Regulatory Commentary on Equity Lending Procedures

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October 7, 1998

Issued by:

Office of Consumer Credit Commissioner

Department of Banking

Savings and Loan Department

Credit Union Department

PREAMBLE:

The Texas Constitution has protected homesteads from forced sale for 158 years. The constitutional provisions permitted loans for the purposes of (1) purchase money; (2) taxes; (3) an owelty of partition; (4) the refinance of a lien, including tax liens; and (5) home improvements. The 75th Legislature passed House Joint Resolution 31 (HJR 31), which was adopted by the voters on November 4, 1997. Effective January 1, 1998, HJR 31 creates two additional categories of authorized liens: an equity loan and a reverse mortgage on a homestead. HJR 31 also modifies the existing provisions regarding liens on a homestead for home improvement purposes.

Section 50, Article XVI of the constitution enumerates the permissible encumbrances on a homestead. Section 50 addresses only the elements necessary to create a valid lien on a homestead. Different statutes and constitutional provisions govern the legality of credit transactions and specifically loans. Section 11, Article XVI of the constitution permits interest rates of 10% or less on credit transactions. It then states that the Legislature may by statute, classify loans and provide alternative interest rates. The Legislature did so in Title 79, Texas Civil Statutes and in Titles 3 and 4, Texas Finance Code. A mortgage loan's classification regarding the appropriate treatment under credit law hinges upon the lien position. A first lien mortgage loan is governed by the provisions of Subtitle I, Title 79. However, Congress in the enactment of the Depository Institutions Deregulation and Monetary Control Act of 1980 and the Alternative Mortgage Transactions Parity Act preempted state interest rate limitations on certain first lien residential mortgage loans. A secondary mortgage loan that exceeds the constitutional rate of 10% interest falls within the jurisdiction of Subtitle II, Title 79. The specific statutory provisions are found in art. 5069, Chapter 3A, Subchapter G.

Regulatory Authority

The fact that most of the provisions regarding implementation of home equity lending reside in the constitution creates a dilemma for providing interpretations of particular provisions. Inherent in an issue as complex as home equity are details that simply cannot be fully addressed within the text of the amendment. The consumer credit commissioner has had interpretation authority over the provisions of Title 79 for many years. This process works well for resolving ambiguities and providing certainties for parties entering into a credit transaction. Additionally, the Finance Commission of Texas has broad rulemaking authority over all of Title 79 to provide definition and implement the credit laws.

The state regulatory agencies with authority over authorized lenders believe it is important to follow the will of the citizenry and the Legislature and foster a workable environment for equity loans. The regulators believe it is their responsibility to provide for a reasonable implementation of home equity lending and inform the regulated community of the guidelines that will be used to enforce the provisions of HJR 31. Additionally, these policies should provide guidance to lenders and consumers concerning the regulatory views of the meaning and effect of HJR 31. The positions presented in this commentary are the opinions of the state administrative agencies responsible for regulating the entities making these loans and these views will be used to evaluate compliance with the constitutional requirements in examination and enforcement situations. However, a court may or may not defer to this interpretation in resolving a dispute between a borrower and a lender.

SECTION 50(a)

The constitutional amendment uses the term "an extension of credit." This commentary on the resolution will use the term "equity loan" for the ease of convenience and possibly for greater comprehension. An extension of credit is the same as an equity loan for the purpose of this discussion. An equity loan has been defined and authorized under the provisions of section 50(a)(6), Article XVI of the Texas Constitution. Certain provisions refer to "the date the extension of credit is made." This phrase refers to the date that the parties become contractually obligated. The definition consists of approximately 26 elements, each of which must be satisfied to be an equity loan. Section 50(a) of the constitution discusses permissible liens on a homestead. The context of this section is important in construing the provisions of the amendment. Each requirement under section 50(a)(6) is necessary to have a valid lien on the homestead. A lender or holder's failure to comply with the requirements may result in forfeiture of all principal and interest on the loan if the lender or holder fails to comply with its obligations within a reasonable time after being notified by the borrower of the failure to comply. Clarification of the individual conditions follows:

6(A) Voluntary lien

The home equity transaction must be voluntary and must be entered into under a written agreement executed with the consent of each owner and each owner's spouse. Regardless of whether a spouse has a community property interest in the homestead, the consent of that spouse must be obtained. A spouse or owner who is not a maker of the note may acknowledge his or her consent by executing a written consent to the mortgage instrument.

6(B) Limitation on loan amount

The amount of the loan is limited to an amount including the aggregate total of outstanding debt against the homestead that does not exceed 80% of the fair market value of the homestead on the date the loan is closed. Thus, the limitation applies to the cash advance and charges at the inception, to the extent any charges are financed in the principal amount of the loan. The determination of the maximum principal amount of the equity loan is based upon the principal balance outstanding on the date the extension of credit is made and does not include interest accrued after the date the extension of credit is made (other than any interest capitalized and added to the principal balance on the date the extension of credit is made), or other amounts advanced by the lender after closing as a result of default, including for example, ad valorem taxes, hazard insurance premiums, and authorized collection costs, including reasonable attorney's fees. On a closed-end multiple advance loan, the principal balance also includes contractually obligated future advances not yet disbursed. For example, on a property with a fair market value of $100,000 and existing debt on the property of $30,000, the maximum amount of debt against the property could be $80,000. Subtracting the outstanding debt of $30,000, the maximum amount of the new equity loan debt would be $50,000 on the date the loan is made.

6(C) Nonrecourse

The loan is made without recourse for personal liability of each owner and each owner's spouse unless the owner or spouse has committed actual fraud in obtaining the loan. In essence, a lender may not pursue a deficiency against any owner or any owner's spouse for any unpaid amounts, except in cases of actual fraud.

6(E) Limitation on fees

Interest and Fees

A borrower may not be required to pay fees, in addition to any interest, in excess of three percent of the principal amount. The language specifically excludes interest from the limitation. The word "interest" means interest as defined in the Texas Credit Title and as interpreted by the courts of the state of Texas. Accordingly, charges that constitute interest under the law, including, for example, points, are not fees subject to the three percent limit. Fees that are required to be paid and that are not interest are subject to the three percent limitation. There is no restriction on a lender absorbing costs that might otherwise be fees and, therefore, covered by the fee limitation.

Voluntary Optional Fees

The amendment defines the equity loan as a loan that "does not require the owner ... to pay ... fees ... that exceed ... 3%." The use of the word "require" is determinative in evaluating fees that are subject to the three percent limitation. Charges that are not imposed by the lender, but that are optional, are not fees subject to the three percent fee limit.

A borrower who chooses to pay premiums for certain insurance coverages, but is not required to acquire the insurance coverage as a condition to the extension of credit, does not subject those premiums to the limitation. Credit life and credit accident and health insurance coverages, if elected by the owner, are not included within the three percent limitation. However, if credit life and credit accident and health insurance were required by the lender then these charges would be included in the three percent limitation.

Fees to Originate

Fees to originate an equity loan that are not interest fall within the three percent limitation. Fees to third parties for separate and additional consideration for activities relating to originating a loan come within this characterization. For example, attorney's fees for document preparation are fees necessary to originate the loan. A broker's fee is also considered to be a fee to originate the loan.

Fees to Evaluate

Fees to evaluate the credit decision for an equity loan that are not interest are subject to the three percent limitation. This includes fees collected to cover the expenses of a credit report, survey, flood zone determination, tax certificate, title report, or appraisal.

Fees to Maintain

Fees to maintain the equity loan that are not interest are subject to the three percent limitation. This encompasses a fee charged at the inception of the loan to compensate for performing a service for the life of the loan. Examples of this fee are a flood zone determination fee and a tax service fee.

Fees to Record

Fees paid to public officials and others for the purpose of recording public documents evidencing the lien are fees subject to the three percent limitation.

Fees to Insure

Premiums to insure the equity loan are fees subject to the three percent limitation. Title insurance and mortgage insurance protection are examples of this type of fee.

Fees to Service

Any fee charged to and paid by an owner at the inception of the loan transaction to service the equity loan that is not interest is subject to the three percent limitation.

Escrow Funds

A lender may provide escrow services in a home equity transaction. Funds tendered by the borrower into an escrow account such as for the purpose of taxes, insurance premiums, maintenance or homeowner's association assessments, or similar purposes remain the property of the borrower. Hence, these funds are not subject to the three percent limitation. A lender should not contract for a right of offset against escrow funds pursuant to Section 6(H).

Subsequent Events

The three percent limitation pertains to fees charged to or paid by the owner at the inception of the loan. The lender and owner agree to certain covenants to be performed by both parties after the consummation of the transaction. The parties have a responsibility to perform their respective obligations under the contract after the transaction has been consummated.

If the owner fails to perform, certain events may be triggered that involve the assessment of costs to the owner. One example is the maintenance of homeowner's insurance on the homestead. This type of insurance coverage is normally maintained on all homesteads regardless of whether there is a loan on the property. Certainly, lenders may require borrowers to ensure that a homestead has adequate insurance protection. If the owner fails to maintain homeowner's insurance, the owner has not performed according to the covenants of the agreement. The lender may purchase insurance to maintain coverage on the collateral. This is a subsequent event and is not included in the three percent limitation.

Another example is the assessment of late charges. The assessment of these charges is a subsequent event and arises because of the owner's failure to perform under the agreement. Thus, these charges are not contained within the three percent limitation. Other examples of charges associated with subsequent events are returned check fees, collection costs, and costs associated with foreclosure.

Secondary Mortgage Loans

A secondary mortgage loan as defined in Chapter 3A is limited to the types of fees that may be charged in connection with the loan. These fees are identified in art. 5069-3A.507 and 3A.508. A lender must comply with the provisions of Chapter 3A and the constitutional restrictions on fees in connection with a secondary mortgage loan.

Insurance Premiums

A lender may collect or include in the principal premiums or fees for the sale of insurance on the collateral of an equity loan assuming the lender complies with the rest of the terms of HJR 31 and applicable law concerning the sale of insurance in connection with a mortgage loan.

6(F) No open-end credit

The amendment provides that an equity loan may not be in the form of an open-end account that may be debited from time to time or under which credit may be extended from time to time. An open-end account is defined in article 5069-1B.002(14) as "an account under a written contract between a creditor and an obligor in connection with which:

(i) the creditor reasonably contemplates repeated transactions and the obligor is authorized to make purchases or borrow money;

(ii) interest ... may be charged from time to time on an outstanding unpaid balance; and

(iii) the amount of credit that may be extended during the term of the account is generally made available to the extent that any outstanding balance is repaid..."

If an account is not an open-end account by definition, then it must be a closed-end account. A common type of closed-end secondary mortgage loan (Chapter 3A, Subchapter G) is a type of interim construction loan. The loan has multiple advances at particular stages and interest is only charged upon the principal balance outstanding. No interest is charged on funds that have not been advanced. However, credit is not made available to the extent that outstanding balances have been repaid. This distinction makes this type of loan a closed-end transaction.

Closed-end multiple advance equity loans are permissible within the context of this section. The loan should be structured so that the loan is payable in substantially equal successive monthly installments until the next advance or adjustment period. Each installment must extinguish the accrued interest and contribute to amortizing part of the principal balance.

Amounts advanced by the lender after closing as a result of default, including for example, ad valorem taxes, hazard insurance premiums, and authorized collection costs, including reasonable attorney fees, are not contemplated repeated transactions such that they would characterize the loan as an open-end account.

6(G) No prepayment penalties

A lender may not charge a penalty to a borrower for prepaying a loan or a portion of a loan early. A lockout provision in a loan contract (a provision that prohibits a borrower from paying early) is considered to be a prepayment penalty.

6(H) No additional collateral

No additional real or personal collateral other than the security interest in the homestead is permitted on an equity loan. A lender and an owner may enter into an agreement whereby a lender may acquire an interest in items incidental to the collateral. The following items are not considered additional real or personal collateral:

(i) escrow for the payment of taxes and insurance;

(ii) an undivided interest in a condominium unit, a planned unit development, or the right to the use and enjoyment of certain property owned by an association;

(iii) insurance proceeds related to the homestead; or

(iv) condemnation proceeds.

A guaranty or the obligation of a cosigner or surety is considered additional collateral, and would not be permissible in connection with an equity loan. An equity loan document should expressly disclaim and waive any and all other security interests securing any other indebtedness now or thereafter owing to the lender. Additionally, a contractual right of offset is also prohibited under this section.

The Texas Constitution and the Texas Property Code identify a number of different types of "homesteads" and define an urban homestead as consisting of not more than one acre of land, together with any improvements thereon. Tex. Const. Art. XIV, §51 and Tex. Prop. Code Ann. § 41.002(a) (emphasis added). Any property owned in conjunction with the homestead (one urban acre) that is in excess of one acre is "additional real property."

Lenders are advised to carefully review the legal implications of acquiring a security interest in urban lots that comprise more than one acre.

The occurrence of urban lots exceeding one acre is quite common in many Texas municipalities. The existence of various zoning ordinances and deed restrictions severely hampers efforts to segment lots into portions that do not exceed one acre in many locations. Notwithstanding these difficulties, the Texas Property Code provides a method for a homeowner to designate a portion of a lot as their homestead.

In this method, the borrower identifies the real property to designate as the borrower's one acre homestead in a written document filed with the county clerk. Tex. Prop. Code Ann. § 41.005(c). Designating the property in this manner is not constructively equal to legally partitioning the property. By following the procedures contained in the Texas Property Code to designate a one acre homestead, the borrower ensures that the lender making a home equity loan takes a security interest of not more than one acre of real property.

Although designating a one acre urban homestead may prevent a violation of Tex. Const. § 50(a)(6)(H), it may present other problems if and when the lender initiates foreclosure proceedings. Often, an urban lot in excess of one acre is subject to a particular zoning ordinance or deed restriction which prohibits the subdivision of the lot. The foreclosure of only the designated one acre segment would constitute a sale of less than the entire lot and a subdivision of the lot, and as such, may violate the zoning ordinance or deed restriction. This procedure may also require a partition suit (assuming that the borrower's agreement could not be acquired) to have the property sold and the proceeds split between the owners according to their respective ownership.

6(J) Acceleration prohibited

A lender may not accelerate an equity loan because of a decrease in the market value of the secured property or because the owner defaults on another indebtedness except a debt secured by a prior valid encumbrance against the homestead. A lender may accelerate a loan because of an owner's default under the covenants of the equity loan, including covenants not to commit waste or not remove property, which indirectly bear on the market value of the homestead. The equity loan documents cannot contain cross-default provisions.

6(K) Limitation on number of equity loans

An owner may have only one equity loan (that meets the definition of section 50(a)(6)) at a time, regardless of the aggregate total outstanding debt against the homestead. If the property ceases to be the homestead of the owner, then the lender may treat what was previously a home equity mortgage as a non-homestead mortgage.

6(L) Repayment schedule

The loan must be scheduled to be repaid in substantially equal successive monthly installments, each of which equals or exceeds the amount of accrued interest as of the date of the scheduled installment. The second clause does not specifically state that a portion of principal must be reduced with each payment, but in order to give effect to both clauses of the amendment, to have substantially equal installments would require that some amount of principal must be reduced with each installment. This effectively precludes the permissibility of balloon payments. This provision does not preclude a lender's recovery of payments as necessary for other amounts such as taxes, adverse liens, insurance premiums, collection costs, and similar items.

6(M) Closing date

A loan may not be closed before the 12th calendar day after the later of the date that the owner makes application for the loan or the date that the owner receives the required consumer disclosure. The submission of an application to the lender includes the submission to an agent acting on behalf of the lender. An application for a loan may be given orally or electronically and does not have to be in writing. Additionally, the amendment requires that an equity loan may not be closed before the first anniversary of the closing date of any other equity loan secured by the same homestead property. This provision requires that an equity loan may not be refinanced before one year has elapsed since the loan's closing date.

6(N) Place of closing

An equity loan may be closed only at an office of the lender, an attorney at law, or a title company. For purposes of this section, the lender is any lender that is authorized pursuant to section 6(P), that either advances funds directly to the owner or is identified as the payee on the note. If the transaction is closed at one of these offices, but lacks the consent of a spouse or other party, it is permissible to obtain that individual's consent by mail. A properly executed power of attorney is acceptable for designating an individual to close the loan on behalf of the owner.

6(O) Rate of interest charge

A lender may charge a fixed or variable rate of interest as authorized by statute. As discussed above, interest rates on certain first mortgages are not limited on loans subject to the federal Depository Institutions Deregulation and Monetary Control Act of 1980 and the Alternative Mortgage Transaction Parity Act. Chapter 3A authorizes the maximum rate on secondary mortgage loans. The authorization of a variable interest rate is ambiguous when read in connection with the provision relating to substantially equal successive monthly installments. In construing the constitution, provisions are viewed broadly giving maximum effect to all sections and phrases. Thus, an equity loan providing in accordance with applicable law for an interest rate that varies from time to time may provide for a payment amount that varies from time to time, assuming that the loan is regularly amortizing and that the rate adjusts on a regular basis, such as annually. The amount of the payment should not change more frequently than the interest rate adjustment. The scheduled payment amount between each payment change date should be substantially equal and the amount of the payment should equal or exceed the amount of interest scheduled to accrue between each payment date.

An adjustable rate loan may provide for discount interest that results in a low initial interest rate. An equity loan must be structured in a way such that the transaction regularly amortizes, contributes to amortization of principal, and does not result in a balloon payment.

6(P) Authorized lenders

An equity loan may be:

"made by one of the following that has not been found by a federal regulatory agency to have engaged in the practice of refusing to make loans because the applicants for the loans reside or the property proposed to secure the loans is located in a certain area:

(i) a bank, savings and loan association, savings bank, or credit union doing business under the laws of this state or the United States;

(ii) a federally chartered lending instrumentality or a person approved as a mortgagee by the United States government to make federally insured loans;

(iii) a person licensed to make regulated loans, as provided by statute of this state;

(iv) a person who sold the homestead property to the current owner and who provided all or part of the financing for the purchase; or

(v) a person who is related to the homestead owner within the second degree of affinity and consanguinity..."

Unless a lender meets the definitions of (i), (ii), (iv), or (v), the lender must obtain a regulated loan license to meet the provisions of (iii). It is important to review the provisions of Chapter 3A regarding licensing as well as the statutory provisions regarding secondary mortgage loans. A secondary mortgage loan made, negotiated, or arranged at a rate of interest in excess of 10% must be made by an authorized lender. An authorized lender is defined by statute to be a bank, savings and loan association, savings bank, credit union, or the holder of a regulated loan license. These qualifications are inclusive of the constitutional amendment. In other words, a lender must meet both sets of qualifications, those of the constitution and the statute, in order to make an equity loan that is a secondary mortgage loan. Constitutional law should be interpreted in harmony with statutory law.

Depository Institutions

A bank, savings and loan association, savings bank, or credit union doing business under the laws of this state or of the United States is defined as an authorized lender. The provisions of Chapter 3A regarding the definitions of authorized lenders reflect a similar listing of depository institutions. However, the consumer credit commissioner has interpreted the applicability of these standards to banks chartered in other states. Section 521 of the Depository Institutions Deregulation and Monetary Control Act of 1980 exempts state-chartered insured banks from any procedural requirements of other states related to interest rate restrictions, including licensing, otherwise applicable to lenders imposing such interest rates. [Consumer credit commissioner interpretation letter 85-4] Thus, a bank chartered in another state need not obtain a regulated loan license.

HUD-Approved Mortgagees

A person approved as a mortgagee by the United States government to make federally insured loans is an authorized lender. The Department of Housing and Urban Development (HUD) approves lenders to make federally insured loans. A HUD-approved mortgagee is entitled to make equity loans. Under the terms of the amendment, a HUD-approved mortgagee may make equity loans as first mortgage loans or secondary mortgage loans at a rate of interest of 10% or below. If a HUD-approved mortgagee makes a secondary mortgage loan at a rate greater than 10%, then the HUD-approved mortgagee should comply with the provisions of Chapter 3A regarding licensure.

Mortgage Brokers

A mortgage broker must be licensed to make loans. The constitutional amendment only refers to an equity loan "made" by a lender. Making a loan is the process of determining to extend the credit, the act of funding a loan, or being identified as the "payee" of the note. If the loan documents recognize a person as making or originating the loan and then the transaction is immediately assigned (often referred to as "table funding") to the ultimate lender, both of these lenders (the originator and the funder) must be licensed or otherwise qualify as authorized lenders. A person who only arranges loans does not necessarily fall into this category. Again, one must look to the provisions of Chapter 3A regarding activities that require a license. Thus, a broker negotiating or arranging secondary mortgage equity loans at an interest rate greater than 10% must be licensed. A mortgage broker only arranging a first lien equity loan or a cash-out refinance need not be licensed if the broker did not "make" the loan.

6(Q)(i) Limitation on application of proceeds

The owner cannot be required to apply the loan proceeds to repay another debt, except debt secured by the homestead, or debt to another creditor. The amendment states that the owner cannot be required to repay to the same lender a non-homestead debt. An owner is entitled to use the proceeds of an equity loan for any lawful purpose, at the owner's discretion. An owner is not precluded from voluntarily paying off a debt that is owed to the same lender, but an owner may not be required to pay off another debt, except a mortgage secured by the homestead which is being refinanced. A lender should obtain a signed acknowledgment from the owner evidencing the borrower's voluntary repayment of any existing debt if the owner directs that the proceeds should be disbursed directly to existing creditors.

6(Q)(iii) No blanks in the contract

The "blanks that are left to be filled in" referenced in (a)(6)(Q)(iii) refers to the loan contract terms and not to signature blocks that must be signed to execute the document.

6(Q)(v) Copies of documents

At closing, the lender must provide the owner with a copy of all documents that are signed at closing in connection with the equity loan. The lender is not required to give the owner copies of documents that were signed by the owner prior to closing, such as those signed during the application process. With respect to any documents which, because of their nature cannot be signed at closing, such as a notification of the borrower's election not to rescind under the right of rescission, the lender must provide the owner copies of these documents within a reasonable time after execution. Three business days is a reasonable time for providing these documents to the owner.

6(Q)(vi) Equity loan disclosure

The security instruments must contain a disclosure that the loan is an equity loan subject to section 50(a)(6), Article XVI, Texas Constitution. This disclosure should appear in the mortgage instrument in a way such that it is boldfaced, capitalized, underlined, or otherwise conspicuously set out from the surrounding material.

6(Q)(vii) Release of lien

The lender must cancel and return the note to the owner and give the owner, without charge, a release of lien or a copy of an endorsement and assignment of the lien to another lender refinancing the loan within a reasonable time after termination and full payment of the loan. The lender or holder, at its option, may provide the owner a release of lien or an endorsement and assignment of the lien to another lender refinancing the loan. Thirty days is a reasonable time for the lender to perform the duties required under this section. An affidavit of lost note, or equivalent, may be returned to the owner in lieu of the original note, if the original note has been lost.

6(Q)(viii) Right of rescission

The owner and the owner's spouse have three days in which to rescind the extension of credit after the loan is closed. The rescission period begins at closing (the signing of the loan documents). Closing may occur only on or after the 12^th calendar day after the later of the date that the owner makes application for the loan or the date that the owner receives the required consumer disclosure under Section (a)(6)(M)(i). This provision gives the owner's spouse who may not necessarily have community property ownership three calendar days to rescind the transaction. If the third calendar day falls on a Sunday or legal holiday then the right of rescission is extended to the next business day. A lender must still comply with the provisions of the Truth-in-Lending Act permitting the borrower three business days to rescind a mortgage loan in applicable transactions. If a lender complies with the right of rescission procedures in the Truth-in-Lending Act and Regulation Z, this will satisfy the requirements of complying with this section if the notices are given to all owners of the homestead and to each spouse of an owner.

6(Q)(ix) Acknowledgment of fair market value

The owner and the lender must agree on the fair market value of the property on the date the loan is made. A written acknowledgment will evidence that agreement.

SECTION 50 (e)

Section 50(e) states that a refinance of an existing mortgage transaction that includes the advance of additional funds may not be secured by a valid lien against the homestead unless the refinance complies with Section 50(a)(6) or the advance of all the additional funds is for reasonable costs necessary to refinance the debt or for a purpose described in Subsection (a)(2) taxes, (a)(3) owelty of partition, or (a)(5) home improvement. The Texas Legislature, as the framer of this constitutional amendment, was clear in suggesting that this Amendment was not intended to alter the law pertaining to refinancing mortgages as it existed prior to the enactment of the Amendment. The question of reasonableness and necessity of costs should relate to the type and amount of the costs. In a secondary mortgage loan, reasonable costs are those costs which are lawful in light of the governing or applicable law which authorizes the assessment of particular costs. In the context of other mortgage loans, reasonable costs are those costs which are lawful in light of other governing or applicable law. Reasonable and necessary costs may include reserves or impounds (escrow trust accounts) for taxes and insurance, if the reserves comply with applicable law.

SECTION 50(g)

This section prescribes the consumer disclosure that must be given at least 12 days in advance of the closing of an equity loan. A lender should establish verifiable procedures to ensure that an owner receives the required notice within the specified time frame. If a lender mails the notice to the owner, the lender shall allow a reasonable period of time for delivery. A three day period not including Sundays and legal holidays, constitutes a rebuttable presumption for sufficient mailing and delivery. Certain provisions of the notice do not contain the exact identical language concerning requirements of the equity loan that have been used to create the substantive requirements of the loan. The substantive requirements prevail regarding a lender's responsibilities in an equity loan transaction. A lender may supplement the notice to clarify any discrepancies or inconsistencies.

H.J.R. No. 31

A JOINT RESOLUTION

proposing a constitutional amendment permitting an encumbrance against homestead property for certain extensions of equity credit.
BE IT RESOLVED BY THE LEGISLATURE OF THE STATE OF TEXAS:
SECTION 1. Section 50, Article XVI, Texas Constitution, is amended to read as follows:
Sec. 50. (a) The homestead of a family, or of a single adult person, shall be, and is hereby protected from forced sale, for the payment of all debts except for:
(1) the purchase money thereof, or a part of such purchase money;
(2)[,] the taxes due thereon;
(3)[,] an owelty of partition imposed against the entirety of the property by a court order or by a written agreement of the parties to the partition, including a debt of one spouse in favor of the other spouse resulting from a division or an award of a family homestead in a divorce proceeding;
(4)[,] the refinance of a lien against a homestead, including a federal tax lien resulting from the tax debt of both spouses, if the homestead is a family homestead, or from the tax debt of the owner;
(5)[, or for] work and material used in constructing new improvements thereon, if contracted for in writing, or work and material used to repair or renovate existing improvements thereon if:
(A) [and in this last case only when] the work and material are contracted for in writing, with the consent of both spouses, in the case of a family homestead, given in the same manner as is required in making a sale and conveyance of the homestead;
(B) the contract for the work and material is not executed by the owner or the owner's spouse before the 12th day after the owner makes written application for any extension of credit for the work and material, unless the work and material are necessary to complete immediate repairs to conditions on the homestead property that materially affect the health or safety of the owner or person residing in the homestead and the owner of the homestead acknowledges such in writing;
(C) the contract for the work and material expressly provides that the owner may rescind the contract without penalty or charge within three days after the execution of the contract by all parties, unless the work and material are necessary to complete immediate repairs to conditions on the homestead property that materially affect the health or safety of the owner or person residing in the homestead and the owner of the homestead acknowledges such in writing; and
(D) the contract for the work and material is executed by the owner and the owner's spouse only at the office of a third-party lender making an extension of credit for the work and material, an attorney at law, or a title company;
(6) an extension of credit that:
(A) is secured by a voluntary lien on the homestead created under a written agreement with the consent of each owner and each owner's spouse;
(B) is of a principal amount that when added to the aggregate total of the outstanding principal balances of all other indebtedness secured by valid encumbrances of record against the homestead does not exceed 80 percent of the fair market value of the homestead on the date the extension of credit is made;
(C) is without recourse for personal liability against each owner and the spouse of each owner, unless the owner or spouse obtained the extension of credit by actual fraud;
(D) is secured by a lien that may be foreclosed upon only by a court order;
(E) does not require the owner or the owner's spouse to pay, in addition to any interest, fees to any person that are necessary to originate, evaluate, maintain, record, insure, or service the extension of credit that exceed, in the aggregate, three percent of the original principal amount of the extension of credit;
(F) is not a form of open-end account that may be debited from time to time or under which credit may be extended from time to time;
(G) is payable in advance without penalty or other charge;
(H) is not secured by any additional real or personal property other than the homestead;
(I) is not secured by homestead property designated for agricultural use as provided by statutes governing property tax, unless such homestead property is used primarily for the production of milk;
(J) may not be accelerated because of a decrease in the market value of the homestead or because of the owner's default under other indebtedness not secured by a prior valid encumbrance against the homestead;
(K) is the only debt secured by the homestead at the time the extension of credit is made unless the other debt was made for a purpose described by Subsections (a)(1)-(a)(5) of this section;
(L) is scheduled to be repaid in substantially equal successive monthly installments beginning no later than two months from the date the extension of credit is made, each of which equals or exceeds the amount of accrued interest as of the date of the scheduled installment;
(M) is closed not before:
(i) the 12th day after the later of the date that the owner of the homestead submits an application to the lender for the extension of credit or the date that the lender provides the owner a copy of the notice prescribed by Subsection (g) of this section; and
(ii) the first anniversary of the closing date of any other extension of credit described by Subsection (a)(6) of this section secured by the same homestead property;
(N) is closed only at the office of the lender, an attorney at law, or a title company;
(O) permits a lender to contract for and receive any fixed or variable rate of interest authorized under statute;
(P) is made by one of the following that has not been found by a federal regulatory agency to have engaged in the practice of refusing to make loans because the applicants for the loans reside or the property proposed to secure the loans is located in a certain area:
(i) a bank, savings and loan association, savings bank, or credit union doing business under the laws of this state or the United States;
(ii) a federally chartered lending instrumentality or a person approved as a mortgagee by the United States government to make federally insured loans;
(iii) a person licensed to make regulated loans, as provided by statute of this state;
(iv) a person who sold the homestead property to the current owner and who provided all or part of the financing for the purchase; or
(v) a person who is related to the homestead property owner within the second degree of affinity or consanguinity; and
(Q) is made on the condition that:
(i) the owner of the homestead is not required to apply the proceeds of the extension of credit to repay another debt except debt secured by the homestead or debt to another lender;
(ii) the owner of the homestead not assign wages as security for the extension of credit;
(iii) the owner of the homestead not sign any instrument in which blanks are left to be filled in;
(iv) the owner of the homestead not sign a confession of judgment or power of attorney to the lender or to a third person to confess judgment or to appear for the owner in a judicial proceeding;
(v) the lender, at the time the extension of credit is made, provide the owner of the homestead a copy of all documents signed by the owner related to the extension of credit;
(vi) the security instruments securing the extension of credit contain a disclosure that the extension of credit is the type of credit defined by Section 50(a)(6), Article XVI, Texas Constitution;
(vii) within a reasonable time after termination and full payment of the extension of credit, the lender cancel and return the promissory note to the owner of the homestead and give the owner, in recordable form, a release of the lien securing the extension of credit or a copy of an endorsement and assignment of the lien to a lender that is refinancing the extension of credit;
(viii) the owner of the homestead and any spouse of the owner may, within three days after the extension of credit is made, rescind the extension of credit without penalty or charge;
(ix) the owner of the homestead and the lender sign a written acknowledgment as to the fair market value of the homestead property on the date the extension of credit is made; and
(x) the lender or any holder of the note for the extension of credit shall forfeit all principal and interest of the extension of credit if the lender or holder fails to comply with the lender's or holder's obligations under the extension of credit within a reasonable time after the lender or holder is notified by the borrower of the lender's failure to comply; or
(7) a reverse mortgage.
(b) An [nor may the] owner or claimant of the property claimed as homestead may not [, if married,] sell or abandon the homestead without the consent of each owner and the [other] spouse of each owner, given in such manner as may be prescribed by law.
(c) No mortgage, trust deed, or other lien on the homestead shall ever be valid unless it secures a debt described by this section, [except for a debt described by this section,] whether such mortgage, [or] trust deed, or other lien, shall have been created by the owner alone, or together with his or her spouse, in case the owner is married. All pretended sales of the homestead involving any condition of defeasance shall be void.
(d) A purchaser or lender for value without actual knowledge may conclusively rely on an affidavit that designates other property as the homestead of the affiant and that states that the property to be conveyed or encumbered is not the homestead of the affiant.
(e) A refinance of debt secured by a homestead and described by any subsection under Subsections (a)(1)-(a)(5) that includes the advance of additional funds may not be secured by a valid lien against the homestead unless:
(1) the refinance of the debt is an extension of credit described by Subsection (a)(6) of this section; or
(2) the advance of all the additional funds is for reasonable costs necessary to refinance such debt or for a purpose described by Subsection (a)(2), (a)(3), or (a)(5) of this section.
(f) A refinance of debt secured by the homestead, any portion of which is an extension of credit described by Subsection (a)(6) of this section, may not be secured by a valid lien against the homestead unless the refinance of the debt is an extension of credit described by Subsection (a)(6) of this section.
(g) An extension of credit described by Subsection (a)(6) of this section may be secured by a valid lien against homestead property if the extension of credit is not closed before the 12th day after the lender provides the owner with the following written notice on a separate instrument:

"NOTICE CONCERNING EXTENSIONS OF CREDIT

DEFINED BY SECTION 50(a)(6), ARTICLE XVI, TEXAS CONSTITUTION:
"SECTION 50(a)(6), ARTICLE XVI, OF THE TEXAS CONSTITUTION ALLOWS CERTAIN LOANS TO BE SECURED AGAINST THE EQUITY IN YOUR HOME. SUCH LOANS ARE COMMONLY KNOWN AS EQUITY LOANS. IF YOU DO NOT REPAY THE LOAN OR IF YOU FAIL TO MEET THE TERMS OF THE LOAN, THE LENDER MAY FORECLOSE AND SELL YOUR HOME. THE CONSTITUTION PROVIDES THAT:
"(A) THE LOAN MUST BE VOLUNTARILY CREATED WITH THE CONSENT OF EACH OWNER OF YOUR HOME AND EACH OWNER'S SPOUSE;
"(B) THE PRINCIPAL LOAN AMOUNT AT THE TIME THE LOAN IS MADE MUST NOT EXCEED AN AMOUNT THAT, WHEN ADDED TO THE PRINCIPAL BALANCES OF ALL OTHER LIENS AGAINST YOUR HOME, IS MORE THAN 80 PERCENT OF THE FAIR MARKET VALUE OF YOUR HOME;
"(C) THE LOAN MUST BE WITHOUT RECOURSE FOR PERSONAL LIABILITY AGAINST YOU AND YOUR SPOUSE UNLESS YOU OR YOUR SPOUSE OBTAINED THIS EXTENSION OF CREDIT BY ACTUAL FRAUD;
"(D) THE LIEN SECURING THE LOAN MAY BE FORECLOSED UPON ONLY WITH A COURT ORDER;
"(E) FEES AND CHARGES TO MAKE THE LOAN MAY NOT EXCEED 3 PERCENT OF THE LOAN AMOUNT;
"(F) THE LOAN MAY NOT BE AN OPEN-END ACCOUNT THAT MAY BE DEBITED FROM TIME TO TIME OR UNDER WHICH CREDIT MAY BE EXTENDED FROM TIME TO TIME;
"(G) YOU MAY PREPAY THE LOAN WITHOUT PENALTY OR CHARGE;
"(H) NO ADDITIONAL COLLATERAL MAY BE SECURITY FOR THE LOAN;
"(I) THE LOAN MAY NOT BE SECURED BY AGRICULTURAL HOMESTEAD PROPERTY, UNLESS THE AGRICULTURAL HOMESTEAD PROPERTY IS USED PRIMARILY FOR THE PRODUCTION OF MILK;
"(J) YOU ARE NOT REQUIRED TO REPAY THE LOAN EARLIER THAN AGREED SOLELY BECAUSE THE FAIR MARKET VALUE OF YOUR HOME DECREASES OR BECAUSE YOU DEFAULT ON ANOTHER LOAN THAT IS NOT SECURED BY YOUR HOME;
"(K) ONLY ONE LOAN DESCRIBED BY SECTION 50(a)(6), ARTICLE XVI, OF THE TEXAS CONSTITUTION MAY BE SECURED WITH YOUR HOME AT ANY GIVEN TIME;
"(L) THE LOAN MUST BE SCHEDULED TO BE REPAID IN PAYMENTS THAT EQUAL OR EXCEED THE AMOUNT OF ACCRUED INTEREST FOR EACH PAYMENT PERIOD;
"(M) THE LOAN MAY NOT CLOSE BEFORE 12 DAYS AFTER YOU SUBMIT A WRITTEN APPLICATION TO THE LENDER OR BEFORE 12 DAYS AFTER YOU RECEIVE THIS NOTICE, WHICHEVER DATE IS LATER; AND IF YOUR HOME WAS SECURITY FOR THE SAME TYPE OF LOAN WITHIN THE PAST YEAR, A NEW LOAN SECURED BY THE SAME PROPERTY MAY NOT CLOSE BEFORE ONE YEAR HAS PASSED FROM THE CLOSING DATE OF THE OTHER LOAN;
"(N) THE LOAN MAY CLOSE ONLY AT THE OFFICE OF THE LENDER, TITLE COMPANY, OR AN ATTORNEY AT LAW;
"(O) THE LENDER MAY CHARGE ANY FIXED OR VARIABLE RATE OF INTEREST AUTHORIZED BY STATUTE;
"(P) ONLY A LAWFULLY AUTHORIZED LENDER MAY MAKE LOANS DESCRIBED BY SECTION 50(a)(6), ARTICLE XVI, OF THE TEXAS CONSTITUTION; AND
"(Q) LOANS DESCRIBED BY SECTION 50(a)(6), ARTICLE XVI, OF THE TEXAS CONSTITUTION MUST:
"(1) NOT REQUIRE YOU TO APPLY THE PROCEEDS TO ANOTHER DEBT THAT IS NOT SECURED BY YOUR HOME OR TO ANOTHER DEBT TO THE SAME LENDER;
"(2) NOT REQUIRE THAT YOU ASSIGN WAGES AS SECURITY;
"(3) NOT REQUIRE THAT YOU EXECUTE INSTRUMENTS WHICH HAVE BLANKS LEFT TO BE FILLED IN;
"(4) NOT REQUIRE THAT YOU SIGN A CONFESSION OF JUDGMENT OR POWER OF ATTORNEY TO ANOTHER PERSON TO CONFESS JUDGMENT OR APPEAR IN A LEGAL PROCEEDING ON YOUR BEHALF;
"(5) PROVIDE THAT YOU RECEIVE A COPY OF ALL DOCUMENTS YOU SIGN AT CLOSING;
"(6) PROVIDE THAT THE SECURITY INSTRUMENTS CONTAIN A DISCLOSURE THAT THIS LOAN IS A LOAN DEFINED BY SECTION 50(a)(6), ARTICLE XVI, OF THE TEXAS CONSTITUTION;
"(7) PROVIDE THAT WHEN THE LOAN IS PAID IN FULL, THE LENDER WILL SIGN AND GIVE YOU A RELEASE OF LIEN OR AN ASSIGNMENT OF THE LIEN, WHICHEVER IS APPROPRIATE;
"(8) PROVIDE THAT YOU MAY, WITHIN 3 DAYS AFTER CLOSING, RESCIND THE LOAN WITHOUT PENALTY OR CHARGE;
"(9) PROVIDE THAT YOU AND THE LENDER ACKNOWLEDGE THE FAIR MARKET VALUE OF YOUR HOME ON THE DATE THE LOAN CLOSES; AND
"(10) PROVIDE THAT THE LENDER WILL FORFEIT ALL PRINCIPAL AND INTEREST IF THE LENDER FAILS TO COMPLY WITH THE LENDER'S OBLIGATIONS."
If the discussions with the borrower are conducted primarily in a language other than English, the lender shall, before closing, provide an additional copy of the notice translated into the written language in which the discussions were conducted.
(h) A lender or assignee for value may conclusively rely on the written acknowledgment as to the fair market value of the homestead property made in accordance with Subsection (a)(6)(Q)(ix) of this section if:
(1) the value acknowledged to is the value estimate in an appraisal or evaluation prepared in accordance with a state or federal requirement applicable to an extension of credit under Subsection (a)(6); and
(2) the lender or assignee does not have actual knowledge at the time of the payment of value or advance of funds by the lender or assignee that the fair market value stated in the written acknowledgment was incorrect.
(i) This subsection shall not affect or impair any right of the borrower to recover damages from the lender or assignee under applicable law for wrongful foreclosure. A purchaser for value without actual knowledge may conclusively presume that a lien securing an extension of credit described by Subsection (a)(6) of this section was a valid lien securing the extension of credit with homestead property if:
(1) the security instruments securing the extension of credit contain a disclosure that the extension of credit secured by the lien was the type of credit defined by Section 50(a)(6), Article XVI, Texas Constitution;
(2) the purchaser acquires the title to the property pursuant to or after the foreclosure of the voluntary lien; and
(3) the purchaser is not the lender or assignee under the extension of credit.
(j) Subsection (a)(6) and Subsections (e)-(i) of this section are not severable, and none of those provisions would have been enacted without the others. If any of those provisions are held to be preempted by the laws of the United States, all of those provisions are invalid. This subsection shall not apply to any lien or extension of credit made after January 1, 1998, and before the date any provision under Subsection (a)(6) or Subsections (e)-(i) is held to be preempted.
(k) "Reverse mortgage" means an extension of credit:
(1) that is secured by a voluntary lien on homestead property created by a written agreement with the consent of each owner and each owner's spouse;
(2) that is made to a person who is or whose spouse is 55 years or older;
(3) that is made without recourse for personal liability against each owner and the spouse of each owner;
(4) under which advances are provided to a borrower based on the equity in a borrower's homestead;
(5) that does not permit the lender to reduce the amount or number of advances because of an adjustment in the interest rate if periodic advances are to be made;
(6) that requires no payment of principal or interest until:
(A) the homestead property securing the loan is sold or otherwise transferred; or
(B) all borrowers cease occupying the homestead property as a principal residence for more than 180 consecutive days and the location of the homestead property owner is unknown to the lender;
(7) that provides that if the lender fails to make loan advances as required in the loan documents and if the lender fails to cure the default as required in the loan documents, the lender forfeits all principal and interest of the reverse mortgage; and
(8) that is not made unless the owner of the homestead attests in writing that the owner received counseling regarding the advisability and availability of reverse mortgages and other financial alternatives.
(l) Advances made under a reverse mortgage and interest on those advances have priority over a lien filed for record in the real property records in the county where the homestead property is located after the reverse mortgage is filed for record in the real property records of that county.
(m) A reverse mortgage may provide for an interest rate that is fixed or adjustable and may also provide for interest that is contingent on appreciation in the fair market value of the homestead property. Although payment of principal or interest shall not be required under a reverse mortgage until the entire loan becomes due and payable, interest may accrue and be compounded during the term of the loan as provided by the reverse mortgage loan agreement.
(n) A reverse mortgage that is secured by a valid lien against homestead property may be made or acquired without regard to the following provisions of any other law of this state:
(1) a limitation on the purpose and use of future advances or other mortgage proceeds;
(2) a limitation on future advances to a term of years or a limitation on the term of open-end account advances;
(3) a limitation on the term during which future advances take priority over intervening advances;
(4) a requirement that a maximum loan amount be stated in the reverse mortgage loan documents;
(5) a prohibition on balloon payments;
(6) a prohibition on compound interest and interest on interest;
(7) a prohibition on contracting for, charging, or receiving any rate of interest authorized by any law of this state authorizing a lender to contract for a rate of interest; and
(8) a requirement that a percentage of the reverse mortgage proceeds be advanced before the assignment of the reverse mortgage.
(o) For the purposes of determining eligibility under any statute relating to payments, allowances, benefits, or services provided on a means-tested basis by this state, including supplemental security income, low-income energy assistance, property tax relief, medical assistance, and general assistance:
(1) reverse mortgage loan advances made to a borrower are considered proceeds from a loan and not income; and
(2) undisbursed funds under a reverse mortgage loan are considered equity in a borrower's home and not proceeds from a loan.
(p) The advances made on a reverse mortgage loan under which more than one advance is made must be made at regular intervals according to a plan established by the original loan agreement.
(q) To the extent that any statutes of this state, including without limitation, Section 41.001 of the Texas Property Code, purport to limit encumbrances that may properly be fixed on homestead property in a manner that does not permit encumbrances for extensions of credit described in Subsection (a)(6) or (a)(7) of this section, the same shall be superseded to the extent that such encumbrances shall be permitted to be fixed upon homestead property in the manner provided for by this amendment.
(r) The supreme court shall promulgate rules of civil procedure for expedited foreclosure proceedings related to the foreclosure of liens under Subsection (a)(6) of this section.
(s) The Finance Commission of Texas shall appoint a director to conduct research on the availability, quality, and prices of financial services and research the practices of business entities in the state that provide financial services under this section. The director shall collect information and produce reports on lending activity of those making loans under this section. The director shall report his or her findings to the legislature not later than December 1 of each year.
SECTION 2. The following temporary provision is added to the Texas Constitution:
TEMPORARY PROVISION. (a) This temporary provision applies to the constitutional amendment proposed by the 75th Legislature, Regular Session, 1997, authorizing a voluntary consensual encumbrance on homestead property.
(b) The constitutional amendment takes effect January 1, 1998.
(c) This temporary provision takes effect on the adoption of the amendment by the voters and expires January 2, 1998.
SECTION 3. This proposed constitutional amendment shall be submitted to the voters at an election to be held November 4, 1997. The ballot shall be printed to permit voting for or against the proposition: "The amendment to the Texas Constitution expanding the types of liens for home equity loans that a lender, with the homeowner's consent, may place against a homestead."

_______________________________	_______________________________
President of the Senate	Speaker of the House

I certify that H.J.R. No. 31 was passed by the House on May 9, 1997, by the following vote: Yeas 112, Nays 36, 1 present, not voting; and that the House concurred in Senate amendments to H.J.R. No. 31 on May 29, 1997, by the following vote: Yeas 116, Nays 25, 2 present, not voting and that the House adopted H.C.R. No. 326 authorizing certain corrections in H.J.R. No. 31 on May 31, 1997, by a non-record vote.

_______________________________
Chief Clerk of the House

I certify that H.J.R. No. 31 was passed by the Senate, with amendments, on May 26, 1997, by the following vote: Yeas 22, Nays 7, 2 present, not voting and that the Senate adopted H.C.R. No. 326 authorizing certain corrections in H.J.R. No. 31 on June 1, 1997, by a viva-voce vote.

_______________________________
Secretary of the Senate

RECEIVED: _____________________
Date

_____________________
Secretary of State

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