More Housing Woes Ahead? Part 2
In a recent Ohio case. the judge dismissed a number of foreclosure requests because the plaintiffs could not show that they were the legal owners of the properties. This ruling seemed like it was a minor technicality is going to the complicated nature of the securitized mortgages. BusinessWeek published a short article, saying that the ruling was more serious. Although the creditors can rectify the situation, to do so will not be an expensive. Perhaps more interestingly, the article suggests that the failure to do the proper paperwork may open up some parties is to legal liabilities.
Orey, Michael. 2007. “Foreclosures: Not So Fast.” Business Week (10 December).
“The notion that large numbers of homes across the country might one day have to be seized as security for mortgage loans seemed preposterous during the go-go days of the recent housing-market boom. As Wall Street collected millions of mortgages into giant securitization pools, one of the key legal procedures for transferring ownership of the loans appears to have been often ignored. At a minimum this lapse could impose extra costs on the mortgage industry when it can ill afford it. At the maximum it could open mortgage investors to an obscure legal attack by homeowners that in some cases could block foreclosure.”
“The problem stems from a shortcut that many players in the fast-moving securitization business have used in recent years. Normally, when a loan is sold, a simple document is prepared showing that the debt and any collateral attached to it has been transferred to the purchaser. That piece of paper is called an assignment. But in buying up thousands of mortgages at a time, Wall Street commonly skips this step, which requires separate paperwork for each loan. Instead, the industry customarily relies on a lengthy contract, known as a pooling-and-servicing agreement (PSA) to spell out arrangements for all of the loans in a pool. But, as some recent court rulings indicate, a PSA may not be good enough when it comes time to foreclose.”
In the wake of the Boyko ruling, which came as a surprise to Wall Street, mortgage-industry representatives said it would be easy for players such as Deutsche Bank to fix the technical problems and resume foreclosing on homes. That may be true, but these added steps will introduce costly delays and additional fees to the foreclosure process. Lawyers will have to draft assignment documents, paralegals will have to get them signed and recorded, and filing fees will have to be paid. “These deals operate on very, very thin margins,” notes Joseph R. Mason, a finance professor at Drexel University in Philadelphia. Even an extra dollar a loan, he says, is “a huge cost”.”
“There also could be a more troubling consequence for investors, says Kathleen C. Engel, a professor at Cleveland-Marshall College of Law. Players in the secondary market for mortgages rely on an obscure but critical legal theory–known as the “holder in due course” doctrine — to insulate themselves from problems with the underlying loans. “Under the doctrine, a homeowner who believes that a lender deceived him about the terms of a loan can’t press such claims against the purchaser of a mortgage, such as a mortgage-backed securities trust. The holder-in-due-course doctrine protects pension funds and the like from having to worry about any misbehavior by home lenders–and thereby greases the wheels for the whole mortgage-securities market. But it’s a different story if, as appears to be common practice, the trust waits to complete paperwork transferring a loan until after it goes into default. In that case, the holder-in-due-course protection evaporates, and anybody who tries to foreclose could face defenses from the borrower that he or she was lied to when seeking a loan.”