Foreclosure in the Aftermath of Securitization

Moriarty_Thomasby Thomas O. Moriarty

Legal Analysis

The creation and subsequent collapse of mortgage-backed securities had far reaching impacts on both the housing and stock markets.  Not coincidentally, as reflected in numerous appellate decisions over the past three years, attempts to exercise the statutory right of sale with regard to such securitized loans have been complicated and led to fundamental changes in the mortgage foreclosure process in the Commonwealth.  Experience has revealed that the assignment of securitized loans has been poorly documented and carried out with little concern for who maintained the interest in the underlying mortgage note secured by the mortgage.  Prior to these cases, it had been accepted practice for foreclosing mortgagees to receive post-foreclosure assignments and to foreclose without a documented interest in the mortgage note.  The Supreme Judicial Court (“SJC”) has now held that, to foreclose under G.L. c. 244 and G.L. c. 183, a foreclosing mortgagee must – at the time of notice and foreclosure – hold both the mortgage and the underlying note or act on behalf of the note holder.  The foreclosure of many securitized mortgages failed to meet such requirements.  While recent decisions of the SJC and Appeals Court have placed some outside limits on this rule, many titles have been clouded and remain clouded by these developments.

In U.S. Bank National Association v. Ibanez, the SJC held that, under the plain language of G.L. c. 183, § 21 and G.L. c. 244, § 14, a purported assignee of a mortgage could exercise the power of sale contained in the mortgage only if it possessed the mortgage at both the time of the notice of sale and the subsequent foreclosure sale.  458 Mass. 637, 648 (2011).  U.S. Bank brought a quiet title action in Land Court pursuant to G.L. c. 240, § 6, seeking a declaration that it held title to certain land it bought back at its own foreclosure sale, alleging that it had become the holder of the subject mortgages by way of an assignment made after the foreclosure sale.  Id. at 638-639.[1]  The Land Court entered judgment against U.S. Bank finding that a post-notice and post-foreclosure assignment resulted in an invalid foreclosure.  Id. at 639.

The SJC affirmed and found that a mortgage that contains a power of sale permitting foreclosure refers to and incorporates the statutory requirements of G.L. c. 183, § 21 and G.L. c. 244, §§ 11-17C.  The SJC concluded that a foreclosing mortgage holder must strictly follow the requirements of these statutes or any resulting sale will be “wholly void.”

The SJC held that post-notice, post-foreclosure mortgage assignments failed the strict adherence standard on two counts.  First, pursuant to G.L. c. 183A, § 21 and G.L. c. 244, § 14, as relevant to the facts presented, the statutory power of sale can only be exercised by the mortgagee.  Second, G.L. c. 244, § 14 provides that a statutory sale is ineffectual unless notice has been provided to the mortgagor and also published.  Id. at 647.  The SJC reasoned that because only the “present holder of the mortgage is authorized to foreclose” and “because the mortgagor is entitled to know who is foreclosing,” a notice lacking such accurate information is defective, and a foreclosure sale relying on such deficient notice is void.  Id. at 648.  Importantly, the SJC held that strict adherence to the statute does not require that an assignment be in recordable form at the time of the notice of sale or the foreclosure sale.  Id. at 651.[2]

The SJC rejected plaintiffs’ request to apply the decision prospectively, noting that prospective application is warranted only where a “significant change in the common law” is made.  Ibanez, 458 Mass. at 654.  Ibanez observed that the law had not changed as a result of the decision, rather “[a]ll that has changed is the plaintiffs’ apparent failure to abide by those principles and requirements in the rush to sell mortgage-backed securities.”  Id. at 655.

In Bevilacqua v. Rodriguez, the SJC was presented with the question of whether a plaintiff has standing to maintain a try title action under G.L. c. 240, §§ 1-5 when he is in physical possession of property but his foreclosure deed is a nullity under the SJC’s holding in Ibanez.  460 Mass. 763 (2011).  A try title action is fundamentally different from other civil actions involving disputed title.  It allows a plaintiff – upon the satisfaction of jurisdictional prerequisites – to compel an adverse party either to abandon a claim to the plaintiff’s property or to bring an action to assert the claim in question.  Id. at 766.  Before an adverse party can be summoned and compelled to either disclaim or try its title, the plaintiff must establish two jurisdictional facts:  (1) that it is a person in possession, and (2) that it holds a record title to the land in question.  Id. at 766-767 (citing Blanchard v. Lowell, 177 Mass. 501, 504 (1901); Arnold v. Reed, 162 Mass. 438, 440-441 (1894)).  Unlike a quiet title action, which requires a plaintiff to prove a sufficient title to succeed, a plaintiff in a try title action may defeat an adverse claim by default or by showing its title is superior to that of the respondents.  Id. at 767 n.5.

Bevilacqua argued that the mortgage, which was purportedly foreclosed, constituted a cloud on the title he claimed to possess as the result of a void foreclosure sale.  Id. at 765-766.  The SJC held that Bevilacqua did not have standing to advance a try title action.  Id. at 780.  While the SJC accepted that Bevilacqua was “a person in possession,” it rejected his claim that a foreclosure deed from a defective foreclosure gave him the record title required by G.L. c. 240, § 1.  Id. at 770.

The decision in Eaton v. Federal National Mortgage Association, which as discussed further below was given prospective application, addressed a question that was not presented in Bevilacqua: whether a mortgage holder may foreclose the equity of redemption without also holding the mortgage note or acting on behalf of the note holder.  462 Mass. 569 (2012).  Eaton concluded that under G.L. c. 183, § 21 and G.L. c. 244, § 14, to be a “mortgagee authorized to foreclose pursuant to a power of sale, one must hold the mortgage and also hold the note or act on behalf of the note holder.”  Id. at 571.

Eaton filed a complaint in Superior Court to enjoin a summary process eviction.  Id. at 570-571.  The trial court granted the plaintiff a preliminary injunction.  Id. at 571.  After a single justice of the Appeals Court denied a petition by the defendant and reported same to a full panel, the SJC transferred the case on its own motion.

The SJC observed that a real estate mortgage has two distinct but related aspects: (1) it is a transfer of title, and (2) it serves as security for an underlying obligation (and is defeasible when the debt is paid).  Id. at 575.  While the Court recognized that a mortgage and an underlying note can be separated or “split,” it found that in such circumstances the mortgage is a mere technical interest.  Id. at 576.  Relying upon its analysis in Ibanez, Eaton found that under Massachusetts common law, when a mortgage is split from the underlying note, “the holder of the mortgage holds the mortgage in trust for the purchaser of the note,” which purchaser has an equitable right to an assignment of the mortgage.  Id. at 576-577 (quoting U.S. Bank Nat’l Ass’n v. Ibanez, 458 Mass. 637, 652 (2011)).   Eaton thus held that at common law, “a mortgagee possessing only the mortgage was without authority to foreclose . . . .”  Id. at 577-578.

The defendant’s statutory arguments fared no better.  Eaton held that a foreclosure sale conducted pursuant to a power of sale in a mortgage must comply with all applicable statutory provisions, including G.L. c. 183, § 21 and G.L. c. 244, § 14.  Id. at 571, 579-581.  G.L. c. 244, § 14 provides, in relevant part:

The mortgagee or person having his estate in the land mortgaged, or a person authorized by the power of sale, . . . may, upon breach of condition and without action, do all the acts authorized or required by the power.

Id. at 581 (emphasis in original).  The SJC held that the term “mortgagee” in § 14 was ambiguous and concluded that the Legislature intended that a “mortgagee” must also hold the mortgage note.[3]  Id. at 581-582, 584.  However, Eaton made clear that a foreclosing mortgagee need not have physical possession of the mortgage note to validly foreclose.  Recognizing the application of general agency principles in this context, the SJC interpreted the statutes to permit “the authorized agent of the note holder, to stand ‘in the shoes’ of the ‘mortgagee’ as the term is used in these provisions.”  Id. at 586.

In giving Eaton prospective application, the SJC considered several factors including the fact that the term “mortgagee” in the statute was ambiguous.  Id. at 587.  The Court also noted that Eaton’s ruling differed from prior interpretations which, if retroactive, could create difficulties in ascertaining the validity of certain titles.  Id. at 588.

The scope of Eaton’s prospective application was recently clarified in Galiastro v. Mortgage Electronic Registration Systems, Inc., 467 Mass. 160 (2014).  On direct appellate review to the SJC, the Galiastros argued that, because their appeal of the same issue was stayed pending the decision in Eaton, the Eaton decision should apply to their claims.  Id. at 167.  The SJC agreed, holding that the Eaton decision would apply to cases that were on appeal at the time Eaton was decided (June 22, 2012) and in which a party claimed a foreclosure sale was invalid because the holder of the mortgage did not hold the note.

As many post-foreclosure challenges to the validity of the foreclosure process arise in connection with summary process proceedings (Eaton among them), it is not surprising that the Housing Court has been confronted with these issues.  But, as a court of limited jurisdiction, a preliminary issue was presented as to the scope of the Housing Court’s authority.  In Bank of America, N.A. v. Rosa, the SJC held, inter alia, that the Housing Court has jurisdiction to consider defenses and counterclaims challenging a bank’s right to possession and title, including those premised upon the validity of a prior foreclosure sale.  466 Mass. 613, 615 (2013).  The case did not, however, extend Housing Court authority to original actions to set aside a foreclosure.  Id. at 624 n.10.

The SJC’s recent decision in U.S. Bank National Association v. Schumacher limits the Court’s broad holding in Eaton.  467 Mass. 421 (2014).  Schumacher held that a mortgagee’s failure to provide notice of a ninety-day right to cure, as required by G.L. c. 244, § 35A, did not affect the validity of a foreclosure sale because § 35A is not part of the foreclosure process and, therefore, strict compliance was not required to validly foreclose.[4]  Id. at 422.  The SJC rejected Schumacher’s attempt “to engraft” the requirements of § 35A onto the power of sale because it properly viewed § 35A as a mechanism that gives a mortgagor an opportunity to cure a payment default before the foreclosure process is commenced.  Id. at 431.  As the § 35A notice procedure was viewed as a “preforeclosure undertaking,” it is not one of the statutory requirements with which a mortgagee must strictly comply in exercising its statutory power of sale.

In a concurring opinion in Schumacher, Justice Gants provided guidance to homeowners facing foreclosure.  Justice Gants opined that when a mortgage holder fails to provide notice pursuant to § 35A, a homeowner may file an equitable action in the Superior Court seeking to enjoin the foreclosure.  In a post-foreclosure proceeding, Justice Gants suggested that while a violation of § 35A may not alone be relied upon to defeat an eviction, if a defendant can prove that the violation “rendered the foreclosure so fundamentally unfair,” it may be sufficient to set aside a foreclosure sale “for reasons other than failure to comply strictly with the power of sale provided in the mortgage.”  Id. at 433 (Gants, J., concurring) (quoting Rosa, 466 Mass. at 624).

In the recent case of Sullivan v. Kondaur Capital Corporation, the Appeals Court had an opportunity to address two questions of first impression in this arena – one on standing and one regarding registered land – and a chance to rein in efforts to extend Ibanez and its progeny.  85 Mass. App. Ct. 202 (2014).  The Sullivans owned registered land and executed a mortgage conveying legal title to MERS, which mortgage was thereafter filed for registration with the Land Court.  The mortgage was assigned to Kondaur Capital, which also filed for Land Court registration.  Kondaur Capital thereafter foreclosed and filed a summary process action in the District Court.  The case for possession settled with the Sullivans reserving rights to challenge Kondaur Capital’s title, which they did by subsequently filing an action in the Superior Court based upon Ibanez.  Because the dispute involved registered land, the case was transferred to the Land Court, which has exclusive jurisdiction of such claims.  Id. at 204.

The Appeals Court first addressed Kondaur Capital’s argument that the Sullivans had no standing to challenge defects in the assignments to which they were not a party.  While acknowledging that a party who does not benefit from a contract could not enforce it, the Court concluded that the plaintiffs were not attempting to enforce rights under the contract.  Rather, the Court found the Sullivans were challenging Kondaur Capital’s claim that it owned the subject property which, but for the foreclosure, the Sullivans would still own.  The Appeals Court held that, to protect its ownership interest, a property owner has standing to challenge the bank’s authority premised upon the validity of the assignment.  Id. at 205-206.

Kondaur Capital also claimed that the plaintiffs were precluded from challenging the validity of its title because the mortgage had been registered with the Land Court, and a transfer certificate of title had issued in its name prior to the filing of plaintiffs’ action.  The Court rejected the contention, noting that there are numerous exceptions to the conclusiveness of registration.  The Appeals Court concluded that Kondaur Capital was not an innocent third-party purchaser but a mortgagee required to establish its title by reference to various instruments of assignment following the plaintiffs’ mortgage to MERS.  The Court held that Kondaur Capital was “fairly charged” with knowledge of the deficiencies in its chain of title, and its certificate of title could be challenged based upon any break in that chain.  Id. at 208.

The Appeals Court also rejected the argument that because MERS had no ownership interest in the underlying note, it could not assign the mortgage unless authorized by the debt’s owner.  The Court noted that the Eaton decision was prospective and not available to the plaintiffs and, in any case, did not require that a mortgagee hold legal and equitable title at the time of an assignment of the mortgage.  Id. at 208-210.  The Court correctly observed that “nothing in Massachusetts law requires a foreclosing mortgagee to demonstrate that prior holders of the record legal interest in the mortgage also held the note at the time each assigned its interest in the mortgage . . . .”  Id. at 210.  In fact, as the Court noted, Eaton confirmed that a mortgage could be separated from the debt it secured and, even at the time of foreclosure, the mortgage holder simply needs to demonstrate it holds the note or acts as the note holder’s authorized agent.  Sullivan, 85 Mass. App. Ct. at 210.

The Appeals Court ultimately found that the Sullivans’ challenge to the signature on the assignment to Kondaur Capital should have survived the motion to dismiss and remanded the case.  The Court ruefully observed that the circumstance presented a further illustration of “the utter carelessness with which the [foreclosing lenders] documented the titles to their assets” described in the Ibanez concurrence.  Id. (quoting U.S. Bank Nat’l Ass’n v. Ibanez, 458 Mass. 637, 655 (2011) (Cordy, J., concurring)).

These cases have had a profound and immediate impact on the foreclosure process in the Commonwealth.  Fortunately, the cases have provided direction with regard to how a mortgagee can both comply with the applicable statutes and demonstrate its compliance in the face of subsequent challenge.  Unresolved at this stage, however, is how titles clouded by deficiencies in earlier foreclosures will be cleared – a remedy which now appears to be left to the Legislature.  Unless and until some curative legislation is signed into law, the carelessness with which securitized mortgages were documented and tracked over the last decade will deprive thousands of innocent purchasers at foreclosure of good, clear and marketable titles to their homes and properties.

 

Thomas Moriarty is a partner in the firm of Marcus, Errico, Emmer & Brooks, P.C. and chair of its Litigation Department.  He served as 2010 President of the Real Estate Bar Association, is a past co-chair of REBA’s Litigation Committee, and currently serves as Co-Chair of both the Residential Conveyancing and the Unauthorized Practice of Law Committees and as a member of the organization’s Board of Directors and its Executive Committee.  

 

Footnotes

[1] The Ibanez mortgage, like many securitized mortgages, followed a complex and tortuous path of assignments ultimately reaching U.S. Bank.  Ibanez, 458 Mass. at 641.

[2] Justice Cordy, in a concurring opinion, noted “that what is surprising about these cases” is not the statements of law “but rather the utter carelessness with which the plaintiff banks documented the titles to their assets.”  Ibanez, 458 Mass. at 655 (Cordy, J., concurring).

[3] The Eaton Court analyzed G.L. c. 244, §§ 17B, 19, 20 & 23 in detail in reaching its holding regarding the meaning of the term “mortgagee” in § 14, noting the terms “holder of mortgage note” and “mortgagee” are used interchangeably.  Eaton, 462 Mass. at 582.  Additionally, the Court points to the same conflation of meanings in G.L. c. 183, §§ 20-21.  Id. at 584 n.23.

[4] At all times relevant in Schumacher, G.L. c. 244, § 35A gave a mortgagor of residential real estate a ninety-day right to cure a payment default prior to the commencement of foreclosure and required a foreclosing mortgagee to provide notice of such right to the mortgagor.  Schumacher, 467 Mass. at 430.

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