The Permanent Foreclosure Crisis and Obama's Refinancing Obsession

For the umpteenth time, President Obama has announced that his solution to the foreclosure crisis is to encourage "responsible" homeowners to refinance at lower interest rates.  Adopting the Tea Party rhetoric and blaming home buyers who got houses in 2006 for their inability to foresee what few economists foresaw, Obama has steadfastly refused to push for principal reductions and payment suspensions for homeowners behind in payments, lest their luckier neighbors who bought at lower prices become resentful.  As a result, he continues to offer help to homeowners who need it least.

Behind the rhetoric is an important policy choice: who will bear the billions of mortgage losses that have yet to be flushed out of the system.  Principal reduction modifications for defaulted borrowers would distribute the losses among taxpayers (via Fannie and Freddie), private investors and banks (who hold non-GSE loans), and give underwater homeowners some relief.  More importantly, principal modifications mitigate the aggregate losses to the system while accelerating the necessary deleveraging. Refinancing current borrowers does nothing to prevent the huge deadweight losses from continuing foreclosures, at 50% loss severities, on homes whose owners are delinquent.  Choosing to do no more for the 7 million or so delinquent mortgage debtors means maximizing losses to those homeowners, but also to taxpayers and investors.  It would certainly help to continue driving down home prices, which does benefit new first-time buyers, but at a huge aggregate cost. 

In fact, as conservator of the nationalized Fannie Mae and Freddie Mac, the federal government could make the needed modifications of delinquent mortgages happen with a stroke of the pen, more or less. Instead, the Administration proposes the dubious strategy of loading up the FHA portfolio with 4% mortgages at 125% loan-to-value ratios, thus continuing the process of transferring future mortgage losses from banks to taxpayers, and amplifying those losses, while letting the foreclosure crisis continue, just as Mitt Romney proposes.  Nothing about the refinancing strategy moves forward the process of realigning mortgage debt to home values.  Instead, the strategy relies on the doubtful proposition that home values will soon return to rising at their pre-2007 clip.

Pacta sunt servanda and the housing market and broader economy be damned. 

Private Equity Works on Its Image Problem

Bloomberg out with an interesting story about how private equity firms are buying single family homes at foreclosure to rent out. It surprises me that there is real interest in what remains a relatively small scale, highly heterogeneous asset. Previous attempts to achieve economies of scale in this area have been disastrous -- see Bank of America.

Should the Government or the Market Set Mortgage Down Payments? A New Study

UNC's Center for Community Capital has posted a new analysis of 19.5 million mortgage loans originated between 2000 and 2008 finding that mandatory down payments of 10% would lock out nearly 40% of all creditworthy borrowers while a 20% down payment would exclude 60%. The study finds a significantly higher exclusion rate for African American and Latino borrowers. The authors (Roberto Quercia of UNC, Lei Ding of Wayne State University, & Carolina Reid from the Center for Responsible Lending) do find valuable default-reduction benefits of other forms of strong underwriting as the Dodd-Frank Act already requires (through the "QM" and "QRM" classifications), but signal caution about the significant access costs of government-mandated down payment levels that government regulators may be currently considering.

Foreclosure Timelines and Mortgage Delinquency: More Evidence from Bankruptcy

At the end of a lively session yesterday at Duke Law School featuring Professor Stephen Ware of University of Kansas Law School, there was a brief discussion of whether shorter foreclosure timelines and clearer rules would promote more workouts of delinquent mortgages. The aforementioned paper about bankrupt homeowners suggests that the opposite might actually be the case: among homeowners in bankruptcy, longer foreclosure timelines in their home states were associated with a lower probability of foreclosure initiation while shorter timelines were associated with a higher probability of foreclosure initiation.

What is the Relationship Between Credit Cards and Mortgage Delinquency?

Previously I mentioned this new paper on homeowners in bankruptcy in the American Bankruptcy Law Journal. The central goal of the paper was to investigate what makes homeowners more or less likely to have mortgage troubles as they head into bankruptcy. One of the notable findings is that, across all the models, credit access had a significant effect on keeping mortgages current and avoiding foreclosure initiation (specifics listed pp. 302-304). But why?

The Fed on Mortgage Servicing

I had the privilege today of hearing Federal Reserve Board Governor Sarah Bloom Raskin deliver the keynote address to the Section on Financial Institutions at the American Association of Law Schools Annual Meeting.  Governor Bloom Raskin's topic: mortgage servicing, which is not something the Fed has previously addressed.  I strongly commend her speech to you. It's rare to see a bank regulator invoke Shakespeare to great effect, as she does, but it's much more important for some of the other things she says:

This wave of foreclosures is one of the factors hindering a rapid recovery in the economy. Traditionally, the housing sector, buoyed by low interest rates and pent-up demand, has played an important role in propelling economic recoveries. The increase in housing sales and construction often is accompanied by purchases of complementary goods, like furniture and appliances, which magnify the effect of the housing recovery.

However, six years after house prices first began to fall, the pace of the economic recovery remains slow. Nationally, house prices have fallen by nearly one-third since their peak in the first quarter of 2006, and total homeowners' equity in the United States has shrunk by more than one-half--a loss of more than $7 trillion. The drop in house prices has had far-reaching effects on families, neighborhoods, small businesses, and the economy, in part because so many American families--more than 65 percent--own their homes. The fall in house prices has caused families to cut back on their spending and has prevented them from using their home equity to fund education expenses or start small businesses. The decline in house prices has also impeded families from benefiting from the historically low level of interest rates, as perhaps only half of homeowners who could profitably refinance have the equity and creditworthiness needed to qualify for traditional refinancing.

This is a really important set of points. They shouldn't sound new to Credit Slips readers, but it's really important to have a Fed Governor saying them.  

The Restatement of Property and the Road to Mortgagocracy

I recently did a string of blog posts of the Permanent Editorial Board for the UCC's Report on the enforcement of negotiable mortgage notes. I'm still planning a final installment there, but I came across another document that just floored me in showing how across another American Law Institute product that just floored me in how deeply captured and compromised part of the legal elite is.  

The document in quest is section 5.4(c) from the Restatement (2d) of Property.  The Restatements are an ALI-only product (unlike the UCC, which is jointly done with NCCUSL), and they are the ALI's signature product.  They are meant to "restate" the law, meaning summarize and improve it, sort of the way Yiddish versions of Shakespeare plays were unironically advertised as farbesert un fartaytsht (improved and translated).  That is to say the restatements are meant to be positive summaries of the law, but they often have normative spins.  

Section 5.4(c) appears to stand for a very simple and uncontroversial principle (pace FNMA v. Eaton), that only the obligee of a mortgage note has the right to foreclose on the note:  

A mortgage may be enforced only by, or in behalf of, a person who is entitled to enforce the obligation the mortgage secures.

In other words, a naked mortgage's got nothin' (are you listening AZ Supreme Court?).  But then the comments and illustration go off the deep-end. Here's Comment (e):  

Mortgage may not be enforced except by a person having the right to enforce the obligation or one acting on behalf of such a person...[including an agent or a trustee for the noteholder.]  The trust or agency relationship may arise from the terms of the assignment, from a separate agreement, or from other circumstances. Courts should be vigorous in seeking to find such a relationship, since the result is otherwise likely to be a windfall for the mortgagor and the frustration of [the noteholder]'s expectation of security. See Illustration 10.

MBIA v. Countrywide Ruling

There's been a lot of media coverage of the recent ruling of the NY Supreme Court (that's the trial court, not the final Court of Appeals) in MBIA v. Countrywide, a suit by the monoline bond insurer against Countrywide for fraud, negligent misrepresentation, etc. that induced it to insure Countrywide's mortgage-backed securities. This and Syncora's similar suit are being carefully watched because they are the MBS litigation that is the farthest along and thus seen as a belleweather for other rep and warranty suits.  While the monolines are in a somewhat different position than MBS investors, they provide a good indicator of what to expect from investor suits.  

For all the discussion of the opinion, no one seems to have actually read the damn thing, so here it is.

In or Out of Mortgage Trouble? A Study of Bankrupt Homeowners

This is a newly published paper  in the American Bankruptcy Law Journal that I was lucky to work on with Daniel McCue and Eric Belsky at the Joint Center for Housing Studies at Harvard University. Using previously unexamined data in the 2007 Consumer Bankruptcy Project, we study what makes homeowners more or less likely to have mortgage troubles as they head into bankruptcy. Although much can be said about the econometric analysis, for now I wanted to mention quickly that the paper includes descriptive details about bankrupt homeowners (debtor-reported) such as numbers of missed mortgage payments, use of adjustable rate mortgages, mortgage broker use, mobile homes, and refinancing or home equity lines of credit. So please check it out!   

Principal Write-Down Pilot Program in Massachusetts

A Boston nonprofit, Boston Community Capital, is teaming up with some financial institutions, in particular Bank of America, in a pilot program that has the effect of writing down mortgages to close to home value. http://www.npr.org/2012/01/02/143601604/in-mortgage-crisis-some-banks-agree-to-cut-losses

BCC says it works with qualifying homeowners and banks to buy underwater homes, either in short sales or at foreclosure, and then sells them back to owners at just above current market value. The nonprofit takes the risk of making the resale and allows those buying back to use their own lender or a mortgage company that BCC works with. See the program’s FAQs: http://www.sunhomehelp.org/faq/sun

BCC is playing a gatekeeping role as far as who qualifies (there must be an ability to pay the written-down loan but an inability to pay the original loan). Also, BCC may have better credibility with distressed homeowners than financial institutions such as B of A do. The pilot is supposed to test whether such a program can be run without promoting “strategic default,” according to the NPR story.

Principal write-down is much needed relief to stabilize the housing market and reduce the lose-lose impact of foreclosure, so this is a pilot worth watching. A concern, however, is whether we can trust any reports that come out about it. There does not seem to be any neutral third-party such as an academic researcher studying what happens in the program. Also, a supposed fact cited in the NPR story is unattributed and highly doubtful—that 30 percent of private home loan modifications last year involved principal write-down. That certainly wasn’t true of the government-sponsored Home Affordable Modification Program, so if true about private modifications, it raises even more questions about the troubled HAMP.

A New Theory of the Role of the GSEs in the Housing Bubble

Bill Black has an interesting new take on the role of Fannie and Freddie in the housing bubble. He sees their investment in non-prime mortgages as being driven by executive compensation, rather than a fight for market share against investment bank securitization conduits or govt affordable housing policy. The government affordable housing policy point has been repeatedly debunked (and Susan Wachter and I have a new paper that adds to this debunking via an examination of the commercial real estate bubble, where there was no government involvement whatsoever). Black is not, however, able to disprove the market share theory. What he does point to is that the GSE's involvement with nonprime mortgages was as whole loans kept in portfolio, rather than securitized (and also via purchases of MBS), which he says was a move to increase the short-term yield for the GSEs and thus maximize short-term executive compensation.

I think this is an interesting theory, but there are a few data points necessary to make it work, and I'm skeptical that they all support Black. 

More Rot in the OCC Foreclosure Reviews

Michael Olenick, Gretchen Morgenson, and Yves Smith have all written pretty damning things about the foreclosure reviews persuant to the OCC consent orders with major mortgage servicers. (For my own previous thoughts, see here and here.) I've just started to peruse some of the engagement letters with the firms conducting the reviews, and the rot is even worse that these other critics portray.

What follows is in no way a comprehensive cataloging of the problems in the OCC foreclosure review process--this is just what I spotted from the briefest of perusals.  Yet it is clear that there are two types of serious problems:  conflicts of interest and flawed substance of the review process. I'll lay both out below and then give some thoughts as to what could and should be done to remedy this farcical process in order to ensure some accountability to the public and justice for homeowners. The post concludes with some thoughts about the core problem--the OCC--and what can be done to remedy it.   

Occupy Bank of America?

Who knew that Mitt Romney had outflanked Obama on the left? Well, it took Nixon to go to China, but I expect we'll see a lot of backpedaling here. 

It's a bit troublesome, though, that a Harvard Law grad like Romney would believe that small claims court would possibly be the venue for resolving a wrongful foreclosure. Leaving aside jurisdictional issues, small claims courts are basically debt collection courts:  they're used by debt collectors, not by homeowners who can't afford legal counsel and are seeking injunctive relief. It explains a lot about the state of our legal system if the Romneys of the world honestly believe that small claims court is a the way middle class folks can receive justice. 

The Value(s) of Foreclosure Law Reform?

As Alan White reported recently, the Uniform Law Commission in the U.S. has named a committee to consider the need for and feasibility of proposing a uniform foreclosure act and to report back to the ULC by early 2012. A letter from the ULC president includes a list of questions that the committee is charged to consider. But what principles will guide their analysis of these questions?

Robbing Peter to Pay Paul: US Economy Edition

The Administration seems to have cut a deal to extend the payroll tax cut, which is a smart economic move in terms of trying to support demand. But it's being paid for by an increase in the "G-fee" (guarantee fee) charged by FHA and Fannie Mae and Freddie Mac on the loans they purchase. In other words, anyone refinancing or taking out a mortgage now will be subsidizing reduced payroll taxes.  The result is robbing Peter to pay Paul, which means the economic benefits from extending the payroll tax cut are going to be muted by the chill this puts on the struggling housing market.  

The argument that it will encourage homeowners to look for non-GSE/FHA loans is pretty silly and hides the foolishness of using housing to pay for payroll tax cuts. Homeowners don't choose whether they have a GSE loan or not. They choose whether to do FHA or not, but if it's not an FHA loan, the homeowner doesn't know if the loan is going to stay in the lender's portfolio, be sold to another lender, be sold to a GSE (and maybe securitized by the GSE) or be privately securitized. Raising the costs of the GSE execution might encourage more portfolio lending, but it's hard to believe that a few basis point change in GSE execution costs is going to suddenly make the private-label securitization market revive.  The problems in that market aren't just the economics--particularly of servicing--but the utter lack of trust investors have in the underwriting, documentation, and servicing. For the private-label market to revive, there will need to be a much more significant difference in execution costs between private-label and the GSEs. The increased G-fee doesn't do it. 

It's painfully apparent that this Administration doesn't have a housing policy, and that's a serious problem when housing is the anchor weighing down the economy.  Consider, on the one hand, the Administration tries to make refinancing easier via the expansion of HARP.  Then it raises the "G-fee" that Fannie Mae and Freddie Mac charge on every loan they purchase, which gets passed on the homeowner in the form of a higher mortgage rate.  (I'm not sure of the pass-through rate, but I'd guess it's pretty high.)  If the Administration is trying to fix the housing market, this sure isn't the way to do it.

Foreclosure Statistics for New Mexico: These Just Out

Foreclosure statistics obviously vary from local jurisdiction to jurisdiction, as well as from one time period to the next. For example, sometime back in 2008, New Mexico was 36th in the nation in the number of foreclosures, obviously lower than average. Now it is 11th in the nation. Right now, one in every 452 Santa Fe homes and one in every 550 Albuquerque homes is in foreclosure, and about 15,000 cases are filed each year, about half in Albuquerque. The lack of lawyers reported by the New York Times in February of 2011 is still palpable. Attorney Angelica Anaya-Allen, from the United South Broadway Corporation, which defends foreclosures in New Mexico, did an analysis of the reported decisions in all foreclosure cases in Santa Fe over a two year period. She found that of the 828 reported decisions that favored lenders during the one-year period in which she looked, 600 were default judgments. Ms. Anaya-Allen reports that out of the 15,000 cases filed per year, she’d be surprised if more than 500 borrowers, or roughly 3%, were represented. 

People Are Not Corporations, and Financial Journalists Are Not Ordinary People

It is getting really old, the exasperation of entitled financial journalists that ordinary folks are not walking away from their underwater homes as much as they supposedly should. The latest to sound this tired refrain is James Surowiecki in The New Yorker (Living By Default, Dec. 19, 2011), who also makes the clichéd comparison to corporate decisions to shed debt using chapter 11 bankruptcy. He calls on underwater homeowners to do "the smart thing" by walking away.

According to Mitt Romney, “Corporations are people.” Whether or not you agree with that proposition, what is empirically true when it comes to debt is that people are not corporations. People don’t view walking away from debts that they can afford as a no brainer if it improves the bottom line. They agonize. They feel bad. They care about their homes and neighborhoods. Walking away is extremely painful, not a simple financial calculation. And, oh by the way, the further down you are in the 99 percent, the more likely that the financial calculation is negative, given impact on credit reputation from defaulting on a mortgage when your income is low. (On the other hand, many people worry about their credit reputations way after they have hit bottom and bankruptcy could actually improve their access to credit, more evidence that people don't take bankruptcy or any other form of walking away lightly.)

Laboratories of Democracy and the Commissioners of Uniformity

States have passed a variety of changes to foreclosure laws and court rules in response to the foreclosure crisis, including new notice and mediation requirements to stimulate workouts between lenders and borrowers.  Some of these laws have been found effective in reducing foreclosures.  Subprime mortgages with delinquent payments are much more likely to end in foreclosure sales in nonjudicial foreclosures states, while states with both judicial foreclosure and strong consumer protections, like New York and Pennsylvania, have modification rates well above the national average (Download Delinquent Subprime Loan Outcomes by State Excel table.)

On the other hand, nonjudicial foreclosure is faster and cheaper, which can be an advantage when dealing with abandoned properties.   States also vary considerably in the amount of time homeowners have to cure a default before foreclosure, or redeem a property after foreclosure.

The Uniform Law Commission, who bring you the Uniform Commercial Code and other model state laws, is launching a project to consider drafting a uniform foreclosure law for the 50 states.  The study group consists of professors, judges, and lawyers, but notably absent is any member who could be regarded as a consumer or homeowner advocate or even sympathizer.  Interested parties may request to participate as observers, and I am told that observers have had some influence on these uniform law projects in the past.  Of course, whatever the ULC drafts does not become law until a state legislature chooses to adopt it.

In the case of foreclosure notices, ADR, redemption, and the judicial/nonjudicial debate, my own view is that uniformity among states is neither likely nor especially desirable. Nevertheless, this ULC project bears watching.

 

 

Occupiers Target Foreclosures

Occupy Wall Street have announced a national day of action around mortgage foreclosures and evictions, to be held on Tuesday December 6.  My comments on the protest and the current state of the foreclosure crisis at salon.com are here.

"The Wikipedia of Land Registration Systems"

Pretty amazing opinion in Culhane v Aurora Loan Services of Nebraska byJudge Young of the US District Court for the District of Massachusetts. Judge Young breaks out a fresh can of whoop-ass on MERS, which wasn't even a litigant. How are these choice lines:  "MERS is the Wikipedia of Land Registration Systems."  Now I like Wikipedia, but property title isn't do-it-yourself. Or this gem: "a MERS certifying officer is more akin to an Admiral in the Georgia navy or a Kentucky Colonel with benefits than he is to any genuine financial officer." Well, at least he didn't call them an "Admiral in the Great Navy of the State of Nebraska".  You gotta love a landlocked navy. 

That said, for all of his misgivings about MERS supplying "the thinnest possible veneer of formality and legality to the wholesale marketing of home mortgages to large institutional investors," Judge Young still says that it's kosher, if unseemly. 

The issue here was whether there could be a foreclosure by a naked mortgagee--that is a mortgagee who is not the noteholder.  (That's the issue before the Supreme Judicial Court of Massachusetts currently in Eaton v. Fannie Mae.)  Judge Young say no:  the note and mortgage need to be reunited before foreclosure; a naked mortgagee can't foreclose.  In this case, however, Judge Young found that the mortgage and note were reunited before the foreclosure was brought.  

I think Judge Young is right on the law, and wrong on the facts here. I don't know how this case was lawyered, but it seems to me that there are two factual problems that indicate that the mortgage and note were not in fact reunited prior to foreclosure.  Here's Judge Young's explanation of how the reunification happened: 

Aurora, as Deutsche's loan servicer, has an interest in the underlying debt; Aurora also physically possesses the collateral file, including the note. With the assignment of legal title to the mortgage from MERS, Aurora became the mortgagee of record as well, thusperfecting its standing to bring a foreclosure action against Culhane.

Culhane makes much of the fact that the endorsement to Deutsche on the note and attached allonge is undated. While this Court agrees as matter of law that the mortgagee must hold the note or be the servicing agent of the note holder before initiating foreclosure proceedings, here Aurora did. Regardless of the date that Deutsche became the note holder,whether it was before or after the cut-off date for loans to be transferred into the RALI Series 2006–QO5 Trust, as of April 1, 2008, Aurora was servicing Culhane's loan for Deutsche. Aurora caused legal title to the mortgage to be assigned to it over a year after becoming the servicing agent, and it did not send the notice of sale to be published until September 21, 2009.

First, Judge Young seems to assume the note is negotiable. Otherwise it doesn't matter who holds the note. If it's not negotiable, then it's just a plain old contract, and physical possession is irrelevant. Just because I hold the original loan contract between Karl and Soia doesn't mean that I have any right to enforce it if it isn't a negotiable instrument. But it doesn't look like negotiablity was raised by the parties; I would think it is in the purview of judicial notice as it is obvious from the face of the instrument, but if the issue isn't flagged for a judge, it is often missed. 

Second, it isn't clear whether the trust law argument was ever put firmly before the court. If the note was transferred to the trust after the trust's closing date, that transfer is void under New York trust law. That means that the trust doesn't own the note, which means Aurora doesn't have an interest in it, which means that the note and mortgage have not been reunited prior to the foreclosure, so under Judge Young's analysis, then, the foreclosure should not be permitted. The reason the closing date matters is because if the transfer is after the closing date, it cannot happen as a matter of law. The fact that Aurora was servicing the loan for Deutsche as trustee isn't enough if Deutsche as trustee doesn't have an interest in the note. I don't know how this issue was lawyered, but this is a critical point. 

So it seems to me that this is a good opinion, but that it needed to go further into the factual question of whether Deutsche as trustee had any interest in the note. That might be a function of lawyering rather than anything else. I don't think this case presents a clear victory for the mortgage industry--it just focuses the issue on the question of who can enforce the note, and I'm not sure that's where the industry really wants things to go. 

HARP's Dirty Little Secret: Most HARP Refis are of Positive Equity Mortgages

So the Administration has announced that it is expanding the HARP refinancing program to help underwater borrowers.  Originally, HARP enabled borrowers with up to 125% loan-to-value (LTV) ratios to refinance (105% for adjustable rate loans).  The revised program removes the LTV cap for fixed-rate loans, reduces some refi fees, permits refis of loans that have been mildly delinquent recently, and extends the eligibility date.  All the news accounts have stated that the number of HARP refinancings is expected to roughly double, from about 900,000 refinancings to perhaps 1.8 million refinancings. This is trumpeted as a boon for underwater homeowners.  

The revised program may well help some underwater homeowners lower their monthly payments. Unfortunately, the 900,000 and 1.8 million numbers are seriously deceptive.  Most of the HARP refinancings to date have been for borrowers with positive equity.  HARP has refinanced very few underwater borrowers.  As of 2Q 2011, 92% of HARP refinancings (776,009 of 838,441) were of loans between 80% LTV and 105% LTV. Only 62,432 refis were between 105% and 125% LTV.  In other words, HARP has provided very little help for underwater borrowers.

Soured on Saurman

Elected justice moves swiftly. The Michigan Supreme Court handed down its opinion in Residential Funding Co. v. Saurman on Wednesday, a couple of weeks after oral argument. They were in a rush to get the opinion out, it seems. Unfortunately, it's a terrible opinion. The Michigan Supreme Court reversed the appellate court to hold that MERS has the power to conduct non-judicial foreclosures (foreclosure by advertisement) in Michigan.

To reach this conclusion, the Michigan Supreme Court had to conclude that MERS had an interest in the indebtedness--that is an interest in the note.  MERS, however, expressly disclaims any interest in the note. So it took some acrobatics and legerdemain and outright tautology to get no to mean yes. Here's how they did it:

The Heirs of Karl Lleywellyn: the PEB Report, Green Cheese, and the Hijacking of American Law (Part III)

As I noted in the previous posts on this thread (here and here), I think the Permanent Editorial Board for the UCC's report on the enforceability of mortgage notes is simply irrelevant because it deals with negotiable notes, and virtually all mortgage notes today are not negotiable. But even if the notes were negotiable, there are still some further flaws in the report itself.

I'm not going to attempt a complete catalogue. But I will point out some two highlights:  the failure to address the interaction of the UCC with other law, such as real property law and trust law and agency law; and the failure to address the evidentiary issues that are at the heart of the foreclosure documentation problems.  

The Heirs of Karl Lleywellyn: the PEB Report, Green Cheese, and the Hijacking of American Law (Part II)

Why the PEB Report? 

What motivated the Permanent Editorial Board for the Uniform Commercial Code to issue its ridiculous report on the enforceability of negotiable mortgage notes (discussed in the previous post in some detail) when virtually no mortgage notes are negotiable? Why go to all the effort and fuss to issue an irrelevant report?  

The report is an attempt to paper over all of the legal and paperwork snafus that have gummed up the foreclosure system. The report is an attempt to put a finger on the scale of justice in favor of the banks in foreclosure litigation. (I hope ALI members who read this understand just what a rogue body the PEB has become; I don’t think this is a policy that the ALI membership as a whole would support.)   

To understand what’s going on here, think of the scene in Star Wars when the rebels are attacking the Death Star and the imperial officer says to Grand Moff Tarkin:

We’ve analyzed their attack, sir, and there is a danger. Should I have your ship standing by?  

The Heirs of Karl Lleywellyn: the PEB Report, Green Cheese, and the Hijacking of American Law (Part I)

This last week the Permanent Editorial Board of the Uniform Commercial Code came out with a report bering the none-too-thrilling title of "Report on Application of the Uniform Commercial Code to Selected Issues Related to Mortgage Notes". There's an awful lot to say about this awful document, and I'm not going to attempt to cover it all in a single blog post. This post is going to cover what the report is, what authority it has, and why it is completely irrelevant (namely that it deals with negotiable notes, when virtually all mortgage notes are non-negotiable). Subsequent posts will deal with the substantive flaws in the report and with the motivation behind the report and with the way the uniform law making process has become completely hijacked by monied interests.

There are two critical takeaways from this post. First, it is important to understand that the PEB report is not law. It is not authoritative or binding. The PEB does not determine what the law is or what the Uniform Commercial Code means or does not mean. The report is merely dicta on dicta from a completely nonrepresentative, politically unresponsive body that includes some patently conflicted members.

Second, it is important to understand that the PEB report is utterly irrelevant because by its own terms it only addresses the enforceability of "negotiable" mortgage notes, and virtually all mortgage notes are non-negotiable. Therefore, even if everything in the PEB report were correct (which it ain't), it would have as much real world application as a report on the enforceability of mortgage notes made of green cheese. (This raises the question, of course, why there would be so much energy spent on an irrelevant document. I'll address that in a later blog post, but basically this report is a desperate attempt to put a finger on the scales of justice in favor of the banks).

The Multistate Foreclosure Settlement

The New York Times came out with a strong editorial urging state AGs and the Administration not to rush into the proposed multi-state settlement deal. I think it's worthwhile reviewing what we know about the deal and the arguments for and against it.  Let's start with the facts that we know.  There aren't many that are publicly confirmed; the Administration, the AGs leading the multi-state settlement, and the banks very much want to avoid public comment on the deal--they want to present it as a fait accompli.  As a result, there hasn't been definitive reporting on the contents of the term sheet currently circulating among AGs.  It appears, however, the the deal has the following features.

Some 16 banks that do mortgage servicing will:

1. contribute a total of $5 billion in cash;
2. contribute total of mortgage assets with a face value of $20 billion, but a market value considerably lower; 
3. agree to uniform servicing standards.

In exchange, the state and federal authorities signing on would give the banks:

1. a release of all servicing claims;
2. a release of all origination claims, including discriminatory lending claims;
3. a release of all MERS claims against the banks, leaving MERS Inc. as a potential defendant for MERS related issues (MERS Inc. has no financial assets of note.)  

Perhaps $20B of the money would be used for principal write-downs and for interest rate reductions (via refinancings, which have the added benefit of relieving the banks of rep and warranty problems on the old loan) on the loans owned by these banks, which is less than 10% of the first lien loans in the U.S. 

Let's start with the argument for this deal and then consider why it is wrong.  

The US's Missing Housing Policy

The United States has no housing policy. And there's none on the horizon either. That's a scary thing, given the centrality of housing to domestic economic woes.  

Once upon a time, the US had a housing policy. It was focused on increasing homeownership. It might have been a misguided policy or at least a policy taken too far, but it was a policy and everyone understood that. It meant that programs were designed to work toward that goal.

Today, 4 years into a housing crisis, we still have no housing policy. There's no plan to clean up the legacy of the housing bubble and no plan to build the future of housing finance. This sad state reflects a singular failure of political leadership.  It also reflects a deeply fragmented housing finance world in which no one is in a position to call the shots. 

Get your Independent Foreclosure Review!

OCC and the Federal Reserve announced this week that banks who service mortgages will be sending letters to homeowners this month and next, offering them an opportunity to request review of any 2009 or 2010 foreclosure.  Every homeowner who asks gets a full independent review by a foreclosure auditor.  A homeowner who was in any stage of foreclosure in 2009 or 2010 is eligible for review and possible compensation.  The request for review runs to five pages, and the web site is not exactly user-friendly.  There is also a toll-free number to apply:  888-952-9105.

Compensation will be paid (in the amount determined by the independent reviewers discussed on this blog previously) for financial injuries resuting from errors, misrepresentations or deficiencies in the foreclosure process.  Examples include foreclosures during bankruptcy or against an active-duty service member, improper legal or other fees, or foreclosure while a homeowner is in trial or permanent modification plan.  The deadline to request a review is April 30, 2012.  A request for review will not stop foreclosure, and redress payments will not require borrowers to release claims or affect any pending foreclosure litigation or bankruptcy proceeding.  The foreclosure reviews are being done by consulting firms, such as Price Waterhouse and Promontory.

However weak or unreliable this process may be, homeowners have nothing (other than some time) to lose by applying for a review.  Borrowers in foreclosure litigation or bankruptcy might also want to seek discovery of their audit/review files to see what deficiencies were identified (or missed).

The Multistate Settlement Lottery: Bupkis

The NY Times had some details today about the multi-state attorney general mortgage servicing settlement in the works. It looks every bit as awful as one might have feared. Here's the criticial take-away:  this is bupkis. It gives meaningless relief to a meaningless number of randomly or adversely selected homeowners.  It doesn't do justice, even by halves. 

First, though, there's a detail reported in Gretchen Morgenson's otherwise insightful piece that I have on good source is incorrect.  The piece states that the banks would be doing principal write-downs on loans they own or service.  That's gotta be incorrect.  The banks can do principal write-downs only on loans that they own.  They have no legal authority to pledge write-downs on loans that they service on behalf of investors.  (Remember the Greenwich Financial suit against Countrywide for doing just that?)  

There's a critical implication here, then about the scope of the multi-state settlement:  at best 20% of the population of underwater mortgagees will be helped by this settlement, say 2.2 million homeowners.  The other 8.8 million (and probably 10 million by my reckoning) are SOL.  How do you think they're going to feel about their AGs?  About their President?  Too many times have American homeowners been promised help without receiving any.  It's getting old. 

Is the Jig up for MERS?

The Mortgage Electronic Registration System (MERS) has been the target in a lot of lawsuits during the mortgage crisis for its shoddy, opaque practices. But because these suits tend to be brought by borrowers in default, the courts have been willing to stretch the law to dismiss plaintiffs' claims. Something new is going on now. The Delaware Attorney General on October 27 sued MERS, a Delaware corporation, for deceptive trade practices for sowing confusion among investors and consumers and running an extra-legal registration system riddled with errors. The Delaware AG, Beau Biden, son of the vice president, is invoking the importance of transparent recording of property interests as a central part of American democracy since the colonial era. Some other AGs and other public officials are pursuing similar legal theories. The argument is that nothing is more important to our democracy than secure property rights recorded in transparent public records, and that the mortgage industry should not be permitted to take this away from us. To read about this new development, visit the Delaware Department of Justice web site, at http://attorneygeneral.delaware.gov/

Financial Stability Board Calls for Effective Consumer Finance Protection

The Financial Stability Board, an international organization operating under the auspices of the G20 countries, this week issued its Report on Consumer Finance Protection. http://www.financialstabilityboard.org/publications/r_111026a.pdf FSB emphasizes the link between international financial stability and consumer protection, particularly in the mortgage markets. It calls for regulation to assure assessment of borrowers’ ability to pay and to police credit product features that increase risk. The report engages in some comparative analysis and identifies national regulatory architecture that has been particularly effective, such as that of Australia. The report is part of an initiative to stimulate more international discussion of effective means of consumer protection, particularly concerning credit. FSB increasingly sees consumer protection as part of its mission to assess and address vulnerabilities in the international financial system. The report is worthy and sensible. Of course, implementation, primarily by domestic regulation of financial institutions, is a huge challenge.

Nemo Dat Trumps Bona Fide Purchaser

The Massachusetts Supreme Judicial Court just handed down a second major mortgage foreclosure ruling, Bevilacqua v. Rodriguez.  The case was an Ibanez follow-up dealing with the rights of a purchaser at an invalid foreclosure sale. I thought this was a no brainer case and said so in an amicus brief co-authored with some of the Credit Slips crew. As the trial court noted, the foreclosure sale purchaser has to lose otherwise I could actually sell you the Brooklyn Bridge or some other property I don't own.

What was cool about this case from an academic perspective was that it pitted two heavyweight, Latin-inscribed principles of commercial law against each other:  the nemo dat quod non habet principle (you can't give what you don't have) and the bona fide purchaser principle (one who takes in good faith for value and without notice of defect will get legal protection against claims). While these are both venerable principles of commercial law, there should have been no question that nemo dat prevails. It is arguably the foundational principle of commercial law:  the most one party can transfer to another are the rights it has.  

The Sweep-It-Under-the-Rug Housing Plan (updated)

There is $700 billion in negative equity in the US. That is the critical figure. Any housing plan that doesn’t take a serious bite out of that $700 billion isn’t worth discussing. It’s just window dressing. And that’s exactly what the latest iteration of the Tom Miller-led AG mortgage servicing settlement is. Sure it’s been sweetened by the addition of some interest rate reductions for underwater, but current homeowners (discussed at the end of this post), but that’s small potatoes. The latest settlement proposal is an exercise in rearranging deck chairs on the Titanic.

It’s time that we recognize that negative equity is the critical problem in the US economy. Fix negative equity and you will fix the US economy. That is because negative equity is the key for repairing household balance sheets, and that is the catalyst for getting consumers spending again, getting banks lending again, and getting businesses hiring again. If we're serious about dealing with negative equity, we need to address it directly and not engage in an extend and pretend dance. 

It's also time that we recognize that negative equity didn't just appear by itself.  This wasn't a freak weather event.  It was a man-made disaster.  We ended up with negative equity because of a housing bubble inflated by very deliberate acts by a limited number of financial institutions that profitted greatly from bloating the economy with cheap and unsustainable mortgage financing. We witnessed a macro-economic crime and are living with the consequences of it. 

The Way Forward: Going in Circles?

The latest proposal for dealing with the mortgage crisis comes from The Way Forward by Daniel Alpert, Robert Hockett and Nouriel Roubini (AHR), a policy paper sponsored by the New America Foundation.  AHR present is an incredibly wide-ranging proposal covering all sectors of the economy, not just housing, but I'm going to limit my comments to their mortgage crisis proposal. 

I was really hoping that there's be something innovative in the paper in terms of dealing with the mortgage crisis. There isn't.  Instead, AHR cobble together a variety of existing proposals.  The problem is that many of the existing proposals are grossly impractical (such as turning homeowners into renters en masse) and for the more practical proposals, such as principal reductions, AHR haven't figured out the catalyst for adoption, which is key. 

I don't like yucking on somebody's yum; this is a proposal that tries to grapple seriously with the mortgage problem in the US.  I wish there were more of this going on. (Hey, where's your proposal Levitin?) That said, I don't think this proposal is going anywhere. The one really novel move in AHR is its approach to loss recognition. It's also the scariest part of the proposal as it proposes taking us back into the "regulatory goodwill" accounting days of the S&Ls. 

More on Foreclosure File Reviewers

A simple google search for "foreclosure file reviewer" turns up a bunch of interesting things, including who is searching, what Level 2 means (as opposed to Level 1 or Level 3) and the involvement of Promontory, a financial services consulting firm headed by a former Comptroller of the Currency:

Robosigning 2.0: Mortgage Foreclosure File Reviewers

Do you have what it takes to be a Mortgage Foreclosure File Reviewer Level 2?  An intrepid researcher forwarded to me a job ad for a mortgage foreclosure reviewer who will be reviewing bank foreclosures per the OCC/Fed servicing fraud consent orders. I have seldom seen a document that says more about the bullshit malarkey that the OCC and Fed are trying to pass off to cover for the banks than this job ad. I think it demolishes even the thin fiction that the OCC/Fed servicing consent orders are anything more than Potemkin villages. Instead, what we have here is nothing less than a federally-blessed Robosigning 2.0.

OCC Servicing Settlement--Will Homeowners Get Screwed (Again)?

The WSJ reports on the latest development in the implementation of the OCC's mortgage servicing fraud consent orders.  It seems that the banks will have OCC approved "independent" foreclosure review consultants (chosen and paid by the banks) review foreclosure files from 2009-2010 and pay homeowners damages if there are any problems found.  

This proposal really worries me.  It's hard to imagine that the banks will part with any money unless they receive releases--broad releases--from the homeowners.  The homeowners, however, will not typically have legal representation and will lack the ability adequately value their claims against the banks. $100 for a complete release?  Why not?  

Mortgage Documentation Issues Close to (My) Home

The Arizona Supreme Court currently has under review a mortgage documentation case, Vasquez v. Saxon Mortgage, Inc. Just by chance, the Court was on its annual visit to the University of Arizona law college, where I teach, for the oral argument on Sept. 22. So of course I was in the audience at the argument, along with my students from our new Mortgage Clinic and a related course, called the Mortgage Crisis. We’ve been analyzing and debating the opposing arguments since.

Housing Finance: Role of the Government Guarantee

I'm testifying before the Senate Banking Committee on Tuesday about the role of the government guarantee in housing finance (a/k/a wtf do we do with Fannie and Freddie). My testimony is here. I expect it will manage to piss off people left, right, and center, but that's the nature of this GSE reform debate. 

I'm not thrilled with the prospect of a government guarantee, but I just don't think that there's sufficient the market demand for credit risk on U.S. mortgages for a non-guaranteed system to function. Do we really think that $6 trillion dollars of interest risk investors are suddenly going to decide they want credit risk as well?

Realistically, if it gets hairy enough, the government will bail out the system, Dodd-Frank, Tea Party, and all that jazz aside. We'll keep chanting no more bailouts until we do the next bailout. (Remember the War to End All Wars?) That means that it's better to have an explicit guarantee and price for it.  

Put differently, the choice we face is not guarantee or no guarantee. That's just a false dichotomy. The choice instead is between an explicit and an implicit guarantee. The implicit guarantee is a guarantee of moral hazard. The government will bail, but won't price for it. The explicit one certainly has its own problems, but at least it means we are being candid about the risks the government is assuming and trying to price for them and structure the guarantee to mitigate the risk that it will be used.   

Nevada AG: Securitization Fail

The Nevada AG is looking to reopen the 2008 AG settlement with BoA:  the AG alleges rampant and immediate non-compliance with the settlement.  The NYT coverage missed what is arguably the bigger story:  the Nevada AG came out and alleged a securitization fail.  The NY AG moved in this direction in his BNYM settlement action intervention, but was a little more oblique on that point. The Nevada AG minced no words: 

Bank of America misrepresented, both in communications with Nevada consumers and in documents they recorded and filed, that they had authority to foreclose upon consumers' homes as servicer for the trusts that held these mortgages.  Defendants knew (and were on notice) that they had never properly transferred [text redacted] these mortgage to those trusts, failing to deliver properly endorsed or assigned mortgage notes as required by the relevant legal contracts and state law. Because the trusts never became holders of these mortgages, Defendants lacked authority to collect or foreclose on their behalf and never should have represented they could.   

See also paragraphs 53 and 137-149. Amazing how the federal regulators missed all of this. Realize that it's been less than a year since the robosigning scandal broke and the chain of title issues started getting some attention. I expect we will see a lot more action on this front over the next year. Prosecutors, investors, and consumer attorneys are getting a lot more savvy about these issues, and it's getting harder and harder for the banks to dance around the problem.      

More on Refinancing Plan

Chris Mayer, one of the authors of the refinancing plan, a version of which is currently being considered by the administration, wrote in to the comments on an earlier post, protesting my characterization of his proposal. I have no argument with Chris about there being too many frictions in the refinancing process. I'm not sure that this is the best way to fix them, however, and I'm also puzzled by what problem the proposal aims to solve.  Is the goal to stabilize the housing market or to provide economic stimulus?  

Refinancing Malarkey

It looks like the Obama Administration is about to endorse some version of the Hubbard-Mayer plan of letting everyone (or at least everyone with an agency mortgage) refinance at today's low rates, regardless of whether they are delinquent or underwater.  (Gotta love how the administration picks up a 3-year old Republican plan with obvious deficiencies and acts like it's fresh meat.) I fail to see how such a plan will accomplish much.  

The ability to refinance depends heavily on whether a homeowner is current and has equity. Consider, then, the impact on the 4 categories of homeowners under this rubric:   

Foreclosure Crisis in Europe vs US

While European markets have seen increases in mortgage foreclosures, more robust regulatory intervention seems to have kept defaults and foreclosures to much lower levels than we are experiencing in the United States.  At the peak of the crisis a year ago, about 9% of US mortgages were in serious default (90 days or more past due or in foreclosure.)  The United Kingdom and Spain had default rates of less than 3%, which they still regard as a crisis.  The only EU country with mortgage defaults exceeding US levels is Latvia.  Detailed information on European foreclosure rates and prevention measures are available at the EU web site on the new mortgage credit legislation.  The report containing the table on the right is available here.

 European banks argue that the lower default rates are a result of less reckless lending prior to the crisis, compared to the US subprime market, and that may be true.  It is also clear from the EU Commission summaries that most European countries have actively required or strongly encouraged lenders to work out as many troubled mortgage loans as possible, and have introduced delays and procedural hurdles in the foreclosure process to further stimulate workouts. 

The UK launched two subsidy programs at about the same time that the US Administration launched HAMP in 2009.  The Homeowner Mortgage Support allowed borrowers with a temporary income loss to defer payments for up to two years, with the government providing the lender a guarantee in the event the borrower defaults in repaying the deferred interest.  It expired in April 2011.  The Mortgage Rescue Scheme provided government support for shared equity and right to rent programs, and the Support for Mortgage Interest program subsidizes interest payments for homeowners receiving income support benefits.

In 2009 there were about one million completed foreclosure sales in the US (out of about 60 million mortgages outstanding.)  In the UK there were 54,000 (out of about 15 million mortgages.)

Feds to AGs: Can't Touch This

As this NYT story notes, the administration has been putting pressure on the AGs, particularly NY AG Schneiderman, for several weeks now, urging them to fall in line with the administration's hear-no-evil, see-no-evil position on MBS and servicing fraud.  The NYT story makes it sound as if the feds were jolted into intervening because of pleas from the banks.  It's enough to make one think that we're back in 2005.   

There are three things that particularly bother me about what's happening.  

"Homeowners Need Help"

That's the headline of the lead editorial today in The New York Times.  The Gray Lady urges the Obama Administration to adopt solutions that reduce principal to restore homeowner equity as an essential step to economic recovery.  Principal pay down in bankruptcy gets a mention.  

Principal Pay Down in Chapter 13 as a Means of Foreclosure Prevention

As we have discussed recently, here and here, the Federal Housing Finance Agency has asked for ideas about how to dispose of foreclosed properties in bulk.  But there is no reason we shouldn’t take this request as also encompassing reducing foreclosed inventory by preventing foreclosures to begin with.  FHFA has the power to implement either type of program for loans or properties controlled by Fannie or Freddie, the government-sponsored entities under FHFA conservatorship.

So let’s talk about the idea of Principal Pay Down (PPD) in chapter 13 bankruptcy as a foreclosure prevention strategy.  FHFA could direct the GSEs to go along with chapter 13 plans that propose to pay down principal over five years, thus affecting a broad swath of home mortgages.

Here are the elements of PPD

Any Bright Ideas?

Jean Braucher has noted the FHFA's RFI on foreclosure prevention. A huge problem with any proposal is the time to implementation for anything. It took months to develop flops like FHASecure, Hope4Homeowners, and FHAShortRefi. Any program where the government and/or private parties have to do much gets a major ding in my book because by the time its rolled out and the kinks are worked out, it'll be too late.

So here are some thoughts. First, the government needs to settle on its policy goal. Why are we trying to prevent foreclosures? Is it a macroeconomic goal of stabilizing the housing market? Is it a macroeconomic goal of deleveraging consumer balance sheets? Is it a moral goal of helping unfortunates? Is it an electoral goal of making people feel that the government is doing something/is on their side?

Second, there are obvious limitations on what the administration can do. Anything involving legislation is a non-starter with this dysfunctional Congress. Rule-making too might be problematic. But there's plenty the administration can do without legislation or rule-making. What's upsetting is that the adminsitration doesn't seem to be giving any consideration to these options because it will involve some tussling with the financial sector. It's easier to pretend that its hands are tied by Congressional acrimony and that ideas don't exist. 

So let me throw out an idea: why not have FHFA order the GSEs as a safety-and-soundness measure to write-down the principal on all underwater mortgages?  Or to offer all underwater homeowners with GSE loans a shared equity refinancing? At the very least, this could be done no question on GSE portfolio loans, and with some smart lawyering probably also on GSE securitized loans. (And if there is securitizaiton fail with the GSEs, then they're all portfolio loans!) That deals with (1) strategic default/negative equity, and (2) consumer balance sheet deleveraging. It doesn't take much to expand that move to FHA/VA, bank portfolio loans, and to private-label (ah, what a squandered opportunity the servicing consent orders were...).  

Now this won't help with unemployment, but deleveraging consumers is the key to increasing consumer credit and increasing consumer spending, which is the key to increasing job growth. It's all connected.  It probably won't kick in until 2013-2014 (Maybe just in time for it to be known as the Bachman or Romney or Perry recovery?  If so, the GOP can thank the bank regulators), but it's the right thing to do. 

Fannie Mae Pushing Foreclosures

Story in the Detroit Free Press today here, and my commentary at Consumer Law & Policy here.

The US Government and the Foreclosure Crisis: Out of Ideas or Out of Will?

It’s old news that federal housing agencies need better ideas about what to do about the foreclosure crisis.  The new development is that they realize it and have issued a blunderbuss “RFI” (request for information) seeking ideas from anyone willing to write in by September 15 describing business structures for the government to off-load foreclosed properties it is holding, particularly in “large scale transactions” to deal with the scale of the problem of lingering “inventory.”  See here.   An RFI is something short of an RFP (request for proposals).  Indeed, this new RFI is careful to note the distinction and also that there may never be a call for actual proposals.   So let’s not get too excited.  Furthermore, the problem of the continuing foreclosure crisis seems to be less about ideas than about will to act.  Most disturbing, the RFI does not even allude to the possibility of beefing up foreclosure prevention as an important way to stem growth in the volume of unsold and vacant foreclosed homes.

So first, what is the government looking for?  Specifically, the Federal Housing Finance Agency (FHFA), in consultation with Treasury and HUD, seeks new options for selling foreclosed one-to-four unit properties held by Fannie Mae, Freddie Mac, and the Federal Housing Administration (FHA).   Bulk sales might be for resale, rental or demolition.

Consumers, Cast Your Vote

The Consumer Financial Protection Bureau has launched the first project in its "Know Before You Owe" initiative with the release of proposed mortgage disclosures. While the CFPB did its homework in designing these forms, including getting feedback from a wide variety of sources, it is taking field-testing to a new level by asking American consumers to review two proposed forms. Consumers can then vote for the form that they think best conveys the key information needed to understand a home mortgage loan. The choices, named "Azalea" and "Camellia" for the fictional banks on the sample disclosures, are available here. (Simply click to view them as a PDF and then vote for your favorite.)