ITEM 3. LEGAL PROCEEDINGS



On February 26, 2002, a purported class action titled Calvin Hale v.
HomeAmerican Credit, Inc., No. 02 C 1606, United States District Court for the
Northern District of Illinois, was filed in the Circuit Court of Cook County,
Illinois (subsequently removed by Upland Mortgage to the captioned federal
court) against our subsidiary, HomeAmerican Credit, Inc., which does business as
Upland Mortgage, on behalf of borrowers in Illinois, Indiana, Michigan and
Wisconsin who paid a document preparation fee on loans originated since February
4, 1997. The case consisted of three purported class action counts and two
individual counts. The plaintiff alleged that the charging of, and the failure
to properly disclose the nature of, a document preparation fee were improper
under applicable state law. In November 2002 the Illinois Federal District Court
dismissed the three class action counts and an agreement in principle was
reached in August 2003 to settle the matter. The terms of the settlement were
finalized and the action was dismissed on September 23, 2003. The matter did not
have a material effect on our consolidated financial position or results of
operations.


On May 20, 2004, the purported consumer class action lawsuit captioned
Moore v. American Business Financial Services, Inc. et al, No. 003237 was filed
against us, our lending subsidiaries and an unrelated party in the Philadelphia
Court of Common Pleas. The lawsuit was brought on behalf of residential mortgage
consumers and challenges the validity of our deed in lieu of foreclosure and
force-placed insurance practices as well as certain mortgage service fees
charged by us. This lawsuit relates, in part, to the same subject matter as the
U.S. Attorney's inquiry concluded in December 2003 with no findings of
wrongdoing as discussed below. The lawsuit seeks actual and treble damages,
statutory damages, punitive damages, costs and expenses of the litigation and
injunctive relief. Procedurally, this lawsuit is in a very preliminary stage. We
believe the complaint contains fundamental factual inaccuracies and that we have
numerous defenses to these allegations. We intend to vigorously defend this
lawsuit. Due to the inherent uncertainties in litigation and because the
ultimate resolution of this proceeding is influenced by factors outside of our
control, we are currently unable to predict the ultimate outcome of this
litigation or its impact on our financial position or results of operations.


In addition, our lending subsidiaries, including HomeAmerican Credit,
Inc., which does business as Upland Mortgage, and American Business Mortgage
Services, Inc., are involved, from time to time, in class action lawsuits, other
litigation, claims, investigations by governmental authorities, and legal
proceedings arising out of their lending and servicing activities. For example,
in July 2004, we received a document request in the form of an administrative
subpoena from the New Jersey Attorney General's Office, acting as counsel for
the Office of Consumer Protection, in connection with American Business Mortgage
Services, Inc. It seeks the loan files of two borrowers and includes a broader
request for a list of loans solicited or closed by a former loan officer from
January 1, 1999 to the present. The loan officer's employment was terminated in
2001. While it would appear that the request does not raise material issues,
since this matter is in the preliminary stages, communications from the Attorney
General's Office have not been sufficient to confirm the extent of their
interest. Due to our current expectation regarding the ultimate resolution of
these actions, management believes that the liabilities resulting from these
actions will not have a material adverse effect on our consolidated financial
position or results of operations. However due to the inherent uncertainty in
litigation and because the ultimate resolution of these proceedings is
influenced by factors outside of our control, our estimated liability under
these proceedings may change or actual results may differ from our estimates.



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Additionally, court decisions in litigation to which we are not a party
may also affect our lending activities and could subject us to litigation in the
future. For example, in Glukowsky v. Equity One, Inc., (Docket No. A-3202 -
01T3), dated April 24, 2003, to which we are not a party, the Appellate Division
of the Superior Court of New Jersey determined that the Parity Act's preemption
of state law was invalid and that the state laws precluding some lenders from
imposing prepayment fees are applicable to loans made in New Jersey. On May 26,
2004, the New Jersey Supreme Court reversed the decision of the Appellate
Division of the Superior Court of New Jersey and held that the Parity Act had
preempted the New Jersey Prepayment Law, which prohibited housing lenders from
imposing prepayment penalties. However, the plaintiff has petitioned the United
States Supreme Court for certiorari in this matter.


We expect that, as a result of the publicity surrounding predatory
lending practices, we may be subject to other class action suits in the future.
In addition, from time to time, we are involved as plaintiff or defendant in
various other legal proceedings arising in the normal course of our business.
While we cannot predict the ultimate outcome of these various legal proceedings,
management believes that the resolution of these legal actions should not have a
material effect on our financial position, results of operations or liquidity.


We received a civil subpoena, dated May 14, 2003, from the Civil
Division of the U.S. Attorney for the Eastern District of Pennsylvania. The
subpoena requested that we provide certain documents and information with
respect to us and our lending subsidiaries for the period from May 1, 2000 to
May 1, 2003, including: (i) all loan files in which we entered into a
forbearance agreement with a borrower who is in default; (ii) the servicing,
processing, foreclosing, and handling of delinquent loans and non-performing
loans, the carrying, processing and sale of real estate owned, and forbearance
agreements; and (iii) agreements to sell or otherwise transfer mortgage loans
(including, but not limited to, any pooling or securitization agreements) or to
obtain funds to finance the underwriting, origination or provision of mortgage
loans, any transaction in which we sold or transferred mortgage loans, any
instance in which we did not service or act as custodian for a mortgage loan,
representations and warranties made in connection with mortgage loans, secondary
market loan sale schedules, and credit loss, delinquency, default, and
foreclosure rates of mortgage loans. On December 22, 2003, we entered into a
Joint Agreement with the Civil Division of the U. S. Attorney's Office for the
Eastern District of Pennsylvania which ends this inquiry. We do not believe that
the Joint Agreement with the U.S. Attorney's Office has had a significant impact
on our operations.


In response to the inquiry and as part of the Joint Agreement, we have
adopted a revised forbearance policy, which became effective on November 19,
2003. Under this policy, we no longer require a borrower to execute a deed in
lieu of foreclosure as a condition to entering into a forbearance agreement with
us where the real estate securing the loan is the borrower's primary residence.
Under the Joint Agreement, we also agreed to return to existing borrowers any
executed but unrecorded deeds in lieu of foreclosure obtained under our former
forbearance policy.


We also agreed to contribute a total of $80 thousand, and made this
contribution as required, to a U.S. Department of Housing and Urban Development
(HUD) approved housing counseling organization providing housing counseling in
states in which we originate mortgage loans. Under our revised forbearance
policy, eligible borrowers are sent a letter, along with our standard form
forbearance agreement encouraging them to: read the forbearance agreement; seek
the advice of an attorney or other advisor prior to signing the forbearance
agreement; and contact our consumer advocate by calling a toll-free number with
questions. The Joint Agreement requires that for 18 months following its
execution, we will notify the U.S. Attorney's Office of any material changes we
propose to make to our forbearance policy and form of forbearance agreement (or
cover letter) and that no changes to these documents shall be effective until at
least 30 days after this notification. The U.S. Attorney reserves the right to
reinstitute its inquiry if we do not comply with our revised forbearance policy,
fail to provide the 30 days notice described above, or disregard the concerns of
the U.S. Attorney's Office after providing such notice. The Joint Agreement also
requires that we provide the U.S. Attorney with two independently prepared
reports confirming our compliance with our revised forbearance policy (including
the standard form of forbearance agreement and cover letter) and internal
company training for collections department employees described below. These
reports are to be submitted to the U.S. Attorney's Office at 9 and 18 months
after the execution of the Joint Agreement. KPMG LLP, which we engaged to
perform an independent compliance audit required at the end of the 9-month
period, determined that we had complied with our policy requirements entered
into as a result of the Joint Agreement with the U.S. Attorney's Office.



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We also agreed to implement a formal training session regarding our
revised forbearance policy for all of our collections department employees, at
which such employees are directed to inform borrowers that they can obtain
assistance from housing and credit counseling organizations and how to find such
organizations in their area. We agreed to monitor compliance with our
forbearance policy and take appropriate disciplinary action against those
employees who do not comply with this policy.


In January and February of 2004, four class action lawsuits were filed
against us and certain of our officers and directors. Lead plaintiffs and
counsel were appointed on June 3, 2004. A consolidated amended class action
complaint that supersedes these four complaints was filed on August 19, 2004 in
the United States District Court for the Eastern District of Pennsylvania. The
consolidated class action case is American Business Financial Services, Inc.
Securities Litigation, Civil Action No. 04-0265.


The consolidated amended class action complaint brings claims on behalf
of a class of all purchasers of our common stock for a proposed class period of
January 27, 2000 through June 26, 2003. The consolidated complaint names us, our
director and Chief Executive Officer, Anthony Santilli, our Chief Financial
Officer, Albert Mandia, and former director, Richard Kaufman, as defendants and
alleges that, among other things, we and the named directors and officers
violated Sections 10(b) and 20(a) of the Exchange Act. The consolidated
complaint alleges that, during the applicable class period, our forbearance and
deferment practices enabled us to, among other things, lower our delinquency
rates to facilitate the securitization of our loans which purportedly allowed us
to collect interest income from our securitized loans and inflate our financial
results and market price of our common stock. The consolidated amended class
action complaint seeks unspecified compensatory damages, costs and expenses
related to bringing the action, and other unspecified relief.


On March 15, 2004, a shareholder derivative action was filed against
us, as a nominal defendant, and our director and Chief Executive Officer,
Anthony Santilli, our Chief Financial Officer, Albert Mandia, our directors,
Messrs. Becker, DeLuca and Sussman, and our former director Mr. Kaufman, as
defendants, in the United States District Court for the Eastern District of
Pennsylvania. The complaint is captioned: Osterbauer v. Santilli, Kaufman,
Mandia, Becker, DeLuca and Sussman, Civil Action No. 04-1105. The lawsuit was
brought nominally on behalf of the Company, as a shareholder derivative action,
alleging that the named directors and officers breached their fiduciary duties
to the Company, engaged in the abuse of control, gross mismanagement and other
violations of law during the period from January 27, 2000 through June 25, 2003.
The lawsuit seeks unspecified compensatory damages, equitable or injunctive
relief and costs and expenses related to bringing the action, and other
unspecified relief. The parties have agreed to stay this case pending
disposition of any motion to dismiss the consolidated amended complaint filed in
the putative consolidated securities class action.


Procedurally, these lawsuits are in a very preliminary stage. We
believe that we have several defenses to the claims raised by these lawsuits and
intend to vigorously defend the lawsuits. Due to the inherent uncertainties in
litigation and because the ultimate resolution of these proceedings is
influenced by factors outside of our control, we are currently unable to predict
the ultimate outcome of this litigation or its impact on our financial position
or results of operations. See "Risk Factors -- We are subject to private
litigation, including lawsuits resulting from the alleged "predatory" lending
practices, as well as securities class action and derivative lawsuits, the
impact of which on our financial position is uncertain. The inherent uncertainty
related to litigation of this type and the preliminary stage of these suits
makes it difficult to predict the ultimate outcome or potential liability that
we may incur as a result of these matters."



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