPB in a civil action, or heaven forbid, the Justice Department in a criminal proceeding, will let us know if we are one factor short. Thanks a lot, HUD.

Well, someone finally said this is just too much. And, that someone was the Sixth Circuit in a case called Carter v. Welles-Bowen Realty, Inc. Welles-Bowen is a real estate agency. It referred the Carters to WB Title, a company that is under common ownership with both Welles-Bowen and Chicago Title. WB Title accepts referrals from Welles-Bowen, unless the consumer objects to the referral. WB Title contracts some of the referred work out to Chicago Title. The court explained that Chicago Title gathers evidence relating to the title and WB Title evaluates this evidence to determine the title's validity.

The Carters claimed that WB Title was just a shell company that funneled referral fees between Welles-Bowen and Chicago Title. The Carters admitted that WB Title provided some settlement services, but alleged that the arrangement did not meet the requirements in HUD's Statement of Policy. The companies responded that their affiliated business arrangement met the requirements of the safe-harbor in RESPA, and that HUD could not impose new requirements not found in the statute.

The district court agreed with the companies, finding that the Policy Statement was invalid. After the Carters appealed, the United States intervened on their behalf, citing two United States Supreme Court cases that tell courts to listen to what federal agencies say about the statutes the agencies administer. The Carters and the government argued that the Policy Statement deserved Chevron deference, and if not Chevron deference, at least Skidmore consideration (i.e. either the Policy Statement wins hands down under Chevron or the defendants have the burden of trumping the Policy Statement's ace under Skidmore). But the Sixth Circuit was not playing that game.

The Sixth Circuit rejected the application of either Chevron or Skidmore for a variety of reasons, including the following:

1. Chevron applies to a binding interpretation issued by a federal agency. The Policy Statement just tells us what HUD will "consider" in evaluating an affiliated business arrangement. It is more advice than a controlling statement of law.

2. Chevron normally applies only to formal rulemakings, not less formal announcements such as the Policy Statement, which don't go through the normal notice and comment process.

3. The Policy Statement tries to define the difference between a "bona fide" service provider and a "sham" service provider. But it does so by adding ten qualifications that are not in the statute. RESPA only requires the affiliated businesses to be service providers. The Carters and the government admitted that WB Title at least performed some services.

4. RESPA is a criminal statute. The Policy Statement does not provide helpful guidance to determine what constitutes a crime under the statute. The government owes a duty of fair warning to its citizens when one faces potential criminal prosecution. The Carters and government counted that this was not a criminal proceeding and that this "rule of lenity" should not apply to a civil lawsuit. The Sixth Circuit rejected the notion that the same conduct by WB Title might be considered illegal in a civil action, but permissible in a criminal prosecution.

5. The three affiliated business arrangement requirements in RESPA are fairly detailed - e.g., the specific disclosures around the requirement to give notice to the consumer of the arrangement. If RESPA is that detailed, it suggests Congress probably did not mean for there to be much "filing in" by federal agency rulemaking.

6. Congress added the affiliated business arrangement safe-harbor in RESPA to remove some of the uncertainty around permissible affiliated business arrangements. The Policy Statement's ten "guidelines" just reintroduced uncertainty back into the safe harbor.

So, at the moment, ring one up for folks that want clear legal interpretations. Of course, this case may be appealed to see what the Supremes think. Stay tuned.

Carter v. Welles-Bowen Realty, Inc., 736 F.3d 722 (6th Cir. November 27, 2013)

Robert A. Cook is a partner in the Maryland office of Hudson Cook, LLP. Robert can be reached at 410-865-5401 or by email at

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