1. A BNA, INC.
REAL ESTATE !
LAW & INDUSTRY REPORT
Reproduced with permission from Real Estate Law &
Industry Report, 3 REAL 732, 10/19/2010. Copyright
2010 by The Bureau of National Affairs, Inc. (800-372-
1033) http://www.bna.com
FORECLOSURES
Attack of the Fire Ants: Homeowners Breach the Mortgage Foreclosure Wall
There’s a cry from the field. The men look up and see
a banker tearing at his leg. He’s stepped onto one of the
mounds and it’s collapsed beneath his weight. Ants are
swarming out of the ground, covering his shoes, racing
up his socks, under his trousers and onto his legs.
They’re biting into his flesh. They’re injecting venom.
Again and again and again. The man howls in pain,
tearing at his belt, pulling down his trousers, brushing
the ants from his legs. They’re now on his hands, in his
face, in his eyes. He screams louder and runs.
Another shout from the field. Another banker has
crushed a mound, sinking into a pit up to his waist. Ants
are swarming him, too. Thousands of them. They’re
stinging him as well. Red welts appear on his skin.
BY RICHARD ZAHM Worker ants, scout ants, guard ants—all enraged, all fo-
P
cused, all on attack.
icture a large field filled with men in business
More howling. More mounds are collapsing. More
suits. They’re bankers and investors—a few con-
men are falling. Red ants are everywhere, millions of
gressman stand at the edge. The bankers are
them bubbling out of the earth, tiny red pins of fire. The
walking slowly, and as they walk, they slowly step on
men begin to lose their composure, crashing into one
small red ants, squashing them beneath their Florshe-
another, pushing, shoving, looking for escape. . .
ims. The ants cover the field, carrying enormous loads
(they can carry five times their body weight). Small This is the picture of the mortgage market today.
mounds of earth mark their nests.
The Ants.
Richard Zahm is a direct lender and portfolio Defaulters: Scout Ants. Earlier in 2010 a curious phe-
manager based in Connecticut and Califor- nomena was unfolding. People who had borrowed
nia. He may be reached at richzahm@ money to buy a home, and who could afford to make
gmail.com. their monthly mortgage payments, were choosing not
to. The housing market in the United States was col-
COPYRIGHT 2010 BY THE BUREAU OF NATIONAL AFFAIRS, INC. ISSN 1944-9453

2. 2
lapsing, driving the price of homes down as much as 40 Borrowers in recourse states delay their surrender
percent. longer than those in nonrecourse states. Those with
Examining the amount of money they owed on their high credit scores also delay the move. Homeowners
mortgage, and comparing it against the value of their with FICO scores between 620-680 trigger defaults at
home, they reckoned that it would be years before they 150 percent LTV, while those with scores above 720
would have any equity in their homes—they owed much hang in longer, pulling the plug at 170 percent LTV.
more than their homes were worth. But the deciding point overriding all of these is differ-
An enormous number of people were underwater— ent: it’s anger. People have an innate need to believe
and their number was increasing. A portion of them that they pay for something what it’s worth. Overspend-
were acting. They would buy another, similar house for ing is a sin, and a sale is ambrosia. For people with
a much lower price. They would rent a house for a frac- mortgages much greater than their homes are worth—
tion of their mortgage payment. But most critically, they and who have no equity in their homes—the natural re-
would simply leave. Having analyzed their finances and action is to seek a balance. This takes the form of a loan
their future, they put the keys to their homes into an en- modification.
velope and mailed them to their lender. And then they The impetus for a request to a lender is usually a fi-
left. nancial loss—loss of a job, accompanied by an extended
‘‘Strategic defaulters’’ were decried as deadbeats, term of unemployment. This isn’t unusual now: 14 mil-
miscreants, people gaming the system at their neigh- lion Americans remain unemployed and at current rates
bors’ expense. But they didn’t match the description of employment might not reach former levels for eight to
people who’d historically lost their homes through fore- 10 years.
closure. They were educated. They had steady income, Borrowers have negative experiences with the loan
good credit scores. They had a variety of home loans, servicers working for the lenders. They spend enor-
having signed up for the products that were sold to mous amounts of time on hold, their calls are not re-
them—Alt A, Option Arm, Pick-a-Pay, Prime. turned, they receive misinformation, their files are lost,
Over the course of the year, as their numbers grew, it they’re threatened. They’re scared. They’re frustrated.
became clear that they were not like the people who Modifications that have been made have generally
were being evicted in the tens of thousands each month. been short-term catch-up plans that benefit the servicer
These were not people who should have been renters, more than borrowers: Even Home Affordable Modifica-
who had been sold subprime loans, who lost their jobs, tion Program (HAMP) ‘‘permanent’’ modifications are
were foreclosed, and who packed up U-Hauls, leaving only five-year payment reduction plans. Finding that
their homes in the night. the modifications generate only minor reductions in
They were young families, professionals, and the re- monthly payments, they turn away. (Without principal
tired. They weighed the impact their decision would reduction or a significant, permanent interest rate cut,
have on their credit scores, their savings, their life. And big savings are virtually impossible: do the math.)
they moved. They believe they’ve acted in good faith. And they
Their numbers are potentially vast. feel that they’ve been ignored, rebuffed, belittled, de-
The curious element is not how many people have layed, and lied to. And if they haven’t, they’ve heard
made the strategic move. It’s how few. Their decisions about the experience of others. They act. Or, increas-
came about from a combination of the capability to con- ingly, they don’t.
tinue making loan payments; a belief in how quickly Their credit shot (the biggest hit takes place within
their homes would regain earlier values, and the per- the first 90 days, 130-150 points), unemployed (along
centage amount their homes are underwater. with 14 million other Americans), strung along by ser-
vicers, they take matters into their own hands.
They make their own loan modifications. They stop
It’s debatable whether someone who purchased a sending in their payments.
Strategic defaulters were the first surge of ants.
home for no money down (or, better yet, a loan for
Squatters: Worker Ants. Living on someone else’s
125 percent of the purchase price) was actually property, paying nothing, isn’t especially unusual. An
estimated 1 billion people do it worldwide. Enjoying
a ‘‘homeowner.’’ ‘‘Borrower’’ would be more their convenience, Americans have merely taken it to
another level. Watching the experience of their neigh-
accurate. What’s less debatable is the savings that bors, who may have gone through foreclosure or who
simply moved away, they’ve streamlined the process.
result from not paying to live somewhere. Bank They squat in their own homes.
Living mortgage free—and rent free—has become a
of America’s loss has become The Cheesecake way of life for an enormous number of people. There
are about 7.2 million borrowers currently not paying
Factory’s gain. their mortgage. Counting the kids, this adds up to a
population of around 17 million people. That’s the
population of Washington, Oregon, Nevada, Kansas,
and Utah—Combined.
Homeowners make the decision to default primarily Foregoing payment frees up money to spend on other
based on how underwater they are. The tipping point is things: visit a shopping mall in areas with high foreclo-
around 150 percent loan to value (LTV). At this point, sure rates and look for a parking space. About $11 bil-
35 percent of borrowers will send in the keys. At 162 lion is being pumped into the economy each month,
percent LTV, more than half will walk away. solely from people who’ve decided to reallocate their
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3. 3
household income away from lenders. This accounts for alarms went largely unheeded until late September and
about 1 percent of all consumer spending in the United early October.
States.
Too many incidents were breaking out for Reuters
It’s debatable whether someone who purchased a
and Bloomberg to ignore. And when the stories broke
home for no money down (or, better yet, a loan for 125
there, government responded. House Speaker Nancy
percent of the purchase price) was actually a ‘‘home-
Pelosi sounded an alarm within days; Rep. Alan Gray-
owner.’’ ‘‘Borrower’’ would be more accurate. What’s
son (D-Fla.) posted an eight-minute screed on YouTube.
less debatable is the savings that result from not paying
to live somewhere. Bank of America’s loss has become The Public Interest Lawyers. Finally, the unsung he-
The Cheesecake Factory’s gain. roes might be the lawyers serving the underdogs, home-
From default to eviction, the average homeowner can owners unlikely to be able to pay retainer fees, let alone
stay in his home for 420 days. This number varies by their mortgage. Chipping away against the Byzantine
region—Florida and New York residents reputedly are securitization structure itself, acting independently,
remaining for two to three years . . . or more. Foreclo- they were able to bring to light the dark, dirty secrets of
sure reviews and moratoria initiated by regulators in the lending world. These took the form of hapless
early October could extend this backlog to as long as 10 clerks working for law firms and servicers: Robosign-
years. ers.
For lenders—and for the economy as a whole—
squatting may be the least-worst option. Home invento-
ries have swollen and home sales are extremely slow. Collapsing the Mound.
Underwater would-be sellers have little incentive to sell,
Mortgage Servicers and Robosigners. The villains—or
and prospective sellers haven’t found the market bot-
stooges—of Foreclosure-gate are likely to be the mort-
tom. There’s no rush to buy when better deals could be
gage servicers. Contracted by lenders—or owned out-
had by waiting. Bank-owned inventories weigh heavily
right by them—they’re nominally overseen by the Fed-
on banks’ balance sheets, and foreclosures increase
eral Trade Commission, Office of the Comptroller of the
losses on homes for lenders of around 20 percent to 30
Currency, and Office of Thrift Supervision. Very few ac-
percent.
tions have ever been taken against them. There’s basi-
Vacant houses can quickly lose value simply from cally no direct government recourse against servicers
non-use, especially in hot, humid areas like Florida and (until now) government agencies have shown little
where the land has its own hunger for homes. Brown interest in them. The problem stems from the fact that
lawns and black-lagoon swimming pools are minor con- the regulators are overseeing the banks . . . and the
cerns when compared to more pressing conditions, like banks run the servicers.
interior mold. Non-paying residents bring with them
some promise: They want to be in the house, they’re The sole point of contact for borrowers are servicers,
likely taking care of it, and sometime in the future who are themselves disincentivized to modify loans.
there’s the possibility of receiving payment of some They’re required to advance principal and interest on
type—rent, a new loan, call it what you will. nonperforming loans to securitization trusts—but
And in the meantime, there is value to the commu- they’re quickly reimbursed for foreclosure costs. Focus-
nity. Real estate taxes are being paid. Children are be- ing on foreclosures makes sense.
ing educated. Groceries and gasoline are being bought. In mid-September ‘‘robosigners’’ were uncovered
There’s a waiting list for reservations at Applebee’s. through depositions held in a number of states. Mid- to
low-level mortgage servicer employees admitted to a
practice of rapidly signing and notarizing affidavits re-
Watch and Guard Ants. lated to the loans being serviced. Drawn from the ranks
of hairstylists and assembly line workers, they were
The Internet. The internet played the same role with given a few days training before being put to work at-
homeowners as alarm frequencies do with ants. Com- testing to the contents of documents that they neither
munication between homeowners was accelerated reviewed nor understood.
across the country. They learned of their experiences
with mortgage brokers, with lenders, and with their ser-
vicers. They were able to compare notes, to establish
patterns and—most importantly—to break out of the And as the robosigners were precursors of the
sense of moral and financial failure and shame, isola-
tion crucial for lender control. affidavits, affidavits (and the underlying
While newspapers were hesitant to discuss unpleas- documents) themselves are central components to
ant realities of life, people actually going through their
personal home nightmare were learning and gaining a much bigger element: securitization itself.
strength from others. Homeowners were being crushed,
to be sure. But they were gathering knowledge.
The Bloggers. Operating outside traditional journal- They didn’t have time to. They signed as many as
ism channels, but with enormous reader bases, blog- 10,000 affidavits a month—each—treating them like the
gers began following the stories that weren’t seen as material they’d shoveled into chutes in previous ca-
relevant by popular press editors. Yves Smith (Naked reers. The affidavits were widespread—affidavits of in-
Capitalism), Ellen Brown (Web of Debt), Barry Rein- debtedness, lost-note affidavits, postdated mortgage as-
holtz (The Big Picture) all noted procedural signments. Their purpose: cover up breaks in the chain
peculiarities— or worse—as early as spring 2010. Their of title and establish legal standing to foreclose. In the
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4. 4
end, they created an ocean of counterfeit documents The situation arose from a mismatch of two different
that courts had relied on in foreclosure hearings. worlds—securities and real property law. For centuries
In addition to forged signatures, Social Security num- lenders have gone to county courthouses each time a
bers were swapped, documents were backdated and no- mortgage was sold. The sale would be recorded and a
tary stamps were apparently passed around tables like new owner would be named in the public records. In
condiments. The practices of the mortgage foreclosure the event of a default the identity of the loan—the party
industry bear an eerie resemblance to the mortgage who had the right to foreclose—was clear.
origination industry, which created the situation in the Affidavits are only the tip of the iceberg. Mortgage
first place. pool documentation typically requires that in the event
Although the robosigners caught the attention of the that a small (0.01 percent) percentage of notes is a
media, they are only bit players. The documents them- mortgage weren’t properly transferred, then the trustee
selves should be the focus. for the bondholders can require that the investment
bank that put together the deal to repurchase the mort-
Affidavits and Notes. Affidavits are effectively a gages.
stand-in for live testimony to the court. Based on per- Under the circumstances being revealed, it could be
sonal knowledge and belief, signed by an authorized in- that none of the notes was properly transferred.
dividual, notarized, affidavits carry significant weight. Similar requirements exist for the quality of mort-
They’re not just ‘‘trivial paperwork.’’ gages being transferred. It’s becoming apparent that in-
Lost note affidavits (LNAs) have been routinely used dependent underwriters performing due diligence of
in the past when the actual, original, signed copy went sample loans found as many as one-third of loans con-
missing or was damaged. They’ve been described as be- tained in a pool failed to meet standards. Rather than
ing like automobile titles that somehow slip out of the replace the low quality loans with higher quality ones,
glove compartment and are trampled by the kids’ Uggs. investment bankers did what made sense: they merely
The difference here is that entire financial institu- lowered the price.
tions are now claiming that they are routinely losing or
damaging original promissory notes. This is what the Securitization. And as the robosigners were precur-
robosigners were attesting to: tens of thousands of lost sors of the affidavits, affidavits (and the underlying
notes, per month. documents) themselves are central components to a
much bigger element: securitization itself.
Securitization complicates the paper trail for a given
mortgage by facilitating permutations in the servicing
Sidebar. and ownership history of the loan. A loan can undergo
Mortgage Primer. A mortgage is made up of two com- several assignments on its way to the destination pool
ponents. There is the ‘‘note,’’ which describes the as trustees shop for the most efficient servicer. Recon-
amount owed. It’s a promise to repay a debt, an IOU. structing the facts behind a single loan can become a
Covered by the Uniform Commercial Code (UCC), it staggering task.
contains the terms of the debt obligations: how interest Blank note assignments—standard industry
is calculated, late fees, what constitutes a default. It’s a practice—dramatically increase the probability of
negotiable instrument, like a check that can be signed shoddy assignments. A note assigned ‘‘in blank name’’
over to others. It requires real signatures—something becomes a bearer instrument, like a check. Bearer in-
that cannot be done electronically. struments require: a receipt of delivery and acceptance
from the originator to the sponsor and from the deposi-
Within a securitization context, the note has to be en- tor to the trustee. The custodian must have all of these
dorsed over like a check, from A to B to C and finally to documents and the original notes before a loan is con-
the trust, all within a specified time period—usually 90 sidered to be owned by the trust. All of this is the re-
days. sponsibility of the trustee.
The second component is the mortgage (‘‘lien’’). It’s
an ‘‘accessory’’ to the note. Covered by state real estate
law, it’s filed in county recording offices and provides a
history of land transfers. It’s also an enforcement
As more states are challenging, MERS didn’t
mechanism, giving the right to take away the collateral
(the house) if the note is not paid.
actually create a separate ownership interest.
In 45 out of 50 states, if you don’t own the note, you Courts have held that MERS didn’t attempt to
can’t foreclose.
More important, affidavits themselves may not prove demonstrate a tangible interest in the mortgage,
loan ownership regardless of how they were signed.
In Ohio, Judge Christopher Boyko reviewed claims of that it didn’t lend money or receive mortgage
big banks seeking to foreclose on home loans origi-
nated by local banks. The loans had been recorded in payments, that it suffers no monetary loss, that it
public records in the name of the small banks before
they had been sold. The big banks claimed ownership has no authority to transfer promissory notes.
of the loans, although there was no public record of the
assignment taking place. There was also no record of
assignment of the note to a trust or successor interest.
Boyko found an inherent conflict in the filings them- The rush to move large volumes of loans created fail-
selves and denied the big banks standing. (In re Fore- ures in the ‘‘true sale’’ process. Under trust laws, notes
closure Cases, N.D. Ohio, 1:07-cv2282, et seq, 10/31/07) have to be signed over within a specified time period.
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5. 5
New York trust law—the predominant governing problem.’’ It carries a catastrophic outcome: It cuts the
law—is especially rigid in this regard. The very issue of chain of title.
securitization could be called into question due to the A recent California bankruptcy case (In re Walker,
widespread failure of issuers and trusts to transfer Bankr. E.D. Cal., No. 10-21656-E-11, 5/20/10), following
rights. landmark cases in a variety of jurisdictions recently
Interesting developments to watch for in the future held that the electronic shortcut makes it impossible to
will be the degree of recklessness servicers and bank- establish the ownership of titles—or to foreclose on
ers will have been found to have engaged in. Tales of mortgaged properties.
bank contractors breaking and entering the wrong The staggering implication is that a house in which
homes, are appearing, as are stories of multiple banks MERS was involved might not have a perfected security
foreclosing on the same house. Media attention is being interest as an encumbrance. Foreclosures based on
given to people who have had their homes foreclosed documents or presumptions based on MERS could be
upon . . . who have no mortgage. void. Result: quiet title could be obtained on a home
As these stories collect, anger and frustration with foreclosed upon and sold years ago. Another result: 62
government and with the economy could find a strong million homes could be foreclosure-proof.
focus: banks. MERS has no relationship to the note holder—it
As late as mid-September 2010 the accepted wisdom doesn’t hold legal title as an agent for the owner of the
was that the residential real estate market needed to ex- loan. This owner is always a trust. Or it is supposed to
perience a rapid clearing. Delinquent borrowers were in be a trust.
the process of having their loans modified (assisted by As more states are challenging, MERS didn’t actually
as many as eight separate government programs). If create a separate ownership interest. Courts have held
they didn’t qualify for a modification, their home would that MERS didn’t attempt to demonstrate a tangible in-
be foreclosed. terest in the mortgage, that it didn’t lend money or re-
REO (bank-owned) and foreclosure sales accounted ceive mortgage payments, that it suffers no monetary
for roughly a third of all home sales, and served to loss, that it has no authority to transfer promissory
weigh down home prices. Controlled speed was the fo- notes.
cus. The foreclosure machine had to move forward, al- In addition, while MERS has been bringing foreclo-
though not at such a great rate that enormous amount sure proceedings in its own name, it’s not capable of
of REO properties would land on the market, further providing responses to discovery requests with respect
depressing prices. Homeowners—the ants—would be to predatory lending claims and defenses: It’s merely a
squashed, an economic necessity. proxy to do the dirty work in foreclosures.
September 2010 saw a record 100,000 homes seized If mortgage ownership can’t be proven, the actual
after foreclosure. Foreclosure filings were up to around loan owners foreclose because they can’t appear in
350,000. One out of 371 households in the United States court. And if ownership can’t be proven, how can the
received a notice of default in that month. Foreclosure market value of the mortgages or the securities backed
sales accounted for a third of all U.S. transactions. by the bundles of mortgages be established?
Fannie Mae has taken note: Foreclosures filed after
Ant Swarm. By Oct. 15, the market finally began to May 1 can no longer name MERS as plaintiff on mort-
take notice of the foreclosure situation: Bank of gage loans owned or securitized by the government-
America (BofA), JP Morgan Chase, and other major sponsored enterprise (GSE).
lenders each lost 5 percent of their market value—in a
single day.
MERS. In the world of mortgage backed securities—
bonds secured with hundreds or thousands of Going forward, the focus for borrowers is to find
mortgages—the annoying, antiquated recordation sys-
tem was at odds with the need to quickly transfer loan some paperwork error that will keep the bank
ownership. The lending industry—led by BofA—created
MERS—the Mortgage Electronic Registration System. on the hook—and the borrower in the home.
MERS works like this: When a loan was originated Morgan Stanley estimates that as many as
and sold, it was assigned a MERS number, similar to a
vehicle’s vehicle identification number. MERS then be- 9 million homes that have been or are being
came the nominal owner. Subsequent loan ownership
transfers were made within MERS—and outside the foreclosed upon could challenge the validity of the
public record.
Over 62 million residential loans in the United States foreclosure.
are registered in the name of MERS and recorded in
county record offices in MERS’s name. Result: the pub-
lic record system no longer contains the identity of the
holder of the note. County recording systems increas- REMIC. Mortgage-backed securities are pooled
ingly are full of one name, without meaning: MERS. through a Real Estate Investment Conduit (REMIC) that
MERS provided speed, and it cut registration fees, must hold all the paperwork, demonstrating a complete
claiming to have saved as much as $2.4 billion for lend- chain of title. This is Internal Revenue Service code.
ers (at the expense of local governments). But the re- Done properly, taxes are avoided.
quirements for the conveyance of mortgages is well- It now appears that the original notes are still held in
established black letter law. Failure to comply with the loan originator warehouses . . . somewhere. Or maybe
requirements doesn’t create a ‘‘technical paperwork not: enormous numbers of loan originators have disap-
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6. 6
peared. Because of this, the trustees do not have the companies. Phone calls to loan servicers are routinely
notes, either. There are no endorsements. ignored, or referred to clueless staff.
Why weren’t the notes conveyed to the REMICs? Going forward, the focus for borrowers is to find
First, trustees might have feared an audit by investors. some paperwork error that will keep the bank on the
Better to ‘‘misplace’’ the notes and then later manufac- hook—and the borrower in the home. Morgan Stanley
ture new ones for foreclosure. estimates that as many as 9 million homes that have
Another possibility is that the tracking process itself been or are being foreclosed upon could challenge the
may have prohibited the assignment of the notes to the validity of the foreclosure.
REMICs. Mortgages would be tranched into a variety of The approach would be straight-forward, and cases
securities of different quality. But an individual mort- could share common fact patterns. Borrowers would
gage isn’t assigned to a particular tranche until it de- not maintain to the court that they didn’t owe amounts
faults. At default, it’s assigned to a lower tranche secu- due, or that they should obtain title to their homes for
rity and the foreclosure process begins. free. They could merely object to the foreclosing party
So, because a trustee had no way of knowing which getting the house for free, absent proof that they’re ac-
mortgage would default, there was no way to even as- tually the party in interest. Merely demonstrating this
sign a note. simple element could prove to be a colossal task for in-
Trustees tried an end-run by using MERS as a con- vestors.
duit . . . but MERS didn’t have the paperwork, either.
Lessons and Possible Solutions.
Government Reaction. By mid-October the attorneys s Although regulators and big banks have down-
general of all 50 states had joined to probe loan ser- played the situation as one requiring merely a review of
vicers accused of submitting false affidavits. They processing best practices, this is the critical determina-
stopped short of calling for a national foreclosure mora- tion: Is there any validity in the vast bulk of
torium. securitization? How capable is the securitization indus-
Their focus is on forged signatures that could have try of disregarding its own contracts and the legal pro-
violated laws of unfair and deceptive practices—laws cedures designed to protect it?
use to protect consumers from false advertising could s Securitization’s flaw comes not from its structure
be applied to foreclosures. The initial call is for a or its theory, but from its inherent failure points: com-
$25,000 fine per violation. plexity, human error, and greed. Regulatory oversight
The Obama administration has been largely quiet on is a crucial component.
the matter, perhaps by the impending mid-term elec- s Mass production financing, the desire to do
tions. The GOP has been mum as well. Democrats have things faster and cheaper—not correctly—doesn’t work.
called for a national foreclosure moratorium. Hearings MERS lost the ability to determine the lien holder of
have been scheduled for mid-November, after the elec- record, and resales of mortgages within its system
tions. broke the chain of title. Four million two hundred thou-
Regulators, in the meantime, have been seeking to sand homes are now in default: MERS’s role in their
tamp down the furor by urging lenders to replace disposition is problematic.
‘‘flawed and fraudulent’’ court documents while con- This isn’t to say that the money borrowed is sud-
tinuing the foreclosure process. denly, magically, no longer owed, or that an equitable
They’ve also been protecting their reputation. In its lien can’t be levied on the property—in effect, a mort-
oversight of the failed IndyMac Federal Bank, the Fed- gage that could be foreclosed upon. But it’s a strictly ju-
eral Deposit Insurance Corporation was operating a dicial process.
servicer that was engaged in robosigning. The bigger implication is this: principal reductions
are inevitable. Even if a lien is perfected and enforced,
lenders can only get the amount the home is worth.
Homeowners. s ‘‘Putbacks’’—the requirement that loan origina-
tors repurchase entire loan portfolios from investors—
Show Me the Note. Homeowners and foreclosure de- could be enormous. Early estimates for just BofA alone
fense attorneys have been stymied by securitized loans.
for mortgages sold to Fannie, Freddie and private inves-
MERS effectively strips away a borrower’s procedural
tors top $70 billion . . . with another $4 billion to cover
protections by creating barriers.
legal expenses.
Reason: There is a lack of an identifiable and willing s Congress somehow makes this all go away by
counterparty. In traditional two- and three-party mort- passing some kind of legislation fixing . . . everything.
gage situations, borrowers had a clear idea of whom The problem here is that in order to do this, it has to get
they were borrowing from and who might foreclose a waiver from the IRS related to REMIC (which it can);
upon them. Service of process, interrogatories, and re- suspend the UCC; all while running over state real
quests for production of documents is relatively property law and New York trust law (which governs
straight-forward. With securitized loans, they’re faced most securitizations) and state tax issues. There’s little
with a virtually impenetrable web of originating bank, opportunity for the federal government to create a uni-
mortgage holders, mortgage servicers, mortgage- form solution.
backed securities pooling/servicing agents and inves- The Treasury Department has significant muscle. All
tors. it has to do it threaten to enforce the IRS REMIC rules
And even if they can identify the parties, it can be on securitization.
necessary to serve 10 or more separate businesses in or- s A mass federal refinancing program is enacted,
der to bring claims or defenses. This is made even more compensating for the shortcomings of the previous
daunting for a beleaguered borrower because he almost eight federal loan modification programs that have
always has no knowledge of even the name of these proven ineffective. States are likely to go along with
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7. 7
this, but this isn’t how the Obama administration has s Title issues—rarely considered—could come to
operated. Mid-term elections could bring a Congress the forefront. Clouds could remain on foreclosed prop-
that is significantly more anti-spending than the current erties for years, and title insurers could expand their re-
one. fusal to issue policies on foreclosed properties (or
s A mass principal modification program using a implement tight restrictions). Homes with clean title
bankruptcy approach used successfully by family farm- could carry a premium, as could new homes being de-
ers in the 1980s—Chapter 12. With the Bankruptcy livered by builders. Conversely, the lead weight of bad
Court granted cram-down authority, lenders are deeply titles could serve to drag the market down for years.
incentivized to write down principal to reflect current s The winners under this scenario could be those
values. whose loans have been thrown into the securitization
s ‘‘Foreclosure moratorium’’ is currently being hopper. Money that was going to the lender could be di-
kicked around, an eerie shadow of the oil drilling mora- verted to saving or (more likely) consumer spending.
torium imposed last spring in the Gulf of Mexico. In ad- Good times could return—at least for a while. Later on,
dition to penalizing lenders who were not involved in there will be repercussions. But how’s this any different
securitization, it would grind to a halt the sale and pur- than when the loans were taken out in the first place?
chase of foreclosed homes, which accounts for more s The biggest winners? Foreclosure defense attor-
than a third of the market. Another version of this neys and mortgage ownership auditing firms
would be some type of bank holiday.
More Ants. There are still a lot of unknowns to be
s ‘‘Owners Equivalent Rent’’: Homeowners would discovered—and villains identified. (Angelo Mozilo, ex-
make monthly payments reflecting market rent values chief executive officer of Countrywide, now owned by
of their homes. The payments could be made either to BofA, settled fraud charges with the Securities and Ex-
the government as some sort of receiver, or to the lend- change Commission on 10/15. BofA picked up the tab:
ers themselves. This could be combined with: $65 million). The real estate market remains frag-
s Shared Equity Appreciation: Lenders release bor- mented and local, despite best efforts to commoditize it.
rowers from their mortgage using a deed-in-lieu struc- Sadly, worst-case scenarios are difficult to dismiss.
ture. The borrowers then become tenants of the lend- Market confidence underpins everything and there
ers, paying rent at market rates. After a period of five good news is scarce.
years, the tenants may reapply for a new loan with the Second mortgages will likely make their appearance
lender. The lender would take an equity interest in the next. Seconds are not like pesky red ants—they’re more
property. Alternatively, the lender could sell its interest akin to deadly army ants, insects that can create whole-
in the property to a third party investor. sale animal stampedes.
s Accelerated stoppage, the mirror image of a Cram-downs or mass loan modifications appear to be
‘‘foreclosure moratorium’’: a ‘‘mortgage moratorium’’ the most likely outcome of all of this. Lenders will pre-
(or ‘‘borrower holiday’’). As the New York Post asked fer to take a 40 percent to 50 percent loss rather than a
recently: ‘Why would anyone cut back on other things 70 percent loss on a foreclosure. Borrowers will prefer
for their family needs just to pay a loan the bank can’t to stay in their homes; government just wants the prob-
foreclose on?’’ This wouldn’t stem from government ac- lem to go away.
tion: ‘‘Don’t pay your mortgage, instead, go shopping!’’ But this will wipe out seconds, which the four biggest
Instead, it would result from government inaction, banks are carrying on their books at 80 percent to 90
homeowners and society collectively deciding, simply, percent of their face value. The amount: roughly $400
‘‘No.’’ billion.
REAL ESTATE LAW & INDUSTRY REPORT ISSN 1944-9453 BNA 10-19-10