“A Monsterous Problem” in the Mortgage Industry

Writing on a ruling in Michigan that came out this week (Hendricks v US Bank), Yves Smith gets to the bottom of where things are with judges throwing out foreclosure cases because mortgage originators failures to comply with the PSA when the created mortgage backed securities. The court ruled that New York trust law applied to the securitization of the trust. Basically if the rules creating a mortgage backed security are followed, the trust exists. But if they’re not, then it’s basically non-existent. In this case the note was not properly delivered to the trust. And since the entity trying to foreclose was the owner of the MBS, they actually are not able to do it. Smith writes:

Note that the judge rules that someone can foreclose, but it’s not the trust, it’s the original lender. But that is unacceptable to the mortgage industrial complex. They cannot afford to admit they defrauded investors, which is what a foreclosure in the name of the original lender amounts to.

So when people complain about borrowers getting free houses, they act as if it’s the borrower’s fault. That’s the wrong place to assign blame. No one is saying the borrower does not owe somebody money. And the borrowers aren’t seeking a free house; they usually came to this juncture because they thought their records had overcharges in them or they thought they were a good candidate for a mod but could not get the servicer to consider their case. It’s the originators and packagers who put themselves in the situation of not being able to enforce the debt, not the borrower.

The apparent widespread abandonment of the practice of crossing the ts and dotting the is potentially devastating. If the failure to convey notes properly is as widespread as we have been told by various observers (and Abigail Field’s sample confirms), the mortgage industry has a monstrous problem on its hands. As the Michigan ruling suggests, at a minimum, notes not transferred properly are actually owned by someone earlier in the securitization chain. But no one wants to admit that; it means the investors were lied to and hold paper that does not have clear legal rights to foreclose and that originators, servicers and trustees have committed massive securities fraud. And in a worse case scenario, if no notes were transferred to the trust by closing, there is a contract formation failure.

Effectively what judges are finding is that we have a lot of MBSs that are in fact non-mortgage backed securities. This is a huge problem and something that investors should be up in arms about. It also should mean that only people who actually own the note to a mortgage can foreclose. But since there’s no clarity about that, that means that there should effectively be no foreclosures until this gets sorted out. And anything that aims to sort this out without addressing these questions should be rejected on its face.

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