In a potentially troublesome decision for the Mortgage Electronic Registration System (MERS), a Massachusetts bankruptcy judge has voided a 2006 foreclosure – opening the door for future cases in which mortgages assigned to MERS are similarly questioned.
Massachusetts Judge Melvin Hoffman ruled that because the mortgage in question was not properly assigned to the foreclosing bank prior to the notice of sale, the bank had no right to foreclose. The ruling is one of the first from a bankruptcy court to follow the reasoning laid out earlier this year by the Massachusetts Supreme Judicial Court in the landmark Ibanez case.
The mortgage in the In Re. Schwartz case had been assigned to the MERS, and raises questions about how many other previously entered foreclosures involving MERS may now be open to challenge. Nationwide, more than 60 percent of mortgages are registered in the MERS system, which was founded by a consortium of large banks in partnership with Fannie Mae and Freddie Mac as an alternative to the traditional land recordation system.
In the case in question, homeowner Sima Schwartz refinanced the mortgage on her Worcester home in July 2005. First NLC Financial Services was the initial lender, though the mortgage was assigned to MERS. First NLC later sold the note, and it was eventually securitized and put into a trust overseen by Deutsche Bank.
When Schwartz fell behind on her mortgage in 2006, Deutsche foreclosed. Schwartz contested the foreclosure, and at first Hoffman ruled against her. But she filed a motion for a new trial, arguing that the judge had failed to take into account the Supreme Judicial Court’s Ibanez ruling.
The Ibanez ruling invalidates a common practice in the mortgage securitization industry, repudiating the idea that an assignment of a note in blank means that the noteholder also has the right to foreclose on the loan (in other words, that they have a right to the mortgage).
Historically, in order for a lender to have the right to foreclose the change in ownership of the mortgage must be recorded in the state’s registry of deeds. During the securitization boom of the last two decades, however, this procedure was often not followed, with assignments often being recorded only after the foreclosure had been carried out.
Hoffman agreed with the motion to try again, and in the second trial voided the foreclosure sale.
"The sophisticated financial minds who wrought the MERS regime sought to simplify the process of repeatedly transferring mortgage loans by obviating the need and expense of recording mortgage assignments with each transfer," Hoffman noted in his decision. "No doubt they failed to consider the possibility of a collapse of the residential real estate market, the ensuing flood of foreclosures and the intervention of state and federal courts."
Given that MERS did assign the mortgage to Deutsche just before the foreclosure sale, it would now be possible for Deutsche to file the foreclosure anew, according to Rich Vetstein of the Vetstein Law Group in Framingham – though he said the fact the homeowner is in bankruptcy might complicate that.
What’s less clear is whether Hoffman’s ruling opens up thousands of other pre-Ibanez cases to potentially be ruled void.
"It’s murky," Vetstein told Banker & Tradesman. "In some cases, foreclosures were done in the name of MERS, in others there were these assignments to Deutsche [and other lenders] right before the foreclosure sale." These practices went on for several years before the Ibanez case suggested that process might be problematic.
But the case may have even larger implications, says Christopher Peterson, a law professor at the University of Utah and an expert on mortgage securitization.
When mortgages are securitized, they are put into a trust to help prevent the assets from being taxed or claimed in a bankruptcy. But in order to receive these protections, there are strict rules about how and when the assets must be transferred into the trust.
"Across the board, lawyers gave ‘true sale’ opinions saying that whatever was being sold into trust was being sold entirely," said Peterson.
But if, as Hoffman ruled, MERS still owned the mortgages at the time of securitization, then the mortgages would not have been legally conveyed into the trust.
How exactly that would affect the trust status is as yet unclear.
But "the breathtaking implication of that is that, any loans which were put into the MERS system, the investors [in the securitization trust] don’t really own the lien," and may not be able to legally foreclose, Peterson said.
For anyone familiar with the Ibanez case, there’s "nothing new in the decision," said Ed Bloom, president of the Real Estate Bar Association. "By waiting until shortly before the foreclosure sale date to transfer the mortgage from MERS to Deutsche Bank, the lenders ran afoul of the Ibanez ruling. MERS should have assigned the mortgage to Deutsche Bank prior to the commencement of the foreclosure process when notices of the foreclosure sale were published."
Janis Smith, spokeswoman for MERS, said that while the firm regarded the assignment as a valid one, it would be possible for any foreclosures which occurred under similar circumstances – when an assignment of the mortgage was made after the notice of foreclosure was posted – to be challenged. Smith emphasized that Hoffman had ruled in a prior case, In re Marron, that MERS can convey legal title in a mortgage in Massachusetts, and this case also affirmed that.
