SRC Insights: Second Quarter 2005

Does Your Financial Institution Understand Its Responsibilities Under the Servicemembers Civil Relief Act?

by Minh T. Do, Assistant Examiner

Failure to comply with the Servicemembers Civil Relief Act (Relief Act) has caused a recent increase in media attention.¹ Some nationally prominent institutions, such as Wells Fargo and Citigroup, have received criticism for noncompliance with the Relief Act. In a recent American Banker article, it was noted that a Wells Fargo subsidiary violated the Relief Act by initiating foreclosure proceedings against an Army reservist who had been called to active duty.² In a New York Times article, a Citibank employee refused a Coast Guardsman’s request to adjust the interest rate on a credit card retroactive to his enlistment date.³

The servicemembers were eligible for protection under the Relief Act. But in both cases, the banking organizations were unaware of their responsibilities under the act, which led to publicized scrutiny. Subsequent corrective action has been taken by both organizations.

This long-standing legislation contains provisions that apply to all financial institutions, many lenders, debt collectors, and lawyers, but they may lack familiarity with the act. Does your financial institution understand its responsibilities under the Servicemembers Civil Relief Act?

What is the Servicemembers Civil Relief Act?
Prompted by the September 11, 2001 terrorist attacks, the Servicemembers Civil Relief Act was signed into law on December 19, 2003. It represents an updated version of the Soldiers’ and Sailors’ Civil Relief Act of 1940, and provides clearer guidelines for protecting the rights of servicemembers. This act covers active duty military, as well as, reservists and national guard members who are called to active duty. In general, the act requires temporary suspension of specified legal proceedings and certain financial transactions. Banks must understand their responsibilities under this act to minimize credit, legal, and reputational risk.

What Provisions Affect Banks?
The Relief Act contains specific provisions to protect servicemembers, their spouses, and their dependents. Provisions include a limitation on the rate of interest charged, the lawful termination of installment contracts and leases, and a prohibition against foreclosure.

Interest Rate Limitation
Under the Relief Act, servicemembers are eligible for an interest rate reduction to 6% on debt obligations incurred prior to military enlistment. Creditors are required to forgive interest in excess of 6%, as opposed to deferment. The 2003 act provides clarity on this provision, because the prior act was too vague. This rate reduction is designed to alleviate the debt burden when active military duty causes a material reduction in a servicemember’s family income.

While creditors are obligated to abide by this provision, servicemembers also have responsibilities to invoke their rights under this act. In order to be eligible for protection under the act, servicemembers must show proof of material effect on the legal or financial matter involved. Written notice and a copy of military orders are required to verify eligibility for relief and must be delivered to the creditor no later than 180 days after a servicemember’s termination or release from service. Given the servicemember’s compliance with notification requirements, the creditor must grant the rate reduction retroactive to the date of active duty.

Termination of Installment Contracts or Leases
Another provision of the act addresses the termination of installment contracts or leases. Contracts established with a servicemember prior to active duty cannot be terminated by the creditor due to any breach of the contract. Moreover, repossession proceedings may not take place without a court order.

When a residential lease is executed prior to the lessee entering military service, or when the lessee receives military orders for permanent relocation or deployment of at least 90 days, the servicemember has the right to terminate the lease. The same conditions pertain to the termination of motor vehicle leases when the active duty period is greater than 180 days. In all situations, servicemembers are responsible for providing adequate documentary evidence.

Prohibition Against Foreclosure
The Relief Act also includes guidance on mortgage contracts and other similar secured obligations. Servicemembers are protected against property foreclosure. This prohibition applies to contracts originated prior to entry into military service and where default occurs during the period of military service or within 90 days thereafter. Mortgage companies and other lenders are required to obtain a court order prior to any foreclosure activity.

The Importance of Compliance
Heightened awareness of the Relief Act is needed in the financial services industry. Revisions to the Relief Act were passed to provide clearer guidance on protections available to active-duty military families, whereby financial capacity is diminished due to military service. Bank management should familiarize themselves with their responsibilities under the Relief Act in order to remain in compliance with the law.

The Office of the Comptroller of the Currency posted an advisory letter on June 18, 2004 that provides information on the provisions of the act that affect banks.⁴ This advisory letter, and the recent examples of lenders failing to comply with the Relief Act, evidence the importance in reeducating banks. Ongoing compliance with the Relief Act is necessary to protect the rights of servicemembers while minimizing potential credit, legal, and reputational exposure for banks.

If you have any questions about this article, please contact Assistant Examiner Minh T. Do at 215-574-6110.

¹ Servicemembers Civil Relief Act
² Todd Davenport, “In Brief: OCC: Follow-Up on Protections for Military,” American Banker, March 29, 2005, p. 18.
³ Diana B. Henriques, “A Law Gets Lost; Creditors Press Troops Despite Relief Act,” The New York Times, March 28, 2005, Sec. A, p. 1, col. 3.
⁴ OCC Advisory Letter AL 2004-8

The views expressed in this article are those of the author and are not necessarily those of this Reserve Bank or the Federal Reserve System.

SRC Insights: Second Quarter 2005

Does Your Financial Institution Understand Its Responsibilities Under the Servicemembers Civil Relief Act?

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