Courts have read the Financial Institutions Reform, Recovery, and Enforcement Act of 1989 (FIRREA) very broadly, giving the federal government a powerful weapon in its lawsuits against financial institutions regarding events relating to the financial crisis. Judge Swain (SDNY) has issued a rare Opinion and Order limiting the reach of FIRREA, FDIC v. Bear Stearns Asset Backed Securities I LCC et al. (No. 12CV4000, Mar. 24, 2015), a suit over allegedly rotten residential mortgage-backed securities.

The limitation derives from a pretty technical Supreme Court opinion, CTS Corp. v. Waldburger. In CTS, the Supreme Court held that statutes of repose were not preempted by a statute that has identical language as the FDIC Extender Provision found in FIRREA and at issue in FDIC v. Bear Stearns.

I warned you that this is technical, so here is what is at issue:

Claims brought under Section 11 of the 1933 Act are subject to the two-pronged timing provision of Section 13 of that Act, which is codified as 15 U.S.C. § 77m. The first prong of Section 13 is a statute of limitations, which provides that Section 11 claims must be brought within one year of “the discovery of the untrue statement or the omission, or after such discovery should have been made by the exercise of reasonable diligence.” 15 U.S.C.S. § 77m (LexisNexis 2012). The statute of limitations may be tolled based on equitable considerations, but not beyond three years from the date of the relevant offering, at which point a plaintiff’s claim is extinguished by Section 13’s second prong – a statute of repose – which provides that “[i]n no event shall any such action be brought . . . more than three years after the security was bona fide offered to the public.” Id.

The FDIC asserts that its claims are timely, notwithstanding the three-year Section 13 statute of repose, because the statute of repose is preempted by the FDIC Extender Provision . . .. (6)

Relying on CTS Corp. v. Wadburger, the Judge Swain concludes that “the FDIC Extender Provision does not preempt the statute of repose set forth in Section 13 of the 1933 Act.” (14-15)

The reasoning in FDIC v. Bear Stearns does not apply to all FIRREA claims, but it would apply to some meaningful subset of them. One of the most powerful things about FIRREA is its very long statute of limitations. If other courts follow FDIC v. Stearns, it could have a meaningful impact on the reach of FIRREA.

Borrowers Have “Been Through Hell”

The Maine Supreme Judicial Court issued an opinion, U.S. Bank, N.A. v. David Sawyer et al., 2014 ME 81 (June 24, 2014), that makes you question the sanity of the servicing industry and the efficacy of the rule of law. If you are a reader of this blog, you know this story.

This particular version of the story is taken from the unrebutted testimony of the homeowners, David and Debra Sawyer. They received a loan modification, which was later raised to a level above the predelinquency level; the servicers (which changed from time to time) then demanded various documents which were provided numerous times over the course of four court-ordered mediations; the servicers made numerous promises about modifications that they did not keep; the dysfunction goes on and on.

The trial court ultimately dismissed the foreclosure proceeding with prejudice. Like other jurisdictions, Maine requires that parties to a foreclosure “make a good faith effort to mediate all issues.” (6, quoting 14 M.R.S. section 6321-A(12) (2013); M.R. Civ. P. 93(j)).  Given this factual record, the Supreme Judicial Court found that the trial court “did not abuse its discretion in imposing” that sanction. (6-7) The sanction is obviously severe and creates a windfall for the borrowers. But the Supreme Judicial Court noted that U.S. Bank’s “repeated failures to cooperate and participate meaningfully in the mediation process” meant that the borrowers accrued “significant additional fees, interest, costs, and a reduction in the net value of the borrower’s [sic] equity in the property.” (8)

The Supreme Judicial Court concludes that if “banks and servicers intend to do business in Maine and use our courts to foreclose on delinquent borrowers, they must respect and follow our rules and procedures . . .” (9) So, a state supreme court metes out justice in an individual case and sends a warning that failure to abide by the law exposes “a litigant to significant sanctions, including the prospect of dismissal with prejudice.” (9)

But I am left with a bad taste in my mouth — can the rule of law exist where such behavior by private parties is so prevalent? How can servicers with names like J.P. Morgan Chase and U.S. Bank be this incompetent? What are the incentives within those firms that result in such behavior? Have the recent settlements and regulatory enforcement actions done enough to make such cases anomalies instead of all-too-frequent occurrences? U.S. Bank conceded in court that these borrowers have “been through hell.” (9, n. 5) The question is, have we reached the other side?


HT April Charney

What $4 Billion Does for Homeowners

Enterprise released a Policy Focus on What the JPMorgan Chase Settlement Means for Consumers: An Analysis of the $4 Billion in Consumer Relief Obligations. It opens,

On November 19, 2013, JPMorgan Chase reached a record-setting settlement deal with the federal government’s Residential Mortgage-Backed Securities (RMBS) Working Group for $13 billion, which included $4 billion in consumer relief for struggling homeowners and hard-hit communities.

This brief examines how the $4 billion obligation will likely flow to consumers over the next four years. According to the settlement terms, eligible activities for which JPMorgan Chase will receive credit broadly include: loan modifications; rate reduction and refinancing; low- to moderate-income/disaster area lending; and anti-blight work. (1)

Enterprise projects that JPMorgan’s $4 Billion obligation will

translate into $4.65 billion in relief for existing homeowners, with an additional $15 million going to homebuyers, and as much as $380 million in cash and REO properties allocated to reducing foreclosure-related blight. Our analysis projects that over 26,500 borrowers will receive a total of $2.6 billion in principal forgiveness, which translates into $1.5 billion in credit toward the bank’s obligation. Forbearance will be extended on 17,000 loans, and slightly more than 7,000 second liens will be fully or partially forgiven. In addition to forgiveness or forbearance, we anticipate the interest rates on approximately 26,500 loans will be reduced, resulting in a real borrower savings of $1.4 billion. (1)

We’re talking about some pretty big numbers here, so it might be useful to break them down on a per borrower basis.

  • 26,500 loans will receive interest rate reductions resulting in $1.4 billion in consumer benefit, or $52,830 per loan.
  • 26,500 borrowers will receive $2.6 billion in principal forgiveness, or $98,113 per homeowner.

The report, unfortunately, does not parse these big numbers out so well. For instance, do they reflect savings over the expected life of the loans or over the remaining term? We also do not know whether these changes, large as they are, will leave sustainable loans in their place. So, this is a report provides a useful starting point, but some very big questions about the settlement still remain to be answered.

Doing Justice with the $13B JPMorgan Settlement

I have posted a couple of items on this massive settlement (here and here).  This should be my last one. Perhaps I am ungrateful, but the Statement of Facts agreed upon by the Department of Justice and JPMorgan Chase left me with an empty feeling. Recovering $13 billion for homeowners, investors and the government is certainly a key aspect of the justice done in this case. But the law can and should have an expressive function — it should make a statement about the difference between right and wrong behavior. Unfortunately, the Statement of Facts almost completely fails as an expressive document.

It only makes it clear at one point that JPMorgan, Bear Stearns and Washington Mutual did something very wrong:

employees of JPMorgan, Bear Stearns, and WaMu received information that, in certain instances, loans that did not comply with underwriting guidelines were included in the RMBS sold and marketed to investors; however, JPMorgan, Bear Stearns, and WaMu did not disclose this to securitization investors. (1)

The Statement of Facts provided a couple of facts that made clear what JPMorgan did wrong (see page 2), but I could not even parse the sections of Bear Stearns and WaMu to tell you what they did wrong. This is about as strong as it gets:

in 2008, internal WaMu reviews indicated specific instances of weaknesses in WaMu’s loan origination and underwriting practices, including, at times, non-compliance with underwriting standards; the reviews also revealed instances of borrower fraud and misrepresentations by others involved in the loan origination process with respect to the information provided for loan qualification purposes. (10)

You can’t tell from such language whether WaMu was acting intentionally, recklessly or negligently.  You can’t really tell whether this behavior was endemic, frequent, occasional or rare. You can’t tell whether it was the fault of some low-level employees or of upper management. Just about the only thing you can tell from the WaMu section (and the Bear Stearns section, for that matter) is that it was not JPMorgan’s fault:

The actions and omissions described above with respect to WaMu occurred prior to OTS’s closure of WaMu and JPMorgan’s acquisition of the identified WaMu assets and liabilities. (11)

No doubt, JPMorgan tried to control the PR and legal liability to third parties that this Statement of Facts could engender. But Justice could have held the line on the expressive aspect of the settlement just as it did with the monetary aspect. In the long run, that could turn out to be just as important.

Reiss on $13B JPMorgan Settlement in CSM

The Christian Science Monitor quoted me in JPMorgan Chase settles. Is $13 billion for role in mortgage crisis fair? The story reads in part,

The settlement does not, however, release any individuals within JPMorgan from further criminal or civil charges. The bank has agreed to cooperate fully in any investigations related to the fraud covered in the agreement.

“I think that the Department of Justice has heard the public in terms of saying, if people were criminally responsible, they should be held liable,” says David Reiss, a professor at Brooklyn Law School, who has written extensively on the mortgage crisis. “Just a handful of people have faced any serious personal liability as a result of the events of the financial crisis of the 2000s.”

But some feel that the unprecedented scope and size of the penalty is unfair for the bank behemoth, which was seen as something of a financial savior when it took on the imploding assets of Bear Stearns and Washington Mutual after the financial collapse. Some estimate that employees at these banks conducted up to 80 percent of the fraud found by the Justice Department. JPMorgan assumed these firms’ legal jeopardy when it took on their troubled assets.

“There’s a moral narrative about this, that it’s unfair to go after JPMorgan because they stepped in to help,” says Mr. Reiss.

Be Careful What You Contract For . . .

Justice Ramos of the Commercial Division of the New York State Supreme Court NY County) issued an opinion in Assured Guar. Corp. v. EMC Mtge., LLC, 2013 NY Slip Op. 50519(U) (April 4, 2013).  Assured, a monoline insurer, “alleges that Bear Stearns grossly misrepresented the risk of the underlying pooled loans” that Bear Stearns had used as collateral in RMBS deals that it had underwritten. (1) Assured alleged that loan warranties in nearly 90 percent of the loans in one of the pools at issue had been breached.  The court noted that more than half of the loans in that pool had either “defaulted or are seriously delinquent.” (2) Bear Stearns’ successor-in-interest refused to repurchase the breaching loans.

The Court found that the deal documents make “clear that the parties intended to limit Assured’s remedies for breach of the representations and warranties relating to the quality and characteristics of the pooled loans to the Repurchase Protocol . . .” and the Court indeed so limited Assured’s remedies. (4) Justice Ramos relied on the opinion by Judge Rakoff (SDNY) in Assured Guar. Mun. v. Flagstar Bank, that reached a similar result.

One wonders how monoline insurers will seek to change deal documents going forward.  Will they be so willing to treat representations and warranties as mere risk allocation devices between the parties?  As risk allocation devices, the reps and warranties typically make only limited remedies available.  Or will they demand that they be treated as something more — perhaps as actual representations and warranties about the underlying transaction and upon whose shoulders broader remedies could be hung?