The Illinois Mortgage Escrow Account Act (Act) notice generally is required at the closing of any mortgage loan made for the purpose of purchasing a single-family owner occupied residential property. Consequently, we believe your bank should provide this notice at every loan closing for a single-family owner occupied residential property in which your bank retains the right to establish an escrow account, even if an escrow account is not established at closing.

An attorney from the Illinois Department of Financial and Professional Regulation confirmed with us that the Act applies to mortgage loans for which the lender establishes an escrow account at closing or retains the right to establish one at a later date. The attorney also noted that the Act would not apply if an escrow account was not established at closing and there was certainty that an escrow account would not be established in the future.

Additionally, the Act applies only to mortgage loans secured by owner occupied, single-family residential real estate when made “for the purpose of enabling another to purchase a residence.” Consequently, we do not believe that it applies to loans obtained for purposes other than purchasing a residence, such as the permanent financing that replaces a temporary bridge loan or a construction loan.

Escrow Accounts for Higher-Priced Mortgage Loans

No, we do not believe that your bank is required to give HPML borrowers the option to cancel an escrow account after they have paid the loan down to 65% of the original principal balance.

Regulation Z requires lenders to maintain escrow accounts for HPMLs for at least the first five years after the loan consummation, after which time the borrower may request cancellation of the escrow account if two conditions are met — the unpaid principal balance is less than 80% of the original value of the mortgaged property, and the borrower is not delinquent or in default on the loan. However, the lender may reject this request, as your bank did, assuming that your loan agreement with the borrower permits your bank to do so.

The federal HPML requirements in Regulation Z appear to be in conflict with the Illinois law — which allows borrowers to terminate an escrow account when the loan has been paid down to 65% of the original principal balance, provided that the borrower is not in default. Further, we are aware of at least one Illinois court case concluding that federal escrow regulations that conflict with Illinois law preempt the Illinois law’s requirements. Consequently, we believe that Regulation Z’s HPML requirements preempt the Illinois law’s requirements, and your bank does not have to allow a borrower to terminate the escrow account, even if the borrower meets the Illinois law’s conditions.

Fannie Mae Guidelines

The Illinois Mortgage Escrow Account Act provides that borrowers “shall not have the right to terminate” escrow accounts for “mortgages insured, guaranteed, supplemented, or assisted by the State of Illinois or the federal government that require an escrow arrangement for their continuation.” This exemption applies to loans sold to Fannie Mae, provided that they “require an escrow account for their continuation.”

However, this exemption applies only to the provision of the law that allows borrowers to terminate an escrow account after it is reduced to 65% of its original amount. The requirement to provide notice when the escrow account reaches the 65% threshold still would apply, along with any requirements in other sections of the law, such as the requirement to provide notice of the Act’s requirements at the loan closing and the requirement to allow borrowers to open an interest-bearing time deposit in lieu of an escrow account.

For resources related to our guidance, please see:

• Illinois Mortgage Escrow Account Act, 765 ILCS 910/11 (“Notice of the requirements of the Act shall be furnished in writing to the borrower at the date of closing.”)

• Illinois Mortgage Escrow Account Act, 765 ILCS 910/4 (“On or after the effective date of this Act, each mortgage lender in conjunction with the granting or servicing of a mortgage on a single-family owner occupied residential property, shall comply with the provisions of this Act.”)

• Illinois Mortgage Escrow Account Act, 765 ILCS 910/2(c) (“‘Mortgage Lender’ means any bank, savings bank, savings and loan association, credit union, mortgage banker, or other institution, association, partnership, corporation or person who extends the loan of monies for the purpose of enabling another to purchase a residence or who services the loan, including successors in interest of the foregoing.”)

• Regulation Z, Higher-Priced Mortgage Loans, 12 CFR 1026.35(b)(1) (“Except as provided in paragraph (b)(2) of this section, a creditor may not extend a higher-priced mortgage loan secured by a first lien on a consumer’s principal dwelling unless an escrow account is established before consummation for payment of property taxes and premiums for mortgage-related insurance required by the creditor . . . .”)

• Regulation Z, Higher-Priced Mortgage Loans, 12 CFR 1026.35(b)(3)(i) (“Except as provided in paragraph (b)(3)(ii) of this section, a creditor or servicer may cancel an escrow account required in paragraph (b)(1) of this section only upon the earlier of: (A) Termination of the underlying debt obligation; or (B) Receipt no earlier than five years after consummation of a consumer’s request to cancel the escrow account.”)

• Regulation Z, Higher-Priced Mortgage Loans, 12 CFR 1026.35(b)(3)(ii) (“Notwithstanding paragraph (b)(3)(i) of this section, a creditor or servicer shall not cancel an escrow account pursuant to a consumer’s request described in paragraph (b)(3)(i)(B) of this section unless the following conditions are satisfied:

(A) The unpaid principal balance is less than 80 percent of the original value of the property securing the underlying debt obligation; and

(B) The consumer currently is not delinquent or in default on the underlying debt obligation.”)

• Regulation Z, Higher-Priced Mortgage Loans, Official Interpretations, Paragraph 35(b)(3), Comment 2 (“Section 1026.35(b)(3) establishes minimum durations for which escrow accounts established pursuant to § 1026.35(b)(1) must be maintained. This requirement does not affect a creditor’s right or obligation, pursuant to the terms of the legal obligation or applicable law, to offer or require an escrow account thereafter.”)

• Illinois Mortgage Escrow Account Act, 765 ILCS 910/5 (“When the mortgage is reduced to 65% of its original amount by payments of the borrower, timely made according to the provisions of the loan agreement secured by the mortgage, and the borrower is otherwise not in default on the loan agreement, the mortgage lender must notify the borrower that he may terminate such escrow account or that he may elect to continue it until he requests a termination thereof, or until the mortgage is paid in full, whichever occurs first.”)

• Olsen v. Financial Fed. Sav. & Loan Ass’n, 105 Ill. App. 3d 364, 371 (1st Dist. 1982) (“Indeed, as the subject of escrow accounts to secure payment of property taxes on mortgage property is specifically addressed by regulations promulgated by the Board in its exercise of its Congressional mandate to provide for the operation of federal savings and loan associations, this area is preempted . . . and any attempt by a state to regulate which potentially conflicts with federal legislation or regulations or with their purpose or that results in a lack of uniformity in the internal management or lending practices of a federal savings and loan association is subordinated to federal law. . . . Based on the foregoing analysis, we hold that the trial court below properly dismissed the plaintiffs' action based on its finding that the provisions of the Illinois Mortgage Escrow Account Act are not applicable to federal savings and loan associations because of the constitutional doctrine of federal preemption.”)

• Illinois Mortgage Escrow Account Act, 765 ILCS 910/7 (“The borrower shall not have the right to terminate any such arrangement under Section 5 in conjunction with mortgages insured, guaranteed, supplemented, or assisted by the State of Illinois or the federal government that require an escrow arrangement for their continuation.”)

• Illinois Mortgage Escrow Account Act, 765 ILCS 910/6 (“In lieu of the mortgage lender establishing an escrow account or an escrow-like arrangement, a borrower may pledge an interest bearing time deposit with the mortgage lender in an amount sufficient to secure the payment of anticipated taxes.”)