HUD.gov – In an effort to help responsible homeowners who owe more on their mortgage than the value of their property, the U.S. Department of Housing and Urban Development today provided details on the adjustment to its refinance program which was announced earlier this year that will enable lenders to provide additional refinancing options to homeowners who owe more than their home is worth. Starting September 7, 2010, the Federal Housing Administration (FHA) will offer certain ‘underwater’ non-FHA borrowers who are current on their existing mortgage and whose lenders agree to write off at least ten percent of the unpaid principal balance of the first mortgage, the opportunity to qualify for a new FHA-insured mortgage.

The FHA Short Refinance option is targeted to help people who owe more on their mortgage than their home is worth – or ‘underwater’ – because their local markets saw large declines in home values. Originally announced in March, these changes and other programs that have been put in place will help the Administration meet its goal of stabilizing housing markets by offering a second chance to up to 3 to 4 million struggling homeowners through the end of 2012.

“We’re throwing a life line out to those families who are current on their mortgage and are experiencing financial hardships because property values in their community have declined,” said FHA Commissioner David H. Stevens. “This is another tool to help overcome the negative equity problem facing many responsible homeowners who are looking to refinance into a safer, more secure mortgage product.”

Today, FHA published a mortgagee letter to provide guidance to lenders on how to implement this new enhancement. Participation in FHA’s refinance program is voluntary and requires the consent of all lien holders. To be eligible for a new loan, the homeowner must owe more on their mortgage than their home is worth and be current on their existing mortgage. The homeowner must qualify for the new loan under standard FHA underwriting requirements and have a credit score equal to or greater than 500. The property must be the homeowner’s primary residence. And the borrower’s existing first lien holder must agree to write off at least 10% of their unpaid principal balance, bringing that borrower’s combined loan-to-value ratio to no greater than 115%.

In addition, the existing loan to be refinanced must not be an FHA-insured loan, and the refinanced FHA-insured first mortgage must have a loan-to-value ratio of no more than 97.75 percent. Interested homeowners should contact their lenders to determine if they are eligible and whether the lender agrees the write down a portion of the unpaid principal.

To facilitate the refinancing of new FHA-insured loans under this program, the U.S. Department of Treasury will provide incentives to existing second lien holders who agree to full or partial extinguishment of the liens. To be eligible, servicers must execute a Servicer Participation Agreement (SPA) with Fannie Mae, in its capacity as financial agent for the United States, on or before October 3, 2010.

Fannie Mae (FNM/NYSE) announced policy changes designed to encourage borrowers to work with their servicers and pursue alternatives to foreclosure. Defaulting borrowers who walk-away and had the capacity to pay or did not complete a workout alternative in good faith will be ineligible for a new Fannie Mae-backed mortgage loan for a period of seven years from the date of foreclosure. Borrowers who have extenuating circumstances may be eligible for new loan in a shorter timeframe.

“We’re taking these steps to highlight the importance of working with your servicer,” said Terence Edwards, executive vice president for credit portfolio management. “Walking away from a mortgage is bad for borrowers and bad for communities and our approach is meant to deter the disturbing trend toward strategic defaulting. On the flip side, borrowers facing hardship who make a good faith effort to resolve their situation with their servicer will preserve the option to be considered for a future Fannie Mae loan in a shorter period of time.”

Fannie Mae will also take legal action to recoup the outstanding mortgage debt from borrowers who strategically default on their loans in jurisdictions that allow for deficiency judgments. In an announcement next month, the company will be instructing its servicers to monitor delinquent loans facing foreclosure and put forth recommendations for cases that warrant the pursuit of deficiency judgments.

Reuters – Bank of America will on Wednesday announce plans to start forgiving mortgage loan principal for troubled homeowners who owe more than 120 percent of their home’s value or are battling ever-expanding “negative amortization” loans.

According to a summary of the program obtained by Reuters, Bank of America pledged to offer an “earned principal forgiveness” of up to 30 percent in two stages. The lender will first offer an interest-free forbearance of principal that the homeowner can turn into forgiven principal annually over five years, provided they stay current on their payments.

The forgiveness can allow a homeowner to bring the loan value back down to 100 percent of the home’s value over five years, according to the plan, confirmed by sources close to the matter.

The plan, to begin in May, is among the first by a U.S. mortgage lender that takes a systematic approach to reducing mortgage principal to tackle the thorny issue of preventing foreclosures when home values drop well below the amount owed.

A Bank of America spokesman declined comment.

Announcement of the program in Washington comes as U.S. lawmakers and housing advocates are becoming increasingly vocal about the need for principal writedowns in order to save homes on a large scale. Amid stubbornly high unemployment, homeowners are seen as more likely to simply abandon an unaffordable mortgage when they have no equity or are deep “underwater” on the loan.

The U.S. Treasury’s mortgage modification program has largely relied on reducing interest rates, and has been criticized for failing to address a steep and painful reduction in home values.

The announcement also will come two days after two Washington state residents sued Bank of America for allegedly reneging on a promise it made to modify troubled mortgages when it took $25 billion in taxpayer bailout money.

The lawsuit alleged that the lender has “seriously strung out, delayed and otherwised hindered” modifications because it had financial incentives to do so.

NEGATIVE AMORTIZATION LOANS TARGETED

Under the plan, Bank of America also will slash the principal balance on the worst of the high-risk mortgages written during the height of the housing boom, the so-called “payment option” adjustable rate mortgages that had a negative amortization feature that allowed the principal balance to grow.

On such loans that are delinquent and in danger of imminent default, the lender will announce that it will cut principal to as low as a 95 percent of the property’s value.

Bank of America lender also will expand its modification program to consider payment reductions on prime hybrid adjustable rate mortgages that have floating interest rates after two years and will extend its National Homeowner Retention Plan by six months until the end of 2012.

The bank expects to be operationally ready to start the earned principal reduction plan in May. It plans to identify mortgages that may be eligible for these programs and proactively contact homeowners to request documents to verify eligibility. (Additional reporting by Joe Rauch in Charlotte; Editing by Lincoln Feast)

Housing Wire – In what it is calling a historic trend reversal, credit score provider FICO, is seeing more borrowers with a high credit score preferring to pay their monthly credit card bill over their mortgage.

“We’re identifying lending industry situations in FICO Score Trends that to our knowledge have never been seen before,” said Dr. Mark Greene, CEO of FICO, in a statement. “Economic instability is creating unknown risk in lenders’ credit portfolios as well as counter-intuitive trends in consumer behavior.”

The shift to a consumer preference to stay current on unsecured debt, as opposed to secured debt, began last year. In 2009, 0.3 percent of consumers with FICO scores between 760-789 defaulted on real estate loans, compared to 0.1 percent who defaulted on credit cards. In 2005, credit card delinquency risk was three times greater than today. In 2008, the lower to credit cards being just 1.6 times more likely to become 90 days delinquent than were mortgage loans.

The results echo data released by credit info provider, TransUnion, earlier this month. That study from earlier this month, found the share of borrowers who are delinquent on their mortgages but current on their credit cards rose to 6.6% as of Q309 (from 4.3% in Q108). At the same time, the share of borrowers that are delinquent on credit cards but current on their mortgages slipped to 3.6% from 4.1%.

Bloomberg – When John King stopped making payments on his home in Coral Gables, Florida, two years ago, he assumed the foreclosure ended his mortgage contract, he said. Last month, a Miami-Dade County court gave collectors permission to pursue him for $44,000 stemming from the default.

King is among a rising number of borrowers who are learning that they can be on the hook for years after losing their homes. Amid a crisis that stripped $6.4 trillion, or 28 percent, from the value of U.S. residential real estate since the 2006 peak, lenders are exercising their rights to pursue unpaid mortgage balances. To get their money, they can seize wages, tap bank accounts and put liens on other assets held by debtors.

“The big dogs get a bailout, and the little man gets no mercy,” said King, 39, referring to the U.S. government’s rescue of banks and other financial institutions.

While there are no statistics on the number of deficiency judgments approved by courts, the Federal Deposit Insurance Corp. tracks the amount banks collect after defaulted loans were written off.

These mortgage recoveries rose 48 percent to a record $1.01 billion in the first nine months of last year compared with the year-earlier period, according to the Washington-based regulator. Recoveries on defaulted home-equity loans almost doubled to $392 million, the FDIC data shows.

The figures don’t include money retrieved by trusts overseeing mortgage-backed securities, such as the one that holds the loan on King’s former home, or efforts by distressed- asset funds and companies that buy bad loans to profit from collection rights. Judgments such as the one levied against King usually tack on court fees, fines and interest.

‘Next Big Crisis’

Deficiency judgments were rare in the 15 years since the last real estate slump, said Ben Hillard, a former investment banker who now is a real estate and corporate attorney at Hillard & Rogers in Largo, Florida.

“The banks have been too underwater with foreclosures to spend much time on deficiency judgments, but that’s beginning to change,” Hillard said in an interview. “This is going to be the next big crisis.”

Almost 4.5 percent of mortgaged U.S. homes were in foreclosure during the third quarter, the highest rate in the 37 years of tracking the data, the Mortgage Bankers Association said Nov. 19. A record one in every 10 mortgages was at least one payment overdue in the same period, the Washington-based trade group reported.

The Obama administration is seeking to modify as many as 4 million loans by 2012 to prevent foreclosures through the Home Affordable Modification Program, which cuts monthly payments to about a third of borrowers’ income. By the end of December, the program was responsible for more than 850,000 modifications, the Treasury Department said in a Jan. 15 report.

20-Year Window

The federal government spent $230 billion in the year ended in September to support homeowners, according to the Congressional Budget Office in Washington. Those efforts didn’t help people who had already walked away from their houses.

In states such as Florida, courts give mortgage holders as long as five years to seek a deficiency judgment and, if granted, up to 20 years to collect. Usually, they have the option of renewing the judgment if it’s not paid off within 20 years.

About a third of U.S. states, including California and Arizona, prohibit collection efforts on primary residences after foreclosure. In some cases, homeowners waive that protection if they refinance. Most states allow collection on unpaid home equity loans.

Depression-Era Protections

The laws in states that protect some borrowers stem from the Great Depression in the 1930s, when a lack of bidders at foreclosure auctions caused deficiencies that, with added fees and interest, sometimes were bigger than the original loan amount, according to a 1934 Virginia Law Review article by Sol Phillips Perlman. Today, many courts measure the shortfall using a property’s market value at the time of foreclosure rather than auction results.

The likeliest candidates for deficiency judgments are so- called rational defaults, said Larry Tolchinsky, a real estate attorney in Hallandale Beach, Florida. In those cases, people who are current on their mortgages decide to walk away from a property because its value has sunk so far below their loan balance they have no hope of recouping the loss.

About 21 percent of American homeowners owe more on their mortgages than their properties are worth, according to Zillow.com, a Seattle-based real estate data firm.

“Walking away from a property comes with a cost, especially for people who otherwise have good credit,” Tolchinsky said in an interview. “The bank is going to pull your credit report, and if you’re current on your other bills they are going to come after you and potentially ruin you.”

Fine Print

It’s not just foreclosures that can trigger debt collections. Short sales also may lead to deficiency judgments years after former homeowners have moved on, according to Hillard, the attorney in Largo. In a short sale, lenders agree to let borrowers sell a home for less than the mortgage balance.

“Banks are being very careful to preserve their rights, either outright in the short sale agreement or by using vague language that leaves that door open,” Hillard said. About 90 percent of people who do a short sale think they are “off the hook.”

That was the case when two of his clients, Brigitte and John Howard, sold their home in New Port Richey, Florida, almost two years ago without using a lawyer to check the bank’s short- sale agreement.

$20,000 Shock

“We got a call out of the blue saying we owed $20,000,” said Brigitte Howard, 45. “It was a shock. There was no mention in the short-sale contract that the bank might come after us for the difference.”

The money King owes to the Soundview Home Loan asset-backed security that holds the mortgage on his former Coral Gables condominium consists of $38,000 for unpaid principal and almost $6,000 in legal fees and interest accrued prior to the ruling. According to the judgment, the security can charge 8 percent interest until he pays off the debt.

King, who said his default was caused by a reduction in his income, now rents near Fort Lauderdale, Florida, where he teaches ballroom dancing.

“I thought the foreclosure was the worst of a bad situation, but it’s not,” said King. “The people who got sucked into the real estate bubble are still paying for it, even after they’ve taken our homes.”

HousingWire – Fraudulent reductions in Home Equity Lines of Credit (HELOCs), revolving credit collateralized by one’s home, may become the focus of a forthcoming series of state-led hearings in Tallahassee, and the man behind the plan is setting big banks in his sights.

Florida State Senator Mike Haridopolos is calling for a round of investigations to explore claims that banks fraudulently or arbitrarily reduced HELOCs to improve their bottom lines, according to a press statement this weekend.

“I have heard the stories of this happening across our state and our country, and the courts are filled with lawsuits,” Haridopolos said. “This needs to be investigated because, if true, it’s outrageous.”

The Republican State Senator is also calling on Congress to conduct national hearings. Specifically, Haridopolos is urging the examination of this alleged practice within banks that received government funds through the Troubled Asset Relief Program (TARP).

“When Congress gave away the taxpayers’ money to the banks, they guaranteed the public that if the banks did not use it to lend money, they would immediately call for hearings and hold the banks accountable,” Haridopolos said.

He added: “Since then, we have seen the President sit down with the leaders of the big banks and refuse to meet with the average Americans who are being hurt by their practices… I can tell you, the banks may control [Washington] DC, but the people control Florida and we’re going to keep it that way.”

Haridopolos is calling for hearings to feature testimony not only from homeowners, but consumer groups and banks, “so that everyone has a chance…to weigh in,” according to the press statement.

Federal regulations allow HELOC suspensions under adverse financial circumstances and in situations where the underlying property experiences a significant decline in value. According to the statement from Haridopolos’ office, homeowners claim banks allegedly use false pretenses in order to freeze their family capital.

Florida is not immune to the substantial peak-to-trough house price declines. And a spokesperson for Haridopolos told HousingWire some borrowers claim banks order no appraisals and make no assessment of actual property value decline before freezing their HELOCs.

Similar claims by an Illinois homeowner recently resulted in a suit against JP Morgan Chase (JPM: 39.21 +0.13%). The suit alleged Chase froze a HELOC without disclosing its valuation methods or explaining to the borrower to what degree the house value fell.

Despite the allegedly fraudulent HELOC freezes and the scarcity of new HELOC lending, consumers in hard-hit areas like Florida are still buying in ways that aren’t measured against the backdrop of local foreclosures and price declines.

Time to get those Banksters.

My husband and I were one week from closing on a house when we got a denial call from the mortgage company. When they check his credit to prequalify they found that My husband has or had 0 credit. When they went back to check our credit before closing, they found a 2600.00 collection debt on my credit. upon some investigating it appears to be my husbands debt. It appears that they placed it on my credit report, instead of his is that legal?

he sublease [without having him sign any papers] his apartment to a friend who moved out oweing rent. I had nothing to do with that. wh and how can they go after me?

Curry (more…)

Hi Paul,

My soon to be Ex-Husband and I bought a home in December of 2008.  We are currently going through a divorce.  I chose to stay in the home with our children, after our seperation.  Now, several months later, I am unable to make the $2,200.00 Mortgage Payment on my own.  We have only owned the home for 1 year and our principal has only decreased by about $6,000 since we purchased it.  This leaves no room to pay a realator’s comission and the closing costs, even if we could get it to sell for the original purchase price.  To make matters worse, our neighborhood builder went bankrupt.  We now have a new builder.  The new homes that are being built are smaller, but also much cheaper.

I have almost maxed out my credit card, taken a loan out against my 401K and borrowed money from my parents, just to pay the mortgage by the end of each month.  I have not yet fallen behind by 30 days, but I am creaping much closer. 

My real estate agent suggested a short sale.  My credit is not super and I am very concerned that by doing a short sale, it will drop my score considerably.  I have three children to support and need to be able to find somewhere else to live.  I want to make sure that my decision is a sound one. 

My lender (Citi Mortgage)offered to lower my payments to $1,450 for twelve months and submit a loan modification request to FHA (I have a FHA Loan – 30 yrs fixed @ 6.25%).  However, Citi Mortgage would expect a baloon payment of $10,000 at the end of the 12 months.  I can’t afford to pay that kind of money.  If I was to request the Loan Modification, would I be allowed to put my home on the market? 

I am having a very hard time figuring out what to do.  I can’t afford to pay the Mortgage and am starting to drown in debt because of it.  Which of these options would you suggest, given my circumstances?  Loan Modification or a Short Sale?  Any advice that you can offer would be great!!

Thanks,
Renee (more…)

LasVegasSun – As Las Vegas limps into a new decade, let us return to the now-hazy origins of our current sickness: 2005.

It would seem the entire Las Vegas Valley had been slipped a drink laced with a financial hallucinogen — a powerful narcotic that combined Ecstasy’s feelings of well-being with methamphetamine’s urge to be busy.

Even the city’s most accomplished business and political elites could not resist its influence. They were spaced out, convinced that the laws of the economic universe had been suspended, that housing prices could expand into space, that borrowing money was as holy as prayer.

“We thought we had a recession-proof economy, we thought we would grow forever,” says Elliott Parker, a UNR economist.

Parker describes an “illusion, that we could create wealth from nothing, that we could keep consuming beyond our income, that housing prices would keep rising, that investments could yield high returns without risk, since we were all so clever …”

If they weren’t addicted to the drug themselves, Las Vegas denizens acted as street corner touts — marketing the magical drug for a living — and were always shouting its wonders.

We were, in Parker’s words, “selling high roller fantasies to gamblers and expensive houses to people who sold their homes elsewhere for even more insane amounts of money. We thought it would continue forever, and we made no contingency plans for the alternative.”

Illusion. Fantasy.

When skeptics pointed out that perhaps a dangerous real estate bubble was forming, the crowd responded with mockery:

“The only bubble you’ll see in this market is in a Champagne glass,” a well-known real estate player said in our now fated year of 2005.

But in fact, here’s what was happening in the Las Vegas real estate market: After years of slow and steady growth, a mania took hold. Home values had increased more than 35 percent in 2004 alone.

It was a classic bubble by 2005, right up there with phony Silicon Valley technology companies 10 years ago, and phony Amsterdam tulip futures 375 years ago.

For a while, Americans could borrow unlimited sums of money against their rising home values to come to Las Vegas to spend money. So we built new resorts.

We needed construction workers to build those resorts. We needed other construction workers to build homes for the first construction workers.

Simple logic

This wouldn’t — couldn’t — go on forever. At some point, Americans would hit their limits and the growth of tourism would slow, and we wouldn’t need so many construction workers to build resorts, and then we wouldn’t need so many construction workers to build those houses for the first construction workers.

Once we didn’t need those construction workers, they would be laid off and stop making mortgage payments on their homes. And the sell-off would begin. Throw in all the subprime loans that borrowers couldn’t pay to begin with and you’d get a fire sale. Welcome to 2007.

It’s simple logic, really. Any college freshman who got suckered into a pyramid scheme could explain the illogical underpinnings of it all. It was an economic house built without a foundation on a sandy desert hillside. And there it goes, into the wash.

Sure, we had the resorts, and the wealth they created was real, but the Strip was living on borrowed time, larded with debt, a bad recession away from near collapse and in some cases, bankruptcy.

“A growth-addicted economy produced phony prosperity,” says Hugh Jackson, proprietor of the Las Vegas Gleaner blog and a policy consultant to the Progressive Leadership Alliance of Nevada, a liberal advocacy group.

Phony. Like the happiness of a drug.

This isn’t to say that the decade didn’t begin with hopeful signals — low unemployment and rising wages, and the tax revenue needed to improve schools, health care and social services. The Strip kept attracting more customers and building more hotel rooms to house them.

But the 9/11 terrorist attacks should have provided a clear warning that a dip in tourism could pummel the city. When tourism quickly resumed, however, that warning went unheeded.

Plus, debt was accumulating, in households here and among potential customers around the world, and on corporate balance sheets.

It should have been a portentous time, a ripe time for Cassandras.

“The decade began with a facade,” Jackson says of those go-go years.

A facade. Soon it was a Potemkin village of steel and stucco, massage parlors and pawn shops.

So wrong

In the reality-based world, many people knew the intensifying speculative bubble in real estate wasn’t sustainable and tried to warn others. Bill Robinson, a UNLV economist, sold his house in 2005, patiently explaining to neighbors the laws of economic reality and the coming crash.

“Everybody who was independent of all this saw it coming,” Robinson says. Meaning everybody sophisticated enough to understand economic data and not a paid representative of the resort or development industries.

(And, in fairness, some people from those industries tried to pull the fire alarm early on.)

What is striking about our real estate player, the one who sneered about there being no bubbles except those in Champagne, isn’t that he turned out to be so wrong. After all, people are wrong all the time. The sun revolved around the Earth for centuries after Ptolemy, and many smart and well-meaning people, even the high priest of laissez faire capitalism Alan Greenspan, were wrong about the housing bubble.

No, what’s striking is the tone of triumph and arrogance, like he’s pulled one over on the stupid herd.

It turns out, our addiction’s true power was so much like that of other drugs: It gave the user great powers to deceive.

We were good at deceiving others.

“Hardly anything we did this decade was upfront,” Robinson says.

Illusion has always been part of Las Vegas’ appeal — that we would not succumb to mathematical certainty at a card table; that we could come here and remake ourselves into glamour gods; that buildings that look like the New York City skyline can approximate the feeling one would get from actually being in New York City.

Illusion is one thing.

Deception, done with malice and for the most selfish ends, is something else.

Deception in Las Vegas took many different forms this decade.

Easy to con

On the Clark County Commission, four members would eventually be convicted of what amounted to dishonest service for taking bribes. Erin Kenny told us she was acting on the community’s behalf when she pushed approval of a CVS drugstore at Desert Inn Road and Buffalo Drive. Really, it was for a $200,000 bribe.

From the sensational to the prosaic: The real estate loan officers who extended money to people knowing they couldn’t repay, demanding no documentation, employing no safeguards or due diligence.

So, waddya make last year?

Oh, that’s good enough.

“Stated income,” we called these loans, employing our bottomless ability for euphemism.

Or, our lenders weren’t straight with borrowers — many who didn’t speak English — about what would happen to their monthly payment in a year or two after a “reset.”

On the other side of the ledger, there were speculators and plenty of average people who took out loans they had no intention of repaying.

“The easiest con for a con artist is another con artist,” says Mike Green, the Nevada historian. “If you want to believe you’ll always be living on the Big Rock Candy Mountain, then it’s easy for someone to sell you another piece of worthless land.”

Once things started to collapse, a whole new set of scam artists — “loan modification specialists” — preyed on vulnerable homeowners, promising to keep them in their homes but running off with cash instead.

For so many — and at great expense to the rest of us — the decade was a giant con, a bamboozlement, a flimflam.

“We have a history of benefiting from all that flimflamming,” Robinson notes.

“It’s kind of our culture. So at some point it was inevitable that if there was an easy-money climate, we would fall prey to it,” he says.

Which brings us back to another kind of deception, perhaps most damaging of all — self-deception.

“It’s easy to delude yourself into believing something you want to be true. And here we are,” says Mike Sloan, a gaming consultant and former state senator.

We were deceived, we were narcotized, because we wanted to be deceived.

CreditSlips.org – The expanding market for that buying, selling and securitization of consumer debts has resulted in a serious problem regarding the “quality and admissibility” of the computer data that is being tendered to the United States Bankruptcy Courts to prove the nature and extent of consumer debt obligations. The same thing can be said with respect to the quality of the evidence that is being offered by Mortgage Servicers with respect to the nature and extent of the mortgage obligations of homeowners in bankruptcy cases. The analysis of these records by the attorneys for the debtors and by the Court has tended to overlook the underlying evidentiary foundations necessary to authenticate the same in order to create admissible and competent evidence. Also, since none of these records are generated in the normal course of business of an entity other than the proponent of the evidence in court, the business record foundation has also been either ignored or overlooked by the litigants and the courts. These are all important concepts in a consumer bankruptcy practice since the evidence presented in a proof of claim and in support of motion for relief from stay normally consist exclusively of “electronic evidence.”

In order to introduce electronic records into evidence, the witness for the moving party must be able to establish all of the evidentiary foundations.

Fed. R. Evid. 104. The Judge acts as gatekeeper on the preliminary questions regarding the admissibility of evidence if a Federal Proceeding. The basic elements for the introduction of business records under the hearsay exception for records of regularly conducted activity all apply to records maintained electronically. American Express v Vee Vinhnee, 336 B.R. 437 (B.A.P. 9th Cir. 2005). See also In re Lee, 2009 WO 1917010 (Bankr. C.D. Cal. 2009)(court found witness not “competent to testify regarding the accuracy of the payment records and denied admission of this evidence).

Generally, such records must be:

1. Made at or near the time by, or from information transmitted by, a person with knowledge;

2. Made pursuant to regular practices of the business activity;

3. Kept in the course of regularly conducted business activity; and

4. The source, method, or circumstances of preparation must not indicate a lack of trustworthiness.

See Fed. R. Evid. 803(6) and United States v Catabran, 836 F.2d 453, 457 (9th Cir. 1988).

These elements must either be established by the testimony of the custodian or other qualified witness or must meet prescribed certification requirements. Fed. R. Evid. 803(6). Such records, however, will not be admitted unless the court is also persuaded by their proponent that they are authentic. Ordinarily, because the business records foundation commonly covers these elements, the authenticity analysis is merged into the business record analysis without a proper focus on the elemental foundation questions.  See 5 Weinstein 900.06[2][a]. The primary authenticity issue in the context of business records is on what has, or may have, happened to the record in the interval between when it was placed in the computer data file and the time of the hearing. In other words, the record being proffered must be shown to continue to be an accurate representation of the record that originally was created.

Authenticating a paperless electronic record, in principle, poses the same issue as for a paper record, the only difference being the format in which the record is maintained: one must demonstrate that the record has been retrieved from the file, be it paper or electronic, and is the same as the record that was originally placed into the file. Fed. R. Evid. 901(a). Footnote 5 to this Rule provides that “the requirement of authentication or identification as a condition precedent to admissibility is satisfied by evidence sufficient to support a finding that the matter in question is what its proponent claims.”

Hence, the focus is not on the circumstances of the creation of the record, but rather on the circumstances of the preservation of the record during the time it is in the computer data base so as to assure that the document being proffered is the same as the document that originally was created. 

In the case of a paper record, the inquiry is into the procedures under which the file is maintained, including custody, access, and procedures for assuring that the records in the files are not tampered with. The foundation is well understood and usually is easily established. See Edward J. Imwinkelried, Evidentiary Foundations 4.03[a] (5th ed. 2002); 5 Weinstein 900.07[1][b][i].

The paperless electronic record involves a difference in the format of the record that presents more complicated variations on the authentication problem than the paper records. Ultimately, however, it all boils down to the same question of assurance that the record is what it purports to be.

The logical questions extend beyond the identification of the particular computer equipment and programs used. The entity’s policies and procedures for the use of the equipment, database, and programs are important. How access to the pertinent database is controlled and, separately, how access to the specific program is controlled is all important questions. How changes in the database are logged or recorded, as well as the structure and implementation of backup systems and audit procedures for assuring the continuing integrity of the database, are pertinent to the question of whether records have been changed since their creation.

There is really little mystery to all of these rules. All of these questions are recognizable as analogous to similar questions that may be asked regarding paper files: policy and procedures for access and for making corrections, as well as the risk of tampering. But the increasing complexity of ever-developing computer technology necessitates a more precise focus on the problem.

Some of these computer-related questions are becoming more important as the technology advances.  For example, digital technology makes it easier to alter text of documents that have been scanned into a database, thereby increasing the importance of audit procedures designed to assure the continuing integrity of the records. See George L. Paul, The “Authenticity Crisis” in Real Evidence, 15 PRAC. Litigator No. 6, at 45-49 (2004). This adds as extra dimension to consideration of whether the computer was “regularly tested” for errors. See 5 Weinstein 901.11[2] (2005).

This ever-expanding complexity of the cyberworld has prompted authors of the current version of the Manual for Complex Litigation to note that a judge should “consider the accuracy and reliability of computerized evidence” and that a “proponent of computerized evidence has the burden of laying a proper foundation by establishing its accuracy.”  Manual for Complex Litigation (Fourth), 11.446 (2004).  The Manual quotes with approval the following statement for an Article by Gregory P. Joseph,  A Simplified Approach to Computer-Generated Evidence and Animations, 43 N.Y. Sch. L. Rev. 875(1999-2000). In the Article, it is stated that in general the Federal Rules of Evidence apply to computerized data as they do to other types of evidence. “Computerized data, however, raise unique issues concerning accuracy and authenticity. Accuracy may be impaired by incomplete data entry, mistakes in output instructions, programming errors, damage and contamination of storage media, power outages, and equipment malfunctions. The integrity of data may also be compromised in the course of discovery by improper search and retrieval techniques, data conversion, or mishandling.” Manual for Complex Litigation, Id, at fn. 6.

In effect, it is becoming clearly recognized that early versions of computer foundations were too cursory, even thought the basic elements covered the ground. For example, it has been said that a qualified witness must testify as to the mode of the record preparation, that the computer is the standard acceptable type, and that business is conducted in reliance upon the accuracy of the computer in retaining and retrieving information. Barry Russell, Bankruptcy Evidence Manual P.17 (2005). These several elements, however, subsume a number of constituent elements.

Rule 901(b)(9), which is designated as an example of a satisfactory authentication, describes the appropriate authentication for results of a process or system and contemplates evidence describing the process or system used to achieve a result and demonstration that the result is accurate. Fed. R. Evid. 901(b)(9). Advisory Committee Note 7 to this Rule provides and “evidence describing a process or system used to produce a result and showing that the process or system produces an accurate result.” 

Indeed, judicial notice is commonly taken of the validity of the theory underlying computers and of their general reliability. Imwinkelried, Id., at 4.03[2]. Theory and general reliability, however, represent only part of the foundation. Professor Imwinkelried perceives electronic records as a form of scientific evidence and discerns an eleven-step foundation for the admissible of such records:

1. The business regularly uses a computer.

2. The computer is reliable.

3. The business has developed a procedure for inserting data into the computer.

4. The procedure has built-in safeguards to ensure accuracy and identify errors.

5. The business keeps the computer in a good state of repair and has regular and professional maintenance.

6. The computer system has appropriate firewalls and security features in order to eliminate the possibility of corruption or manipulation of data.

7. The witness had the computer readout certain data.

8. The witness used the proper procedures to obtain the readout including the entry of a proper user-name and password and the proper commands.

9. The computer was in proper working order at the time the witness obtained the readout.

10. The witness recognizes the exhibit as the readout.

11. The witness explains how he or she recognizes the readout.

12. If the readout contains strange symbols or terms, the witness explains the meaning of the symbols and terms for the trier of fact.

13. The business has implemented a proper computer policy and system control procedures that limit access to the data.

14. The computer system can generate reports as to when any original data was changed, modified, or deleted, including the time and date, the name of the employee taking such action, and the basis for the action.

15. The business exercises control over access to the database.

16. The software programs have been verified for accuracy and all patches, fixes, and new features have been and are uploaded on a regular basis.

17. The business has implemented regular audit procedures to assure the continuing integrity of the records.

18. The business has a regular system to backup all databases and checks the system for accuracy on a daily basis.

19. The witness has complete access to the computer system and database, is familiar with how the data is entered, stored and maintained, has personal knowledge of ally verification and security systems, and can testify that all of these matters were personally verified in connection with the evidence proffered.

20. The witness must be able to offer evidence of sufficient training, experience and expertise in these areas to offer the detailed foundation evidence required for authentication.

How should the attorney for the Debtor deal with this type of evidence? It is suggested that a Motion to Strike the Affidavit with the defective account data should be filed. This type of motion can be filed pursuant to Rule 7012 of the Bankruptcy Rules and Rule 12(e) of the Federal Rules of Civil Procedure. The motion must be filed with “20 days after service” of the Affidavit and the substantive objection is that the document is replete with data or account information that is not admissible and therefore immaterial to the issues before the Court.

With the number of affidavits and legal documents that are currently being executed by third-party providers, or by document assembly and preparation operations pursuant to “signing authorities,” it is essential that these foundation rules be enforced in every case in order to prevent the complete high-jacking of our system of justice and to prevent a total disregard for the Rules of Evidence.