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August 2010

California Court of Appeals: Lender's False Determination that Borrower Qualified for a Loan Was Not a Misrepresentation that Borrower Could Afford the Loan

(Cal. Ct. App. August 11, 2010)

In Perlas et al., v. GMAC Mortgage, LLC, et al. (Cal. Ct. App. August 11, 2010), the California Court of Appeal rejected a claim by homeowners that their lender's false determination that they qualified for a home loan amounted to a misrepresentation that they could afford the payments for the loan.

In 2007, two homeowners sought to refinance their home, and GMAC Mortgage LLC ("GMAC"), a mortgage lender, processed their loan application.  The proposed loan required monthly payments of $2,601 per month, and GMAC incorrectly listed the homeowners' monthly income as $9,466.  The homeowners had told GMAC that they had a combined monthly income of about $4,200 per month.  Nevertheless, the homeowners signed the loan application documents prepared by GMAC, i.e. documents that stated the inflated monthly income.  A few months after the loan was made, the homeowners defaulted, and their home was sold at a trustee's sale pursuant to the deed of trust securing the home loan. 

The homeowners sued GMAC and others for fraud and misrepresentation (among other claims), alleging that GMAC's loan qualification determination was based on GMAC's knowing false inflation of the homeowners' income.  The trial court sustained GMAC's demurrer, and the court of appeals affirmed. 

In the published portion of the opinion regarding the fraud/misrepresentation claims, the court of appeals held that the homeowners were not entitled to rely on GMAC's determination that they were qualified for the home loan to reach their conclusion that they could afford the loan.  The court also noted that GMAC did not expressly tell the homeowners that they could afford the loan.  

In reaching its holding, the court reaffirmed that absent special circumstances, "a loan transaction is at arm's length and there is no fiduciary relationship between the borrower and the lender."  In a loan transaction, the lender "pursues its own economic interests in lending money," not the borrower's interest.  A lender's "efforts to determine the creditworthiness and ability to repay the loan by a borrower are for the lender's protection, not the borrower's."  Thus, borrowers must exercise their own judgment in determining whether they can afford a loan; they cannot assume that they can afford a loan because a lender is willing to make the loan.

The Perlas decision is encouraging for lenders because it reaffirms that individual borrowers must take some responsibility for their own decisions.  Also, lenders can take some comfort that internal processes (even when flawed) for qualifying borrowers do not necessarily create representations upon which borrowers may rely in determining whether they should accept the loan.  And the opinion is a cautionary tale for borrowers.  Just because someone can obtain a loan, does not mean that they should

If you have any questions about how Perlas et al., v. GMAC Mortgage, LLC, et al. may affect your business, please do not hesitate to contact a member of our Real Estate group, including Linda Moroney (415-875-3276), or Daniel Nichols (503-222-1075).  

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