Supreme Court Deadlock over Spousal Guaranties Will Continue to Affect Costs of Equipment Financing

A bit of background is in order. Recently, two United States Circuit Courts of Appeal reached conflicting opinions on whether the ECOA and its accompanying Regulation B apply to spousal guarantees. The Sixth Circuit, in its 2014 RL BB Acquisition, LLC v. Bridgemill Commons Development Group, LLC, et al, decision, held that a spouse providing a guaranty is an applicant who can bring a claim under the ECOA and Regulation B.

The basis for the court's ruling was that the Federal Reserve, which is delegated by Congress to implement the ECOA by propagating regulations, interpreted in its Regulation B the definition of the word “applicant” to include a spouse who guarantees a loan. The Sixth Circuit held that the term “applicant” was sufficiently ambiguous and the Federal Reserve's definition was consistent with Congress's intent and not unreasonable. Shortly thereafter, the Eighth Circuit, in Hawkins v. Community Bank of Raymore, reached the opposite opinion, holding that a spousal guarantor could not assert claims under the ECOA and Regulation B. The court held that the Federal Reserve's definition of “applicant” to include spouses who guaranty loans was not ambiguous and therefore, the Federal Reserve's definition, which included spousal guarantees, was not to be given deference. The Supreme Court granted certiorari, in the hopes of many, to resolve the split in the federal court circuits. However, such resolution was not forthcoming as the Court deadlocked on this issue.

At oral argument before the Supreme Court, Justices Kennedy and Kagan expressed concern about a problem, previously identified by Judge Richard Posner of the U.S. Court of Appeal for the Seventh Circuit in an opinion on a similar issue, that if the definition of “applicant” is extended to include “guarantor,” then a remedy may be that guarantors would have the right to invalidate the entire loan, not just their guaranties. This would create a windfall for the borrower and liability to lenders on a scale never intended by Congress.

Faced with a potential consequence of having an entire loan voided by a guarantor for a violation of the ECOA, the finance community, through such organizations as the Missouri Banker's Association and the American Banker's Association, filed amicus briefs with the Supreme Court in the Hawkins case, arguing that expanding the definition of 'applicants' to include spousal guarantors would expose lenders to added risk of litigation, increase costs of lending, and change underwriting standards. As a result, lenders/lessors may shy away from extending financings to married business owners because of the risk a spousal guarantor may later decide to sue the lender/lessor for discrimination under the ECOA.

Alternatively, the amicus briefs argued that the lender/lessor might forgo the guaranty, but then pass the risk and costs to the lessee/borrower, thus increasing the costs to businesses and decreasing the availability of credit to small businesses. The end result would be to make obtaining equipment financing more difficult for married business owners.

The United States government filed its own amicus brief with the Supreme Court in the Hawkins case, arguing that if spousal guarantors are not considered “applicants” under the ECOA, married people could be financially harmed by their spouses' failed businesses and be unable to obtain loans for themselves. Thus, while the definition of an “applicant” may seem to be a facially narrow legal issue, the ramifications to the equipment finance industry and their customers from such interpretation are potentially substantial. However, because of the Supreme Court's deadlock in the Hawkins case, there will remain different legal outcomes on the same set of facts depending on where you live or where you file suit. This presents the equipment financing industry with substantial complexity and risk in dealing with what should be a straightforward credit and underwriting decision.

Where the Issue Stands

As it stands now, the legal landscape following the Supreme Court's deadlock in the Hawkins decision pits the Eighth Circuit, which is joined in part by the Seventh Circuit, against the U.S. Court of Appeals for the First Circuit, which is joined in part by the U.S. Court of Appeals for the Third Circuit. The Eighth Circuit consists of Missouri, Arkansas, Nebraska, Minnesota and Iowa, while the Seventh Circuit consists of Illinois, Indiana and Wisconsin. In these states, a spousal guarantor does not qualify as an “applicant” under the ECOA, and therefore cannot sue a lender/lessor for discrimination based on a spousal guaranty. This has broad ramifications in terms of lender liability and the ability of the spousal guarantor to void the spousal guaranty or void the underlying transaction itself. See Hawkins v. Community Bank of Raymore (Eighth Circuit) and Moran Foods, Inc. v. Mid-Atlantic Market Dev. Co. (Seventh Circuit).

In contrast, in the First Circuit, which consists of Maine, Massachusetts, New Hampshire, Puerto Rico and Rhode Island, and the Third Circuit, which consists of Delaware, New Jersey and Pennsylvania, a spousal guarantor can sue a lender/lessor as an applicant under the ECOA and seek to void the spousal guaranty and potentially the underlying transaction itself. Se e RL BB Acquisition (Sixth Circuit) and Silverman v. Eastrich (Third Circuit).

The legal landscape is further clouded by lower trial court opinions from the Northern District of Oklahoma and the District of Kansas that generally follow the First and Third Circuits' interpretation, although they are not the federal appellate courts of their respective jurisdictions. See Empire Bank v. Dumaond (N.D. Oklahoma) and F.D.I.C. v. Medmark, Inc. (D. Kansas). The situation becomes even more complicated due to the fact that a number of state supreme courts have come to different conclusions about whether a spousal guarantor is an “applicant” for purposes of bringing suit under the ECOA. Therefore, not only are the federal circuit courts in conflict, but there is also a substantial conflict of interpretation among the highest state courts in Alaska, Virginia, Iowa and Missouri.

For example, Alaska's supreme court held that a spouse was not liable on her guaranty because the lender violated the ECOA. See Still v. Cunningham (Alaska 2004). In Iowa, its supreme court ruled that spousal guarantors were “applicants” with standing to assert ECOA claims. See Bank of the West v. Kline (Iowa 2010). The Eighth Circuit covers the state of Iowa, so there are two conflicting outcomes on the same set of facts within that state, based on whether a litigant files in state or federal court. Similarly, Missouri's supreme court ruled that a spousal guarantor need not have ECOA standing to defendant against enforcement of a guaranty where the ECOA claim was time-barred by the two-year ECOA statute of limitations. See Boone Nat. Sav. & Loan Ass'n v. Crouch (Missouri 2001). The Supreme Court of Virginia held that the ECOA could be used by a spouse to avoid liability on her guaranty. See Eure v. Jefferson Nat'l Bank (Virginia 1994).

Best Practices

Given the extraordinarily complex lay of the land, legally speaking, when it comes to claims against lenders/lessors by spousal guarantors under the ECOA, it becomes ever more important that lenders/lessors exercise best practices when obtaining spousal guaranties. Lenders and lessors are reminded to adopt and update policies and procedures that fully comply with all aspects of the ECOA and educate their employees on these mandates. They are also reminded that the situations where a lender/lessor may require a spouse's signature should be clearly identified.

Lenders/lessors should also implement and thoroughly document their creditworthiness guidelines, which should be clear, objective and gender neutral. Further, lenders should take time to update their internal guidelines and procedures to address same-sex couples following the Supreme Court's Obergefell v. Hodges decision legalizing same-sex marriages. Lenders must make sure that their employees understand that while traditionally, the spousal guaranty prohibition was seen to apply to women, there is no limitation in the statute that limits its application to only women.

Practice Pointers Worth Remembering

1) To the extent possible, a lender/lessor should carefully document that a spousal guaranty was offered voluntarily, and document such fact by a written acknowledgement that the guaranty was voluntarily given and not required; 2) that no other guarantor was willing to provide a guaranty acceptable to the lender; 3) that the initial application submitted to the lender was for joint credit of both spouses; 4) that gender-neutral application forms and underwriting guidelines are used; 5) that under state law, the collateral to secure the indebtedness required the signatures of both spouses to create a valid and enforceable lien or that the applicant needed collateral jointly owned by both spouses in order to be creditworthy under the lender's credit guidelines; 6) that the applicant alone did not satisfy the lender's standards of creditworthiness and the reasons why; 7) that the submission of a joint financial statement or other evidence of jointly held assets should not automatically be considered to be a joint application for credit; and 8) that both spouses were advised of their rights under the ECOA.

Conclusion

It is my hope that the Court will take the opportunity to address the issue in the future and resolve the circuit split and patchwork of laws. In the meantime, the fact remains that with a deadlocked congress and an eight-member Supreme Court, a substantial amount of law at the federal level is made by regulators interpreting “congressional intent.” Lenders would be well served by being aware of proposed regulations affecting their industry and making their opinions known to the regulators prior to the adoption of implementing regulations.

Dennis A. Dressler is a member of Dressler Peters, LLC, a Chicago-based law firm, with offices in Missouri and Indiana. A member of this newsletter's Board of Editors, Mr. Dressler can be contacted at [email protected].