O'LEARY
NOT TO BE PUBLISHED IN OFFICIAL REPORTS
California Rules of Court, rule 8.1115(a), prohibits courts and parties from citing or relying on opinions not certified for publication or ordered published, except as specified by rule 8.1115(b). This opinion has not been certified for publication or ordered published for purposes of rule 8.1115.
OPINION
Appeal from a judgment of the Superior Court of Orange County, Gail Andrea Andler, Judge. Reversed in part and remanded with directions.
Arbogast & Berns, David M. Arbogast, Jeffrey K. Berns, Chumahan B. Bowen; Spiro Moss and J. Mark Moore; Browne Woods George, Eric M. George and Michael A. Bowse for Plaintiffs and Appellants.
Baker, Keener & Nahra, Philip A. Baker, Daniel P. Leonard, and James D. Hepworth for Defendant and Respondent First Mortgage Corporation.
Goodwin Procter, Brooks R. Brown and Steven A. Ellis for Defendant and Respondent Countrywide Home Loans, Inc.
* * *
A different panel of this court recently decided in Boschma v. Home Loan Center, Inc. (2011) 198 Cal.App.4th 230 (Boschma), that individual borrowers who entered into option adjustable rate mortgage loans (Option ARMs) would survive the defendant lenders' demurrers by stating causes of action based on the theory the loan documents failed to adequately and accurately disclose essential terms of the loans. In this appeal, we are asked to review essentially identical issues involving different parties. Individual borrowers, Bryan M. Love, Catarina H. Love, and Earon Jones (collectively and in the singular referred to as Love) sued First Mortgage Corporation (First Mortgage) and Countrywide Home Loans, Inc. (Countrywide) for fraudulent omissions, violation of the unfair competition law (UCL) (Bus. & Prof. Code, § 17200 et seq.), and breach of contract. Love alleged the loan documents failed to adequately and accurately disclose essential terms of the loans, namely that he would suffer negative amortization if he made monthly payments according to the only payment schedule provided to him prior to the closing of the loan. Just as in the Boschma case, we do not reach the merits of the case but rather consider whether the complaint survives the demurrers.
All further statutory references are to the Business and Professions Code, unless otherwise indicated.
The trial court, not having the benefit of the Boschma opinion, sustained First Mortgage's and Countrywide's demurrers to the first amended complaint without leave to amend. We reverse the ensuing judgment because Love adequately alleged fraud and UCL claims. On remand, the trial court is directed to enter a new order overruling the demurrer as to those claims and sustain the demurrer without leave to amend the breach of contract claim.
I
As aptly summarized in the Boschma opinion, "The defining feature of an [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." (Boschma, supra, at p. 234.)
In this case, Love originally filed this class action against First Mortgage in federal court, alleging violations of the Truth in Lending Act (TILA) (15 U.S.C. § 1601 et seq.), violations of the UCL, fraudulent omissions, and breach of contract. Countrywide was soon added as a Doe defendant. After two years, the federal court judge granted a motion to dismiss the federal claims with prejudice but "without prejudice as to [Love] filing [his] state law claims in state court."
The following month, Love filed a class action alleging state law claims. Love alleged in the complaint, "This action is based upon the fraudulent scheme that was concocted and implemented" by Countrywide "to exponentially increase the volume of mortgage loans that would be available to Countrywide to sell to investors through the securitization process. Countrywide sold deceptive and fraudulent [Option ARM] loans directly to hundreds of thousands of homeowners, then resold many of those loans to investors through securitization. Then, in order to expand its loan-writing capacity so that it could sell more loans to investors . . . Countrywide enlisted the assistance of mortgage originators such as . . . First Mortgage . . . to sell Option ARM loans on its behalf. By creating a division whose primary function was to purchase loans issued by other originators, by preparing deceptive loan documents for Option ARM loans, and by providing those deceptive loan documents to First Mortgage and other originators, Countrywide was able to increase profits it earned by securitizing and reselling Option ARM loans."
Because the status of Earon Jones's claims is an issue raised on appeal, we wish to clarify Jones was not named as a party in the federal case, but he was added as a class representative in the state court action's first amended complaint (FAC). We will continue to refer to all plaintiffs collectively and in the singular as "Love" for the sake of clarity until the portion of the opinion where use of individual plaintiff names is necessary.
Love further alleged these loan documents "were designed to cause negative amortization to occur" resulting in "a significant loss of equity in [the] borrowers' homes and making it much more difficult for borrowers to refinance the loans." (Fn. omitted.) Love attached copies of his home loan documents to the operative complaint. In Boschma, we set forth the key provisions of the documents in detail. In this case, the provisions were substantially identical, and thus, we need only summarize the key points before incorporating and adopting our analysis of the claims from the Boschma case.
As in Boschma, the Option ARM loan in this case had a variable rate feature with payment caps. The "Adjustable Rate Note" (the Note) provided that, in return for the loan, Love promised to pay a principal of $350,000. The principal amount might increase as provided in the Note but would never exceed 115% of the principal amount Love originally borrowed. The Note's discussion of the interest rate (section 2) stated, "I will pay interest at a yearly rate of 1.250 [percent]. The interest rate I will pay may change." The Note stated the maturity date of the loan was in 40 years, on April 1, 2045, at which time any outstanding principal balance must be paid in full.
The Note, dated March 20, 2006, stated Love must make payments every month beginning May 1, 2006. However, a different section of the Note stated the interest rate "may change" every month starting on May 1, 2006. Each time the rate "could change" would be referred to in the Note as the "Interest Rate Change Date." Based on these two provisions, it appears the low teaser 1.250 percent interest rate was only available for 30 days, if at all.
The Note also described how the adjustable interest rate would be based on an index (the average of the annual treasury yields on actively traded securities) plus 3.450 percent. Thus, even if the index went down to zero, the combined total of the index and the margin always would be significantly higher than the teaser rate of 1.250 percent.
The Note's section 3(B) stated, "Each of my initial monthly payments until the first [p]ayment [c]hange [d]ate will be in the amount of . . . $926.96 unless adjusted under section 3(F)." This amount was calculated using the teaser low rate of 1.250 percent. The Note also provided there was a payment cap of 7.5 percent, promising the amount of any new monthly payment "effective on a Payment Change Date" will not increase by more than 7.5 [percent] of my prior monthly payment."
Like the loan in Boschma, the Note discussed the concept of negative amortization several different times. The Note explained in section (3)(C) that if the minimum payment "is not sufficient to cover the amount of the interest due then negative amortization will occur." Section 3(E) explained there "could be" additions to the unpaid principal because the monthly payment was subject to the 7.5 percent payment cap and "[s]ince [the] monthly payment amount changes less frequently than the interest rate."
Love alleged he was "locked in" to the loan for 36 months by a prepayment penalty. The prepayment penalty provision was contained on a separate document referred to as an addendum to the Note. It stated that if within 36 months Love made a prepayment exceeding 20 percent of the original principal amount, he would pay a penalty "in an amount equal to the payment of six (6) months' advance interest on the amount by which the total of my prepayment(s) during the twelve (12) month period immediately preceding the date of the prepayment exceeds twenty (20) percent of the original [p]rincipal amount of this Note."
The monthly payment amounts for the first three to five years provided to Love on a Truth-In-Lending Disclosure Statement (TILDS) were insufficient to pay both accrued interest and principal, and negative amortization was absolutely certain to occur. The payment schedule indicated that beginning May 1, 2006, Love should make 12 payments of $926.96. Beginning May 1, 2007, the amount would increase to $996.48 for the next 12 months. On May 1, 2008, the payments increased to $1,1071.22 for 12 months. On May 1, 2009, Love would start making payments of $1,151.56 for just six months and then in November 2009, begin payments of $2,651.56 for the next 438 months.
The TILDS does not explain how the payment schedule is calculated. As in Boschma, it is possible to reverse engineer how the numbers are derived. The calculation is based on the principal amount from section 1 of the Note ($350,000), the teaser interest rate listed in section 2(A) of 1.250 percent, and a mortgage calculator generating the monthly payment for a 40-year fixed rate, fully amortizing mortgage. For Love, the $350,000 borrowed at 1.250 percent equals 480 payments of $926.96.
Of course, this was an Option ARM loan not a fixed rate loan. And the TILDS payment schedule reflects increasing payment amounts each year. Thus although section 2(B) of the Note states interest rates "may change," the Note's sections 2(C) and (D) actually compel an increase in the interest rate above the teaser amount. Those sections define the adjustable interest rate as being based on the index plus 3.45 percent.
In addition, section 3(C) provides that after one year of payments, on May 1, 2007, and "every 12th month thereafter" the monthly payment "may change" and create a new minimum payment. The TILDS therefore reflects Love's monthly payment increased by $69.52 (to $996.48) beginning May 1, 2007. This increase is derived from section 3(D) of the Note, which mandates a "new monthly payment . . . will not increase by more than 7.5 [percent] of my prior monthly payment. This 7.5 [percent] limitation is called the "'Payment Cap.'" Thus, for the second year of the loan, the TILDS payment schedule reflected Love's first payment amount of $926.96 increased by 7.5 percent. The new mortgage payment of $996.48 was calculated as follows: (1) $926.96 x .075 = $69.52; and (2) $926.96 + $69.52 = $996.48.
This 7.5 percent cap is used to calculate the third year of payments on the schedule (12 months of paying $1,071.22), as well as the first six months of the loan's fourth year (six months of paying $1,151,56). The payment schedule then reflects an dramatic increase to $2,651.56 for the remaining months on the loan. We assume this significant jump reflects sections 3(E), (F), and (G) of the Note, that sets the loan's maturity date and limits the amount of negative amortization to not more than 115 percent of the principal amount.
The final document attached to the complaint was a two-page "Adjustable Rate Mortgage Loan Program Disclosure" (Program Disclosure) describing some of the features of the Option ARM. Like the Program Disclosure in the Boschma case, the document used bullet point explanations to describe various 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. The descriptions are consistent with the terms described in the Note.
For example, the first section of the Program Disclosure explained how interest would be based on an index rate plus a margin. It advised Love, "Please ask us for our current interest rate and margin." It also disclosed, "Your initial interest rate is not based on the index used to make later adjustments. Please ask us for the amounts of our current interest rate discounts." The final bullet point of this section explained, "For the first year of your loan, your payment will be based on the initial interest rate, loan amount and loan term. After the first year, your payment will be calculated as described below."
However, the very next section contained various different possible dates for when interest rates and payments could change. The first disclosure stated: "Your interest rate can change" either on your "first payment date and monthly thereafter" or "your [third] payment date and monthly thereafter." The interest rate will never exceed 9.95 percent.
The second disclosure stated: "Your payment can change" based on changes in the interest rate "every year" and "at the 5th or 10th Payment Change Date. . . ." The payment will be calculated "[b]eginning with the 13th payment and every 12 months thereafter." The borrower will be notified at least 25 days in advance.
And buried deep within the disclosure titled how "your payment will be calculated" is the statement the borrower has the option to pay a full payment, limited payment, or minimum payment. This section advises, "If you pay less than the [f]ull [p]ayment, then the payment may not be enough to cover the interest due, and any difference will be added to your principal balance. This means the balance of your loan could increase. This is known as 'negative amortization.' During the loan term, we may provide you with other monthly payment options that are greater than the Minimum Payment. ('Payment Options') Please ask us about these Payment Options." There is no further explanation for how these options relate to the yearly interest payment cap or other various interest rate change dates.
The second page and final section of the Program Disclosure related to "[t]he unpaid principal of your loan" and stated the loan amount could never exceed 115 percent of the original amount borrowed. This part of the disclosure also provided an example to illustrate interest rate and payment changes based on a $10,000, 30-year loan with a discounted interest rate of 1 percent versus 1.75 percent.
The court sustained Countrywide's and First Mortgage's demurrers to the operative first amended complaint (FAC) without leave to amend. Thereafter, the court dismissed the complaint.
II
"'"On appeal from a dismissal after an order sustaining a demurrer, we review the order de novo, exercising our independent judgment about whether the complaint states a cause of action as a matter of law."'" (Batt v. City and County of San Francisco (2007) 155 Cal.App.4th 65, 71.)
In the Boschma case, we began by defining the scope of the issue on appeal, and we do so again in this case: "It is important to demarcate the boundaries of this dispute. The following are not at issue in this case: (1) should it be legal to offer Option ARM's to typical mortgage borrowers and (2) should it be legal to utilize 'teaser' ('discounted') interest rates . . . which bear no relation to the actual cost of credit? Our only concern in this case is whether plaintiffs stated a cause of action under state law based on defendant's allegedly misleading, incomplete, and/or inaccurate disclosures in the Option ARM documents provided to plaintiffs. [¶] It does not appear California state courts have addressed this precise issue. But there are a plethora of federal district court opinions addressing whether borrowers can state a claim under the federal Truth in Lending Act (TILA; 15 U.S.C. § 1601 et seq.) and related state law causes of action based on allegedly fraudulent, unlawful, and unfair Option ARM disclosures." (Boschma, supra, 198 Cal.App.4th at pp. 243-244.)
The Boschma plaintiffs did not allege a TILA claim or specifically base their UCL claims on a violation of TILA. Nevertheless, we found it necessary to begin the analysis with a brief discussion of the disclosure requirements in the mortgage industry as defendants asserted compliance with TILA provided a complete defense to the alleged state law claims.
In the case before us, Countrywide raises this same defense. In addition, our defendants raise the related defense that dismissal of the Love's federal law action bars the subsequent state law action. They also assert the dismissal is a factual distinction that renders the Boschma case inapt. These contentions all lack merit. We find it helpful to incorporate from the Boschma case our prior discussion of TILA and our analysis of why it does not provide a complete defense or grounds to bar the unlitigated state law claims.
"TILA, title 15 of the United States Code section 1601 et seq., and its accompanying regulations (Regulation Z), 12 Code of Federal Regulations part 226.1 et seq. (2011), require specific disclosures by businesses offering consumer credit (including mortgage loans). TILA's purpose is to 'avoid the uninformed use of credit.' (15 U.S.C. § 1601(a).) TILA grants the Board of Governors of the Federal Reserve System power to prescribe regulations and carry out the purposes of TILA. (15 U.S.C. §§ 1602(c), 1604(a).) Subject to certain exceptions, TILA does not 'annul, alter, or affect the laws of any State relating to the disclosure of information in connection with credit transactions, except to the extent that those laws are inconsistent with the provisions of this subchapter, and then only to the extent of the inconsistency.' (15 U.S.C. § 1610(a)(1).) Thus, the existence of TILA does not necessarily preempt plaintiffs' state law claims." (Boschma, supra, 198 Cal.App.4th at p. 244.)
"Regulation Z obligates creditors providing 'closed-end credit' (such as a mortgage) to 'make the disclosures required by this subpart clearly and conspicuously in writing, in a form that the consumer may keep.' (12 C.F.R. § 226.17(a)(1) (2011).) 'This standard requires that disclosures be in a reasonably understandable form. For example, while the regulation requires no mathematical progression or format, the disclosures must be presented in a way that does not obscure the relationship of the terms to each other.' [Citation.] [¶] Variable rate mortgage borrowers must be provided with '[a] loan program disclosure' that includes '[a]ny rules relating to changes in the index, interest rate, payment amount, and outstanding loan balance including, for example, an explanation of interest rate or payment limitations, negative amortization, and interest rate carryover.' [Citation.] 'If the initial interest rate will be a discount or a premium rate, creditors must alert the consumer to this fact.' [Citation.] 'A creditor must disclose, where applicable, the possibility of negative amortization. For example, the disclosure might state, "If any of your payments is not sufficient to cover the interest due, the difference will be added to your loan amount." . . . If a consumer is given the option to cap monthly payments that may result in negative amortization, the creditor must fully disclose the rules relating to the option, including the effects of exercising the option (such as negative amortization will occur and the principal loan balance will increase) . . . .' [Citation.]" (Boschma, supra, 198 Cal.App.4th at pp. 244-245.)
"A string of cases (involving strikingly similar Option ARM forms/disclosures to those used in the instant case) have held that a borrower states a claim for a violation of TILA based on, among other disclosure deficiencies, the failure of the lender to clearly state that making payments pursuant to the TILDS payment schedule will result in negative amortization during the initial years of the loan. [Citations.] [¶] [The Velazquez v. GMAC Mortgage Corporation (C.D.Cal. 2008) 605 F.Supp.2d 1049, 1065 (Velazquez) opinion] clearly and concisely states the reasoning relied upon by these courts with regard to the issue of negative amortization: 'All disclosures framed negative amortization as a possibility. The disclosures are perhaps literally accurate: they state that paying less than the full amount is an option under the Note, they state how negative amortization would occur, and the payment schedule provided in the TILDS appears to reflect (without using the term) negative amortization. In fact, however, if the Plaintiffs were to exercise the payment cap [and make monthly payments in accordance with the payment schedule included in the TILDS], negative amortization was certain to occur.' Velazquez concluded that the plaintiffs 'may be able to show' a lack of clear and conspicuous TILA disclosures pertaining to negative amortization. [Citation.] With regard to disclosure of the use of a discounted initial interest rate (often referred to as a 'teaser' rate) in the program disclosure, Velazquez observed: 'Plaintiffs may be able to show that, when taken in conjunction with the disclosure in the Note and the TILDS, [the program disclosure] is not clear and conspicuous as required by TILA.' [Citation.]" (Boschma, supra, 198 Cal.App.4th at pp. 245-246.)
In the Boschma case we found the growing body of federal district court cases to be persuasive. "At least at this stage of the proceedings, it would be inappropriate to dismiss an action against defendant brought under TILA. We therefore reject defendant's argument that its 'strict compliance with TILA provides a safe-harbor from [plaintiffs'] claims . . . .' And we need not reach the legal question whether a lender's strict compliance with TILA provides a safe harbor against certain state law claims based on the quality of credit disclosures. [Citations.]" (Boschma, supra, 198 Cal.App.4th at p. 247.)
We also discussed in the Boschma case the body of federal cases dismissing TILA claims and simultaneously denying motions to dismiss state law fraud and unfair business practices claims based on the same underlying factual allegations. We explained that "three federal district court cases denied motions to dismiss state fraud and section 17200 claims even though the borrowers did not state valid TILA claims. [Citations.]" (Boschma, supra, 198 Cal.App.4th at p. 247.) For example, in Jordan v. Paul Financial, LLC (N.D.Cal. 2010) 745 F.Supp.2d 1084, 1095-1100, the court allowed the UCL claim to proceed on fraudulent and unfair prongs but not unlawful prong that was based on violation of the TILA. Similarly, in Ralston v. Mortgage Investors Group, Inc. (N.D.Cal. Aug. 12, 2010, No. C 08-536 JF (PVT)) 2010 WL 3211931, at pages *3-*6 (Ralston II), after plaintiff withdrew his federal TILA claims the court denied defendant's motion to dismiss the state claims for fraudulent omission and violation of the UCL that were based on defendant's alleged failure to satisfy applicable statutory disclosure obligations. And finally, in Brooks v. ComUnity Lending, Inc. (N.D.Cal., July 6, 2010, No. C 07-4501 JF (PVT)) 2010 WL 2680265, at pages *1-*3, *9-*13, the court dismissed all claims under the TILA with prejudice and permitted plaintiff to proceed with her state law claims for fraudulent omission and unfair business practices.
In the Boschma case, we noted the action began in federal court and initially included TILA claims that were dismissed by the federal court. Defendant accused plaintiff of "strategic chicanery" by voluntarily dismissing the federal action in favor of state court. In that case, we noted there was no final judgment on the merits in federal court or any reason to believe this court is bound by a ruling made in the federal court. (Boschma, supra, 198 Cal.App.4th at p. 244, fn. 9.)
We recognize our case is slightly different in that it appears the federal court dismissed with prejudice the federal TILA claims, and rather than Love voluntarily dismissing the state law claims, the court dismissed them without prejudice. Specifically, the court ruled they were dismissed "without prejudice as to [Love] filing . . . state law claims in state court." Based on the body of federal case authority described above permitting state claims to proceed after the federal TILA claims were dismissed, we conclude there is no bar to Love pursuing his state law claims in the superior court. In short, because the state law claims were not adjudicated the doctrine of res judicata is not applicable to Love's action for fraud, UCL, or breach of contract.
We, therefore, turn to our de novo examination of whether the first amended complaint adequately alleges the state law claims of fraud, UCL, or breach of contract. We address each claim separately and conclude the judgment must be reversed except as to the breach of contract claim.
A. Fraud
This court (albeit different panel members) determined in the Boschma case that those plaintiffs sufficiently alleged a state law cause of action for fraud based on an Option ARM contract substantially identical to the one before us now. We find no grounds not to apply the same well reasoned analysis in this case. We have included the pertinent facts and repeated the applicable analysis below.
"'"[T]he elements of an action for fraud and deceit based on concealment are: (1) the defendant must have concealed or suppressed a material fact, (2) the defendant must have been under a duty to disclose the fact to the plaintiff, (3) the defendant must have intentionally concealed or suppressed the fact with the intent to defraud the plaintiff, (4) the plaintiff must have been unaware of the fact and would not have acted as he did if he had known of the concealed or suppressed fact, and (5) as a result of the concealment or suppression of the fact, the plaintiff must have sustained damage."' [Citation.] Fraud must be pleaded with specificity rather than with '"general and conclusory"' allegations. [Citation.]" (Boschma, supra, 198 Cal.App.4th at p. 248.)
We conclude Love adequately pled all the elements of fraud. Just like the Boschma case, "the enhanced pleading burden of a fraud claim is met by the attachment of the relevant Option ARM documents[.]" (Boschma, supra, 198 Cal.App.4th at p. 248.) That the defendants concealed or suppressed material facts can be distilled through careful analysis of the Note and payment schedule. They did not "omit any mention of negative amortization. [Citation.] Instead, defendant[s] did not clearly state in the loan documents that plaintiffs were receiving a discounted initial interest rate and that making the minimum payments according to the TILDS payment schedule definitely would result in negative amortization." (Boschma, supra, 198 Cal.App.4th at p. 249.)
We invited Countrywide and First Mortgage to file supplemental letter briefs addressing the applicability of the Boschma case. They asserted the case was factually distinguishable because Love's loan documents mentioned the possibility of negative amortization two more times than the Boschma loan documents. This factual distinction makes no difference in the analysis. As recognized in Boschma, the causes of action were not based on an alleged total concealment about the possibility of negative amortization. The loan documents mention negative amortization but "the root of the alleged deficiencies" was in the failure to clearly disclose use of the teaser rate to set the minimum payment on the TILDS payment schedule would always result in negative amortization.
Moreover, after carefully reviewing the relevant terms from the various loan documents, it is again apparent, "The root of the alleged deficiencies in defendant[s'] disclosures is defendant[s'] use of a significantly discounted 'teaser' rate rather than an initial rate set near the rate that would result from the application of the variable rate formula in the Note (an index plus [3.45] percent). The teaser rate creates an artificially low (compared to the actual cost of credit) initial payment schedule and guarantees that the actual applicable interest rate (after the first month of the loan) will exceed the interest rate used to calculate the payment schedule for the initial years of the loan. If the initial interest rate were set using the Note's variable rate formula, it would actually be possible that interest rates would adjust downward (or stay the same) after the first payment and no negative amortization would occur. In other words, the disclosures' conditional language is accurate absent a significantly discounted rate. An Option ARM loan without a teaser rate would result in a higher initial interest rate, higher initial minimum payments pursuant to the payment schedule, and a much narrower gap (even if interest rates increased) between the borrower's payment 'options.' Of course, without a teaser rate, the surface attractiveness of Option ARM's would have been greatly diminished precisely because the stated (initial) interest rate and (initial) payment would be higher." (Boschma, supra, 198 Cal.App.4th at pp. 249-250.)
We agree with the conclusion reached in Boschma that, "plaintiffs have adequately pleaded that material facts were concealed by inaccurate representations and half-truths. If plaintiffs can show defendant intentionally used its Option ARM forms to deceive borrowers, plaintiffs may be able to establish a fraud claim. Plaintiffs' actual interest rates and monthly payments sufficient to amortize the loan (or at least pay the accruing interest) were hidden in the complexity of the Option ARM contract terms. '"The fact that a false statement may be obviously false to those who are trained and experienced does not change its character, nor take away its power to deceive others less experienced. There is no duty resting upon a citizen to suspect the honesty of those with whom he [or she] transacts business. Laws are made to protect the trusting as well as the suspicious. [T]he rule of caveat emptor should not be relied upon to reward fraud and deception.'" [Citation.]" (Boschma, supra, 198 Cal.App.4th at p. 249.)
Similarly, we conclude the complaint adequately pled the other elements of fraud. Countrywide and First Mortgage had a duty to disclose the allegedly concealed material facts both under TILA and under the common law. (Boschma, supra, 198 Cal.App.4th at p. 250.) Because at this stage we must take Love's factual allegations to be true, we conclude Love adequately pled defendants "intentionally omitted a clear disclosure of the nature of plaintiffs' loans because giving a clear explanation of how the loans worked would have punctured the illusion of a low payment, low interest rate loan." (Ibid.) The fourth element of fraud required Love to plead reliance. We find it sufficient that Love alleged that "'had the omitted information been disclosed, [the plaintiff] would have been aware of it and behaved differently.' [Citation.]" (Id. at pp. 250-251.) Whether reliance is reasonable is a question of fact. (Ibid.)
And finally, we conclude the element of damages was adequately pled. As in Boschma, we recognize there are problems with the theory of damages (lost home equity), but at this stage of the proceedings it is sufficient to overrule the demurrers. "We construe [Love's] allegations (including the allegation that the prepayment penalty precluded refinancing into a better loan) broadly to encompass an assertion that [the class was] misled into agreeing to Option ARM's, which led to lost equity in their homes because the terms of the Option ARM's put them in a worse economic position than they would have been had they utilized a different credit product (i.e., by deciding not to refinance their previous loans or by taking out a more suitable loan)." (Boschma, supra, 198 Cal.App.4th at p. 251.)
B. Unfair Competition (§ 17200)
In the Boschma case, this court also described in detail California's UCL as it relates to the alleged material omissions/misleading disclosures in Option ARM documents. As with the fraud claim, we adopt and incorporate much of the well-reasoned analysis relating to this cause of action.
"California's . . . UCL 'does not proscribe specific activities, but broadly prohibits "any unlawful, unfair or fraudulent business act or practice and unfair, deceptive, untrue or misleading advertising." (§ 17200.)'" (Boschma, supra, 198 Cal.App.4th at pp. 251-252.)
"'[A] fraudulent business practice is one that is likely to deceive members of the public.' [Citation.] 'A claim based upon the fraudulent business practice prong of the UCL is "distinct from common law fraud. 'A [common law] fraudulent deception must be actually false, known to be false by the perpetrator and reasonably relied upon by a victim who incurs damages. None of these elements are required to state a claim for . . . relief under the UCL. [Citations.] This distinction reflects the UCL's focus on the defendant's conduct, rather than the plaintiff's damages, in service of the statute's larger purpose of protecting the general public against unscrupulous business practices."' [Citation.] A fraudulent business practice '"'may be accurate on some level, but will nonetheless tend to mislead or deceive. . . . A perfectly true statement couched in such a manner that it is likely to mislead or deceive the consumer, such as by failure to disclose other relevant information, is actionable under'" the UCL.' [Citation.]" (Boschma, supra, 198 Cal.App.4th at pp. 252-253.)
In his section 17200 claim, Love relies primarily on the concept of fraud, alleging "unlawful" and "unfair" behavior, as well as, "fraudulent business" practices. "Based on our analysis of [the] common law fraud claim, we conclude [Love has] adequately pleaded a section 17200 claim under the unlawful and fraudulent prongs." (Boschma, supra, 198 Cal.App.4th at p. 253, fn. omitted.) Love's claim "under the unlawful prong is, in a sense, duplicative of [his] common law fraud cause of action (unlike the "fraudulent" prong claim, which is easier to prove in the [section] 17200 context). But, of course, there are separate remedies for fraud and section 17200 claims. We see no reason to force [Love] to select between the two causes of action at this stage of the proceedings." (Ibid, fn. 12.)
We recognize that as with the fraud cause of action, "it may be difficult for plaintiffs to prove they could not have avoided any of the harm of negative amortization—they could have simply paid more each month once they discovered their required payment was not sufficient to pay off the interest accruing on the loan. But plaintiffs may show they were unable to avoid some substantial negative amortization. And we see no countervailing value in defendant's practice of providing general, byzantine descriptions of Option ARM's, with no clear disclosures explaining that, with regard to plaintiffs' particular loans, negative amortization would certainly occur if payments were made according to the payment schedule. To the contrary, a compelling argument can be made that lenders should be discouraged from competing by offering misleading teaser rates and low scheduled initial payments (rather than competing with regard to low effective interest rates, low fees, and economically sustainable payment schedules)." (Boschma, supra, 198 Cal.App.4th at p. 253.)
Based on our conclusion Love alleged a claim for fraud and UCL, we reverse the court's order granting the motion to strike punitive damages and attorney fees based on the conclusion Love failed to allege sufficient facts to support these causes of action. On appeal, Love asserts he would like to amend the complaint to properly assert the basis for attorney fees under the private attorney general doctrine and/or common fund doctrine. On remand, the trial court may consider any request for leave to amend to formally reference these doctrines.
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C. Breach of Contract
Love explains the basis of this claim as follows: "[P]roperly construed, the parties' contract 'required [d]efendants to apply [p]laintiffs' and [c]lass [m]embers' monthly payments to both principal and interest on a fully-amortized basis (i.e., so that negative amortization would not occur) as long as those payments were in the amount reflected in the Note and the TILDS." This claim is supported by the Note, which required Love to make payments each month until he had "paid all the [p]rincipal and interest." The Note makes repeated reference to monthly mortgage payments being applied to both principal and interest. For example Section 3(D) describes how the monthly payment is calculated and how it is payment for "principal and interest." Love asserts the contract is ambiguous because the Note repeatedly reinforces the notion payments are of both principal and interest when in fact payment of the teaser rate would not apply to the principal. Love notes that ambiguity, especially in contracts of adhesion such as this one, should be sufficient basis to overrule the demurrers.
This cause of action was not addressed in Boschma, and the federal cases addressing the issue (involving similar Option ARM forms/disclosure agreements) "appear to be a mixed bag." (Yang v. Home Loan Funding, Inc. (E.D.Cal. Feb. 22, 2010, No. CV F 07-1454 AWI GSA) 2010 WL 670958, p. *12 (Yang).) We find the Yang court's analysis of the issue instructive. That court explained, "Resolution of contractual claims on a motion to dismiss is proper if the terms of the contract are unambiguous. [Citation.] A contract provision is ambiguous when it is capable of two or more constructions both of which are reasonable. [Citation.]" (Id. at p. * 11) The Yang court reviewed the following cases: Monaco v. Bear Stearns Residential Mortgage Corp. (C.D.Cal. 2008) 554 F.Supp.2d 1034 (Monaco); Velasquez, supra, 605 F.Supp.2d 1049; Elvin v. American Home Mortgage Invest. Trust (E.D.Cal. March 30, 2009, No. CV-F-08-1179 OWW/SMS) 2009 WL 839930; Jordan v. Paul Fin., LLC (N.D.Cal. 2009) 644 F.Supp.2d 1156; O'Donnell v. Bank of America (N.D.Cal. March 20, 2009, No. C-07-04500 RMW) 2009 WL 765670; Reyes v. Downey S & L Ass'n. (C.D.Cal. 2008) 541 F.Supp.2d 1108 (Reyes); and Plascencia v. Lending 1st Mortg. (N.D.Cal. 2008) 583 F.Supp.2d 1090.
The court in Yang concluded, "Each of these cases deals with allegations of breach of contract claims in the context of Option ARM loan agreements. In each of these cases, the courts assessed the plaintiffs' claims that their breach of contract claims should not be dismissed because the contract language permitting the defendants to raise loan rates and apply all payment proceeds to interest was ambiguous. [¶] In three of these cases; Monaco, Velasquez, and Reyes, district courts declined to grant motions for dismissal of breach of contract claims finding that the terms of the loan agreements were ambiguous. In Monaco, the court found ambiguity both with respect to how interest rates were to be calculated and with respect to how the payments would be applied. (Monaco, 554 F.Supp.2d at pp. 1041-1042.) In Velasquez, the court found the terms of the loan agreement ambiguous with respect to calculation of the interest rate but not with respect to the application of the loan payments. (Velasquez, ra, 605 F.Supp.2d at pp. 10701071.) In the remaining four cases dismissal of breach of contract claims was granted. With the exception of the district court's opinion in Reyes the opinions in the cases cited above are extensive enough to permit this court to conclude that the loan contracts in question were very similar to one another and very similar to the Note in this case. The court has looked carefully for a factual basis for the differences in outcomes of the cases listed and can find none. It appears to this court that the differences in outcomes between the cases simply reflects the fact that the issue is a close one and some courts are more willing to see ambiguity in a contract of adhesion than others." (Yang, supra, 2010 WL 670958, p. *12.)
After reviewing the relevant body of case law, the Yang court denied the motion to dismiss the breach of contract claim, concluding there was a single factual distinction between the case and all the other federal cases it cited. (Yang, supra, 2010 WL 670958, p. *13.) Namely, in all the other cases, the Note described that after the introductory rate had lapsed, the interest would be calculated by adding a fixed margin rate (usually between 2 and 4 percent) and an "'index rate' which is based on monthly indices published by the Federal Reserve Board." (Ibid.) In the Yang case, the court searched the Option ARM documents and could not find any reference to "a margin rate, nor has any loan document been submitted by [d]efendants that would indicate[] that there was an agreement that a margin rate component would be added to the interest rate. The court also notes that [the] Note, on its face, does not appear to specify any interest rate with particularity other than the 1 [percent] teaser rate. The TILDS that is attached to the [Note] indicates an Annual Percentage Rate of 5.771 [percent] for purposes of computation of the finance charges on the loan over its lifetime, but does not indicate how this percentage is derived or when it is to be applied to the principal amount. The court concludes that, at a minimum, the Note is ambiguous with respect to the calculation of the interest rate. While the Note is not ambiguous with respect to the fact that payments under the Note are to be applied to interest first and to principal only if the payment is in excess of the interest due, the Note is ambiguous at least with respect to what rate of interest applies on any given month." (Ibid.)
In the case before us, the Note devoted section 2 to describing the initial "teaser" rate in subdivision (A), the date the interest rate may change in subdivision (B), the calculation of the index in subdivision (C), and the calculation of the loan's adjustable interest rate would be based on the index plus a margin of 3.45 percent. Unlike the Yang case, the Note was not ambiguous as to the rate of interest leaving the question of whether it was ambiguous as to how payments are to be applied to principal and interest.
Although Love may be able to show that, considered as a whole, the disclosures provide confusing and seemingly contradictory information concerning the terms of the loan, we conclude the disclosures nonetheless accurately describe the relationship between the minimum monthly payment and the accrued interest. Section 3(A) of the Note requires the borrower to make a payment every month "until I have paid all the [p]rincipal and interest." The next sentence unambiguously states, "Each monthly payment will be applied as of its scheduled due date and will be applied to interest before [p]rincipal." (Italics added.) Moreover, section 3(E) explains the payment "could be less than or greater than the amount of interest" each month.
The cases finding ambiguity with respect to how payments are to be applied are factually distinguishable. In Monaco, supra, 554 F.Supp.2d at page 1040, section 3 of the Note stated, "'I will pay principal and interest by making a payment every month.'" The court determined the borrower could reasonably interpret this statement to mean payments will be applied to both principle and interest, in spite of later statements in the Note that negative amortization is a possibility. (Ibid.) Likewise in Reyes, supra, 541 F.Supp.2d at page 1116, the court found the contract terms regarding application of the payments ambiguous because the Note stated, "'I will pay [p]rincipal and interest by making a payment every month.' [Citation.] This could easily be understood to mean that, if [p]laintiffs made payments every month, their payments would be applied to both principal and interest. Plaintiffs have alleged that they were led to understand the contract in that way, and that [d]efendants breached that contract. Thus, [p]laintiffs have sufficiently alleged that the terms of the contract were ambiguous." (Ibid.)
In this case, we found no promise, express or implied, that Love's payment would always be applied to both principal and interest. Whether the payment would be applied to principal depended on whether it was large enough to cover the entire amount of interest that had accrued during the preceding month. The Note specified payments would apply to interest before principal. Love could choose to pay more than the minimum payment and he had the option of making payments large enough to reduce the principal each month.
We note Love does not allege he made payments that were greater than the amount of accrued interest, and Countrywide or First Mortgage failed to apply the payments to principal. If this were the case, he certainly would have stated a breach of contract claim. As the complaint stands now, the misconduct relates to the inducement to enter the contract, not a breach of the terms. Accordingly, we conclude the court properly sustained the demurrer to the breach of contract claim.
D. Statute of Limitations
As noted in our summary of the facts, Jones was added as a new plaintiff to the case in the FAC. On appeal, Countrywide asserts all Jones's claims against Countrywide fail because they are time barred. The trial court did not reach this argument in sustaining Countrywide's demurrer, and therefore, we address it de novo.
The following are additional facts relevant to this issue: Jones's mortgage transaction closed in September 2005. The original federal class action was filed on January 2008, and Countrywide was included as a Doe defendant. The federal claims were dismissed on December 14, 2009. Love filed a lawsuit in superior court on January 27, 2010, raising the remaining state claims of fraud (subject to a three year statute of limitations) and UCL (subject to a four year statute of limitations). Jones was added as a Doe defendant to the FAC filed April 30, 2010.
Jones maintains that because his loan closed on September 16, 2005, he had until September 16, 2008, to file his fraudulent omission claim and September 16, 2009, to file his UCL claim. He asserts that since the federal class action was filed in January 2008, his claims relate back to that complaint because he was a member of the proposed class in that federal action and the subsequent state court class action. We agree.
In American Pipe and Construction Co. v. Utah (1974) 414 U.S. 538, 554 (American Pipe) the Supreme Court held the class tolling doctrine provides that the commencement of a class action stops the running of the statute of limitation as to all claims that might be asserted by all members of the class until class certification is denied. In Crown, Cork & Seal Co. Inc. v. Parker (1983) 462 U.S. 345, 350 (Crown), the Supreme Court extended this holding to all asserted members of the class, not just intervenors. The Supreme Court determined this tolling rule was consistent with the purpose of statutes of limitation to put the defendant on notice of the grounds for possible liability and protect him or her from having to litigate stale claims. (American Pipe, supra, 414 U.S. at pp. 554-555.)
Our Ninth Circuit has refused to extend American Pipe and Crown to allow an earlier class action to toll the statute of limitations for a subsequently filed class action when plaintiffs are "attempting to relitigate an earlier denial of class certification, or to correct a procedural deficiency in an earlier would-be class." (Catholic Social Services, Inc. v. I.N.S. (9th Cir. 2000) 232 F.3d 1139, 1149.) But in our case Jones is not relitigating the earlier denial of class certification or attempting to correct procedural deficiencies of the previous class. Moreover, Jones is not attempting to relitigate the same issues addressed and dismissed in the federal action. Rather, the second class action was filed in state court rather than federal court to permit the class to focus on their state law claims. The federal court specifically dismissed without prejudice the state law claims so they could be moved and litigated in the state court. Thus, under American Pipe and Crown, the superior court may toll the statute of limitations for Jones's claims.
Alternatively, we conclude California's equitable tolling principles could apply. "Equitable tolling is a 'judicially created, nonstatutory doctrine' '"designed to prevent unjust and technical forfeitures of the right to a trial on the merits when the purpose of the statute of limitations—timely notice to the defendant of the plaintiff's claims—has been satisfied." [Citation.]'" (California Restaurant Management Systems v. City of San Diego (2011) 195 Cal.App.4th 1581, 1593. "Three factors are taken into consideration when deciding whether to apply equitable tolling under California law: (1) timely notice to the defendant in the filing of the first claim; (2) lack of prejudice to the defendant in gathering evidence to defend against the second claim; and (3) good faith and reasonable conduct by the plaintiff in filing the second claim." (Hatfield v. Halifax PLC (9th Cir. 2009) 564 F.3d 1177, 1185 (Hatfield).)
The Ninth Circuit court in Hatfield, held a plaintiff's individual claims against defendants were equitably tolled by the timely filing of her nearly identical class action against the same defendants filed earlier in New Jersey state court. (Hatfield, supra, 564 F.3d at pp. 1184-1185.) The Ninth Circuit noted California law permits equitable tolling and "California courts have permitted a plaintiff to take advantage of tolling based on the filing of a prior class action[,]" even where the plaintiff was only a putative class member in the earlier action. (Id. at p. 1185.)
We conclude equitable tolling principles could also apply to this case. The earlier federal action gave Countrywide timely notice of the class action state law claims. They suffered no prejudice in gathering evidence because the claims in the cases largely overlap. Jones and the Loves exhibited good faith and reasonable conduct pursuing their state law claims in superior court just two weeks after the federal court dismissed their related federal claims. Countrywide is not prejudiced because the earlier action encompasses the case at hand.
Therefore, Jones's claims were tolled during the federal action's pendency (that case was dismissed on December 14, 2009). His claims were tolled for an additional 30 days thereafter under 28 U.S.C. § 1367(d) (until January 13, 2010). The state court class action was filed two weeks later on January 27, 2010, which means the limitations period on Jones's claim ran for only two weeks. Because the federal action was filed approximately nine months before Jones's first claim was time barred, the two week gap does not serve to bar his claim.
Finally, we note Jones's addition as a named class representative on April 30, 2010, did not make a difference because he was always a Doe class member. Stated another way, he was considered a party to the action from the start. "[W]here an amendment is sought after the statute of limitations has run, the amended complaint will be deemed filed as of the date of the original complaint provided recovery is sought in both pleadings on the same general set of facts. [Citations.]" (Jensen v. Royal Pools (1975) 48 Cal.App.3d 717, 720, citing Austin v. Massachusetts Bonding & Insurance Co. (1961) 56 Cal.2d 596, 600.) There is no dispute the same recovery was sought in both pleadings based on the same set of facts. The statute of limitations was tolled.
III
The judgment is reversed and the matter is remanded to the trial court with directions to enter a new order overruling the demurrer as to the fraud and UCL claims, and sustain the demurrer without leave to amend as to the breach of contract claim. Appellants shall recover their costs on appeal. We deny appellants' request for judicial notice of the Notary Public Handbooks (exhibits A and B) and grant the request for judicial notice of documents filed in prior federal court case (exhibits C, D, and E) and another federal court case (exhibits F and G).
O'LEARY, J. WE CONCUR: BEDSWORTH, ACTING P. J. ARONSON, J.