Jeffrey E. Rosner, Attorney at Law -- Real Estate, Wills, Trusts, Traffic Tickets, Family Immigration, Estate Administration

Previously Published on March 2006

In the second half of 2005, the U.S. Department of Housing and Urban Development ("HUD") continued its RESPA enforcement efforts and entered into several more settlement agreements with lenders, title and real estate agents and others accused by HUD of violating Section 8 of RESPA by paying kickbacks to sham affiliated businesses, kickbacks disguised as conference room rentals fees, and kickbacks disguised as employee promotions.

Section 8(a) of RESPA prohibits the giving or receiving of any fee, kickback or other thing of value pursuant to an agreement or understanding, oral or otherwise, that business incident to or part of a real estate settlement service involving a federally related mortgage loan shall be referred to any person.

Section 8(b) of RESPA prohibits the giving or accepting of any portion, split or percentage of any charge made or received for the rendering of a real estate settlement service in connection with a transaction involving a federally related mortgage loan, other than for services actually performed. HUD's Statement of Policy 1996-3, Rental of Office Space, Lock-outs and Retaliation ("SOP 1996-3") identifies the factors HUD uses to determine whether conference room and office rental agreements between settlement service providers are legitimate rentals or whether they constitute illegal kickbacks for referrals of settlement services.

HUD's Statement of Policy 1996-2, Sham Controlled Business Arrangements ("SOP 1996-2) identifies the factors HUD uses to determine whether an affiliated business arrangement constitutes a bona fide provider of settlement services under RESPA.

In 2005, HUD entered into a settlement agreement with First American Title Insurance Company and nine co-venturer builders accused of violating RESPA by paying or arranging for kickbacks to builders, real estate agents and mortgage brokers via sham affiliated title agencies.

In 2002, First American created or acquired controlling interests in several limited liability title agencies in which various builders, real estate agents, and mortgage brokers held ownership interests. First American allowed the title agencies to lease at least two of its employees who were responsible for providing title services for several of the title agencies. Additionally, First American allowed the title agencies to rent space at its office and use its computer services.

HUD determined that First American violated sections 8(a) and 8(b) of RESPA and the corresponding regulations, and/or aided and abetted others in violation of RESPA. HUD found that little or no title work was provided by the title agencies themselves, and settlement services purported to be provided by the title agencies were essentially provided by First American. Applying the factors of HUD's policy statement on sham affiliated business arrangements, HUD determined that the title agencies were not independent business entities but rather, sham controlled business arrangements used to make referral payments back to the builders, real estate agents and mortgage brokers in violation of RESPA.

Based on HUD's determination that First American received nearly $680,000 in financial benefits arising from its ownership interests in the title agencies between May 2002 and December 2004, First American was required to pay a fine of equal amount. As part of the settlement, nine builders agreed to cease their business activities with First American and agreed to pay an additional $225,000 fine.

Among other things, as part of the settlement agreement, First American and its co-venturers agreed to cease their business activities with the title agencies and agreed that at all times in the future, any title entities formed, owned or operated by First American, or in which First American has any interest, would be operated in accordance with the following terms:

Each title entity must have sufficient initial and operating capital and net worth to conduct the settlement service for which it was created;
return on ownership interest to each owner must be proportional to the percentage of that party's capital contribution;
Each title entity must be staffed with employees who work only for that entity, and who are not shared with any other title entity, builder, real estate agent, mortgage broker, or other settlement service provider;
Each title entity must manage its own business affairs and must not be managed or controlled by any other entity or person, except that First American and other owners of such an entity may be entitled to exercise the ownership and control typical for owners of a business entity;
Each title entity must have an office for its use in conducting business that is separate and apart from that of any other title entity;
Each title entity must pay fair market value for the facilities that it occupies and uses in its business;
Each title entity must comply with the HUD policy statement requiring title agencies to perform "core title services";
Each title entity must actively compete in the marketplace for title insurance business, and will actively seek business from parties other than the builders, real estate agents, and mortgage brokers, or other settlement service providers with which it has had an affiliate relationship.

As part of the settlement, HUD required First American and the builders to comply with certain terms that were formerly only "factors" in determining whether a joint venture was operating in accordance with SOP 1996-2. This is significant because SOP 1996-2 merely provides the factors that HUD uses to determine whether an affiliated business arrangement constitutes a bona fide provider of settlement services under RESPA; failure to comport with any one factor is not a per se violation. However, First American and the builders must now comply with what was formerly only factors of compliance, but which are now all required terms, if they choose to form any new title entities.

This settlement reiterates HUD's position that it will review whether an affiliated entity is an independent entity or if it is merely an entity set up for the purpose of receiving kickbacks. HUD reiterated that "parties that perform real work in the mortgage transaction deserve bona fide compensation but fabricating sham affiliations for the purpose of obscuring kickbacks violates the law" and that "it's pretty obvious the law requires that when money changes hands in the mortgage transaction, actual service should be provided. But there's a big difference between performing real work and creating sham business arrangements designed to mask illegal kickbacks and referral fees."

HUD entered into several settlements in 2005, citing violations of RESPA, for the rental of conference rooms at rates substantially higher than fair market value, and therefore in violation of RESPA's anti-kickback rule.

In June 2005, HUD entered into a settlement agreement with Metropolitan Title Company for violating RESPA section 8(a) and SOP 1996-3. HUD determined that Metropolitan paid real estate brokers for the use of conference rooms at rates substantially higher than their fair market value. Metropolitan paid up to $150 an hour to lease conference rooms from real estate brokers even though Metropolitan's offices were available and convenient and in some cases only three blocks away. HUD noted that while charging room rental fees does not necessarily violate RESPA, excessive payments were made in this instance and were designed to disguise referral fees which are prohibited. HUD commented "A referral fee by any other name is still a referral fee." Presumably, rentals were only paid on deals referred by the lessor.

Metropolitan agreed that when renting conference room space in the future from a person in a position to refer settlement service business, such as a real estate broker, and when that person is in fact referring business to Metropolitan, Metropolitan would make a good-faith effort to determine the general market value of conference room rental space from local entities in the primary business of renting conference room space and would only pay conference room rental rates at the minimum level of the general market value for equivalent space, equipment and other services.

Further, when Metropolitan rents conference room space from persons in a position to refer settlement service business, Metropolitan would rent such space in one-hour blocks of time. In the event a closing takes more than one hour, rentals would include a 15-minute grace period without additional charge. After the expiration of a 15-minute grace period, Metropolitan would pay the rental charge for a second hour of time.

Metropolitan agreed to pay a fine of $150,000 and also agreed that it would ensure that all present and future long-term office lease arrangements with settlement service providers would conform to standard commercial lease agreements.

Following this settlement, HUD then pursued enforcement efforts with the real estate brokers who benefited from Metropolitan's payments. In September and October 2005, HUD entered into separate settlement agreements with four Detroit area real estate brokers for alleged violations of RESPA. HUD determined that the real estate brokers violated RESPA for receiving conference room rental fees from Metropolitan in excess of the general market rate for comparable room rentals.

Among other things, each of the settling real estate brokers agreed it would not suggest or require the rental of its office space by title companies or other settlement service providers in return for the referral of settlement service business.

HUD entered into separate agreements with the four real estate brokers with fines totaling $80,000. The real estate brokers agreed to the same conference room rental terms that were provided in Metropolitan's settlement.

Commenting on the four real estate broker settlements, HUD noted that "whether you give or whether you receive a thing of value in exchange for the referral of business, it's against the law. RESPA speaks to both sides of this equation and HUD, for its part, will vigorously enforce the law when it comes to controlling kickbacks, whether you pay or whether you're paid."

In August 2005, HUD entered into a settlement agreement with Coldwell Banker Residential Real Estate, Inc. ("CBRRE") for alleged violations of RESPA section 8(a). HUD asserted that the real estate brokerage offices paid higher sales commissions and offered gifts and other incentives to its sales agents for referring business to an affiliated title company, Regency Title.

HUD asserted that CBRRE had given things of value to its sales agents for referrals to settlement service providers, including: (1) giving higher sales commission splits to agents who referred business to Regency Title, (2) requiring agents to refer business to Regency Title in order to receive referrals of relocation business, (3) allowing only those agents who referred business to Regency Title to be paid their commission at settlement, and (4) giving prizes and other benefits to those agents which referred business to Regency Title. HUD found that CBRRE offered its sales agents incentives including trips, baseball tickets, and agent-of-the-month ads in local newspapers, based on the number and volume of referrals to Regency Title.

HUD commented that "clearly, when companies create incentives and base compensation on referrals by their real estate sales agents to their affiliated businesses, that's against the law. HUD is taking a serious look at affiliated business arrangements to make certain that business practitioners don't blur the line between legitimate relationships and those based on kickbacks and referral fees."

Also in August 2005, HUD entered into a settlement with Prudential Locations, LLC for alleged violations of RESPA. HUD found that Prudential leased a luxury car, offered vacations and provided other gifts to reward sales agents that referred business to an affiliated mortgage company.

Among the gifts were invitations to a Prudential organized, promoted, and paid for party held in January 2003. Only real estate agents who referred over $1,000,000 worth of business to the affiliated mortgage company were invited to attend the party. Prudential also paid for and gave real estate agents the opportunity to win a three year lease of a Mercedes-Benz. Additionally, Prudential gave real estate agents trips to Thailand, Las Vegas, and San Francisco and restaurant gift certificates.

As part of the settlement, Prudential agreed to no longer organize or pay for parties, trips, automobile leases, gift certificates or other things of value in return for the referral of settlement services. Prudential agreed to pay a $48,000 fine.

HUD noted that "it's obvious that when you award prizes based on the amount of business any sales agent refers, you're going to violate the spirit and letter of RESPA. When real estate companies tie gifts and other benefits based on the referral to affiliated businesses, that's a kick-back and that's against the law."

These two settlements are notable because, despite the Regulation X statement that an employer's payment to its own employees for any referral activities is permitted under RESPA, HUD found these companies in violation of RESPA for providing incentives and gifts to their agents for referral activities to affiliated businesses. This settlement provides a distinction between W-2 and 1099 "employees," such as traditional real estate agents. Although payments to W-2 employees for referrals to affiliated businesses are permitted, it appears that such payments to 1099 "employees" are not.