Experience teaches that not every loan recipient will repay the lender in a timely fashion. Lenders commonly make use of third-party collection agencies when a loan falls significantly into arrears. In light of a recent decision by the 9th Circuit Bankruptcy Appellate Panel, however, it is more critical than ever for lenders to be cognizant of the letter of the law when it comes to interacting with a debtor who has filed for bankruptcy or received a discharge of debt in a bankruptcy case. A recent Nevada Bankruptcy Court decision to award $119,000 in sanctions against a debt servicer was affirmed on appeal by a unanimous three-judge  Bankruptcy Appellate Panel demonstrating the significant legal and financial repercussions that can occur when a lack of human oversight in the collection process leads to litigation in which the lender/collector becomes the judgment debtor/payor.  More significantly for future lender exposure liability, however, was that part of the Appellate Court’s opinion which reversed and remanded the Nevada Bankruptcy Court’s determination that sitting as a Bankruptcy Court it could not award punitive or exemplary damages for a lender’s knowing violation of the Bankruptcy Code Section 524 Discharge Injunction.

The case in question is Marino v. Ocwen Loan Servicing, in which a U.S. Bankruptcy Court for the District of Nevada ruling was upheld in part and reversed and remanded in part published on December 28, 2017, by the Bankruptcy Appellate Panel for the Ninth Circuit. At issue was a married couple, Christopher and Valerie Marino, who filed for Chapter 7 bankruptcy in March 2013. The bankruptcy court subsequently granted the Marinos a discharge from their debts, one of which included a mortgage obligation in June 2012. The Marinos’ mortgage lender had also received relief from the automatic stay and discharge injunction in September 2013 to enforce the lender’s lien rights in the collateral security – – – the Marinos’ home.

Under the Bankruptcy Code controlling the automatic application of the Discharge Injunction (11 U.S.C. §524), this meant that neither the lender nor any collection agencies contracted by it could pursue further payments from the Marinos. Despite this protective shield, according to the Court’s factual recitation, Ocwen Loan Servicing—a collection agency working for the mortgage lender—began in June 2013 a fairly aggressive campaign to collect on the debt. For nearly two years—from June 2013 to April 2015—Ocwen mailed the Marinos letters including account statements, notices regarding force-placed insurance, escrow statements, and other matters. Fourteen of the twenty-two letters, in print at the bottom of the page or at the end of the letter in small print, contained a disclaimer stating that “If you have filed for bankruptcy and your case is still active and/or if you received a discharge, please be advised that this notice is for information purposes only and is not an attempt to collect a pre-petition or discharged debt.” Yet this disclaimer often was preceded by a more prominent demand for payment, such as “you must pay.” In eight of the letters, no bankruptcy disclaimer was included at all.

The Marinos also received dozens of calls from Ocwen, with Mrs. Marino testifying that the calls sometimes recurred three to five times a day. In the moving papers  they filed against Ocwen in November 2015, seeking to reopen their case to charge Ocwen with violating the discharge injunction, the discharged debtors  said the nearly two years of stress caused by Ocwen’s collection attempts nearly destroyed their marriage. During the trial, a senior loan analyst for Ocwen tried to explain away the company’s actions by stating that “[m]ost of [the letters] are generated by our system” without any review by a human being. That defense didn’t fly. The Marinos were awarded $119,000, the result of what effectively became a $1,000 fine for each of the 119 improper contacts as determined by the Bankruptcy Court.

There are three clear lessons any lender or collection agency should learn from this case:

1. Any time a bankruptcy may be at issue, you must ensure that: (a) a person reviews any correspondence or letters being sent to debtors in order to avoid running afoul of the automatic stay (11 U.S.C. §362(a)) or of the Discharge Injunction, (b) any correspondence or communications should not read “you must pay,” and (c) no one should be calling the debtor after a bankruptcy is claimed to exist. Instead, lenders and collection agents should perform a thorough check—ideally with their attorney—to determine the status of any bankruptcy case.
2. Should litigation ensue, the lender or collection agency should have a person who is very familiar with the account be on hand to testify. In the view of both the Bankruptcy Court and the Appellate Panel, the senior loan officer in this case was clearly unprepared to address the Marino’s allegations, and the appeals court took that seeming lack of preparedness into consideration when upholding the amount of the original sanctions verdict. Also important in trial or hearing be prepared for the unexpected so that call logs, loan files, correspondence files and company internal procedural policies concerning dealing with Bankruptcy Debtors can be properly authenticated, clearly explained and successfully admitted into evidence the first time around since under the applicable Bankruptcy Rules of Procedure the Panel held that the lender will receive no second bite at the production of exculpatory evidence apple.
3. If there is any doubt as to how the litigation will be decided, an early negotiated settlement will spare the lender or collection agency from having to go to trial and give testimony that could be considered internally contradictory. The seemingly new law concerning a Bankruptcy Court’s ability to also award “mild compensatory fines” that look like, sound like and seem like “punitive damages” created as a result of this decision should inform the decision-making on when to pursue a settlement. As the December 28 Opinion noted, “It was error for the bankruptcy court to preclude itself from considering an award of punitive damages.”

Both the Ninth Circuit Bankruptcy Appellate Panel and the Nevada Bankruptcy Court included very strong language against the actions of the collection agency, and by default the lender.  Likely, plaintiffs’ lawyers will be emboldened by the case to increase the frequency and amount of demands made in other cases in which calls to bankruptcy filers were made for payments or robo-letters were sent. Lenders and collection agencies should immediately review their existing policies and procedures to ensure they are in compliance with the law, and work with their attorney to address any litigation that may be coming down the pike as a result of this decision.