Author Archives: David Reiss

Reiss on Future of the FHFA

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Law360 wrote a story (here, behind a paywall) on the Obama Administration’s plans for the Federal Housing Finance Agency.  It reads in part

Although the Obama administration has dealt aggressively with congressional Republicans in some areas, it’s unlikely to make a recess appointment before the U.S. Supreme Court rules on the NLRB case, or chooses not to take it.

“The notion of a recess appointment is even harder to fathom,” said Brooklyn Law School professor David Reiss.

Still, despite those challenges, there are whispers that DeMarco could be replaced within the next few weeks. The names of some potential replacements, including Rep. Mel Watt, D-N.C., have been publicly floated.

A second part of DeMarco’s job is to help figure out just what to do with Fannie and Freddie, and how to bring more private money into the mortgage market.

Currently, Fannie and Freddie own or guarantee around 75 percent of all residential mortgages. Combined with the mortgages owned by the FHFA and the U.S. Department of Veterans Affairs, more than 90 percent of mortgages have some sort of federal backing.

DeMarco in October laid out a five-year plan for winding down Fannie and Freddie, including a common securitization platform for the two companies.

The Obama administration may well be on board with those plans and DeMarco provides convenient cover, Reiss said.

“It’s hard to imagine that Ed DeMarco is taking big positions like that without the administration’s at least tacit approval,” he said.

Unhampered and HAMPered Mortgage Modifications

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The National Consumer Law Center has issued a thorough report, At a Crossroads:  Lessons from the Home Affordable Modification Program  (HAMP), which also provides some guidance for the way forward after we get past the foreclosure crisis.  The authors summarize their findings as follows:

The government’s Home Affordable Modification Program (HAMP) is our starting point. HAMP has reached more homeowners, and successfully modified more home loans, than any program in history. Created by the federal government in early 2009 as a temporary program in response to the foreclosure crisis, HAMP provided additional financial incentives to servicers and investors to modify mortgages at risk of ending in foreclosure. The result has been affordable, sustainable loan modifications that keep borrowers in their homes and maximize returns to investors. But HAMP fell short of its goals, which were inadequate to the scope of the crisis. HAMP has been justly criticized for its lack of transparency and its failure to provide for effective enforcement. (3)

Not pulling punches, the report squarely places responsibility for its failure on “one root cause: massive servicer noncompliance. Almost every official evaluation of HAMP has noted widespread servicer noncompliance and the concurrent failure of the U.S. Department of the Treasury (Treasury) to engage in meaningful enforcement.” (4)  Given that millions more foreclosures are on the horizon, this failure must be rooted out.

The report identifies five principles for effective loan modification standards:

  1. Loan modification evaluations should be standardized, universally applicable to all loans and servicers, and mandatory for all loans before the foreclosure process can go forward.
  2. Loan modification terms must be affordable, fair, and sustainable.
  3. Hardship must be defined to reflect the range of challenges homeowners face.
  4. Transparency and accountability throughout the loan modification process are essential.
  5. Homeowners must be protected from servicers’ noncompliance. Good rules on paper are not enough. (4)

I am intrigued by some of the particular proposals, although I am not sure how they actually work in practice.  For instance, the report states that “Provisions Must Be Made for Homeowners with Junior Liens and Others for Whom a Thirty-One Percent Monthly Mortgage Payment Is Not Affordable.” (58) At what point must we say that a particular situation is untenable?  The report also proposes that “A Servicer’s Violation of Servicing Standards Should Constitute a Defense to a Foreclosure.” (63) While this would no doubt be great for current homeowners, it would also be a radical role change for the foreclosure process.  If this idea gets any traction, it will be interesting to see the industry critique.

 

FIRREA Factors for Determining Civil Penalties

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Andrew Schilling, Ross Morrison and Michelle Rogers wrote a short article (here, behind a paywall) about a recent case, U.S. v Menendez, No. C.V. 11-06313 (C.D. Cal. Mar. 6., 2013) that sets forth the eight factors that are to govern the determination of civil penalties under FIRREA.  Menendez had defrauded HUD by lying on a form submitted to HUD as to the existence of any “hidden terms or special understandings” relating to the underlying short sale transaction. (3) The court stated that the relevant factors are

  1. the good or bad faith of the defendant and the degree of his or her scienter;
  2. the injury to the public and loss or risk of loss for other persons;
  3. the egregiousness of the violation;
  4. the isolated or repeated nature of the violation;
  5. the defendant’s financial condition and ability to pay;
  6. the criminal fine that could be levied for the conduct;
  7. the amount the defendant sought to profit through the fraud; and
  8. the penalty range available under FIRREA. (10-13)

The case is important because it provides guidance, which has been lacking, to courts as they apply this untested statute to civil fraud cases.  And given that this case arose in the same jurisdiction in which the DoJ sued S&P, alleging violations of FIRREA, this guidance may be particularly useful.  On the other hand, the facts of this case (dealing with one instance of fraud by one individual) are quite different from those that in the other cases that the government has brought pursuant to FIRREA, which typically involve allegations of fraud by large financial institutions.

As a side note, it is interesting that the federal government took full advantage of FIRREA’s ten year statute of limitations as it filed this suit in 2011 for actions that occurred in 2002.

MERS-Y! MERS-Y!

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Dustin Zacks has posted Revenge of the Clerks: MERS Confronts County Clerk and Qui Tam Lawsuits, a short article that reviews litigation brought by “county clerks and private qui tam actions assert that MERS has cheated county recorders out of millions of dollars in recording fees.” (17)  Zacks writes that “the most imminent legal threat to MERS is the spate of lawsuits filed by county clerks” and that “[c]ommon to most clerk lawsuits is their assertion that all changes in beneficial ownership of home loans are required to be recorded in the public records.” (18) He reviews the arguments raised in those suits:

  • State Laws Required All Assignments to be Recorded
  • MERS Uses Deceptive Language to Avoid Recording
  • Unjust Enrichment, MERS is Evil, and Other Such Arguments (18-19)

Zacks notes that nearly all of those cases have failed to survive a motion to dismiss, with one exception.  (20)  A Pennsylvania court held that Pennsylvania’s statute “was unambiguously clear in requiring assignments to be recorded”.  (20); see Memorandum and Order, Montgomery County, PA Recorder of Deeds v. MERSCORP, Inc. , No. 11-cv-6968 (E.D. Pa. Oct. 19, 2012) at 12-15.

While Zacks is skeptical of this type of anti-MERS suit, he notes that

banks and their advocates must remain wary of these seemingly unending matters. Just as the tobacco lawsuits were initially met with skepticism and ridicule, one large win was all it took to turn regular routs into an industry-changing victory. Here, one verdict in favor of a clerk in a class-action suit could result in a ruling that MERS must go back and, for example, record innumerable assignments or pay millions of dollars in avoided recording fees. This, in turn, could result in a new appraisal of the viability of MERS’ manner of business. (21)

This seems to be the right assessment of where things stand.

 

Untrustworthy?

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John Campbell has posted an abstract (and hopefully soon a draft) of Putting the ‘Trust’ in Trustees: An Examination of the Foreclosure Crisis and Suggestions for Reforming the Role of the Trustee. The draft itself proposes legislation for non-judiical foreclosure jurisdictions “that would make trustees real gatekeepers who require essential proofs, ask basic questions, and when factual disputes arise between the foreclosing party and the homeowner, refer those questions to courts.” (53)  It is valuable to set forth some of the things that Campbell’s proposal would require from trustees:

  1. Proof of the transfer of the original note from the original lender to the current party who seeks to foreclose, including any and all intervening assignments. The foreclosing party should be required to produce a copy of the original note and attest in a sworn affidavit that the original note exists in its original form.
  2. Proof that the party who seeks to foreclose is the party who is recorded in the public records as the secured party, along with all the recordings that show how that party came to be secured.
  3. Detailed financial records that show when default occurred and precisely how much money the homeowner currently owes. (56)

Each of these items reflects a major controversy in the world of foreclosures.  The first would ensconce the “Show Me the Note!” claim made by homeowners during foreclosure and bankruptcy proceedings in the statutory framework of non-judicial foreclosure regimes.  The second would be a frontal assault on the role of MERS, requiring that the foreclosing party record in its own name its interest in the deed of trust.  And the third would require that servicers provide adequate evidence to homeowners of the default.  The proposal would effectively make non-judicial foreclosure a lot more like judicial foreclosure, an objective that I will not weigh in on today.

Reiss on Booming Structured Finance Litigation

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Law360 interviewed me about the boom in structured finance litigation arising from the Financial Crisis (here, behind a paywall):

banks will not be able to let their guard down anytime soon, thanks to the U.S. Department of Justice’s rediscovery of a statute developed in response to the late 1980s savings and loan crisis and the increasing ability of plaintiffs attorneys to expand claims first brought in mortgage cases to other consumer finance products, according to Brooklyn Law School professor David Reiss.

“I would still be worrying if I were the [general counsel] of a large financial institution about the cases that might still be filed,” Reiss said.

Most of the fraud claims available under federal securities law have a statute of limitations that expires after five years. Because most of the securities that failed did so in 2007 and 2008, 2013 looked like the end of the line for many of the government’s claims.

That was until the DOJ sued Standard & Poor’s Financial Services LLC in February, claiming it was rife with conflicts of interest and that it ignored evidence that mortgage-backed securities were stuffed with subprime mortgages that were likely to fail. In bringing its suit, the DOJ dusted off the 1989 Financial Institutions Reform, Recovery and Enforcement Act, a federal response to the savings and loan crisis of the late 1980s that allows the government to bring claims against defendants that adversely affect federally insured financial institutions.

Using that statute was a game-changer, Reiss said.

Among a host of other measures provided in the law, FIRREA extended the statute of limitations on those claims from five to 10 years, giving prosecutors more time to bring claims. It also gave the government the chance to bring civil versions of mail, wire and other fraud claims that normally would be brought in a criminal context, meaning the government will now only have to prove its allegations to a jury by a preponderance of evidence, rather than beyond a reasonable doubt.

“If courts favor DOJ’s expansive reading of FIRREA, all bets are off as to how much financial institutions may still be on the hook for suits arising from the financial crisis brought by the government,” Reiss said.

Prosecutors are also looking to bring more cases as pressure from lawmakers mounts.

After Attorney General Eric Holder admitted Wednesday that some banks were “too big to jail,” the spotlight has been turned anew on whether regulators have been tough enough on banks. Critics say that prosecutors and bank regulators have been too timid in their pursuit of crimes allegedly committed by banks.

That could also push the DOJ and the other regulators to find new theories to bring cases, Reiss said.

“It does seem that there is a bit more of a populist bent to prosecutions now that we are past the worst of the crisis,” he said.

Wrapping up America’s Housing Future

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This is my last post (see here and here for the first two) on the Bipartisan Policy Center’s Housing America’s Future report.  I have one last thought to share — a radical one at that.

The report takes for granted that the federal government should provide a guarantee that wraps mortgage-backed securities and completely covers investors for credit losses. (51-52) Is it too Un-American to contemplate a world where investors bear some (I’m not even saying all!) of the credit risk?  Why is that not on the table at all?  Investors obviously bear credit risk in all sorts of credit markets.

But housing, we are told, is special.  The 30 year fixed rate mortgage would disappear without it.  That is patently not true because the private-label market has issued 30 fixed rate jumbos in the past.  It may be true that the number of 30 year fixed rate mortgages would shrink to an unacceptable level if there was no government wrap, but that leads to a modest proposal.

What if the government offered a range of wraps at different price points?  a 100% wrap.  But also a 75% wrap and a 50% wrap and a 25% wrap.  What if those limited wraps covered either first loss or last loss on different MBS?  What if this menu of options allowed us to better determine a socially optimal level of government guarantee instead of assuming that it has to be total to keep the housing market from melting, melting away?