Beal v. First Federal Sav. and Loan Ass'n of Madison, 76-463

• Decision Date: 12 June 1979
• Docket Number: No. 76-463,76-463
• Citation: 279 N.W.2d 693,90 Wis.2d 171
• Parties: Diane D. BEAL and Richard M. Beal, Plaintiffs-Appellants, v. FIRST FEDERAL SAVINGS AND LOAN ASSOCIATION OF MADISON, Defendant-Respondent.
• Court: Wisconsin Supreme Court

Page 693

279 N.W.2d 693

90 Wis.2d 171

Diane D. BEAL and Richard M. Beal, Plaintiffs-Appellants, v. FIRST FEDERAL SAVINGS AND LOAN ASSOCIATION OF MADISON Defendant-Respondent.

No. 76-463.

Supreme Court of Wisconsin.

Argued Jan. 31, 1979.

Decided June 12, 1979.

James N. Youngerman, Madison, argued and on brief, for plaintiffs-appellants.

Frank J. Bucaida, Madison (argued), and Axley, Brynelson, Herrick & Gehl, Madison, on brief, for defendant-respondent.

HEFFERNAN, Justice.

The principal question posed here is whether a federal savings and loan association which has extended a loan for the maximum thirty-year period and determined by mutual agreement with the borrower what the monthly payments will be can, by the activation of an interest-escalation clause, increase the amount of money to be allocated for the payment of interest out of each monthly payment for the early years of the loan and thereafter sharply reduce the amount to be allocated to interest, thus providing for the payment of the note within the original thirty-year period.

We conclude that this manipulation of interest payments, where the loan period is already at the maximum of thirty years, is not permitted by the regulations of the Federal Home Loan Bank Board, because at least a portion of the payments do not conform with a standard amortization schedule, which would permit the loan to be paid off within the thirty-year period. We therefore reverse the order of the circuit court.

Other questions ancillary to the principal question are also considered herein.

An understanding of the problem requires a statement of the facts. Cherokee Park, Inc., a real estate development corporation, built homes in the City of Madison. Cherokee Park's development project was financed by First Federal Savings and Loan Association. The particular house and lot in this case were financed by First Federal by Cherokee Park's execution of a note and mortgage which provided that the mortgage note, in the sum of $55,000, was to be paid in installments of $376.57 per month for a term of thirty years. These payments were computed at the rate of 71/4 percent interest per annum. The mortgage note executed by Cherokee Park to First Federal provided that the rate of interest due on the note could be varied by First Federal as the interest First Federal paid to its depositors varied. This agreement was entered into between Cherokee Park and First Federal on March 21, 1973.

On April 21, 1973, the plaintiffs, Diane and Richard Beal, offered to purchase the house and lot previously the subject of the mortgage and note executed on March 21, 1973. In the Beals' offer to purchase, they agreed to assume the existing mortgage and specifically agreed to the repayment of that pre-existing mortgage in installments of $376.57 per month for the term of thirty years, with the proviso that these payments were to be computed at the rate of 71/4 percent. The real estate agreement was closed on this basis. On May 18, 1973, Cherokee Park conveyed the house and lot to the Beals by a deed which included a clause reciting that the Beals agreed to assume the obligations of Cherokee Park's mortgage with First Federal executed on March 21, 1973. At this stage of the proceedings, when the Beals signed the assumption agreement, it is undisputed that they were not told that the underlying contract between Cherokee Park and First Federal provided for variable interest. They were never shown a copy of the mortgage note, and they signed the assumption agreement in the belief that the interest rate would remain 71/4 percent for the full thirty-year term of the loan. They alleged that they would not have executed the agreement had they known of the variable-interest provision.

On September 22, 1973, after making only two payments at the 71/4 percent rate, the Beals were notified by First Federal that effective on October 1, 1973, the interest to be charged on their loan would be 8 percent. The Beals allege that it was not until the receipt of this notice that they knew that there was a variable-interest-rate provision in the mortgage note which they had assumed. They were never shown a completed federal Truth in Lending form until November 7, 1973. The increased interest rate was put into effect by First Federal on October 1, 1973. The monthly payments have remained at the agreed amount of $376.57. However, these payments have been applied to principal and interest in the proportion required for the 8 percent rate rather than the 71/4 percent rate which the Beals agreed to.

12 C.F.R. sec. 545.6-1(a)(1) prohibits federal savings and loan associations from granting home mortgage loans which run beyond a thirty-year period. 12 C.F.R. sec. 541.14(a) prohibits any increase in the amount of a periodic payment after the initial payment. Accordingly, it is clear that First Federal could not collect the additional interest due under its interest-escalation clause by extending the term of the note, which was already at thirty years, or by increasing the monthly payments. Instead, First Federal has devised a scheme whereby a larger portion of the monthly payment of $376.57 per month is to be allocated to interest during the first twenty years or so of the loan; and then during the latter years of the loan term, the interest rate is to be sharply reduced so that a greater proportion of each monthly payment then would be allocated to the payment of principal.

The correspondence of the Federal Home Loan Bank Board refers to this manipulation of payments as "unique." The trial court found that First Federal's intention was to apply the payments at the rate of 8 percent until April 1, 1985, and then to reduce the rate to 51/8 percent until the retirement of the loan at the end of the thirty-year period. Were the loan to run for the thirty-year period, under First Federal's proposed scheme the total interest payments would equal those originally to have been paid at 71/4 percent interest for the thirty-year period. Therefore, Federal Savings and Loan has conceded that for the entire term of the mortgage it cannot manipulate the payments so that the charge will exceed the 71/4 percent originally agreed upon. For a full thirty-year-term mortgage loan, then, First Federal is no better off in terms of total interest revenue. However, First Federal's scheme accommodates the present circumstances where the current price of money has substantially increased.

The Beals object to the proposed procedure because the allocation of a greater interest figure out of each monthly payment reduces the rate of the Beals' accumulation of equity in the property. They argue and their position is not contradicted by First Federal that few long term mortgage loans run their entire course and that the original borrower is very likely to sell the property at a period far short of the originally scheduled thirty years. This, the Beals contend, means that, if they were to sell their property at any time short of the full term of the mortgage, First Federal's scheme would substantially reduce their accumulation of equity and would result in a less advantageous financial position for the Beals upon the sale of the property.

On the basis of these allegations and on the basis of the Beals' rationale, Diane and Richard Beal brought an action for declaratory judgment to determine the propriety of First Federal's action, for an injunction to roll back the interest rate to 71/4 percent effective October 1, 1973, and for an order prohibiting First Federal from increasing the interest rate during the term of the loan. They also asserted the failure of First Federal to comply with the federal Truth in Lending disclosure requirements (15 U.S.C.S. secs. 1601 et seq.) and sought actual and statutory damages. They also asserted that First Federal's method of collecting interest was in wanton disregard of the federal regulations and of their rights as borrowers and asked for punitive damages. First Federal demurred to all of the causes of action asserted by the Beals.

The order of the court sustained the defendant's demurrer on the ground that each of the causes of action alleged failed to state sufficient facts to constitute a cause of action. The appeal is only from the portions of the order which sustained the demurrers to the first and third causes of action. The first cause of action related to whether First Federal could increase the interest rates pursuant to the interest-escalation clause when the loan period was already at the thirty-year maximum. The third cause of action was in respect to the plaintiffs' claim for damages for an alleged violation of the federal Truth in Lending disclosure requirements. We conclude that the trial court erred in respect to both causes of action.

In respect to the first cause of action, the plaintiffs and the savings and loan association both acknowledge that 12 C.F.R. sec. 541.14(a) is substantially dispositive of the case. That regulation, promulgated by the Federal Home Loan Bank Board, defines "installment loan":

"The term 'installment loan' means any loan repayable in regular periodic payments sufficient to retire the debt, interest and principal, within the loan term. However . . . no required payment after the first payment shall be more, but may be less, than any preceding payment."

An additional regulation which is important in the context of this particular case is 12 C.F.R. sec. 545.6-1(a)(1). This regulation requires that real estate loans on homes must be made repayable within thirty years. The effect of this regulation on the fact situation here is that the additional interest claimed cannot be collected by extending the term of the loan.

The Beals' argument is predicated upon their interpretation of 12 C.F.R. sec. 541.14(a). They argue that the phrase, "regular periodic payments sufficient to retire the debt, interest and principal, within the loan term," means that Any...