Saturday, Oct. 3, 2009 | 2 a.m.
A bankruptcy judge here, joining judges across the country, is throwing a bit of sand in the gears of the mortgage machine and its ruthless foreclosure blade.
She has raised this issue: In many home foreclosures springing out of bankruptcy proceedings, the foreclosure is being triggered by a representative of the lender — a surrogate that may not have a legal, equity stake in the proceedings.
As a result, it is conceivable — though still something of a legal long shot — that the homeowner who is filing for bankruptcy protection could end up saving his house.
The argument that a lender’s surrogate can’t trigger foreclosure has drawn notice of Nevada homeowners, who are preparing a class action lawsuit. They are seeking a preliminary injunction this month to stop their foreclosures.
First, some background:
Law and custom have long required that property transactions be recorded with a county clerk or “recorder of deeds,” along with information about the person who holds the mortgage, and, if there are multiple mortgages, the place in line of each creditor.
For big lenders, tracking that information in hundreds of jurisdictions across the country was an onerous process, so the biggest, including Fannie Mae and Freddie Mac, set up a company that would do it all electronically. It is called Mortgage Electronic Registration Systems and is recognized by its acronym.
The MERS name wound up on millions of mortgages, including more than 987,000 in Nevada alone, according to the company.
Once people started defaulting on loans, MERS would announce the default on behalf of its bank clients. Consumer activists and attorneys for homeowners began questioning whether MERS, which represents banks but has no direct financial interest in the loans, could legally trigger foreclosure, but judges were generally not sympathetic to the argument.
Christopher Peterson, a law professor at the University of Utah’s S.J. Quinney College of Law and a former consumer rights attorney, called the emergence of MERS a somewhat dubious development and said it called into question the legitimacy of mortgages recorded in its name:
“MERS has no ownership interest, but they put MERS’ name there instead of the lenders’ name. No legislature said they could do that.”
Peterson has been hired by the Reno law firm Hager & Hearne as an expert witness in a class action lawsuit that will seek to invalidate the right of MERS to trigger foreclosure.
Their case will rely heavily on a recent Kansas Supreme Court ruling. In that complicated foreclosure case, the court decided this month that MERS had “no right to the underlying debt repayment secured by the mortgage ...”
Paul Habibi, a real estate expert at UCLA’s Anderson School of Management, said the decision, though not binding on other states, is a potentially important precedent that “renders MERS somewhat ineffective to proceed with foreclosure.”
The New York Times took note of the decision this week, with columnist Gretchen Morgenson saying the ruling called into question MERS’ entire business model.
How the Kansas argument plays out in Nevada remains to be seen.
Nevada is a nonjudicial foreclosure state, meaning foreclosure doesn’t require a judge’s approval. Trustee companies such as Fidelity National Default Solutions hold the title to the loan for the lender, and they are authorized to foreclose, explained Michael Joe, an attorney for the Legal Aid Center of Southern Nevada.
Still, the judicial backlash has hit MERS in Nevada, and could affect people in bankruptcy proceedings especially.
A person facing foreclosure is not necessarily in bankruptcy. But when the homeowner does file for bankruptcy protection, a lender — or, in this case, MERS — that wants to protect its assets must get permission from the federal bankruptcy judge to foreclose.
And in a Las Vegas case this spring, federal Bankruptcy Judge Linda Riegle ruled that MERS had no standing because the company is not the real party in interest — it doesn’t actually own the loan. In other words, in the course of bankruptcy proceedings, MERS had no claim to the house.
Peterson thinks this could be significant.
“When a court says MERS has no standing, that is a decisive step” in saying the mortgage wasn’t properly recorded, Peterson said. If the mortgage wasn’t properly recorded, it wasn’t legitimate.
Although the homeowner would still owe the lender money, if it wasn’t a legitimate mortgage, then it becomes an unsecured loan, like a credit card.
Bankruptcy proceedings, Peterson said, are all about “who has priority?”
In establishing the priority in which debtors get paid, creditors holding the unsecured debt of the bankrupt, like credit card companies, go to the back of the line, and a bankruptcy judge can give significant relief to the debtor, including reducing the principal of the loan. Or in this case, the judge could refuse to give the house to the lender and arrange new loan terms.
Joe, who has represented scores of Nevadans hit with foreclosure, said, “I like the argument, but I’m not sure it wins.” Lenders merely need to transfer the notes from MERS into the name of a trustee that has the authority to foreclose, he said.
Although that effort would be a major headache because of the nearly one million Nevada mortgages on the MERS system that would have to be transferred, it’s doable, Joe said. He added that there’s evidence it’s happening.
MERS would respond only to written questions submitted by the Sun.
The company will appeal the Kansas case, company spokeswoman Karmela Lejarde wrote.
“The ruling is confusing and goes against long-standing precedent,” she said.
She disputed the assertion that MERS has no financial interest in the loans on which it is listed.
The fact that MERS transfers the proceeds of the loan to the lender doesn’t mean it doesn’t have a “protected property interest.” That property interest, the company alleges, was unfairly and illegally taken by the recent court decisions.
Lejarde noted that several Nevada cases went the other way and bestowed ownership rights to MERS.
“As the mortgagee, MERS possesses all of the rights of the lender,” Lejarde concluded, “including the right to foreclose the mortgage.”