Susan and Bryan Andrews hoped that refinancing their home with a 1.95 percent mortgage for five years would free up cash to send their children to college.

But when they started repaying Chevy Chase Bank in 2004, the Cedarburg, Wis., couple said they were shocked to learn that the ultra-low interest rate the bank promised applied only to their first payment.

For the rest of the mortgage term, the Maryland bank required the Andrews to pay a rate that adjusted each month. The escalating monthly interest charges for the loan eventually exceeded the Andrews’ minimum monthly payments of $701.21 and their debt rose each month as the unpaid interest was tacked on to the loan’s principal.

The Andrews reacted in April 2005 by launching an estimated $210 million class action seeking a court declaration that would give approximately 7,000 Chevy Chase customers the option of choosing to rescind their mortgages for the banks’ alleged violations of the lending disclosure rules in the federal Truth in Lending Act (TILA).

TILA requires lenders to give consumers clear and meaningful information about their credit terms. It also enables debtors to sue for damages, rescission of their loans and attorneys’ fees if lenders fail to make adequate disclosure. TILA lawsuits by individual consumers are common.

But the embattled mortgage banking industry sat up and took notice last year when the U.S. District Court for the Eastern District of Wisconsin certified a class action against Chevy Chase Bank and awarded the Andrews summary judgment, declaring that the bank failed to adequately explain the salient features of its loan.

Lenders’ alarm turned into relief, however, in September when the 7th Circuit, in a 2-1 decision, vacated the class certification order. The majority held that class recovery is never available for TILA rescission claims.

Chevy Chase’s counsel Jeffrey Sarles, a partner at Mayer Brown, says the 7th Circuit forestalled what could have been dozens of copycat class actions. “The court did the right thing in implementing Congress’ intent to protect borrowers against misrepresentations in disclosures, but at the same time to protect lenders from intolerable liability,” he says.

Dire Consequences

The American Bankers Association, the Mortgage Bankers Association and four other national financial services groups warned of dire consequences if the 7th Circuit opened the door to class recovery.

“Class certification of rescission claims would saddle the mortgage lending industry and secondary market with billions of dollars in class action exposure for supposed violations of TILA that do not give rise to any actual damages,” contends the groups’ amicus curiae brief.

The 7th Circuit’s majority concluded “the rescission remedy prescribed by TILA is procedurally and substantively incompatible with the class-action device.”

The majority deemed it important that TILA specifically mentions class actions for damages, but is silent on class actions for rescission. By contrast, the dissenting judge argued this “ambiguity” should be construed “in a fashion that protects the innocent, not the guilty.”

Additionally, the majority stressed that as a “purely personal” remedy, rescission is an “extremely poor fit” for class actions. A court would be obliged to “unwind” thousands of individual credit transactions, and this wouldn’t promote judicial economy or efficiency, they said.

Yet a coalition of consumer advocacy groups that were amici curiae in Andrews complained that barring class relief means debtors “will lose the opportunity to use rescission to save their homes from foreclosures or to rescind their mortgages and refinance into affordable ones.”

The panel majority disagreed. The judges said debtors can realistically sue as individuals since a plaintiff with a winning case and a typical loan could expect to receive more than $50,000 plus attorneys’ fees and costs.

The 7th Circuit’s judgment affects similar TILA cases, such as a proceeding in the Northern District of Illinois that involves more than 750 federal cases filed against Ameriquest Mortgage Co.

Mediation Useful

The circuits unanimously agree so far that class relief is not available for TILA rescission claims. The 1st and 5th Circuits, and California’s court of appeals, have all turned thumbs down. After the 7th Circuit followed suit, the Andrews’ attorneys announced their intention to ask for an en banc rehearing. But Robert Maddox, a mortgage industry defense litigator with Bradley Arant Rose & White in Birmingham, Ala., predicts TILA rescission class actions are doomed. “Traditional plaintiffs’ class action lawyers are now out of the game, and we are seeing cases done more by solo practitioners and legal aid,” Maddox observes.

Nevertheless, in view of the public’s current negative attitude toward lenders, corporate counsel should give strong consideration to mediating cases to settlement, suggests Michael Young, a New York attorney with JAMS, an arbitration and mediation organization.

“It could be an uphill battle in court for lenders due to the sheer volume of litigation, negative public perception and bias against lenders,” notes Young, who has mediated class actions sparked by the subprime mortgage collapse.

Notably, the 7th Circuit’s interlocutory decision on class certification does not dispute the district court’s finding that the bank did not properly inform the Andrews about their payment-option adjustable rate mortgage–a type of loan thousands of Americans have taken out in recent years.

The 7th Circuit agreed that the Andrews’ loan agreement was “complex, with a potential trap for the wary” while the dissenting judge condemned the loan’s “seductive” 1.95 percent interest rate as “a booby trap waiting to explode. And explode it did.”