A New York Times article of March 30 described the “foreclosure machine:” the law firms and default servicing companies that represent and assist mortgage lenders in foreclosing and pursuing claims in bankruptcy and regular courts. The article gives several examples of questionable practices, including payment by volume of motions filed rather than by the legitimacy of those motions. This can lead to homeowners having to fight off baseless motions in court, or paying to settle a case that never should have been brought. As the article explains, bankruptcy judges and the U.S. Trustee (the powerful office that oversees the integrity of the bankruptcy system) have already noticed this abuse of the system. A recent Bankruptcy court ruling in Houston is the most recent example.

The case, Harris v. Fidelity National Information Services, a Chapter 13 bankruptcy, involves a homeowning couple, the Harrises, and Fidelity, a “default servicer,” a company that provides financial and informational management services to companies who are foreclosing. The improper activity here is not immediately obvious, but has to do with violation of the rules of procedure in the Bankruptcy courts. The Harrises allege that Fidelity improperly obtained money from the debtor’s bankruptcy payments, by becoming entitled to funds that were added to the debt claimed by the creditor (in this case, the mortgage lender, which paid a law firm which paid Fidelity). The court ruled that Fidelity might be being paid with property of the bankruptcy estate, even though Fidelity got paid for its work whether or not the lender succeeded in court. This was a problem because Fidelity had not filed the claim required by Rule 2016(a). Instead, it had added its costs onto the mortgage lender’s claim, obtaining money from the debtor without explaining to the court what services it had provided. Therefore, the judge ruled that the Harrises might have a case, and could proceed with their lawsuit.

It is unclear whether the Harrises will succeed—it depends on the facts of their case. But because this practice is so widespread, if any debtor can succeed in a similar situation, the implications could be significant. The case is cast as a class action, with the Harrises acting on behalf of themselves and “all similarly situated Chapter 13 debtors.” If there are enough cases involving default servicers who have this fee-sharing arrangement with creditors, a class action could benefit numerous debtors, and Fidelity and other default servicers would have to pay up, and change their fee-splitting ways.