(Super. Ct. No. 30-2009 00277721) Appeal from a judgment of the Superior Court of Orange County, Gail Andrea Andler, Judge. Reversed.
The opinion of the court was delivered by: Rylaarsdam, Acting P. J.
CERTIFIED FOR PUBLICATION
The defining feature of an option adjustable rate mortgage loan ("Option ARM") with a discounted initial interest rate (i.e., a "teaser" rate) is, for a limited number of years, the borrower may (by paying the minimum amount required to avoid default on the loan) make a monthly payment that is insufficient to pay off the interest accruing on the loan principal. Rather than amortizing the loan with each minimum monthly payment (as occurs with a standard mortgage loan), "negative amortization" occurs -- a borrower who elects to make only the scheduled payment during the initial years of the Option ARM owes more to the lender than he or she did on the date the loan was made. After an initial period of several years in which negative amortization can occur, a borrower's payment schedule then recasts to require a minimum monthly payment that amortizes the loan.
In this case, plaintiffs*fn1 sued defendant Home Loan Center, Inc., for: (1) fraudulent omissions; and (2) violations of Business and Professions Code section 17200 et seq. (section 17200). Plaintiffs, individual borrowers who entered into Option ARMs with defendant, allege defendant's loan documents failed to adequately and accurately disclose the essential terms of the loans, namely that plaintiffs would suffer negative amortization if they made monthly payments according to the only payment schedule provided to them prior to the closing of the loan. The court sustained defendant's demurrer to the second amended complaint without leave to amend, reasoning that the loan documentation adequately described the nature of Option ARMs. We reverse the ensuing judgment. Plaintiffs adequately alleged fraud and section 17200 causes of action.
In conducting our de novo review, we "must 'give the complaint a reasonable interpretation, and treat the demurrer as admitting all material facts properly pleaded.' [Citation.] Because only factual allegations are considered on demurrer, we must disregard any 'contentions, deductions or conclusions of fact or law alleged . . . .'" (People ex rel. Gallegos v. Pacific Lumber Co. (2008) 158 Cal.App.4th 950, 957.)
The Boschmas refinanced their existing home loan with defendant on or about February 1, 2006, utilizing an Option ARM. Robison agreed to an Option ARM with defendant on or about November 22, 2005; the operative complaint does not specify whether her loan was a purchase money loan or a refinancing of an existing loan.
Plaintiffs attached copies of certain loan documents to the operative complaint. We will set forth the key provisions of these documents before detailing plaintiffs' allegations. (Barnett v. Fireman's Fund Ins. Co. (2001) 90 Cal.App.4th 500, 505 ["we rely on and accept as true the contents of the exhibits and treat as surplusage the pleader's allegations as to the legal effect of the exhibits"].)
Plaintiffs executed nearly identical documents entitled "ADJUSTABLE RATE NOTE [(Note)]." The Note features a bold, capitalized disclaimer below its title and loan identification numbers: "THIS NOTE CONTAINS PROVISIONS THAT WILL CHANGE THE INTEREST RATE AND THE MONTHLY PAYMENT. THERE MAY BE A LIMIT ON THE AMOUNT THAT THE MONTHLY PAYMENT CAN INCREASE OR DECREASE. THE PRINCIPAL AMOUNT TO REPAY COULD BE GREATER THAN THE AMOUNT ORIGINALLY BORROWED, BUT NOT MORE THAN THE LIMIT STATED IN THIS NOTE." Following this disclaimer, the Note indicates the date of execution (February 1, 2006 for the Boschmas, and November 22, 2005 for Robison), the site of execution (Irvine, California), and the address of the property that secures the loan for each party. The Note then lists 11 separate terms, which we quote in relevant part below (using the Boschmas's Note, with footnotes describing any differences in the Robison Note).
"1. BORROWER'S PROMISE TO PAY [¶] In return for a loan that I have received, I promise to pay U.S. $250,000.00[*fn2 ] (this amount is called 'principal'), plus interest, to the order of the Lender. . . . [¶] . . . The Lender or anyone who takes this Note by transfer . . . is called the 'Note Holder.'"
"2. INTEREST [¶] (A) Interest Rate [¶] Interest will be charged on unpaid principal until the full amount of principal has been paid. I will pay interest at a yearly rate of 1.250%. The interest rate I pay may change. [¶] The interest rate required by this Section 2 is the rate I will pay both before and after any default . . . . [¶] (B) Interest Rate Change Dates [¶] The interest rate I will pay may change on the first day of April 1, 2006,[*fn3 ] and on that day every month thereafter. Each date on which my interest rate could change is called an 'Interest Rate Change Date.' The new rate of interest will become effective on each Interest Rate Change Date. [¶] (C) Interest Rate Limit [¶] My interest rate will never be greater than 9.950%. [¶] (D) Index [¶] Beginning with the first Interest Rate Change Date, my Interest Rate will be based on an Index. The 'Index' is the Twelve-Month Average . . . of the monthly yields on actively traded United States Treasury Securities adjusted to a constant maturity of one year . . . . [¶] (E) Calculation of Interest Rate Changes [¶] Before each Interest Rate Change Date, the Note Holder will calculate my new interest rate by adding THREE AND 500/1000 percentage point(s) (3.500%)[*fn4 ] to the Current Index. Subject to the limit stated in Section 2(C) above, the result of this addition will be my new interest rate until the next Interest Rate Change Date."
"3. PAYMENTS [¶] (A) Time and Place of Payments [¶] I will pay principal and interest by making payments every month . . . beginning on April 1, 2006.[*fn5 ] I will make these payments every month until I have paid all the principal and interest and any other charges described below that I may owe under this Note . . . . [¶] . . . [¶] (B) Amount of My Initial Monthly Payments [¶] Each of my initial monthly payments will be in the amount of $833.13.[*fn6 ] This amount may change. [¶] (C) Payment Change Dates [¶] My monthly payment may change as required by Section 3(D) below beginning on the 1st day of April, 2007,[*fn7 ] and on that day every 12th month thereafter. Each of these dates is called a 'Payment Change Date.' My monthly payment also will change at any time Section 3(F) or 3(G) below requires me to pay a different monthly payment. [¶] I will pay the amount of my new monthly payment each month beginning on each Payment Change Date or as provided in Section 3(F) or 3(G) below."
"(D) Calculation of Monthly Payment Changes [¶] Before each Payment Change Date, the Note Holder will calculate the amount of the monthly payment that would be sufficient to repay the unpaid principal that I am expected to owe at the Payment Change Date in full on the Maturity Date in substantially equal installments at the interest rate effective during the month preceding the Payment Change Date. The result of this calculation is called the 'Full Payment.' Unless Section 3(F) or 3(G) below requires me to pay a different amount, my new monthly payment will be in the amount of the Full Payment, except that my new monthly payment will be limited to an amount that will not be more than 7.5% greater or less than the amount of my last monthly payment due before the Payment Change Date."
"(E) Additions to My Unpaid Principal [¶] My monthly payment could be less than the amount of the interest portion of the monthly payment that would be sufficient to repay the unpaid principal I owe at the monthly payment date in full on the Maturity Date in substantially equal payments. If so, each month that my monthly payment is less than the interest portion, the Note Holder will subtract the amount of my monthly payment from the amount of the interest portion and will add the difference to my unpaid principal. The Note Holder also will add interest on the amount of this difference to my unpaid principal each month. The interest rate on the interest added to principal will be the rate required by Section 2 above."
"(F) Limit on My Unpaid Principal; Increased Monthly Payment [¶] My unpaid principal can never exceed a maximum amount equal to . . . ONE HUNDRED TEN AND 000/100 PERCENT (110.000%) of the principal amount I originally borrowed. Because of my paying only limited monthly payments, the addition of unpaid interest to my unpaid principal under Section 3(E) above could cause my unpaid principal to exceed that maximum amount when interest rates increase. In that event, on the date that . . . paying my monthly payment would cause me to exceed that limit, I will instead pay a new monthly payment. The new monthly payment will be in an amount that would be sufficient to repay my then unpaid principal in full on the Maturity Date in substantially equal installments at the interest rate effective during the preceding month."
"(G) Required Full Payment [¶] On the 5th Payment Change Date and on each succeeding 5th Payment Change Date thereafter, I will begin paying the Full Payment as my monthly payment until my monthly payment changes again. I also will begin paying the Full Payment as my monthly payment on the final Payment Change Date.
"5. BORROWER'S RIGHT TO PREPAY * * See attached Prepayment Note Addendum. [¶] I have the right to make payments of principal at any time before they are due. A payment of principal only is known as a 'prepayment.' When I make a prepayment, I will tell the Note Holder in writing that I am doing so. I may not designate a payment as a prepayment if I have not made all the monthly payments due under this Note. [¶] I may make a full prepayment or partial prepayments without paying any prepayment charge. The Note Holder will use my prepayments to reduce the amount of principal that I owe under this Note. However, the Note Holder may apply my prepayment to the accrued and unpaid interest on the prepayment before applying my prepayment to reduce the principal amount of this Note."
The referenced prepayment addendum states in relevant part: "Except as provided below, I may make a Full Prepayment Or a Partial Prepayment at any time without paying any Prepayment charge. If within the first THREE (3) years(s) I make a Full Prepayment or Partial Prepayment(s) of more than twenty percent (20%) of the original principal amount in any twelve (12) month period, I will pay a Prepayment charge in an amount equal to the payment of six (6) months' advance interest on the amount prepaid in excess of twenty percent (20%) of the original principal amount. [¶] If I make a Partial Prepayment equal to one or more of my monthly payments, the due date of my next scheduled monthly payment may be advanced no more than one month. If I make a Partial Prepayment in any other amount, I must still make all subsequent monthly payments as scheduled."
Plaintiffs also received a three-page document entitled "ADJUSTABLE RATE MORTGAGE LOAN PROGRAM DISCLOSURE 12-MONTH AVERAGE OF MONTHLY 1-YR CONSTANT MATURITY INDEX PAYMENT-CAPPED NON-CONVERTIBLE ARM." "This disclosure describes the features of" the loan provided to plaintiffs. The middle of the first paragraph states in all capital letters: "THIS LOAN ALLOWS FOR NEGATIVE AMORTIZATION." The document uses bullet point explanations of the mechanics of the loan (on topics such as how interest rates are determined, how the interest rate can change, and how the payment can change), as well as examples showing the effect of interest rate fluctuations on payments made by a borrower. Our review of this material suggests it is consistent with the terms described in the Note.
On the first page of the disclosure, there is a category entitled "HOW YOUR INTEREST RATE AND PAYMENT ARE DETERMINED." This category includes the following four bullet points: "● Your interest Rate will be based on an Index Rate plus a Margin. Please ask us for our current Interest Rate and Margin. [¶] ● Your initial Interest Rate will not be equal to an Index Rate plus a Margin. If the initial Interest Rate is below the then-current Index plus Margin (the 'fully-indexed rate'), then the initial Interest Rate will be a 'Discounted' Interest Rate. If the initial Interest Rate is above the then-current fully-indexed Interest Rate, then the initial Interest Rate will be a 'Premium' Interest Rate. Please ask us about the current Discount or Premium. [¶] ● The Index Rate is based on the twelve-month average of monthly yields on actively traded United States Securities . . . . Since movement of the Index is usually related to market conditions that cannot be predicted, it is impossible to know in advance exactly how much interest you will have to pay over the life of the loan. . . . [¶] ● When your Interest Rate changes, your new Interest Rate will equal the Index Rate plus our Margin unless your lifetime Interest Rate Cap limits the amount of change in the Interest Rate. [¶] ● Your initial payment will be based on the starting interest rate on the loan, the loan amount and the term of the loan. When your payment changes, your new payment will be based on the lesser of two calculations: the payment based on the Interest Rate . . . , loan balance, and remaining loan term or the previous payment amount plus or minus 7.5% of the previous payment amount."
On page two of the disclosure, there is a category titled "DEFERRED INTEREST." "Deferred interest (also known as Negative Amortization) may occur in two ways: [¶] ● Because the Interest Rate has the potential to increase each month but the payment changes are generally limited to once every twelve months, the monthly payment may be insufficient to pay the interest which is accruing; and/or [¶] ● When normal payment changes occur every twelve months, the payment is limited to an increase of 7.500% from the previous payment amount, which may be less than the interest that is accruing. [¶] If the interest due on your loan for a month is more than the required monthly payment, the entire payment will be applied to interest and any unpaid interest will be added to the loan balance. The interest for the next month is then calculated on the new increased loan balance. [¶] 'Accelerated Amortization' may occur if the Interest Rate decreases . . . .'"
"In addition to the Minimum Monthly Payment, you have two other options in making your payment. You may make a fully amortizing payment that is a payment that pays all the interest owed for the month plus principal or you may also choose to make a monthly 'interest-only' payment. The fully amortizing payment and the interest-only payment is available only if the payment amount is greater than the Minimum Monthly Payment option. An interest-only payment amount will cover the full interest costs for that month; therefore, no additional (deferred) interest will be added to your loan balance. Your principal balance will not be increased or reduced. An interest-only payment is allowed until a fully amortizing payment is required as described above."
Federal Truth-In-Lending Disclosure Statement
The Boschmas's Truth-in-Lending Disclosure Statement (TILDS) includes the following information in a series of boxes near the top of the form: "ANNUAL PERCENTAGE RATE [¶] The cost of your credit at a yearly rate [¶] 7.189 %"; "FINANCE CHARGE [¶] The dollar amount the credit will cost you [¶] $403,945.90"; "Amount Financed [¶] The amount of credit provided to you or on your behalf [¶] $246,805.35"; and "Total of Payments [¶] The amount you will have paid after you have made all payments as scheduled. [¶] $650,751.25." Robison's TILDS included the same boxes, with different numbers: annual percentage rate, 6.811 percent; finance charge, $225,980.88; amount financed, $145,284.38; and total payments, $371,265.26.
The TILDS also displays a payment schedule. The Boschmas's payment schedule is as follows: