RUTH DILLINGHAM – Equities are painful

The evolution of the financial services industry over the past decade has brought innumerable benefits to consumers and free enterprise alike. As a reflection of the new marketplace, the Legislature and regulators have been proposing changes in laws to benefit the industry.

The transition, however, has not always been smooth. In fact, it got downright messy in 1994, when Abbey Financial Corp. filed for bankruptcy on April Fool’s Day – leaving some attorneys, sellers and other clients scrambling to back checks and to avoid being the only ones left standing when the music stopped.

Recently, the U.S. Court of Appeals for the First Circuit ruled against an appeal by the Milford law firm Greenwood, Greenwood & Powers, which sought to recoup its losses by proving that Chase Manhattan Mortgage Corp. was unjustly enriched by the actions of Abbey.

The appeal was heard before U.S. Circuit Judge Michael Boudin, U.S. Senior Circuit Judge Levin H. Campbell and U.S. Circuit Judge Sandra L. Lynch. Boudin wrote the decision.

The entire matter reaches back to 1994, when the Greenwald firm acted as the closing agent for Abbey. Several refinances were to be purchased by Chase. After receiving the promissory notes, Chase wired money to Abbey. Greenwald received uncertified checks from Abbey for the purposes of satisfying the previous mortgages, according to the appeal decision. Before the checks cleared, the firm issued checks to satisfy the prior mortgages.

Four days later, on March 28, Abbey sent the firm a letter warning that Abbey’s checks might bounce. Despite trying to stop the checks the firm had issued, two checks still went through. The result was the law firm had used its own money to satisfy the prior mortgages. On April 1, Abbey filed for bankruptcy.

“[Before] licensed mortgage lenders, the money that came into the closing was, if you think about it, a bank check. So one never really had to worry, aside from a bank failure, about there not being any money at the closing table,” said Ruth A. Dillingham, special counsel at Lenders Advantage in Boston.

The Greenwald firm did not respond to multiple requests for comment on this story.

Today, banks send money to the mortgage lender. The money that comes to the closing table is drawn on the corporate assets of the lender. If the lender is having trouble, then the money brought to the table may be no good, she said.

“Now we have what’s called the Good Funds Statute, which means that Abbey would have had to deliver [the money]. The statute was passed very much in response to the Abbey case,” Dillingham said. The funds would have to be in the form of a certified check or could be wired directly into the firm’s account and verified.

But in 1994, the relationships between firms and mortgage lenders were relying substantially on professional trust.

“So the problem for the law firm is that they get stuck in the middle. What is their recourse? Well, their normal recourse would be back against Abbey, but that’s not going to do them very much good because Abbey doesn’t have any assets,” said Dillingham. Instead, the firm looked to the entity that funded Abbey, which was Chase.

Taking Risks
In his decision, Boudin wrote that “The underlying issue is an interesting and difficult one.”

“Chase and the Greenwald firm each blame the other for taking risks,” he wrote in the decision handed down March 2.

“The Greenwald firm points to Chase’s payment to Abbey before receiving firm proof that the prior mortgages had been discharged, and the Greenwald firm says that Chase speeded up the mortgage process for its own benefit and had some reason to know that Abbey was on shaky ground. In response, Chase says that the Greenwald firm had even better reason to know of Abbey’s condition, and that it ‘enabled’ its own loss by paying out escrow funds before Abbey’s checks had cleared,” wrote Boudin.

But Dillingham said that Greenwald’s actions during that time were the normal course of business taken by attorneys. “This was the ‘rock and the hard place’ that many law firms were up against in that timeframe, because the mortgage lending industry as a whole was moving from banks – who always delivered good funds, because it’s bank money – to licensed mortgage lenders who were only as good as their pocketbooks,” she said.

“The equities in this are painful because the law firm ended up being out the money. Do the sellers deserve to get paid their proceeds for the sale? Of course. But Abbey didn’t fund the law firm correctly, and the warehouse lender is now in possession of good valid notes executed by the borrowers,” said Dillingham.

Greenwald did nothing unusual in its business dealings with Abbey, but ended up suffering the consequences. “And that’s exactly what the judge finally said. That’s not really, ultimately, the buyer of the note’s fault. But your heart goes out to this law firm … but it does answer the question for us now, in Massachusetts, of who has this responsibility,” she said.

According to Dillingham, the Good Funds Statute, which was passed in 1995, has given the attorneys involved in such transactions a stronger position in dealing with the lender/client.

Although the situation was messy, in many instances, title insurance companies stepped up and made good on the mortgages.

Title insurance companies then worked with attorneys and in particular the Conveyancers Association to get the statute passed.