Mortgage meltdown: The lawsuits

NEW YORK (CNNMoney.com) -- Earlier this year, a Wisconsin couple won a judgment against Chevy Chase Bank that said the bank deceived them over the terms of their mortgage.

The judge ordered Chevy Chase to rescind the loan and certified the lawsuit as class-action, which could potentially release thousands of other borrowers who felt misled.

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According to their attorney, Bryan and Susan Andrews believed they were getting a loan with a fixed 1.95 percent annual interest rate for the first five years. What they got was an option adjustable-rate mortgage (ARM); the 1.95 percent rate only applied for the first month and rose every month afterwards.

"The second month, the interest rate was about 5 percent," said their attorney Kevin Demet. "After a year it was about 7 percent and now it's in the 8s."

The bank said it clearly spelled out the loan terms, but the judge found that Chevy Chase violated the Truth in Lending Act (TILA), which mandates that mortgage documents must be clear and understandable. Chevy Chase is appealing the judgment, and did not respond for comment for this article.

The Andrews' victory is just an early skirmish in what could be a prolonged battle between borrowers and lenders in the mortgage meltdown mess.

"It's a three-part business cycle now," said Don Lampe, a partner with the law firm Womble Carlyle, whose specialty is mortgage matters. "Boom, bust and recrimination. We're moving into the recrimination phase."

"Most claims will be against mortgage brokers for putting them into loans where they shouldn't have been," said Dan Mulligan, a California-based real estate attorney.

One reason that borrowers often did not understand the terms of their mortgages according to Jo Carillo, a property law professor with the University of California, Hastings College of Law, was the novelty of many of these loans.

"Many originators had no experience explaining them," she said. "It appears to be hard to explain the true costs."

According to Carillo, some bad advice from mortgage originators may have been made in good faith. Caught up in red-hot housing markets, overly exuberant brokers and loan officers told clients not to worry about concerns like their ARMs resetting; they could always refinance and, anyway, interest rates were bound to fall.

Even savvy borrowers, said Lampe, "assumed that rising prices would enable them to refinance."

With credit much tighter today, the refinance option is off the table for many. And, as prices have fallen in many places, it's more difficult to sell a home for the amount owed.

"They can't refinance it, they can't sell it, and they can't afford it," said Paul Hancock, a Florida attorney specializing in mortgage brokering and real estate law.

Aside from bad advice, out-and-out lying also seems to have added to the mess. Borrowers often exaggerated income in order to qualify for larger loans. According to Michael Seng, a professor with the John Marshall School of Law Fair Housing Legal Support Center, mortgage brokers were behind much of this.

"We're running into stated-income loans where brokers got borrowers to sign blank forms that the brokers filled in; they often did not accurately reflect the borrowers' incomes," he said.

Richard Hagar, a veteran real estate appraiser and expert witness, also blames appraisers. According to him, many of them puffed up home values to make deals work. "We saw some really Mickey-Mouse things," he said, "A $200,000 house would come in at $300,000. When appraisers puff up values, they can be sued; I heartily recommend it."

Class action suits are often the only way for borrowers to gain a remedy, according to Seng. "If [individuals] can't make the mortgage payment, they can't pay a lawyer."

But a ruling earlier this year by an appeals court in Boston casts doubt on whether class-action suits will be allowed in mortgage rescission cases, whose remedy is that borrowers turn back their mortgages and get back their fees and expenses. They then have to find a new loan.

The court ruled that rescission didn't apply in class-actions because it is a strictly personal matter. Furthermore, Congress limited TILA violation judgments to a maximum of $500,000, a mere fraction of the kinds of sums a class action suit would generate.

How the cases will play out is in doubt but there's one thing for sure: There'll be a lot of work for attorneys over the next few months.