Foreclosure Rescue, Sale Leasebacks, Usury, & Substance Over Form

I came across a court case decided (in 1988) by the Court of Appeals for the District of Columbia (D.C.'s high court) that involved the prosecution and conviction of two foreclosure rescue operators for violating a D.C. law then in effect known as the Loan Sharking Act. This law (D.C. Code Ann. § 26-701 (1981)) provided in pertinent part that it was unlawful and illegal to engage in the District of Columbia in the business of loaning money upon which a rate of interest greater than 6 per centum per annum is charged on any security of any kind, direct or collateral, tangible or intangible, without procuring a license.

The principal question in this case was whether the two foreclosure rescue operators (husband and wife), according to the court, "[w]ere actually engaged in the criminal enterprise of making loans in a disguised form at legally impermissible rates and without a license."

The transactions for which the foreclosure rescue operators were prosecuted and convicted were the typical, "sale-leaseback-repurchase option" foreclosure rescue deals. While the transactions (which took place in 1981 and 1982) took the form of actual purchases of people's homes with a contemporaneous leasing back of the premises to the homeowner with an accompanying buyback option, the D.C. trial court disregarded the form of the transactions and, instead, looked to the substance of the transactions and treated the deals as disguised loans, and then applied the then-existing D.C. statute accordingly. The D.C. Court of Appeals subsequently affirmed the convictions.

While the foreclosure rescue operators insisted at their criminal trial that they were not in the business of lending money, the D.C. Court of Appeals listed a number of factors that, in their view, supported the trial judge's determination that the transactions were nothing more than disguised loans. The court's observations follow (bold text is my emphasis):

• "Each of the homeowners was drawn to the [operators] by advertising which promised the availability of "money to lend" to stop imminent foreclosure"

• "When the homeowners asked for the loans which they believed that the advertisements were describing, and then posed questions about the form of the transactions, the [operators] couched their answers to these questions in language which confirmed to the [homeowners] that they were receiving the very loans for which they had come"

• "The [operators] often simply calmed the inquiring homeowners' fears by pretending that it was usual practice, perhaps required by the accountant, to sign instruments transferring title to the homes."

The D.C. Court of Appeals then went on to make these additional observations:

• "Moreover, if the transactions were in fact sales, as [the operators] contend, they were surely most extraordinary ones. When a homeowner sells his home, which is usually his most valuable possession, one would expect at least some measure of bargaining over the sales price. Here, there was none. In each instance, what the [operators] characterize as the "sales" price bore no relation whatever to the value of the equity. It is absurd to suggest that Mrs. Carroll would knowingly sell her home, in which she had an equity of more than $ 36,500.00, for $ 8,100.00. None of the "sellers" had placed his or her home on the market or expressed the slightest interest in selling it. Each "seller" remained in possession after the purported sale, and [the operators] were indeed depicting their service as one that would enable their clients to "save" their homes from foreclosure. Although the transaction also lacked one of the common characteristics of a loan -- an evaluation of the borrower's credit -- no such investigation was needed because the home itself, which in each case was worth far more than the amount expended by the [operators], served as their security. It was therefore altogether reasonable for the trial judge to find that the depiction of each of these transactions as a sale and lease back was a transparent sham which masked an unlawful loan."

The D.C. Court of Appeals opinion cites cases from a number of states (ie. New York, Oregon, Alaska, Hawaii, Washington State, Tennessee, and California), so if any of these states is your home state, there might be something of interest in this case for you.

In conclusion, the D.C. high court, quoting from a case decided by the New York Court of Appeals (New York's high court), made the following memorable quote (among others) about usury laws:

• "The purpose of usury laws, from time immemorial, has been to protect desperately poor people from the consequences of their own desperation. Law-making authorities in almost all civilizations have recognized that the crush of financial burdens causes people to agree to almost any conditions of the lender and to consent to even the most improvident loans. Lenders, with the money, have all the leverage; borrowers, in dire need of money, have none."

For the text of the entire D.C. case, see:

Browner v. Dist. of Columbia, 549 A.2d 1107 (D.C. 1988).

For other posts on the issue of usury in the context of a sale leaseback, see:

• Usurious Loans Masquerading As Sale Leasebacks?
• Usury & Disguised Usurious Loans - Table of Posts

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