Why Is the Foreclosure Mess a Significant Story?

If you’ve got twenty minutes or so to spare I recommend that you read Joseph Tauke’s mammoth 5,600 word indictment of the mortgage industry at Daily Caller. It provides chapter and verse on the massive irregularities in how foreclosures have been handled by the industry and is quite clearly making the case that the infractions have been systematic rather than incidental. Here’s a snippet:

Americans have stopped believing. The attorneys general of every single state just opened a joint investigation into foreclosure fraud. As long as 50 is still a bigger number than 23, the problems aren’t contained. And banks are finally starting to react to the disbelief. The CEO of JP Morgan Chase, one of the founding members of MERS, has told CNBC that the bank has stopped naming the system as a plaintiff to foreclose. He actually said that JP Morgan had stopped naming it two years ago. The foreclosures that relied upon the information MERS holds, however, didn’t stop. Coincidentally, JP Morgan bumped up the reserves it was holding for “litigation and repurchase,” referring to events that would require buying back mortgages that had been mistakenly sold off. The Association of Financial Guaranty Insurers recently told Bank of America to prepare to be hit by lawsuits which will force it to buy back between $10 and $20 billion worth of mortgages. Similar numbers would apply to other nationwide banks. Bank of America’s entire federal bailout, before it purchased Merrill Lynch and needed additional funding, was worth $25 billion.

I don’t honestly know the truth of this matter. What we are seeing may simply be a reflection of the modern reality that the financial system has grown beyond the capacity of the legal system to control. The truth has relatively little to do with the importance of the story. It’s political dynamite. Some, for example John Carney at CNBC, think that the Congress will act in lame duck session to indemnify the banks against the consequences of their own mistakes:

Bank of America’s recent decline—down almost 10% this week—is driven by fears that the bank could be hit with huge liabilities for faulty mortgage pools. And I’m pretty sure that is not going to happen.

Why not?

Because the politicians will not let the financial stability of the largest bank in the nation be threatened by contractual rights. Not when there’s an easy fix available that won’t cost taxpayers a dime.

Here’s what is going to happen: Congress will pass a law called something like “The Financial Modernization and Stability Act of 2010” that will retroactively grant mortgage pools the rights in the underlying mortgages that people are worried about. All the screwed up paperwork, lost notes, unassigned security interests will be forgiven by a legislative act.

Others, like Stan Collender, think that’s unlikely:

I seriously doubt there would be 10 votes out of the 535 in the House and Senate in favor of another bank bailout bill. Actually, I’m not sure it would even make it out of committee in either house.

while yet others, like Felix Salmon, think that the very idea of Congress doing so is frankly looney:

Given that any indication of friendliness towards banks constitutes political suicide right now, I’d guess that the banks’ litigation risk is higher than it has ever been.

That’s why the upcoming lame duck session is the key to this story. First, absent some action by Congress (maybe even regardless of action by Congress) these suits will go forward. The mere fact of their going forward will be trouble for the banks. And having to buy back tens or hundreds of billions of dollars in mortages will almost certainly produce another financial crisis. Second, lame duck sessions can be very empowering. Political suicide is not nearly the threat for dead men walking that it is for politicians with a future. They can vote their hearts. Where are their hearts?

Maybe retiring Congressmen will look towards prospects of future employment in the financial sector, reminiscent of the shrewd steward in Luke 16.

Or Congressmen may well have have been sincere in their acerbic comments about the banks over the last couple of years. I’m guessing that Stan Collender is right: there isn’t much appetite for another bank bailout at this point. The president’s veto of HR3808 (the bill, snuck through the Congress in the dark of night, that would have given the green light to the “robo-signing” that’s been called into question) suggests to me which way the wind is blowing. I can’t imagine the Obama Administration making an impassioned plea for another round of clemency for misbehaving bankers, at least not without exacting a pound of flesh.

While I’m on the subject let me be the first to predict: 2011 and 2012 will see a number of powerful, senior Democratic politicians announce their retirements. Should provide for an even more interesting 2012 general election.

The events of the next year or so should make for good political theater. It would be much more entertaining if you didn’t actually have to live through it.

22 comments… add one
  • john personna

    “What we are seeing may simply be a reflection of the modern reality that the financial system has grown beyond the capacity of the legal system to control.”

    And that would be kind of bad, given that a commonly understood and trusted legal system is what has brought prosperity to market democracies.

    Generally, where there is not evenly enforced law on land and on commerce, economies fail.

  • john personna

    Well, that Daily Caller story managed to surprise even me, cynic that I thought I was.

    You know, one of my general thoughts for “deregulation” types has been that sure, we are basically honest people. That doesn’t mean that if we took cops off the street the crime rate would remain the same. We are honest, in part, because there are cops.

    In finance, the cops were taken off the street.

  • john personna

    BTW, James or someone might do a “future of journalism” story on 4closurefraud.org

    They pretty much played the role of old-time big-city papers.

  • john personna

    Sorry for the stream of consciousness here, but continuing on:

    Among other things, the letter stated that it was standard practice to destroy mortgage papers once the mortgages were sold into MERS in order to avoid confusion.

    I thought I had heard allegations of this some time ago, but I put it down to bad memory. It couldn’t be that bad … except it is.

    The legal requirement is indeed to sign and transfer notes on paper, but the notes have been shredded.

  • I don’t think that the police analogy is particularly apt. Unless the career path for police officers is to work a few years on the beat and then take a job with organized crime making big bucks.

    The reality of financial regulation is such that more regulators or tougher laws aren’t likely to improve things. As evidence of that I’d point out that by some accounts funding for regulatory enforcement under the Bush Administration doubled that of his predecessor’s and that the any relaxing of regulation took place under the Nixon, Ford, Carter, Reagan, Bush I, or Clinton administrations. The problem isn’t that there weren’t enough regulators, that they didn’t have the power to do what was necessary, or that the laws had become too lax.

    It is that regulators were looking the other way.

  • john personna

    I don’t think that the police analogy is particularly apt. Unless the career path for police officers is to work a few years on the beat and then take a job with organized crime making big bucks.

    Heh, got me there.

    Though, in the worst days our police were in the pocket of somebody.

  • john personna

    BTW, I don’t think those Bush “measures” are particularly compelling.

    It’s a bigger truth to admit that those years were the political peak of the “markets self-regulate” meme.

  • My remark was not intended as a defense of the Bush Administration. Far from it. I am merely pointing out that deregulation has been an ongoing process with bipartisan support over the period of the last 30 years.

    IMO many of the worst of the reforms took place in the 1970s.

  • PD Shaw

    I can only find time to read the first page of Tauke’s piece, which raised more question than he was able to provide answers. He was certainly able to find a weird case and then get some anti-bank attorneys to say 95% of bank cases are fraud, and then present a lede in which he argues something has changed in the foreclosure system recently in which this going to happen to all of us, whether we have a mortgage or not.

    On one hand, counterfeiting goes back centuries, so nothing new here. On the other hand, the counterfeiting here appears to be a technical conclusion made about an incorrect sequence of documents. The summons was issued in the morning and the complaint in the afternoon. I can see how that can happen in a busy court system without making hysterical accusations against the bank. If the judge meant what he/she wrote, I would expect him/her to have lodged a complaint with the state’s attorney disciplinary body.

    And the close on the first page was troubling. The first debtor is not making payments on his debt and it’s naively suggested that he may not be in the clear. Really? Why would he think he is in the clear?

    And then the lady whose husband died and failed to make sure the paperwork got transferred to her. Is this a joke? The charge that the banks are transferring the paperwork correctly in the mouth of someone who didn’t either?

  • PD Shaw

    Before talking bailouts, someone probably needs to identify the problem and consider legislation to fix it. It the common law says one needs to use blue paper to transfer title, and the banks have been using red paper, and we are wondering the extent to which the paper can be turned from red to blue or if it’s too late, that can be fixed. Laws just need to be passed to either make red paper acceptable or provide a just process for treating red paper like blue paper. The procedural/evidentiary aspects of one’s property interest are not property interests.

  • john personna

    The most severe argument I’ve heard for systemic breakage is over at The Big Picture today:

    “So somewhere between the REMICs and MERS, the chain of title was broken.”

    http://www.ritholtz.com/blog/2010/10/the-foreclosure-mess/

    If true, we are back to how time consuming and expensive it would be to repair that chain, or what congress might do to “fix it.”

    I’d be galled if MERS was fixed after the fact. It may be the least worst option, but geez. The housing boom and bust, the credit crisis, was caused by a bunch of people creating financial “hot potatoes” and then passing them off before they got burned. MERS is just one example of that in the whole sorry chain (from fraudulent property appraisals and liar loans to bad bonds).

    It will just hurt to see that kind of criminal negligence papered over.

  • john personna

    (At least if congress moves now it will have to be “in daylight.” Too many eyes are on this for a sneaky fix. I hope.)

  • PD Shaw

    jp: The author is operating under the belief that if a link appearing anywhere in chain in title is broken, the entire chain is broken. My view is that the chain is only broken from the link onward, and the link might be fixed, either by the parties to the transaction (which this author appears to indicate are MERS participants) or by the courts.

    As to the fix, I guess it depends on what is fixed. If the problem is that Bank A received money in exchange for signing paperwork conveying an interest to a blank, that’s not a legal problem per se. Some state courts have ruled that the blank can be supplied by the totality of circumstances (Illinois), others have not. But if the state and federal government were to adopt the more liberal approach, Bank A is not in a position to complain about it’s ability to receive money for invalid transactions.

  • john personna

    “My view is that the chain is only broken from the link onward,”

    Sure.

    “and the link might be fixed, either by the parties to the transaction (which this author appears to indicate are MERS participants) or by the courts.”

    That’s what I’m saying too. Of course when we say “from the break onward” we have to worry about who were the parties on both sides of the break and if they are still active.

    “Some state courts have ruled that the blank can be supplied by the totality of circumstances (Illinois), others have not. But if the state and federal government were to adopt the more liberal approach, Bank A is not in a position to complain about it’s ability to receive money for invalid transactions.”

    It gets tricky when it’s retroactive, and parties to previous agreements feel wronged. Can the government really say to an MBS owner “sorry, your claim that the notes were improperly conveyed is denied, because we’re making a new way to convey them?”

  • john personna

    (I gather that Ritholtz is saying that MBS owners/mangers should send lawyers all the way back to the beginning, to satisfy the chain in current law. That would certainly be best, but it would be time consuming. A big boom and a lot of billable hours for someone.)

  • john personna

    Imagine if Countrywide did not convey, and Freddie now believes it owns a note that it wants to foreclose. Does Freddie need to send someone into the old Countrywide document vaults, now managed by BofA, to find a note and process it forward?

  • steve

    PD- Did you see this line in the Tauke piece on page 1?

    “Several days later, Jeffs found out that he supposedly no longer owned his home. He stopped making payments, and he hasn’t made them since.”

    As a lawyer, would you advise a client to keep making payments on a house that he has been told he no longer owns?

    There is a lot more on MERS in the piece along with the banks using DOCX to just make up new documents. MERS sounds much worse than I had thought.

    Steve

  • As I said in the post, there are two distinct things: the basis of the story and its politics. You may be 100% right on the basis, PD. I honestly don’t know. But I still think the politics of the story is dynamite. I don’t see either the Democrats or Republicans siding with the banks.

    And, as Mr. Dooley reminded us, even the Supreme Court reads the election returns.

  • john personna

    If congress is somehow needed to act it will be an interesting interplay between those two things.

  • PD Shaw

    yet, steve, the judge vacated final judgment of foreclosure for defective service, so whaever rationalle he had, no longer esists.

    I don’t know what his defense to the foreclosure action would have been. The article says he was “current” at one time, but also says he was unsuccesful in trying to get a modification. The foreclosure action was filed in October of 2007, but the sale of his house was scheduled in May of 2010 to take place on June 28, 2010.

    I’m thinking the guy can’t afford his mortgage. The lawyers were hired in June of 2010 for say under $1k to file and argue a motion to quash the summons with the idea that it would buy the debtor six months for the bank to foreclose on him. That’s not necessarily a bad set up depending on your finances and state recourse laws.

  • john personna

    More on why I’m galled that we need a clean-up of MERS after the fact:

    If the transition from paper to terabytes were unprecedented, it would be easier to give lenders a pass. But the banks behaved more straightforwardly in 2003 when they sought permission to digitize paper checks—a similar legal leap, since electronic copies had long been considered unacceptable in court. The banks lobbied Congress, which in 2003 passed the Check Clearing for the 21st Century Act. Now your monthly bank statement contains images of your checks instead of the paper, saving time and money. Because the reform was done with the blessing of Congress, there have been few problems.

    http://www.businessweek.com/magazine/content/10_43/b4200009860564.htm

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