Reps and Warranties Mean What They Say

Derek Jensen

The New York Appellate Division, 1st Department, issued a ruling in Bank of New York Mellon v. WMC Mortgage, 654464/12 (Dec. 1, 2015) that stands for the proposition that representations and warranties regarding mortgage-backed securities mean what they say and say what they mean. The opinion opens,

This breach of warranty action arises from a residential mortgage backed securitization called the J.P. Morgan Mortgage Acquisition Trust 2006-WMC4 (the Trust). The Trust was arranged and sponsored by defendant J.P. Morgan Mortgage Acquisition Corporation (JPMMAC), which made certain representations and warranties as to the quality of the mortgage loans in the Trust. We find that plaintiff’s interpretation of the language of the representations and warranty at issue is the only reasonable interpretation . . ..

The Pooling and Servicing Agreement represented and warranted that

“With respect to the period from [the] Whole Loan Sale Date to and including the Closing Date, [JPMMAC] hereby makes the representations and warranties contained in paragraph (a) . . . of Schedule 4 attached hereto . . . . [that] [t]he information set forth in the Mortgage Loan Schedule and the tape delivered by [WMC] to [JPMMAC] is true, correct and complete in all material respects.”

It also stated that if “JPMMAC breached a representation or warranty it made . . . it was to cure the breach within 90 days after notification; if it failed to do so, it was to repurchase the defective mortgage loan or substitute a qualifying loan for the defective one.” This is pretty standard stuff so far.

By 2012, it appeared that more than 40% of the mortgages remaining in the pool were delinquent and that the R&Ws had been violated. The certificate holders therefor demanded that JPMMAC repurchase the mortgages that were in breach of the R&Ws, which JPMMAC refused to do.

JPMorgan argued, against the plain language of the R&Ws, that it only covered defects that arose during a short period prior to the closing date of the securitization. The Court gave short shrift to this implausible reading of the R&Ws.

This opinion does not make new law, but one wonders what effect it will have on securitization business practices. R&Ws are driven by many things — concerns about credit risk, but also tax compliance with the REMIC rules, to name a couple.  I am curious as to how MBS R&Ws have changed since the early 2000s — and whether the parties to these transactions understand how R&Ws allocate risk among them.

Monday’s Adjudication Roundup

Monday’s Adjudication Roundup

Possession of Note Confers Standing to Foreclose


Dale Whitman posted this discussion of Aurora Loan Services, LLC v. Taylor, 2015 WL 3616293 (N.Y. Ct. App., June 11, 2015) on the DIRT listserv:

There is nothing even slightly surprising about this decision, except that it sweeps away a lot of confused and irrelevant language found in decisions of the Appellate Division over the years. The court held simply holds (like nearly all courts that have considered the issue in recent years) that standing to foreclose a mortgage is conferred by having possession of the promissory note. Neither possession of the mortgage itself nor any assignment of the mortgage is necessary. “[T]he note was transferred to [the servicer] before the commencement of the foreclosure action — that is what matters.” And once a note is transferred, … “the mortgage passes as an incident to the note.” Here, there was a mortgage assignment, the validity of which the borrower attacked, but the attack made no difference; “The validity of the August 2009 assignment of the mortgage is irrelevant to [the servicer’s] standing.”

The opinion in Aurora makes it clear that prior Appellate Division statements are simply incorrect and confused when they suggest that standing would be conferred by an assignment of the mortgage without delivery of the note. See, e.g., GRP Loan LLC v. Taylor 95 A.D.3d at 1174, 945 N.Y.S.2d 336; Deutsche Bank Trust Co. v. Codio, 94 A.D.3d 1040, 1041, 943 N.Y.S.2d 545 [2d Dept 2012].) For an excellent analysis of why these decisions are wrong, see Bank of New York Mellon v. Deane, 970 N.Y.S.2d 427  (N.Y. Sup. Ct. 2013).

The Aurora decision implicitly rejects such cases as Erobobo, which suppose that the failure to comply with a Pooling and Servicing Agreement would somehow prevent the servicer from foreclosing. In the present case, the loan was securitized in 2006, but the note was delivered to the servicer on May 20, 2010, only four days before filing the foreclosure action. This presented no problem at all the court. If the servicer had possession at the time of the filing of the case (as it did), it had standing. (I must concede, however, that the rejection is only implicit, since the Erobobo theory was not argued in Aurora.)

If there is a weakness in the Aurora decision, it is its failure to determine whether the note was negotiable, and (assuming it was) to analyze the application UCC Article 3’s “person entitled to enforce” language. But this is not much of a criticism, since it is very likely that under New York law, the right to enforce would be transferred by delivery of the note to the servicer even if the note were nonnegotiable.

It has taken the Court of Appeals a long time to get around to cleaning up this area of the law, but its work is exactly on target.

Deane Finds Us East of Eden

Last week, I discussed a NYLJ article about the “Show Me The Note” argument in New York. The article discussed a recent case, Bank of N.Y. Mellon v. Deane, 2013 Slip Op. 23244 (Sup. Ct. Kings Country July 11, 2013). Brad and I have earlier noted that “many scholars and leaders of the bar are befuddled by courts’ failure to do a comprehensive analysis under the UCC as part of their reasoning in mortgage enforcement cases . . ..”  As if to prove us wrong, Judge Battaglia has taken on the UCC in Deane even while acknowledging that “quotation of the Code, or even its citation, has virtually disappeared from the caselaw on this part of negotiable instruments law, at least where addressed in mortgage foreclosure actions.” (5) Judge Battaglia also notes how NY mortgage enforcement caselaw diverges from the contemporary UCC caselaw.

Judge Battaglia framed the issue of standing as follows:

As recently summarized by the Second Department:”In order to commence a foreclosure action, the plaintiff must have a legal or equitable interest in the subject mortgage…A plaintiff has standing where it is both the holder or assignee of the subject mortgage and the holder or assignee of the underlying note prior to commencement of the action with the filing of the complaint…Either a written assignment of the underlying note or the physical delivery of the note prior to the commencement of the foreclosure action is sufficient to transfer the obligation, and the mortgage passes with the debt as an inseparable incident.” (GRP Loan, LLC v. Taylor, 95 AD3d at 1173 [internal quotation marks and citations omitted] [emphasis added].) (2)

He continued, “the cursory treatment of the standing question in the memorandum of law evidences a misunderstanding of the general law of negotiable instruments in its equation of the status as “holder” to mere possession of the instrument. The core of the law of negotiable instruments is found in Article 3 of the Uniform Commercial Code . . ..” (3) He finds that the plaintiff has not established that it is a holder or a nonholder in possession who has the rights of a holder. He states that

To allow an assignee to sue without possession of the note, therefore, would be inconsistent with Revised Article 3, and put New York out-of-step with the 49 states that have adopted the revision, including, in particular, a conception of “transfer” as “deliver[y] by a person other than its issuer for the purpose of giving to the person receiving delivery the right to enforce the instrument” (see Revised UCC §3-203 [1].) That misstep, however, if such it is, has apparently already been taken. (7)

Doing its best to reconcile the the mortgage enforcement and UCC caselaw, Judge Battaglia concludes that

in the usual case, a plaintiff has “standing” to prosecute a mortgage foreclosure action where, at the time the action is commenced: (1) the plaintiff is the holder of the note (see NYUCC §1-201 [20]); or (2) the plaintiff has possession of the note by delivery (see NYUCC §1-201[14]), from a person entitled to enforce it, for the purpose of giving the plaintiff the right to enforce it; or (3) the plaintiff has been assigned the note, by a person entitled to enforce it, for the purpose of giving the plaintiff the right to collect the debt evidenced by the note, and the plaintiff tenders the note at the time of any judgment. (8)

New York’s law in this area is not satisfying and it looks to me like courts need to make a concerted effort to synthesize UCC law with foreclosure law.  Otherwise, mortgage litigants are left to wander like Cain in the land of Nod, east of Eden, not knowing what law governs their disputes.

Show Me The Note, NY Style

Steiner, Goldstein & Sohn published a short article in the New York Law Journal, Clearing The Confusion:  Misplaced Notes and Allonges (Sept. 18, 2012) (behind a paywall). While intended to address commercial real estate finance, it relies on an interesting residential real estate finance case, Bank of N.Y. Mellon v. Deane, 2013 Slip Op. 23244 (Sup. Ct. Kings Country July 11, 2013). The authors write that

Mortgage assignments, when properly drafted, assign both the mortgage and the note. Assuming the chain of mortgage assignments is intact, lenders can gain comfort knowing that under New York case law they have standing to enforce the full amount of the debt evidenced by these assignments. Nevertheless, defendants in foreclosure proceedings often challenge the lenders’ standing to enforce the note, demanding that lenders demonstrate physical possession of the note to initiate a foreclosure despite the fact that physical possession is not required by the law.

They conclude:

New York courts in the cases described herein consistently follow well-established precedent permitting standing in a foreclosure action without the plaintiff having physical possession of the original notes. New York case law makes clear that physical possession of all notes in a chain of loan assignments and refinancings is unnecessary for standing in a foreclosure action and that proper execution of a [Consolidated Extension and Modification Agreement] is sufficient to confer standing when missing notes have been consolidated. Likewise, inclusion of an allonge or other endorsement for every note transfer is not required under New York law for standing in a foreclosure action when the note has been assigned by other means, such as through a properly drafted assignment of mortgage.

The article’s discussion of Deane is most interesting:

the court found physical possession of the note to be determinative regardless of whether a written assignment was executed. The court criticized the approach followed by case law in New York, stating that allowing an assignee to have standing without possession of the note “would be inconsistent with Revised Article 3, and put New York out-of-step with the 49 states that have adopted the revision[.]” Notably, however, New York has opted not to adopt those proposed revisions to Article 3. The court continued, “that misstep, however, if such it is, has apparently already been taken. The case law quoted and cited above clearly speaks, in the disjunctive, of standing obtained by ‘assignment’ or ‘physical delivery’ of the note[.]”

I will return to Deane in a later post.

NJF and UCC and Contract Law, Oh My!

Parsing how a court should approach a particular deed of trust foreclosure case can put you to sleep faster than crossing the poppy fields next to the yellow brick road.  Does the Non-Judicial Foreclosure (NJF) statute govern? Does the state’s Uniform Commercial Code (UCC) govern? Does the contract terms of the deed of trust itself govern? Or, more likely, do all three govern? And, if so, how do they interact with each other?

Brad Borden and I have recently noted that while

“show me the note” does come up in federal cases, federal courts defer to the applicable state law in reaching their results.  [T]he courts’ holdings tend to flow from a careful reading of the relevant state foreclosure statute, so a particular state’s law can have a big effect on the outcome.  We would note that many scholars and leaders of the bar are befuddled by courts’ failure to do a comprehensive analysis under the UCC as part of their reasoning in mortgage enforcement cases, but judges make the law, not scholars and members of the bar.  See Report of The Permanent Editorial Board for The Uniform Commercial Code Application of The Uniform Commercial Code to Selected Issues Relating to Mortgage Notes at 1 (Nov. 14, 2011).

Zadrozny v. Bank of New York Mellon, No. 11-16597 (June 28, 2013), a recent 9th Circuit case demonstrates the problem of an incomplete analysis in an Arizona non-judicial foreclosure case.  The Court notes that

The PEB [Permanent Editorial Board] Report [] clarifies:

the UCC does not resolve all issues in this field. Most particularly, the enforcement of real estate mortgages by foreclosure is primarily the province of a state’s real property law (although determinations made pursuant to the UCC are typically relevant under that law).

Given the PEB Report’s recognition that state law is typically controlling on foreclosure issues, the Zadroznys are unable to allege a cause of action premised on the PEB Report . . ..(14-15, citation omitted)

This is confusing in a few ways.  First, the UCC is state law, adopted with variants by all of the states’ legislatures.  What the PEB is calling for is for courts to apply state UCC law as appropriate.

Second, state foreclosure law does not “control” foreclosure issues in some inchoate and expansive way. It governs it to the extent that it governs it and not one bit more. So if state UCC law governs one facet of a foreclosure case, it is not trumped by the states’ foreclosure law. Or if the terms of the deed of trust were to govern, it would not be trumped by the foreclosure law either (so long as it did not violate it).

Finally, it is just plain weird to say that the Zadroznys would have a “cause of action premised on the PEB report.” How would that work?!?  The PEB report is merely an interpretation of general UCC principles. The Court should be asking how the Arizona UCC applies to this case.

I am not saying that the Court reached the wrong result under Arizona law in this regard, but the Court’s incomplete analysis offers no clarity to litigants, no more than the Wizard of Oz offered real solutions to his supplicants’ pleas. But judges decide the cases, not me and not you . . ..