Modification of credit terms: interest rate hikes, higher fees, and other finance charges

Increases in Interest Rates (APR) and Fees as an Issue in Credit Card Actions 

This post discusses the issue of modification of credit terms in the context of debt collection litigation.

Federal law (TILA) requires written disclosure of initial terms of consumer credit as well as modification of such terms later. As a matter of state contract law, contract-modification has the same elements as contract-formation under state law, and as such requires proof of mutual assent. The creditor should accordingly be held to the burden of proving contractual authorization of interest rates actually shown as having been used to calculate and assess finance charges on monthly account statements or similar account history, especially when there was an interest rate hike and a very high rate was applied for an extended period of time prior to the lawsuit having been filed, with the result of augmenting the amount of the debt (damages pleaded for) considerably.

MODIFICATION OF TERMS FALLS UNDER TILA 

The federal Truth in Lending Act (TILA) requires disclosure in writing of changes in credit terms in additional to initial disclosure of terms when the consumer credit account is set up. -- > TILA Disclosures

CONTRACT LAW REGARDING MODS MIRRORS GENERAL CONTRACT-FORMATION PRINCIPLES 

State law governing modification of contracts requires the same essential elements to be satisfied that are required for valid formation of the initial contract: offer and acceptance with respect to the new terms, and a meeting of the mind on them.

The terms will typically be offered by the bank, but they will also have to be accepted by the customer. Therefore, when the bank sues to collect a debt that includes interest accrued at the modified rate, it should also be held to the burden of proving contractual assent to the modified rate, which -- at least in cases that end up in court -- is typically a higher rate, sometimes a much higher one.

REJECTION OF PROPOSED CHANGE IN TERMS (rarely seen in debt suit)

Rejection of new terms proposed by the bank - either via separate change-in-terms notices or notices included in the monthly statement ("bill stuffer") may result in the account being cancelled and not being available for future use. See sample opt-out instruction with announcement of consequences used by Capital One in 2007.



Sample Opt Out Provisions from Notice of Change in Terms
 issued by Capital One in 2007

Sample Citibank Notice of Interest Rate Increas

with opt out clause



Whether rejection will entail such adverse effect will depend on the terms of the existing contract and proposed changes, and whether the creditor follows through with the cancellation (which may not be in its economic interest in the case of a profitable customer) or lowers the credit limit to the existing balance as a functional equivalent of cancellation.

The issue of rejection of a modification of terms rarely arises in debt collection, not to mention documentary evidence thereof. What is commonly seen is evidence of an increase in the interest rates to very high levels (27.24% in the case of Amex cards or 29.99% APR in account issued by Chase Bank USA, N.A.) from a lower rate as reflected on copies of account statements produced by the bank or its assignee in support of a motion for summary judgment. The attorney for the creditor/plaintiff will typically argue that the cardholder did not complain until the lawsuit was filed, and that the finance charges are therefore legitimate. If the contractual basis is missing, however, this is a questionable argument under contract law.

IMPLICATIONS FOR LITIGATION 

If no signed modification agreement is offered, the plaintiff would have to prove offer and acceptance of the modified terms, such as an increase in the interest rate with proof that the defendant was given notice of the proposed changes, and that he/she accepted them by continuing to use account; or did not expressly utilize the out-out mechanism that may have been included in the notice of proposed changes in terms. Change-of-terms notices vary with regard to the specifics of opt-out provisions, if they contain them at all.

If the cardholder merely continued to make payments on the account, doing so should not be deemed acceptance of new terms because the cardholder would not have the option to discontinue making payments since the modification in terms would not cancel the preexisting repayment obligation as to a revolving balance. Stated differently, the card member did not have the option to cease making payments merely to express disapproval of the proposed changes. This would hardly be a viable excuse for not making payments in subsequent litigation predicated on Defendant's default. Therefore, the plaintiff should not be able to rely on that type of evidence to support the proposition that the Defendant consented to the rate hike.
   
But the caselaw regarding the effectiveness of interest rate changes, and the associated evidentiary burdens for the plaintiff to enforce finance charges accrued at a different (usually higher) rate is murky, perhaps because the argument was not clearly made in the trial court and/or on appeal. At least one case is on point in finding that account statements that did not show any card use subsequent to an interest rate hike could not furnish evidence of acceptance by the customer, and therefor could not relieve plaintiff from proving mutual agreement on altered terms.  

VARIATION OF FINANCE CHARGES OVER TIME AS SHOWN ON MONTHLY STATEMENTS

The documentary record is not consistent across debt collection cases that involve increases in the interest rate(s) applied to revolving balance(s), not to mention those that led to an opinion on appeal. In some cases, the only evidence of a change in terms are found on the account statements themselves. But differing interest rates shown at different times on monthly account statements does not prove that those interest rates were set and applied in conformity with the applicable contract.

If interest rates vary on different statements over time, the interest rate must have been defined as a variable interest rate (pegged on the prime rate or similar index), or there must have been a change in terms of the original interest rate. Either way, proof of the underlying contract provisions is needed.

What complicates the matter is that the underlying contract, or some supplement, may have defined contingencies that would trigger an interest rate hike (penalty or default rate). Another scenario is that the bank offered a lower interest rate for a limited time (lower relative to the regular rate).

The same applies, analogously, to fees. If, for example, different amounts of late fees appear on monthly statements at different times, this suggests are change in terms, unless the underlying contract set different monthly flat fees based on the amount of the revolving balance, or the amount required to be paid as a minimum monthly payment amount.

But variations in interest rates and fees over a series of monthly statements merely supplies evidence that different finance charges were imposed as a matter of fact; it does not prove that the applicable contract authorized them. But such proof forms part of the Plaintiff's burden of proof.

PROOF OF CONTRACTUAL AUTHORIZATION FOR HIGHER FEES AND APR 

To establish that the finance charges were correctly assessed based on the underlying TILA disclosures/contract terms, the plaintiff would have to prove up the underlying contract and its term AND the modifications in such terms by change notice(s) or by a superseding agreement.

In the case of an expiration of a special (low) rate offer, written evidence of the terms of the offer would have to be adduced, including the duration of the preferential rate and/or definition of events that precipitate a reversion to the normal rate (regardless of whether the special rate offer falls under TILA).  

Although the law would seem to be clear in requiring a showing of contractual authorization for the interest actually charged as evidenced by monthly statements, courts do not always hold the Plaintiff to this component of its burden of proof, but instead want to know if the Defendant disputed the rate, or if there is any evidence that the rate was incorrect (i.e., not authorized), thus shifting the burden of proof to the defendant.

Additionally, creditors and their attorneys may attempt to circumvent the proof requirements as it relates to contractual authorization of finance charges by resorting to the alternative theory of account stated. The account stated theory as a vehicle to avoid having to prove up the terms of the contract is addressed in another post. Also see -- > account stated and contractual choice of law.

EXAMPLES OF CHANGE IN TERMS NOTICES BY CREDIT CARD ISSUERS 

US Bank Reservation of Right to Change Credit Terms:

[more forthcoming]

LACK OF PROOF OF ORIGINAL APR AND/OR CHANGES IN RATES OVER TIME

In Tully v. Citibank the Texarkana court of appeals held that Citibank was not entitled to summary judgment on its breach of contract claim (or either of the other two causes of action, which were nonviable for legal reasons) because it had not proven the defendant’s agreement to the interest rates shown on monthly statements. The court noted that the interest rate was not specified on the cardmember agreement; that there were no notices of changes in terms announcing an increase in the interest rate; and that the variable APRs appearing on monthly statements could not qualify as notices in change of terms retroactively even if they were otherwise deemed a satisfactory substitute for formal notices of changes in terms.

RELATED TOPICS AND BLOG POSTS 

Elements of contract formation involving a written contract without both parties' signatures
Contractual authorization of APR and account fees (finance charges)
Requirement of proof of the terms of a loan contract under Texas law
The relevance of the Truth in Lending Act (TILA) to debt collection litigation
Interest rate hikes

TILA's implications for defending debt collection suits (Truth in Lending Act)

THE FEDERAL TRUTH IN LENDING ACT (TILA) 

TILA is an acronym for the federal Truth in Lending Act. This is a law passed by the U.S. Congress that requires, among other things, that the bank disclose the interest rate(s) or method of determining the interest rate(s) (such as a margin added to an index or prime rate) and other financial terms in writing when consumers open credit accounts. It applies to consumer credit, not to business accounts.

While the TILA also provides a statutory cause of action for violations, its relevance in debt collection litigation consists primarily in the fact that the written terms are a federal regulatory requirement, and that a debt claims based on accounts subject to this law are necessarily predicated on written contract terms.

The federal law mandates disclosure so as to put the consumer in a position to accept or reject those terms, and to shop around for the best offer, and the best deal, based on meaningful comparisons. This regulatory requirement tracks the elements of contract formation under state law: first the offer, then the acceptance, assuming there is an agreement (“meeting of the minds”) on the terms. (See  -- >  contract formation).

TILA does not require a signed contract; what it requires is written disclosures of credit terms. Thus, when a creditor sues, the best evidence of the contract terms are the TILA disclosures, whether embedded in the cardmember agreement or in the form of a separate document (such as a Rates and Fees Table or Schedule) or a combination of both. If the terms changed (as shown on credit card statements), there must have been a notice of change in terms pursuant to TILA.

Arguably, the required disclosures under TILA should limit the creditor to breach of contract as a theory of recovery of consumer debt, but this issue has yet to be litigated in the courts of appeal. In the meantime, some courts of appeals in Texas have approved the use of alternative theories for debt collection, even if they do not require proof of the underlying contract/TILA disclosures. Under the state-law theory of Account Stated, as modified by some Texas courts of appeals, the creditor can seek a judgment for damages in the form of accrued interest (either as part of the account balance or claimed as a separate item of damages), without proving the credit terms that were offered and allegedly accepted by the consumer. Arguably, this is inconsistent with, and undermines, federal law, but it is not a violation that gives rise to the kind claim authorized by TILA itself.

For violations actionable under TILA, i.e. the creditor’s failure to make required disclosures to the consumer, the applicable statute of limitations is quite short: one year.

TILA’S LEGISLATIVE RATIONALE (CONGRESSIONAL PURPOSES AND INTENT) 

TILA's purpose is to promote the informed use of consumer credit by requiring disclosures about its terms and costs, and regulations give consumers the right to cancel certain credit transactions that involve a lien on a consumer's principal dwelling." A person is a TILA consumer if the party to whom credit is offered or extended is a natural person, and the money, property, or services which are the subject of the transaction are primarily for personal, family, or household purposes. 15 U.S.C. § 1602(h)

The TILA requires creditors to disclose all of the credit terms to the consumer before the extension of credit is made, which allows the consumer to make an informed decision about the credit options that are available as well as serves as a way in which to prevent the consumer from being obligated to pay possible hidden and unreasonable charges unknowingly. 15 U.S.C. § 1601.

The TILA also requires lenders to issue new disclosures within a specified amount of time in the event that an interest rate adjustment occurs. 12 C.F.R. § 226.20(c)(1)-(5).

The purpose of TILA is to promote the informed use of credit by mandating a meaningful disclosure of credit terms to consumers.

The Federal Reserve Board (commonly known as "The FED") is charged with implementing and interpreting TILA. 15 U.S.C. § 1604; see also 12 C.F.R. Pt. 26 ("Regulation Z").

STATUTORY CAUSE OF ACTION UNDER TILA AND STATUTE OF LIMITATIONS

TILA is a federal consumer protection statute that provides consumers with a cause of action against creditors that fail to make required disclosures.

TILA requires a borrower who does not receive certain material disclosures to initiate an action for damages within one year of the violation. 15 U.S.C. § 1640(e).

Further, any claim under TILA for rescission of the loan transaction must be brought within three years of the violation. 15 U.S.C. § 1635(f). A failure to provide the required disclosures under TILA occurs at the time the contractual relationship between the lender and the borrower is consummated, i.e., at the time the loan documents are executed. Nondisclosure is not a continuing violation for purposes of the statute of limitations.

RECOUPMENT COUNTER-CLAIM MAY BE BROUGHT IN RESPONSE TO DEBT SUIT MORE THAN ONE YEAR AFTER TILA VIOLATION

 "A one-year statute of limitations governs claims brought under the Act, running from the date of each violation." Id. (citing 15 U.S.C.A. § 1640(e)). However, section 1640(e),

does not bar a person from asserting a violation of this subchapter in an action to collect the debt which was brought more than one year from the date of the occurrence of the violation as a matter of defense by recoupment or setoff in such action, except as otherwise provided by State law.
15 U.S.C.A. § 1640(e); see Seidner v. Citibank (S. Dak.) N.A., 201 S.W.3d 332, 336-37 (Tex. App.-Houston [14th Dist.] 2006, pet. denied) (stating that "the thrust of subsection (e) is that a violation of the [TILA] can be raised as a defense by recoupment or set-off even after the one-year statute of limitations has expired on an affirmative claim for damages or penalties") (citing Beach, 523 U.S. at 412, 417-18) (discussing meaning of subsection (e))). In Garza v. Allied Finance Co., we defined "recoupment" as a form of counterclaim that is "a demand arising from the same transaction as the plaintiff's claim." 566 S.W.2d 57, 62 (Tex. Civ. App.-Corpus Christi 1978, no writ); see Seidner, 201 S.W.3d at 337 (explaining that the defense of recoupment allows a defendant to deduct any amounts accruing to him as a result of the same transaction that forms the basis of the action against him). "Although application of the recoupment defense will decrease the plaintiff's recovery, and may even wholly defeat any recovery, it does not act as an affirmative bar to the action." Seidner, 201 S.W.3d at 337. In Garza, we also distinguished "recoupment" from "offset," which we explained as a demand arising from "a transaction different than the one forming the basis of plaintiff's claim." 566 S.W.2d at 63.

CASELAW SNIPPETS - TILA IN TEXAS COURTS 

TILA protects consumers - business loans not covered 

One year SoL for TILA violations, but exception for recoupement claims 

Recoupement claim under the Truth in Lending Act (TILA) is similar to off-set and can thereby reduce amount of damages
awardeded to the creditor in a debt collections suit 

Interest rates - Proof of contractual authorization of APR and other finance charges

Effect of creditor's failure to prove contractual authorization for interest rate charges 

In Tully v Citibank (South Dakota) N.A., the Texarkana Court of Appeals found that bank had failed to prove an agreement on the interest rate(s), and therefore failed to prove its damages. The statements in the record had varying interest rates printed on them, and the cardmember agreement that was before the court as a summary judgment exhibit did not state the interest rate or rates (presumably because the APRs and other terms were included in a separate document called "card carrier", which has surfaced in other citibank cases). The Tully court also noted that there were no notices of an increase in the interest rate, and that the statements could not be construed as notice of a change of the terms because the information on statements reflected activity in the past, and the changes could not go into effect retroactively. -- > TILA and Regulation Z; Chase Bank USA N.A. v. McCoy.

Therefore, the court concluded that there would still be a fact issue as to the amount of interest owed even if the interest rate information printed on the statements were considered sufficient to give notice of a change in terms to apply in the future.

KEY HOLDINGS AND CONCLUSIONS OF THE TEXARKANA COURT OF APPEALS: 

“Because Citibank failed to prove the contractual interest rate, Citibank has failed to prove it was entitled to summary judgment. We sustain Tully's second point of error. Because we find the above issue dispositive, we decline to address Tully's remaining arguments contained in his second point of error.”

“Because Citibank failed to prove Tully agreed to the interest rates Citibank charged, Citibank failed to prove its amount of damages under the breach of contract theory.”

DIFFERENT TYPES OF INTEREST RATES: FIXED VS. VARIABLE APR  

With respect to interest, credit (card) accounts can be divided into two categories: a "fixed-rate accounts" and a "variable-rate accounts." A "variable-rate account" is one in which rate changes are part of the plan and are tied to an index or formula, such as the prime rate published by the Wall Street Journal, an internal interest rate that the bank charges its best customers, or LIBOR.

But it is also possible that the same account has different balance balance categories with fixed or variable rates, respectively, or variable rates that are not uniform for all balance categories. Often, the rate applicable to cash advances is higher than the rate that applies to purchases; a promotional rate may apply only to a single transaction, such as a balance transfer from an account held at a different bank, and will often be time-limited.

Additionally, the CMA may specify a penalty rate by a higher margin being added to the prime rate (and thus variable) or as a fixed penalty rate, e.g. 27.24% or 29.99% APR.

Federal law (TILA) requires the creditor to disclose interest rates both initially (when the account is opened; or a solicitation sent by mail); and subsequently, if the change in the interest rate is the result of re-pricing by the creditor, i.e. a change in terms of the existing contract, rather than a hike instituted pursuant to contingencies stated as part of the terms as they are set forth in the cardmember agreement governing the active account. The classic example of the latter is an interest rate hike to a pre-defined penalty rate (or termination of a preferred rate) upon the cardholder's default or a late monthly payment. -- > repricing of existing accounts by banks; -- > triggering events for interest rate hike; -- > adverse action pricing.
 
RELATED TOPICS AND BLOG POSTS 

Mandatory disclosures under the Truth in Lending Act (TILA)
Interest rate disclosure in mailed mass solicitations - credit card offers
Is the Truth-in-Lending Act (TILA) relevant to credit cards collection suits?
Change of Terms Notices to modify (raise) interest rates 
Case note / commentary on Tully vs. Citibank South Dakota N.A.