For the Servicers: Is It Better to Rob Peter or Paul?
The U.S. mortgage servicing industry is in deep doo-doo. To foreclose on a mortgage, you must own the note and the mortgage. That's a lot of paperwork to keep track of, especially when you're trying to package as many mortgage loans into as many securitizations as you can before the market dries up. If we have learned nothing else in the past four years, it is a lot to ask Wall Street to make sure they get things right when there is money to be made. Because of lost, sloppy, and perhaps nonexistent paperwork, banks who purport to have the right to foreclose often cannot prove they own the note and mortgage.
Things are starting to hit the fan -- we can't say exactly what is hitting the fan because this is a family blog (except for here, here, and especially here). In defending itself, the mortgage industry is taking yet another reflexive, knee-jerk position that seems to me to be against their long-term interest.
A typical fact pattern might play out like this. Bank forecloses on Peter. At the foreclosure sale, Paul buys the property. Bank cannot prove it owned the mortgage and note at the time of the foreclosure sale, meaning it had as much right to foreclose as any other stranger to the property. That is to say, it had no right to foreclose.
At this point, Bank either owes Peter or Paul. It owes Peter for fraudulently obtaining a judgment of foreclosure against him and dispossessing him of his home. Or, if we overturn the foreclosure sale, it owes Paul for conveying an invalid title (more accurately, it would owe the sheriff who should have to return Paul's money). If I had to choose between owing a homeowner for dispossessing the person of her home or owing a disappointed investor for conveying an invalid title at a foreclosure sale, I would rather owe the disappointed investor. It is going to be cheaper.
The issues I have outlined are in play in a Massachusetts case called Bevilacqua v. Rodriguez, currently pending before that state's highest court. Previously, in a case called Ibanez, the court rejected claims that Wall Street's nontransfer of mortgages and notes through the securitization process was sufficient to establish standing to conduct a foreclosure sale. Bevilacqua deals with the fallout from Ibanez as the purchaser at a foreclosure sale tries to bring a "try title" action to establish his prior claim to the property despite the fact that the foreclosure sale appears to be invalid under the reasoning of Ibanez. Credit Slips blogger Adam Levitin led an effort by other Credit Slips bloggers (Katie Porter, Chris Peterson, and John Pottow) to file an extraordinarily well-written amicus brief supporting the homeowner's position. The Mortgage Bankers Association (MBA) has filed an amicus brief supporting the purchaser at the foreclosure sale.
The MBA brief cites the usual reasons for supporting the purchaser at the foreclosure sale, namely that the system works best in the long run if the purchaser can be confident the sale will not be undone. That position is not clearly wrong. Many states have very strong protections for foreclosure sales for exactly this reason, as I have previously discussed. In the current context of widespread problems with the validity of foreclosure sales, are strong protections really the rule that the banking industry wants? As I write above, protecting the purchaser at the foreclosure sale would seem only to increase the bank's liability exposure.
Perhaps the industry is counting on the fact that dispossessed homeowners will not be as aware of their rights than jilted foreclosure sale purchasers? Perhaps the industry is counting on hiding behind finality rules or other ancient doctrines to prevent any recovery for wrongfully dispossessed homeowners? In these cases, the industry's current legal position would be rational, but let us hope that the exit plan for the mortgage servicing mess is not to leave wrongfully dispossessed homeowners without any compensation.