The Consequences of Foreclosure Fraud– Fundamental Instability in The Real Estate Market For Decades

If recent court decisions are any indication, we are headed for an explosion of litigation in this area. And now, Massachusetts Courts have revealed the possibility that unlawful foreclosures, dating back to 1989, might be invalidated and that buyers of foreclosed properties and short sales may have clouded titles. The implications are enormous for title companies, bankruptcy attorneys, real estate agents, those facing foreclosure, and those who have lost their homes. The problem stems from the collision of two worlds.  It illustrates what can happen when the new world fails to acknowledge or understand the old.  It is change that takes place without the cooperation of all affected parties. Real property law has an ancient tradition.  But, its laws and their purpose are not always apparent to those who want to change those traditions to benefit themselves. In the case of maintaining a public chain of title to real property, it was thought to be essential and generally required by the law. For hundreds of years, no one ever thought of any reason to change it.  It was thought to be part of the public good. That is, until Wall Street saw the money making potential in Credit Derivatives.

Credit Derivatives are packages of debts such as car loans, student loans, credit card debts, and mortgage loans to name a few.  These are collected, rated according to their risk, and sold to investors around the world. One small problem; if you are going to bundle mortgages from every county in the country, you would have to physically send someone to every county recorder’s office on multiple occasions and pay multiple recording fees.  It was costly and cumbersome to those responsible for affecting the recordings. Their solution?  Stop recording the assignments in public and track them instead in an electronic data base that the major lenders would operate through a cooperative entity.  Say hello to Mortgage Electronic Registration Systems, affectionately known as MERS.  Not only did it save them a fortune in county fees and manpower, it turned out to be a cash cow.

Well, good for them, right?  They figured out how to bring technology to the process and were handsomely rewarded.  Never mind that the cost of maintaining a county recording system is paid, in part, by the recording revenue. They still have to maintain the apparatus, but now they aren’t receiving the revenue intended to maintain the system.  Of course, this comes at a time when many counties are struggling to provide necessary services to their residents.

But, as with many new ideas, there are unintended consequences that are now coming to light as state after state are enforcing basic property rights.

On October 14, 2009, Judge Keith Long of the Massachusetts Land Court said in his ruling, ” The issues in this case are not merely problems with paperwork or a matter of dotting i’s and crossing t’s. Instead they lie at the heart of the protections given to homeowners and borrowers by the Massachusetts legislature.”

He was referring to the industry practice of trading notes endorsed in blank, in direct violation of securities law.  Here is what he said on that point; ” The blank mortgage assignments they possessed transferred nothing”¦in Massachusetts, a mortgage is a conveyance of land. Nothing is conveyed unless and until it is validly conveyed.  The various agreements between the securitization entities stating that each had a right to an assignment of the mortgage are not themselves an assignment and they are certainly not in recordable form.”

Two years earlier, Judge Rosenthal in re Schwartz, found that there was no evidence that the note itself was assigned and no evidence as to who the current holder might be.

On August 28, 2009, Judge Eric S. Rosen of the Kansas Supreme Court likened MERS to a ” straw man” and not a party of interest with the right to foreclose.

” Indeed, in the event that a mortgage loan somehow separates interests of the note and the deed of trust, with the deed of trust lying with some independent entity, the mortgage may become unenforceable.  The practical effect of splitting the deed of trust from the promissory note is to make it impossible for the holder of the note to foreclose, unless the holder of the deed of trust is the agent of the holder of the note.  Without the agency relationship, the person holding only the note lacks the power to foreclose in the event of a default. The person holding only the deed of trust will never experience a default because only the holder of the note is entitled to payment of the underlying obligation. The mortgage loan becomes ineffectual when the note holder did not hold the deed of trust.”

On October 21, 2008, Judge Samuel L. Bufford noted in his ruling that California codified the principal in 1872 in Carpenter v. Longan: ” Given that “˜the debt is the principal thing and the mortgage an accessory,’ the Supreme Court reasoned that as a corollary, “˜the mortgage can have no separate existence.  An assignment of the note carries the mortgage with it, while an assignment of the latter alone is a nullity.”

On August 19^th, 2008, Judge Linda B. Riegle concluded, ” There is no evidence that the named nominee is entitled to enforce the note or that MERS is the agent of the note’s holder.  Indeed, the evidence is to the contrary, the note has been sold, and the named nominee no longer has any interest in the note.”

On March 19, 2009 the Supreme Court of Arkansas found that MERS was not the beneficiary under the deed of trust, although so designated in the deed of trust, because it did not receive the payments on the underlying debt.

On October 31, 2007, U.S. District Judge Christopher Boyko dismissed 14 foreclosure actions and delivered a strong admonishment in a footnote:

” Plaintiff’s “˜Judge, you just don’t understand how things work,’ argument reveals a condescending mindset and quasi-monopolistic system where financial institutions have traditionally controlled, and still control, the foreclosure process”¦There is no doubt that every decision made by a financial institution in the foreclosure is driven by money.”

When you consider the origin of this problem, it is hard to disagree.  If the foreclosing entity didn’t loan the money, the original note was sold, the location of the note is unknown, and it isn’t even clear what would happen to the proceeds of the eventual sale of the property to a new owner.

Until recently, MERS had succeeded in most foreclosure actions.  In non judicial foreclosure states like California, there is no judicial review of the elements of a foreclosure.  Unless the borrower files for Bankruptcy or brings a law suit against MERS alleging RESPA or TILA violations, there is no opportunity for the borrower to challenge the foreclosure.

In judicial foreclosure states, there is a law suit brought by the party entitled to payment on the defaulted loan.  Not the trust, but the actual possessor in due course of the original note.  Its part judicial procedure, part uniform commercial code and part ancient property law.

But, the securitization business is so complicated, intentionally so, that defendants, most of their legal representation, and the judges rarely considered the consequences to the real parties in interest.  This will continue until enough people understand the importance of the actual note and its relationship to the property.

Many homes have been unlawfully foreclosed by entities not entitled to anything. The former owners of these homes have rights that will need to be addressed.

People who applied for mortgage modifications and received them may have gotten approval from a bank employee with no authority to change the underlying terms of the securities in the pools.

Many people bought these homes and have potential future claims.  If there is a cloud on title, the new owner is at risk of being unable to sell or encumber the property.  If the foreclosure were unlawful, the borrower is entitled to their property.  And, there is a very real possibility that the true holder of the actual note, once and if ever this mess is sorted out, could come forward with the actual note.