Editor: David Reiss
Brooklyn Law School

June 6, 2013

REMIC Armageddon on the Horizon?

By David Reiss

Brad Borden and I have warned that an unanticipated tax consequence of the sloppy mortgage origination practices that characterized the boom is that MBS pools may fail to qualify as REMICs.  This would have massively negative tax consequences for MBS investors and should trigger lawsuits against the professionals who structured these transactions. Courts deciding upstream and downstream cases have not focused on this issue because it is typically not relevant to the dispute between the parties.

Seems that is changing. Bankruptcy Judge Isgur (S.D. Tex.) issued an opinion in In re: Saldivar, Case No. 11-1-0689 (June 5, 2013)) which found, for the purposes of a motion to dismiss, that “under New York law, assignment of the Saldivars’ Note after the start up day [of the REMIC] is void ab initio.  As such, none of the Saldivars’ claims” challenging the validity of the assignment of their mortgage to the REMIC trust  “will be dismissed for lack of standing.” (8)

If this case holds up on appeal, it will have a massive impact on many purported REMICs which had sloppy practices for transferring mortgages to the trusts. That is a big “if,” as the case relies upon Erobobo for its take on the relevant NY law. Erobobo, a NY trial court opinion, itself reached a controversial result and is hardly the last word on NY trust law. The Court also acknowledges that additional evidence may be proffered relating to a subsequent ratification of the conveyance of the mortgage, but for the purposes of a motion to dismiss, the homeowners have met their burden.

For those few REMIC geeks out there, it is worth quoting from the opinion at length (everyone else can stop reading now):

The Notice of Default indicates that the original creditor is Deutsche Bank, as Trustee for Long Beach Mortgage Loan Trust 2004-6. The Trust is a New York common law trust created through a Pooling and Servicing Agreement (the “PSA”). Under the PSA, loans were purportedly pooled into a trust and converted into mortgage-backed securities. The PSA provides a closing date for the Trust of October 25, 2004. As set forth below, this was the  date on which all assets were required to be deposited into the Trust. The PSA provides that New York law governs the acquisition of mortgage assets for the Trust.

The Trust was formed as a REMIC trust. Under the REMIC provisions of the Internal Revenue Code (“IRC”) the closing date of the Trust is also the startup day for the Trust. The closing date/startup day is significant because all assets of the Trust were to be transferred to the Trust on or before the closing date to ensure that the Trust received its REMIC status. The IRC provides in pertinent part that:

“Except as provided in section 860G(d)(2), ‘if any  amount is contributed to a REMIC after the startup day, there is hereby imposed a tax for the taxable year of the REMIC in which the contribution is received equal to 100 percent of the amount of such contribution.”

26 U.S.C. § 860G(d)(1).

A trust’s ability to transact is restricted to the  actions authorized by its trust documents. The Saldivars allege that here, the Trust documents permit only one specific method of transfer to the Trust, set forth in § 2.01 of the PSA. Section 2.01 requires the Depositor to provide the Trustee with the original Mortgage Note, endorsed in blank or endorsed with the following: “Pay to the order of Deutsche Bank, as Trustee under the applicable agreement, without recourse.” All prior and intervening endorsements must show a complete chain of endorsement from the originator to the Trustee.

Under New York Estates Powers and Trusts Law § 7-2.1(c), property must be registered in the name of the trustee for a particular trust in order for transfer to the trustee to be effective. Trust property cannot be held with incomplete endorsements and assignments that do not indicate that the property is held in trust  by a trustee for a specific beneficiary trust.

The Saldivars allege that the Note was not transferred to the Trust until 2011, resulting in an invalid assignment of the Note to the Trust. The Saldivars allege that this defect means that Deutsche Bank and Chase are not valid Note Holders.

(2-4, footnotes and citations omitted) The Court agreed, at least while “accepting all well-pleaded facts as true.” (5)

(HT April Charney)

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